Anatoly Darov

“All politics is local,” one of the Bay State’s foremost statesmen once said. While the federal government may pick your wallet every April, it is state and local government that touches one’s life on a daily basis. In communities across the nation, children attend class, potholes are being filled, trash removed, the brave heroes in blue maintain safety and the Little League team plays ball at the local baseball diamond. Schools, public works facilities, police and fire stations, libraries, parks and other public civic building infrastructure necessary to support these core government services require investment by government. Today, the ability to deliver and maintain these facilities is compromised by a fundamental reality – traditional government resources are dwindling while our infrastructure needs exacerbates.

Matthew Feher

Today, 38 states, the District of Columbia and Puerto Rico have authorized the use of public-private partnerships (P3) to deliver much-needed public infrastructure, including water, sewer, transportation and public buildings. Of those jurisdictions, Arkansas, California, Connecticut, Florida, Georgia, Indiana, Maryland, Michigan, New Jersey, North Carolina, North Dakota, Texas, Virginia and the District of Columbia statutorily sanction the use of P3 to construct public buildings. In Massachusetts, the state’s Department of Transportation and certain higher education building authorities may use P3; otherwise, special legislation is generally required.

The National Council for Public-Private Partnerships (NCPPP) defines P3 as a contractual agreement between a public agency (federal, state or local) and a private sector entity to deliver a public service or facility. Types of P3 structures commonly used in the public building sector include lease/develop/operate (LDO) and lease/purchase (LP) arrangements. In the case of the former, the private sector party leases or purchases an existing asset from the public agency, invests capital to rehabilitate or expand the facility and operate the asset pursuant to an agreement with the public entity. For new buildings, the LP structure is utilized when the public entity leases a privately financed, constructed and operated facility. With each scheduled lease payment, the public agency accrues equity in the facility and, eventually, owns the facility at the end of the lease term.

Success In Other States

Some states have used P3 project delivery extensively in the public building space. For example, Virginia Public-Private Education and Infrastructure Act (PPEA) was passed in 2002 and provided public agencies a first-of-its-kind turnkey P3 program that has since been used to develop more than 125 building projects including new elementary and high schools, fire stations, libraries and performing arts centers. PPEA allows private sector partners to “acquire, design, construct, renovate, expand, equip, maintain or operate qualifying projects” and encourages innovative financing structures. For example, Fairfax County Public Schools constructed a new 386,000 square foot secondary school using PPEA whereby the private partner monetized parcels of unused public land and issued tax-exempt bonds to finance the project. According to NCPPP, the county saved over $25 million on the school project and delivered the project three years ahead of schedule.

California has also successfully used P3 to construct public building assets. The Long Beach Courthouse project was structured as a 35-year lease-leaseback P3 whereby the state made no payments until the court occupied the new facility and thereafter pays an annual availability payment for service based on building performance. Construction on the $492 million courthouse began in 2011 and finished ahead of schedule in fall of 2013.

More recently, the state of Rhode Island, through its Council on Postsecondary Education, is using P3 to deliver a new Nursing Education Center (NEC) in Providence to house the nursing programs of the University of Rhode Island and Rhode Island College. Under this long-term lease-leaseback arrangement, risk to the state has been eliminated by deferring the requirements for any rent or other payments until the NEC space is delivered by the private partner for occupancy by the colleges. The rent amount will be based on the rehabilitation costs of the base structure, construction of all improvements and operating expenses associated with the building.

Successes In Massachusetts

Here in Massachusetts, the University of Massachusetts Building Authority entered into a P3 arrangement whereby the private developer will lease a portion of the UMass-Boston campus to construct a new 100-bed student housing complex. The private entity will develop the facility and a nonprofit management company will own and operate it.

A headwind to the deployment of P3s is the complexity of the transactions, in particular the financial and legal arrangements. The unique and custom nature of these transactions – no two are exactly the same – makes it challenging for project sponsors to realize economies of scale that are achieved with projects using traditional delivery methods that have standardized the full spectrum of project activities. A “value for money” analysis is typically conducted to quantify the financial benefits of a P3 project relative to traditional public project delivery and financing methods. Assuming that such analysis justifies use of the P3 structure, a well-drafted set of legal documents that details the allocation of these risks and other contractual obligations among the parties in a clear and precise fashion is critical for the success of a public-private partnership. A P3 agreement must govern a relationship that may last over a period of decades and must, therefore, contemplate numerous variables, so the partnership agreement must have clear provisions that establish a framework for dealing with a full spectrum of risks and disputes in a cost-efficient and equitable manner. Political will and strong partnership relationships are important prerequisites to ensuring that the agreement is optimally incentivized to ensure project success.

While P3 may not be ideal for every real estate project, the potential to provide residents with critically important infrastructure at the lowest cost to taxpayers must be maintained as an option. We all expect passable roads, a safe neighborhood, free summer reading and a place to watch our kids play – P3 empowers our state and local governments to satisfy these expectations and enrich their communities in an otherwise volatile financial environment.

Anatoly M. Darov is partner and co-chair of the real estate group and Matthew G. Feher is counsel in the real estate group at Burns & Levinson LLP.