Maximizing State Benefits from Public-Private Partnerships

Maximizing State Benefits From Public-Private Partnerships MAC TAylor • l e g i s l A T i v e A nA l y s T • nove MBer 8, 2012 An LAO RepOR t 2 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t ExEcutivE SuMMary In recent years, the state has partnered with the private sector to finance, design, construct, operate, and maintain two state infrastructure projects—the Presidio Parkway transportation project in San Francisco and the new courthouse in Long Beach. Both the California Department of Transportation (Caltrans) and the Administrative Office of the Courts (AOC) entered into a public- private partnership (P3) for these projects in order to achieve benefits that they might not have obtained under a more traditional procurement approach (such as design-bid-build). These potential benefits include greater price and schedule certainty and the transfer of various project risks to a private partner. Our analysis, however, generally indicates that the P3 practices of Caltrans and AOC are not necessarily aligned with the P3 best practices identified in the research. For example, these departments did not use clear P3 processes and appear to have selected projects not well suited for a P3 procurement. In addition, we find that the analyses done to compare project costs under different procurement options were based on several assumptions that are subject to significant uncertainty and interpretation, and tended to favor the selection of a P3 approach. Based on our review and findings, we have identified several opportunities for the state to further maximize its benefits when deciding to procure a state infrastructure project as a P3. Specifically, we recommend that the Legislature: • Specify P3 project selection criteria in state law in order to provide for greater consistency across departments in terms of how P3s are selected. • Require a comparative analysis of a range of procurement options (including design-bid-build, design-build, and P3) for all potential P3 infrastructure projects in order better determine which procurement option would most effectively benefit the state, as well as allow the state to better balance the potential benefits of increased private sector involvement with the potential risks unique to each project. • Require the existing Public Infrastructure Advisory Commission (PIAC) to approve state P3 projects in order to improve the consistency of the state’s P3 approval process. • Require PIAC to (1) have a broad mix of expertise related to P3 and state finance and procurement, (2) develop additional best practices for the state’s use of P3s, and (3) evaluate other state departments to determine if they would benefit by having P3 authority. www.lao.ca.gov Legislative Analyst’s Office 3 An LAO RepOR t introduction A partnership between the state and the Francisco (also known as Doyle Drive) and to private sector is sometimes used to finance, build and maintain a new courthouse in Long design, construct, operate, and maintain state Beach. Each of these agreements is for a period infrastructure projects (such as highways, mass of about 30 years. The combined estimated cost transportation systems, and state buildings). Such to the state for both of these projects is about a P3 requires the state and the private sector to $3.4 billion. Given their significant cost and collaborate when making decisions about a project. the limited experience the state has had in such By bringing external resources and specialized partnerships, we identify in this report best expertise to a project, the state is expected to practices for the state to follow when using P3s achieve certain benefits from a P3 that typically and present recommendations for maximizing are not achievable when using a more traditional, the benefits to the state. In preparing this report, public sector procurement approach. we met with representatives from various state In recent years, California has entered into P3s departments about their experiences with P3s, as with private partners for two state infrastructure well as numerous P3 experts. We also reviewed the projects. Specifically, to build and operate the literature regarding best practices for implementing Presidio Parkway transportation project in San such partnerships. Background State Procures infrastructure of multiple reviews and approvals as a project’s Projects in various Ways development moves from concept to environmental review and preliminary engineering, and then to State law specifies the processes for reviewing design and construction. and approving proposed state infrastructure State law specifies three general types of projects. In most instances, such as for court procurement approaches—design-bid-build, facilities and state office buildings, the Legislature design-build, and P3—that state departments can must approve and appropriate funds for a state use to deliver infrastructure projects that have project. (They also must receive approval from the been approved for construction. As summarized State Public Works Board at various subsequent in Figure 1, each of these procurement approaches stages.) However, the California Transportation involves varying ways of contracting with the Commission (CTC) approves most state projects private sector for a project. We discuss each related to transportation. The review and approval approach in more detail below. process for state projects generally involves Design-Bid-Build. State departments can use determining (1) the need for the project, (2) how a design-bid-build approach to procure all types the project fits into existing infrastructure systems, and sizes of infrastructure. Under this approach, (3) the project’s priority relative to other state the work for each stage of a project is performed infrastructure projects, and (4) how the project separately. For example, a state department will will be funded. This process typically consists 4 Legislative Analyst’s Office www.lao.ca.gov