Tun­nel project soak­ing Va.

Lib­eral con­ces­sions in a non­com­pet­i­tive deal in Nor­folk have made the state’s bill soar

The Washington Post Sunday - - METRO - BY MICHAEL LARIS

NOR­FOLK — The pri­vate pro­posal to build a new un­der­wa­ter tun­nel in this con­gested port city was orig­i­nally billed as a way for Vir­ginia to get a cru­cial piece of in­fras­truc­ture with­out hav­ing to put in a sin­gle dol­lar of state money.

In­stead, Vir­ginia of­fi­cials have agreed to spend slightly more than $580 mil­lion on the project, more than twice the in­vest­ment from the com­pa­nies be­hind the deal. With no com­pe­ti­tion, the com­pa­nies won the right to col­lect bil­lions of dol­lars in tolls over 58 years.

The state also agreed that the com­pa­nies — Swedish con­struc­tion gi­ant Skan­ska and Syd­ney­based fi­nance group Mac­quarie — are en­ti­tled to large gov­ern­ment pay­outs if Vir­ginia builds or ex­pands other bridges or tun­nels nearby, mak­ing fix­ing other traf­fic woes more costly for gen­er­a­tions to come.

From Florida to Cal­i­for­nia, pub­lic-pri­vate partnerships have pro­lif­er­ated as a bi­par­ti­san cure­all for the na­tion’s plugged-up pol­i­tics and sag­ging in­fras­truc- ture. The idea is that mar­ket forces can slash waste and speed projects, de­liv­er­ing much-needed im­prove­ments with­out soar­ing taxes. Mary­land of­fi­cials are seek­ing such a deal for the Pur­ple Line light-rail project, and an­other is be­ing con­sid­ered to widen In­ter­state 66 out­side the Cap­i­tal Belt­way in Vir­ginia.

But whether the much-touted projects are good for the pub­lic to­day, or decades from to­day, of­ten de­pends on ar­cane pro­vi­sions hashed out be­tween global financial ti­tans seek­ing max­i­mum re­turns and state of­fi­cials hun­gry to get deals done. And some­times things go wrong. An In­di­ana toll road went bank­rupt last year af­ter fall­ing short of traf­fic pro­jec­tions; in Chicago, a 75-year deal pri­va­tiz­ing park­ing me­ters has been de­nounced by crit­ics as an un­nec­es­sary give­away.

“The goal for gov­ern­ment in th­ese types of deals is to cre­ate as much pub­lic value as pos­si­ble. That is their job. But that only hap­pens when you ex­am­ine the de­tails and fine print of th­ese part­ner­ship agree­ments re­ally closely,” said John For­rer, an as­so­ciate re­search pro­fes­sor of strate­gic man­age­ment

and pub­lic pol­icy at Ge­orge Wash­ing­tonUniver­sity .“It looks like that didn’t hap­pen here.”

For the mil­i­tary doc­tors, ship­builders and teach­ers who strug­gle to get in and out of Nor­folk, the prom­ise of re­lief was al­lur­ing. The traf­fic-choked Navy hub is both en­riched and hemmed in by its ship­ping chan­nels and vast ex­panses of wa­ter, and marine vis­tas are per­pet­u­ally blem­ished by the ser­pen­tine glow of inch­ing tail­lights.

The de­tails of the Mid­town Tun­nel project, which con­nects Nor­folk with the city of Portsmouth un­der the El­iz­a­beth River, were blurry from the out­set, and they have con­tin­ued to change.

“We got jammed with that project,” said long­time Nor­folk Mayor Paul Fraim, adding that lo­cal of­fi­cials were ex­cluded from ne­go­ti­a­tions as top lead­ers worked with the pri­vate firms.

“The whole idea was to keep the po­lit­i­cal peo­ple out of this busi­ness deal, that they’d just sort of muddy the wa­ter,” he said. “It turns out there was no check on the guys who were try­ing to strike the deal.”

Sean Con­naughton, who was trans­porta­tion sec­re­tary un­der former gover­nor Robert F. McDon­nell (R) when the agree­ment was signed, de­clined to com­ment. But Tony Kinn, who was brought in by the McDon­nell ad­min­is­tra­tion to ag­gres­sively pur­sue such deals, said the tun­nel, set to open next year, will save com­muters valu­able time.

