Executive Summary: Why Governments Should Lease Their Toll Roads
Full Study — Should Governments Lease Their Toll Roads?
News Release — Study: States Can Lease Toll Roads to Fund Other Infrastructure, Pay Off
Why would a state lease or sell its toll roads?
It’s important to clarify that in the deals the study outlines, states would not sell these roads; they would continue to own the toll roads but would lease them via a long-term public-private partnership. The lease agreement would be a detailed long-term contract that regulates the company’s toll rates, operating standards, performance, and many other details. That agreement would be a public document, which should be available on the internet. The winning bidder would typically be a world-class toll road operator with a long track record of building, operating, and managing toll roads.
What would the state gain by leasing its toll roads?
The state would negotiate a contract to receive lease payments, either annually for the life of the contract (like an annuity) or as a large, one-time up-front payment. Either way, this could provide substantial new funds to help address the severe fiscal distress many states were in and is currently being exacerbated by the recession and coronavirus pandemic. Also, a long-term toll road lease transfers significant project risks to the private sector, including routine operations and maintenance, general project improvements, toll revenue risks, and other financial risks.
Wouldn’t a state government lose an asset and squander the proceeds of a long-term lease?
A one-time, potentially multi-billion-dollar windfall might lead to a short-term spending frenzy, rather than long-term improvements in the state’s finances. Thus, legislation authorizing long-term toll road leases should specify that a large up-front windfall must be devoted only to key balance-sheet improvements, such as investing in long-term infrastructure improvements, paying down state debt (to improve its bond rating), or reducing the unfunded liability of the public employee pension system. Some states may prefer 50 years of annual lease payments, which would be equivalent to an annuity that should also be dedicated to a specific set of important long-term state needs, like infrastructure projects.
With people driving less due to the coronavirus pandemic and recession, isn’t this a terrible time to put a toll road on the market?
Car and truck travel is increasing and could return to pre-COVID-19 levels in 2021. No U.S. toll road leases are likely before late 2021, by which time traffic in other countries will likely have recovered, and other toll road transactions will give an indication of how investors value them. A state government will need expert financial advice to make the trade-off between gaining near-term financial relief via a toll road lease versus waiting a year or two in hopes that toll road asset values have increased further. But states should start assessing this possibility now, to be able to make informed decisions in 2021.
Won’t toll road companies charge drivers much higher tolls than the government?
Long-term lease agreements include restrictions on toll rates, typically based on an inflation index such as the Consumer Price Index. Moreover, the toll rates and their increase over time are governed by the provisions negotiated at the time the long-term agreement is drafted and signed. The rate of allowed increases can be set in the contract. Some of the competitions for toll road leases stress affordable toll rates as one of the selection factors. Also, toll road operators know that excessive toll rates lead many users to divert to alternative routes, which cuts into toll revenue.
Won’t trucking companies be hurt by having to pay higher rates?
Trucks always pay higher rates than cars (both on toll roads and on other highways, via fuel taxes), because trucks cause far more damage to pavements than cars. Toll rates for heavy trucks on state-owned toll roads are typically four times as much per mile as toll rates for cars. Since heavy trucks often provide 40 to 50 percent of toll revenue on long-distance toll roads, it is in the toll road company’s interest to keep truck toll rates affordable for these valuable customers. Truck toll rates are regulated in the long-term agreement, just as car rates are. And to attract more truck usage, toll road companies might be motivated to add dedicated truck lanes in major trucking corridors, which would benefit both cars and trucks.
Why are most of the toll road companies foreign?
In the United States, nearly all toll roads are operated by government agencies called toll authorities. Over the past 20 years in Europe, Latin America, Australia, and Asia, many governments have gotten out of the toll roads business and they rely on investor-owned companies operating under long-term lease agreements to finance, develop, operate, and maintain major toll roads. As a result, there is now a global toll road industry that operates in those countries. There are no listed, independent toll road companies based in the United States at this point, though some of the global companies operate U.S. subsidiaries. In addition, many U.S. infrastructure investment funds are investing in toll roads and many U.S. companies are taking part in long-term public-private partnership projects.
Why should anyone be allowed to make a profit from vital infrastructure like highways?
A great deal of vital infrastructure is already run by investor-owned companies, such as electric utilities, railroads, telecommunications, pipelines, and in many other countries, airports, seaports, and toll roads. When companies operate as monopoly providers, their rates and/or profits are regulated by the state, as would be the case with long-term toll road leases. Investor-owned toll road companies have a growing history of good stewardship of these vital transportation arteries.
Won’t an array of different toll road companies lead to balkanizing America’s highway system?
America’s major highways are already owned by 50 different state governments, with some operated by toll authorities and the majority operated by state departments of transportation (DOTs). Under this proposal, states would continue to own and regulate the toll roads, which will be operated over a long period by experienced companies that specialize in this business. Those companies will have a strong interest in streamlining all-electronic toll collection, moving America much closer to nationwide interoperability of electronic tolling, which improves the customer experience compared with old-fashioned toll booths and plazas.
What if the deal is negotiated behind closed doors?