Graphic Sign Off Secretary Analyst Director Deputy An LAO RepOR t Figure 1 State Procurement Approaches Design-Bid-Build Design-Build Public-Private Partnerships Environmental Environmental Environmental Environmental Review Review Review Review Financing Financing (if necessary) (if necessary) Financing Financing Design Design Design Design Construction Construction Construction Construction Operation Operation Operation Operation Maintenance Maintenance Maintenance Maintenance generally first award an architectural/engineering contracts with a private general contractor to both contract to design the project based on subjective design and build the infrastructure project. The criteria of qualifications and experience of the department does not separately contract with an architect/engineer. In some cases, however, architect/engineer for design. Rather, the general state staff may design the project. After detailed contractor is responsible for subcontracting with project plans and drawings are completed, the other entities for design and various construction department then selects a contractor to perform work. The state awards a design-build contract the construction work. Construction contracts are through a competitive bidding process that awarded objectAivelyR baTsedW on cOompRetitKive b#idd1ing1, 06ev2alu3ate/s Ffacitogrs suucrh aes p1ric.ea, deisign features, with the contract going to the qualified bidder construction schedule, and community or who submits the lowest price. Once construction is environmental outcomes. Under design-build, completed, the state department is responsible for the state maintains responsibility for financing, operating and maintaining the facility. The state operating, and maintaining the project. pays for the cost of design-bid-build projects either Alternatively, another type of design-build up front with state funds or over time by selling involves the state transferring design and general obligation bonds or lease-revenue bonds. construction risks to a specialized construction Design-Build. Under existing state law, certain manager, rather than a general contractor. This departments can use design-build procurement. approach is commonly referred to as “construction With design-build, the department typically manager at risk procurement.” With construction www.lao.ca.gov Legislative Analyst’s Office 5 An LAO RepOR t manager at risk, the state awards a contract based Under a P3 approach, the state can transfer a on a fee. The construction manager designs the significant amount of responsibility associated with a project and solicits bids from subcontractors and project to the private sector. For example, the private suppliers. The sum of these bids, along with a partner will generally make design and construction surcharge, determines the total price the state pays decisions and be responsible for paying the costs to for the project. resolve any construction issues in order to ensure P3s. Current state law authorizes three state that the project is completed on time. In addition, departments—Caltrans, AOC, and the High-Speed the partner will often be required to finance the Rail Authority (HSRA)—to use some form of a project, which generally includes the costs of design P3. While there can be varying degrees of P3s, the and construction staff, materials, and construction type of P3 often discussed and most recently used equipment. However, in order for a private partner in California is when a single contract is entered to be willing to finance these costs, the contract into with a private partner (often a consortium of must specify a mechanism for repaying the partner. several companies) for the design, construction, In many cases, this involves a revenue source finance, operation, and maintenance of an created by the project (such as a toll or user fee on infrastructure facility. For the purpose of this the infrastructure facility), with the private partner report, we generally define a P3 as the contracting taking on the risk that the projected revenues will with the private sector to design-build-finance- materialize at the level anticipated. Alternatively, operate-maintain an infrastructure project. (As the state can commit to making annual payments we discuss in the nearby box, the state can also to the partner from an identified funding source, enter into partnerships with other public entities, such as tax revenues. Since it can take many years such as counties, for the procurement of state for a revenue source (such as a toll on a road) to pay infrastructure.) off the private financings, the terms of P3 contracts generally range between 25 years to 100 years. State Partnerships With other Public Entities In addition to the private sector, the state can utilize other public entities (such as a county or other public authorities) for the design, construction, operation, and maintenance of an infrastructure project. In such cases, however, these entities typically subcontract (either through a single contract or multiple contracts) with the private sector to perform much of the actual work on a project. For example, the public partner could finance a project with municipal financing, contract with a private company for design and construction work, and have separate contracts with other companies to maintain and operate the infrastructure facility. An example of a public-public partnership project is “The Toll Roads” in Southern California—a 50 mile network of tolled state highways in southern Orange County built by the Transportation Corridor Agencies (TCAs), which are led by locally elected officials. In 1987, the Legislature authorized the TCAs to design, construct, finance, operate, and maintain a portion of the state’s highways and to fund the cost of the project with tolls. The TCAs contracted with private companies to perform most of the work on the project. 