“I think it was a good, solid deal. It’s a good, solid con­tract,” Kinn said, de­clin­ing to ad­dress ques­tions about the project.

Try­ing to trim toll amounts

In the depths of re­ces­sion, the Skan­ska/Mac­quarie part­ner­ship’s orig­i­nal pro­posal had an en­tic­ing pledge at its core.

“We de­clare the fol­low­ing: The only pub­lic financial sup­port re­quired would be in the form of ” low-cost fed­eral loans and bonds for pri­vate busi­ness use, ac­cord­ing to the 2008 doc­u­ment. “No other sub­sidy or pay­ment would be needed.”

So how did the state end up spend­ing $490 mil­lion so far, with an ad­di­tional $91 mil­lion to come?

“The pro­posed con­cep­tual amounts were ad­justed to the Com­mon­wealth’s pref­er­ence,” said Leila Rice, a spokes­woman for the Skan­ska part­ner­ship.

Rice said the state wanted com­muters to pay less. The toll rates as­sumed in Skan­ska’s orig­i­nal dec­la­ra­tion were be­tween $2 and $3, she said, over a 50-year con­ces­sion.

When the deal was signed in 2011, the off-peak toll rate was set at $1.59 and the peak rate at $1.84.

In an­nounc­ing the deal, McDon­nell said that Vir­ginia was “rec­og­nized as a na­tional leader in lever­ag­ing lim­ited pub­lic dol­lars to at­tract sig­nif­i­cant pri­vate­sec­tor in­vest­ment and in­no­va­tion, mak­ing com­plex trans­porta­tion projects pos­si­ble.”

That was nearly three years be­fore McDon­nell was con­victed of pub­lic cor­rup­tion and sen­tenced to two years in fed­eral pri­son for tak­ing lav­ish gifts from a di­etary sup­ple­ment maker. He is ap­peal­ing the de­ci­sion.

But in 2011, McDon­nell was be­ing men­tioned as a pos­si­ble vice pres­i­den­tial can­di­date, and he had sought to make partnerships with the pri­vate sec­tor on the tun­nel and other trans­porta­tion projects a cen­tral part of his legacy. The Mid­town Tun­nel was lauded by an industry pub­li­ca­tion as one of the top toll projects in North Amer­ica.

In fact, poor deal­mak­ing by gov­ern­ment of­fi­cials eroded the promised pub­lic ben­e­fits, ac­cord­ing to in­ter­views and project doc­u­ments. And the com­plex financial terms were at times de­scribed to the pub­lic and lo­cal of­fi­cials in short­hand that could be mis­lead­ing.

A month af­ter the agree­ment was signed, an of­fi­cial with the Vir­ginia Depart­ment of Trans­porta­tion pre­sented the “key busi­ness terms” of the deal be­tween the state and the Skan­ska/ Mac­quarie part­ner­ship, which is known as El­iz­a­beth River Cross­ings OpCo LLC, or ERC.

“ERC to pro­vide $1.7 bil­lion in­vest­ment,” read the Pow­er­Point slide, ac­count­ing for the vast ma­jor­ity of the $2.1 bil­lion to­tal.

In fact, the orig­i­nal deal called for the com­pany to pro­vide $220 mil­lion in eq­uity. It also called for $51 mil­lion in “con­tin­gent eq­uity,” but com­pany fig­ures in­di­cate just 1 per­cent of that is ex­pected to be used.

The com­pany, in­deed, spear­headed the fi­nanc­ing.

It took out $1.1 bil­lion in loans from the fed­eral gov­ern­ment and the Vir­ginia Small Busi­ness Fi­nanc­ing Author­ity, which sold bonds to fund the project. But those debts are guar­an­teed by the toll rev­enue — ERC’s cor­po­rate par­ents, Skan­ska and Mac­quarie, aren’t on the hook to pay them back.

Last year, a con­gres­sion­ally ap­pointed panel cited con­fu­sion on just what pub­lic-pri­vate partnerships bring to the ta­ble. They “are not a source of fund­ing,” it con­cluded — in­stead, they are fi­nanc­ing and pro­cure­ment tools. They can help de­liver com­plex projects, but with higher fi­nanc­ing costs that are “borne by the pub­lic — there is no free lunch.”