The competitive process to select the best team to finance, develop, and operate the state’s toll roads must be conducted in a transparent way. Some material in proposals may be company-sensitive information during the competition, but what counts in the end is the details of the winning proposal. The complex long-term lease agreement must become public information when completed, with performance requirements clearly spelled out, and the agreement must comply with provisions in the enabling legislation that permits long-term toll road leases.
What assurances do taxpayers have that the private company won’t cut corners to increase its profits?
The long-term lease agreement typically includes numerous key performance indicators that the company is contractually obligated to achieve, within the limits of the agreed-upon toll rates. These include measures of pavement and bridge condition and quality, as well as requirements for things like landscape maintenance, response time for road service patrols, and many other details. Most such agreements include financial penalties for non-compliance, and always include provisions enabling the state to terminate the lease for cause, or even for the state’s convenience. In the latter case, financial terms are also spelled out in the agreement.
What happens to the long-time loyal employees of the state toll roads?
The enabling legislation and the lease agreement generally require the toll road company to offer employment to all then-current employees of the toll road. Some governments also offer lateral transfers to other state positions, for those who would rather remain civil servants. Toll road operating companies typically have no problem with such employee-protection provisions.
Isn’t 50 years too long to lease valuable highways?
The length of a toll road lease agreement is negotiable; in general, the longer the lease term, the higher the value of the lease, so the state government must make the trade-off as part of its decision process. A long-term lease, such as 50 years, means that major reconstruction may become the company’s responsibility during its tenure, in addition to whatever widening or other expansion may be needed. And if at any time during a long-term lease the state decides that it wants to terminate for convenience, it will have the right do so, in accordance with the termination provisions spelled out in the lease.
Why can’t a state toll agency make the same kinds of improvements as the private sector?
Depending on how the state toll agency is governed, the private toll road operating company may have several advantages. First, it can recruit and retain experienced toll road senior management—taking politics out of the process. Second, it can pay market compensation to its staff rather than civil service pay rates. Third, it can finance major improvements using a mix of equity and debt, rather than 100 percent debt financing that government toll agencies use. Fourth, the long-term lease agreement should safeguard the toll revenue from being diverted to other purposes by legislators, which has happened in states like New York, New Jersey, and Pennsylvania.
If these toll roads are paid for, why not make them free and support them with gas taxes?
No roads are ever “paid for.” They require ongoing maintenance, additions from time to time (widening, new interchanges), and eventual reconstruction as the pavement and bridges wear out. Gas taxes are beginning a long-term decline, due to ever-stricter federal miles per gallon (mpg) requirements. Today’s cars travel about twice as far on a gallon of gas as cars did 25 years ago, but per-gallon gas taxes haven’t kept pace. In 20 years, gas-powered cars will likely go twice as far again on a gallon of gas compared with today’s cars. And the increase in electric cars, which pay no gas tax, will further decimate gas-tax revenue. To cope with this, America needs more per-mile payments (such as electronic tolls), not greater reliance on shrinking gas tax revenues.
How do taxpayers know they are getting a good deal, rather than companies paying too low a price for the toll road?
Extensive data is available on what amounts were paid for toll road leases in other countries, so it is possible to estimate the potential market value of long-term leases of major U.S. toll roads. (Figures from this global experience were used in the toll roads lease study to estimate potential market values of nine state toll road systems.) After the competition yields a winning bidder, it is then up to senior state transportation department management to negotiate a deal that is a win for state taxpayers. For this purpose, they will need expert legal and financial advice from advisors knowledgeable about long-term infrastructure leases.
Wouldn’t the company make as much money as possible, and then return the road to the state at the end of the lease in poor condition?
Any company that did this would severely damage its reputation and prospects for winning future business. But just in case, long-term lease agreements should guard against that possibility. Wise provisions include requiring a reserve account to ensure ongoing maintenance in the last five years of the lease, and stringent oversight (and penalties) to ensure continued compliance with the performance measures in the agreement.
If a private company can profit from the toll road, why can’t the state do the same?
The key to a state profiting from its toll roads is to unlock the asset value. The state could try to borrow large sums against an assumed asset value, but that might jeopardize a toll road’s bond rating or be contrary to a state’s statutory or constitutional debt limit. The long-term lease method unlocks the asset value for the state while ensuring that the toll roads are managed by world-class companies that are held accountable for reasonable toll rates and achieving high performance.
How could toll road leasing help states’ under-funded public pension systems?
One possible use of some, or all, of the billions of dollars unlocked by a toll road lease is to use the money to reduce the unfunded liabilities of state pension systems. Most state pension systems have far fewer assets than they need in order to pay for the pensions promised to workers and retirees. Using the long-term lease proceeds in this way would help address their pension system’s current under-funding.
But how would using lease proceeds to shore up ailing pension funds help solve our highway infrastructure problems?
Shoring up ailing pension funds is only one potential use of the lease proceeds. States could choose to invest the lease proceeds in other highway infrastructure projects (as Indiana did with most of the proceeds from leasing the Indiana Toll Road) it currently doesn’t have the funding for or to pay down state debt to improve its bond rating and lower future borrowing costs. All these options would improve the fiscal position of state governments, helping cope with recovery from the recession and COVID-19 pandemic. Each state will have to debate and determine the wisest responsible uses of this new money.