6 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t The P3 procurement approach is typically follow-up legislation, Caltrans built ten miles of more complex than design-bid-build and design- tolled express lanes in the median of the existing build. For instance, under a P3 approach, the state State Route (SR) 91 in Orange County. In addition, must first evaluate a pool of potential bidders to the department built SR 125 in San Diego County determine if they have the qualifications necessary that connects the area near the Otay Mesa border to design, build, finance, operate, and maintain crossing with the state highway system. For each the infrastructure facility. Then, qualified bidders project, Caltrans used a single contract with a submit proposals that the state evaluates in order private partner to design, construct, finance, to select a preferred bidder. A P3 contract is often operate, and maintain the facility. (We discuss awarded to the bidder deemed to provide the best these two projects in more detail later in this value. report.) In 2009, Caltrans’ authority to enter into P3 three State departments authorized agreements was expanded. Specifically, Chapter 2, to use P3s for certain Projects Statutes of 2009 (SB 2X 4, Cogdill), authorizes As shown in Figure 2, existing state law Caltrans and regional transportation agencies authorizes the use of P3s for certain transportation (such as the Los Angeles County Metropolitan and court construction projects. (State law also Transportation Authority) to enter into an authorizes certain local governments to use P3s for unlimited number of P3 agreements for a broad local infrastructure projects.) Below, we discuss in range of highway, road, and transit projects through more detail the specific P3 authority provided to December 31, 2016. However, the legislation specifies state departments. that such P3 projects must achieve one or more Caltrans. Chapter 107, Statutes of 1989 objectives as determined by the CTC, which is (AB 680, Baker), authorized Caltrans to enter into responsible for programming and allocating funds P3 agreements for up to four projects. Under this for the construction of highway, rail, and transit authorization, as well as that provided in related improvements. These objectives include: Figure 2 Summary of State Public-Private Partnership (P3) Authority State Type of Projects Department Infrastructure State Law Brief Description To Date Caltrans Highways Chapter 107, Statutes of Allowed Caltrans to enter State Route (SR) 91 1989 (AB 680, Baker) into up to four P3s. and SR 125 Caltrans and regional Highways, local Chapter 2, Statutes of Allows Caltrans and regional Presidio Parkway transportation agencies roads, and transit 2009 (SB 2X 4, Cogdill)a agencies to enter into an unlimited number of P3s through 2016. High-Speed Rail Authority High-speed rail Chapter 796, Statutes of Allows HSRA to enter into High-speed train (HSRA) 1996 (SB 1420, Kopp) P3 contracts for the system proposed rail system. Administrative Office of the Court facilities Chapter 176, Statutes of Establishes process for Long Beach Courts (AOC) 2007 (SB 82, Committee review of AOC P3 projects. Courthouse on Budget and Fiscal Review) a Replaced the P3 authority previously provided to Caltrans under Chapter 107. www.lao.ca.gov Legislative Analyst’s Office 7 An LAO RepOR t • Improve travel times or reduce vehicle Judicial Council and AOC. Under current hours of delay. law, the judicial branch is authorized to use P3s. In addition, state law requires the Judicial • Improve transportation operation or safety. Council (the policy making body for the judicial branch) and their staff in the AOC to develop • Provide quantifiable air quality benefits. performance standards to facilitate the review of • Meet a forecasted demand of P3s and requires the Department of Finance (DOF) transportation. to review projects that include a P3 component. The legislation also specifies that AOC may only In addition, the above agreements are subject to proceed with a P3 if the Legislature does not object a 60-day review by the Legislature and PIAC before to the performance standards adopted for the Caltrans can sign them. The PIAC is an advisory project. commission created by Chapter 2 and chaired by The 2007-08 Budget Act directed AOC to the Secretary of the Business, Transportation, and gather information regarding the possible use Housing (BT&H) Agency. Specifically, PIAC is of a P3 for the replacement of the Long Beach charged with assembling research, best practices, courthouse. In December 2010, AOC entered and lessons learned from transportation P3s into a P3 that requires a private developer to around the world. The commission can, upon finance, design, build, operate, and maintain request, assist Caltrans and regional transportation the Long Beach courthouse over a 35-year agencies with P3 project selection, evaluation, period in exchange for payments from the state procurement, and implementation. Currently, totaling $2.3 billion. At this time, the Long Beach PIAC consists of about 20 volunteer members and courthouse is the only project that the AOC has is staffed within existing BT&H Agency resources. procured using a P3. In January 2011, Caltrans entered into its The HSRA. Chapter 796, Statutes of 1996 first P3 under Chapter 2 for the Presidio Parkway (SB 1420, Kopp), created the HSRA and authorized project. This particular P3 requires the private it to use P3 procurement for the development of partner to complete the second phase of the design a high-speed train system connecting northern and reconstruction of the southern approach to the and southern California. However, state law does Golden Gate Bridge and to operate and maintain not establish a specific process for reviewing or the roadway for 30 years. In exchange, the state approving P3s for HSRA. State law requires capital will make payments estimated to total roughly expenditures by HSRA to be approved by the $1.1 billion to the private partner over the life of the Legislature. Based on the authority’s 2012 business contract. plan, the HSRA would not award its first P3 contract until 2023. BEnEFitS and LiMitationS oF P3S Government entities typically use P3s to (such as design-bid-build). However, P3s can also achieve benefits that they may not be able to obtain introduce new limitations and costs as summarized under a more traditional procurement approach in Figure 3 and described in detail below. 