In ad­di­tion to pro­vid­ing the new tun­nel, the Skan­ska part­ner­ship is re­spon­si­ble for re­ha­bil­i­tat­ing two old tun­nels and main­tain­ing all three of them for more than five decades. It also as­sumes the “rev­enue risk.”

That means if the Skan­ska part­ner­ship’s traf­fic pro­jec­tions are wrong, and fewer peo­ple use the tun­nel, it is the com­pany that would lose out by mak­ing less money. The state would still have a tun­nel it didn’t have be­fore.

A se­ries of con­ces­sions

In fren­zied fi­nal ne­go­ti­a­tions in 2011, Vir­ginia made a se­ries of prom­ises it couldn’t keep, rais­ing ques­tions about the sound­ness of its over­all ap­proach.

Rep­re­sen­ta­tives from the pri­vate firms and the state hit a wall dur­ing marathon ses­sions in a Rich­mond con­fer­ence room, par­tic­i­pants said.

“We found our­selves in Rich­mond for a solid week, work­ing with VDOT and the de­vel­oper and us,” said Wade Wat­son, a Skan­ska vice pres­i­dent rep­re­sent­ing the com­pany’s con­struc­tion arm in the talks. “And what the gover­nor said was, ‘If you guys can’t get this project to a cer­tain toll, we’re done.’ ”

In ex­change for the lower toll, the Skan­ska part­ner­ship de­manded sweet­en­ers else­where. And got them. The ne­go­ti­a­tions were shaped by a crit­i­cal fact: This was not a com­pet­i­tive pro­cure­ment.

“A de­ci­sion was made to ad­vance the project with one bid­der, which was a de­ci­sion of that ad­min­is­tra­tion at that time,” said Dusty Hol­combe, who as deputy chief of the state’s pub­lic-pri­vate partnerships of­fice was a key ne­go­tia­tor. “Un­der any pro­cure­ment, we’d rather have mul­ti­ple bid­ders com­pet­ing against each other for the price of it.”

They didn’t, and a se­ries of con­ces­sions fol­lowed.

First, the state agreed to let the com­pany im­pose tolls on the ex­ist­ing Mid­town and Down­town tun­nels run­ning from Nor­folk be­fore the new, par­al­lel Mid­town Tun­nel was com­pleted.

Sec­ond, the state said the com­pany could raise tolls by 3.5 per­cent each year or the rate of in­fla­tion, which­ever was higher.

State ne­go­tia­tors also agreed that if Vir­ginia built com­pet­ing tun­nels or bridges, the Skan­ska part­ner­ship would be en­ti­tled to com­pen­sa­tion for lost tolls. And of­fi­cials made the com­mit­ment with­out cal­cu­lat­ing what it could even­tu­ally cost, Hol­combe said. Chances were deemed too re­mote, and, in any case, tim­ing would be crit­i­cal, he said.

“There is no spe­cific value as­signed to them be­cause that value would be only spe­cific to the date” some­thing was built, Hol­combe said.

The pri­vate sec­tor was less lais­sez faire.

An anal­y­sis pro­vided to out­side in­vestors put the po­ten­tial price tag at be­tween $269 mil­lion and $774 mil­lion, de­pend­ing on which project is built when and how high the tolls are.

In Vir­ginia, one of those pos­si­ble fu­ture com­peti­tors is a ma­jor bridge-tun­nel known as Pa­tri­ots Cross­ing. For years, that project has been a pri­or­ity of Nor­folk Mayor Fraim, who said a new ded­i­cated stream of trans­porta­tion funds in his re­gion has added mo­men­tum.

But “at the time, the ad­min­is­tra­tion did not feel that there was a risk as­so­ci­ated with build­ing Pa­tri­ots Cross­ing. They just felt it was so far out, it was a risk that the ad­min­is­tra­tion was will­ing to take,” Hol­combe said. He noted that the bur­den of proof re­mains with the com­pany to demon­strate that its rev­enue is lower than it would have been with­out a com­pet­ing tun­nel or bridge.

