Over at Cascadia Prospectus, Ken Orski responds to a recent Barron's article suggesting that investors have lost their appetite for highway privatization. As Ken notes, rumors of the death of private infrastructure investment are greatly exaggerated:
On Capitol Hill, the earlier signs of suspicion toward PPPs by certain influential lagislators have been replaced by modulated expressions of support. This suggests that PPPs, the Infrastructure Bank, TIFIA, Private Activity Bonds and other supportive private financing measures will receive favorable treatment in the upcoming surface transportation legislation, the Bingaman-Grassley initiative to the contrary notwithstanding.
Signals from the Administration are equally encouraging. U.S. DOT guidance on the discretionary $1.5 billion grant program included in the Recovery Act for projects of national/regional significance includes positive references to the role of private participation. Transportation Secretary LaHood, our sources tell us, has made it clear to recent visitors that PPP will have to be part of the mix in new transportation funding.
Of course, from the private sector point of view, there never was any doubt about the appeal of investing in private infrastructure because highways, bridges, ports and even parking garages are long-lived assets that bring a steady and predictable stream of income.
There are signs that, despite the recent financial upheaval, institutional investors such as pension funds remain interested in infrastructure as an investment asset class. And they find willing partners in the cash-strapped state and local jurisdictions which have few other options to private capital to supplement their inadequate public resources when new infrastructure is concerned.
However, as the weight of opinion in a recent P3 roundtable on National Journal Transportation Blog suggests, the nature and structure of PPP transactions will undergo a significant if not radical modification. Highly leveraged deals, inflated valuations based on overly optimistic expectations of future operating income (i.e. earnings after interest, taxes, amortization and, importantly, capital expenditures beyond routine maintenance) , and dramatic upfront payments are a thing of the past. Borrowing costs will rise as the capital markets take a more conservative approach to risk assessment.
Greater attention will be paid to economic uncertainties as they affect toll receipts and to the need for capital improvements over the entire life of the concession. As one blogger, former Deputy DOT Secretary Michael P. Jackson remarked, "smart investors, and especially pension funds and other investors seeking greater stability, will not try to match double-digit gains of successful venture capital investors." They will have to be satisfied with more conservative returns.
In short, the financial crisis will cause investors to scale back expectations and experiment with financial innovation. The rising popularity of "availability payments" - which one of our readers characterized as "simply a long-term loan couched in fancy new terminology" - is one example how the financial services industry is responding with creative new approaches to the changing conditions of credit availability.
Lurking in the background as another blogger noted, is the fact that Wall Street and financial entities are mistrusted by a large fraction of the population and the political leaders. The recent financial crisis has magnified this anti-business feeling and may affect attitudes toward PPPs. However, the need for investment capital will presumably overcome the public uneasiness about letting private capital play a role, if adequate safeguards "to protect the public interest" are provided.
Ken's assessment seems pretty accurate to me. From my vantage point, there's as much—if not more—interest than ever as state and local governments struggle to balance their budgets and do more with less. And what once may have appeared to be a transportation-heavy focus on the part of the infrastructure investment community has clearly branched out into other asset classes (e.g., parking systems, public buildings, social infrastructure, etc.), leading me to suspect that we're entering a new period of increasing innovation and market sophistication.
Like anything else that involves significant capital, public-private partnerships are proving to be more difficult to finalize in the current credit crunch and recession than they were six months ago, but we're still seeing infrastructure deals come to financial close. As the credit crunch continues, we could expect things like lower bids for infrastructure assets, higher debt costs, or lower debt-to-equity ratios (i.e., a higher cash contribution from the private sector relative to the debt they incur in each deal), but I don’t see this as a serious setback for the partnership concept or the potential of the asset class in the market.