8 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t Potential P3 Benefits Figure 3 Transfers Project Summary of Benefits and Risks to Private Partner. Limitations of Public-Private Partnerships The P3s can transfer risks associated with a project 9 from a government entity Potential Benefits to a private partner. • Transfer project risks to private partner. • Greater price and schedule certainty. Figure 4 (see next • More innovative design and construction techniques. page) summarizes the • “Free up” public funds for other purposes. major risks that could • Quicker access to financing for projects. potentially be transferred, • Higher lever of maintenance. such as those related to • Keep project debt off government’s books. financing, operation, 9 Potential Limitations and maintenance. As • Increased financing costs. indicated in the figure, • Greater possibility for unforeseen challenges. the most significant risks • Limits government’s flexibility. are associated with the • New risks from complex procurement process. design and construction • Fewer bidders. of a project. For example, under a P3 approach, the Administration (FHWA), governments around private developer would bear the risks and costs the world reported that P3s can provide better if the design of the project were changed to fit price and schedule certainty for the design and certain site conditions (such as soil quality or the construction of a project compared to a more discovery of archeological artifacts). Similarly, the traditional procurement approach (such as design- private partner would be responsible for project bid-build). In part, this is because P3s allow a cost overruns, which can be very expensive. The government entity to share certain risks with a transfer of this risk could reduce or eliminate the private developer who has more experience with need for additional public funds to complete a a particular type of project and has developed project. Moreover, the partner would bear the risk strategies to mitigate potential cost increases that if the actual revenue collected from any tolls or user could result from such risks. The government fees are less than projected, which depending on can also achieve greater price certainty from the project, can be significant. In order to ensure P3s because, as is the case with design-build and adequate compensation, private developers attempt construction manager at risk contracts, the contacts to estimate the anticipated costs of resolving issues often have a maximum price. This means that the on the risks they assume and factor these costs into private partner must pay for any cost increases their bid. However, in some cases, the developer above the agreed upon price. In addition, the may be better equipped to manage certain risks at government typically sets up a streamlined process a lower cost than if the government retained all of to review the design and construction decisions the project risks. made by the partner, which can help prevent delays Greater Price and Schedule Certainty. Based in the project schedule. Moreover, P3s that include on a survey conducted by the Federal Highway financing can incentivize the partner to complete www.lao.ca.gov Legislative Analyst’s Office 9 An LAO RepOR t the construction of Figure 4 other infrastructure Major Risks Transferred in in the near-term and, Public-Private Partnership Agreements thus, provide the public with access to improved 9 Financing Risks infrastructure sooner than • Changes in financing costs. planned. In addition, the • Estimated and actual inflation. 9 developer’s financing can Design and Construction Risks sometimes provide more • Interface between design and construction. advantageous repayment • Discovery of endangered species. • Discovery of archeological, paleontological, or cultural resources. terms than a government • Discovery of hazardous materials. might typically obtain • Unknown utility lines. under a more traditional • Delays in getting permits approved. 9 public financing approach. Operation and Maintenance Risks For example, if repayment • Facility requires more maintenance than planned. were extended over a • Facility is more costly to operate than planned. • Standards or requirements imposed in the future. longer period of time than 9 the government typically Revenue Risks • Usage of the facility is lower than predicted. has to repay borrowed • Public less willing to pay user fees than projected. funds, it could reduce the amount that must be the project on time and receive the necessary repaid each year. Such funding (such as payments from the government or freed-up public funds could then be allocated for revenues from project user fees) to repay the private other purposes. loans taken out to finance the project. Quicker Access to Financing for Projects. In More Innovative Design and Construction addition, by making a private developer responsible Techniques. Experts in P3s generally believe that for financing a particular project, a government the private sector is often better able to develop might be able to access financing in cases where innovative project designs and construction it does not yet have the authority to borrow. For techniques than government entities. In part, example, California’s constitution requires voter this may be due to the specialized expertise that approval prior to selling certain types of bonds a private partner can bring to a project. Greater to finance infrastructure projects, which could design and construction innovation could result delay the state from accessing financing for certain in a variety of potential benefits, including lower projects. However, projects financed through