De­lay­ing tolls’ price

Shortly af­ter the Mid­town Tun­nel deal was signed, it be­gan to fray.

Fac­ing fierce op­po­si­tion, the state in 2012 de­cided to de­lay the new tolls un­til a new gover­nor took of­fice. That added $112.5 mil­lion to the $308 mil­lion the state orig­i­nally put into the project.

Then, in 2014, shortly af­ter Gov. Terry McAuliffe (D) came into of­fice, his ad­min­is­tra­tion de­cided to tem­po­rar­ily lower tolls dur­ing the con­struc­tion pe­riod, adding an ad­di­tional $82.5 mil­lion to the state’s to­tal.

And this sum­mer, of­fi­cials agreed to pay the Skan­ska part­ner­ship $78 mil­lion more to per­ma­nently buy down the tolls on a short stretch of the Martin Luther King Jr. free­way that was part of the over­all toll project.

The new in­fu­sions gave some re­lief to driv­ers, and they ben­e­fited the Skan­ska part­ner­ship by al­low­ing it to de­lay — and prob­a­bly de­crease — its own in­vest­ment, which re­duces its risks, com­pany doc­u­ments and in­ter­views show.

Akash Deep, an in­fras­truc­ture fi­nanc­ing ex­pert and se­nior lec­turer at Har­vard’s Kennedy School of Gov­ern­ment, said that par­tic­u­larly lengthy pub­licpri­vate agree­ments such as Vir­ginia’s raise im­por­tant po­lit­i­cal ques­tions — and can lead to sig­nif­i­cant new costs down the road.

A 58-year com­mit­ment “spans ad­min­is­tra­tions, it spans gen­er­a­tions,” he said, and “pub­lic pri­or­i­ties change over time.”

“If you do things us­ing tra­di­tional pub­lic pro­cure­ment, it’s eas­ier to make changes,” Deep added, not­ing that gov­ern­ments can change their bud­gets year to year. With pub­lic-pri­vate partnerships, “you write con­tracts with pri­vate en­ti­ties, and chang­ing con­tracts can be ex­pen­sive.”

Vir­ginia’s cur­rent trans­porta­tion sec­re­tary, Aubrey Layne, said the state would have been bet­ter off spend­ing its own money to build the tun­nel and keep­ing the decades of po­ten­tial up­side to it­self.

The state agreed to put $273 mil­lion more into the project af­ter the deal was signed. The Skan­ska part­ner­ship orig­i­nally com­mit­ted $220 mil­lion.

“The rea­son the state sup­pos­edly sold this as­set — that’s what we re­ally did for 58 years — is we felt we didn’t have the money,” said Layne, an ac­coun­tant who has been sharply crit­i­cal of the deal. In fact, he said, it’s now been proven that the state could find the money.

“We didn’t need their eq­uity. If we didn’t need their eq­uity, we wouldn’t have had to agree to all th­ese other pro­vi­sions,” Layne said, in­clud­ing the com­pany’s in­ter­nal rate of re­turn of 13.5 per­cent on its in­vest­ment. “There is a hell of a lot of money over 58 years.”

A sep­a­rate Skan­ska en­tity was re­cently fired by Ap­ple, which wanted changes in how its new space-age head­quar­ters was be­ing built in Cu­per­tino, Calif. Vir­ginia of­fi­cials say the qual­ity of the com­pany’s con­struc­tion work on the Mid­town Tun­nel has been ex­cel­lent.

But Vir­ginia is stuck with the deal it made.

The state can cut off the agree­ment, Layne said, but given how the con­tract is writ­ten, “do­ing so would be just as ex­pen­sive.”

michael.laris@wash­post.com

JAY WEST­COTT FOR THE WASH­ING­TON POST

Vir­ginia agreed to let the Skan­ska/Mac­quarie part­ner­ship im­pose tolls on Nor­folk’s ex­ist­ing Mid­town Tun­nel, above, be­fore the new one was done.

JAY WEST­COTT FOR THE WASH­ING­TON POST

Nor­folk Mayor Paul Fraim points to the area of the pro­posed Pa­tri­ots Cross­ing, a pos­si­ble fu­ture com­peti­tor for the new Mid­town Tun­nel.

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