Carolina on my mind: North Carolina’s Innovative Road PPP Financing Mechanism

“In my mind, I’m goin’ to Carolina,” sang North Carolina native James Taylor – but he probably wasn’t traveling there on a road funded through a public-private partnership (PPP). That’s because PPPs in the United States are not as prevalent as in other regions of the world. The reasons are varied, but it’s in large part because each state is responsible for setting its own transportation strategy and financing plan. Furthermore, U.S. state and subnational entities have traditionally benefited from an active municipal bond market that has allowed them to access monies from the capital market.

But a recent project in a commuter corridor in North Carolina might change the way people travel around the state.  Based in Charlotte, the largest city, the I-77 is the region’s first transportation PPP. This innovative US$650 million brownfield project combines private sector know-how with an efficient use of public funding structures, and could be a model for other U.S.-based transportation projects. In fact, some of the lessons from this project could also offer a way for other countries to develop public support mechanisms.

A PPP with a catchy tune
The project was launched by the North Carolina Department of Transportation (NCDOT), which had long been pursuing a solution that would widen a 26 mile (42 kilometer) stretch of road, adding dynamically-priced express lanes in each direction (also called “managed lanes”). The active management of the roadway is made possible through “dynamic pricing” that maintains average minimum speeds of 45 and 55 miles per hour, as established by the U.S. Federal Highway Authority.

One particularly attractive feature for drivers who pay tolls is that they will enjoy predictable journey times and travel time savings. As a related benefit, users will experience improved conditions, including less congestion on the general purpose lanes. There are gains for public buses and vehicles with three or more occupants, as well: they can use the express lanes for free.

These advantages to drivers and passengers alike extend far into the future.  The private sector is responsible for design, construction, finance, operation and maintenance of the asset through a design-build-finance-operate-maintain structure, and accepts revenue risk over a 50-year concession term.

On the minds of transport analysts, too
This innovative PPP is worthy of close examination because of its potential for replicability in a country with few transport PPP models. Here are some of the reasons it stands out:

• The PPP bidding process sets the minimum level of capital grant to be provided by the public authority as the key bidding criteria (winning bidder requested US$95 million compared with the US$170 million maximum possible).
• The public sector established a contingent credit enhancement facility that played a critical role in the financial structure of the deal.Under this structure, the State of North Carolina confirmed that if toll revenue is insufficient to fully fund operations and maintenance costs and scheduled debt service, the developer may request additional public funds from the public authority to make up the shortfall.
• The maximum available public contribution is capped at up to a maximum of US$12 million per year and US$75 million in aggregate.The availability of this facility ends upon refinancing, and eliminates the need for traditional ramp-up reserve. This ensures that future liabilities to the public sector are well understood, and has a minimal effect on North Carolina’s fiscal situation.
• As this is a brownfield project, the PPP design places great emphasis on undertaking the two- lane extension as quickly as possible so as to maximize revenue generation for the private sector. Construction is anticipated to be completed in under four years from commencement of the contract.
• Sources of funding and financing include private equity, NCDOT contribution, and debt instruments including a Transportation Infrastructure Finance and Innovation Act (TIFIA) loan, and Private Activity Bonds (PABs).

A PPP worth singing about
This project’s PPP structure involved an innovative combination of public and private resources. The public sector acted directly through a federal credit assistance program in the form of a direct loan. This was possible because of TIFIA, which was developed to finance surface transportation projects of national and regional significance. The TIFIA direct loan, issued by the U.S. Department of Transportation, offered flexible repayment terms (e.g. interest and principal holiday), at more favorable interest rates than found in the capital markets.  In other words, the interest rates of the loan reflect the tax exempt status of the loan.

For the I-77, this resulted in a TIFIA loan of US$189 million loan at 3.04 percent for a 33-year loan. In addition, the project company issued PABs, which are bonds in which the state or local government serves as a conduit to provide financing to private businesses (in this case the developer) for infrastructure projects. PABs provide tax exempt debt for PPPs lowering the cost of capital. Here, the project company issued PABs that were highly rated by rating agencies -- and for this project, the initial senior bonds were oversubscribed by five times.

It’s worth singling out the reason why this public-private funding dynamic is different from other transportation PPPs around the world: in North Carolina, the private developer brought its own equity and secured a short term bridging loan. This unique combination of debt instruments increased the overall feasibility of the project, increasing its bankability and making it attractive to a variety of private sector parties -- not just the private developers, but also bond holders, which are typically pension funds and other long term private and institutional investors.

When the I-77 is completed, the innovative financial structuring, minimizing the cost to the public sector while mitigating risk to lenders, will offer a new, replicable model for America’s future transportation PPPs.  But North Carolinians, both those who live there as well as those yearning to return, will have many more reasons to sing its praises.