a project costs, a higher quality project, shorter P3 would not require voter approval, potentially construction schedules, and enhanced project allowing some projects to start construction sooner. features. Higher Level of Maintenance. Due to “Free Up” Public Funds for Other Purposes. insufficient funding for maintenance, as well as In general, using a private developer’s access to how existing maintenance funding is prioritized, capital can free up government funds to advance some governments currently do a poor job in maintaining their infrastructure. For example, due 10 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t to a lack of regular maintenance, only 28 percent 1 percentage point higher on loans compared to of California’s highways are in good condition. the governmental cost of borrowing. In times of As a result, many highways require costly major limited access to financial markets (such as the rehabilitation or replacement. Under a P3 approach, financial crisis of 2008), the cost difference between a government could require the private partner private and public borrowing was 2 percentage to to maintain the constructed infrastructure to 3 percentage points. In addition, private companies specified standards. Essentially, this means that will often seek to earn a profit of roughly 10 percent P3 facilities could remain in good condition to 25 percent when loaning funds to a government, over longer periods of time, thus allowing the which can further increase P3 financing costs. government to delay the cost of major rehabilitation Greater Possibility for Unforeseen Challenges. or replacement. As previously discussed, in comparison to Keeps Project Debts Off the Government’s design-bid-build and design-build contracts, P3 “Books.” Another benefit of P3 financing is that contracts cover a much longer time period and the debt incurred by a private partner for a project scope of activities (such as maintenance of the may not be counted as government debt. In other infrastructure facility). Thus, there is a greater words, P3 financing may not appear as debt on possibility for unforeseen issues to arise under a government balance sheets. According to recent P3 approach. Such issues could include disputes studies by the FHWA and the United Nations regarding certain terms in the contract, as well Economic Commission for Europe, this is one of as the private partner being acquired by another the reasons why some countries in the European company or going out of business, effectively Union have chosen to use P3s. While the benefit resulting in project schedule delays and additional of debt not appearing on the government’s balance costs to the government. sheet is probably more important to governments Limits Government’s Flexibility. The subject to strict limitations on debt, it could also long-term nature of P3s can also “lock in” improve the overall ability of some governments to certain government funding priorities based on borrow funds for other purposes. However, since operational needs determined at the time the California does not have such strict debt limitations contract is negotiated. This can make it difficult to that restrict its options for financing infrastructure change funding allocations to reflect changes in projects this benefit does not currently apply to the government priorities. For example, a P3 contract state. may require litter and graffiti to be removed from a highway within three days. Renegotiating the Potential P3 Limitations terms of this contract to use the funds designated Increased Financing Costs. Financing a for prompt litter and graffiti removal to support project through a P3 is likely to be more expensive another activity or project could be very difficult. than the financing options typically used under In addition, by bundling multiple phases of a the more traditional procurement approaches project into a single contract, P3s can make it more (such as obtaining state and federal loans). This difficult for the government to change how a project is because private companies typically pay higher is managed. For example, if the government wanted interest rates than government entities to borrow to make changes to how a private partner handled money. For example, a study of P3 projects in customer complaints and questions on a toll road, Canada found that private partners typically pay it would likely need to propose amendments to the www.lao.ca.gov Legislative Analyst’s Office 11 An LAO RepOR t contract, which could increase the project’s overall Some Benefits achieved to date cost. In order to determine whether the state has New Risks From Complex Procurement achieved some of the intended benefits of P3s, we Process. As discussed earlier, the procurement reviewed the two completed P3 projects procured process for P3s is more complex than the by the state—SR 91 Express Lanes and SR 125 procurement processes traditionally used for Tollway. At the time of this analysis, however, state infrastructure projects (such as design-bid- Caltrans was unable to provide us with the build and design-build). In addition to a project’s necessary data to evaluate whether the P3 projects design, construction price, and schedule, under completed by the state—SR 91 and SR 125— P3 approach, the government entity must also resulted in greater price and schedule certainty evaluate proposals based on financing, operations, than if the projects were procured under a more and maintenance. In addition, P3 procurements traditional approach. As a result, we reviewed can also involve complex negotiations between recent state projects that, while not considered the government and the private developers who P3s, transferred certain risks and responsibilities bid on the project. As a result, P3s can require the to the private sector. Specifically, we reviewed government to perform new activities and take those projects procured under design-build and on certain risks that it may not be experienced at construction manager at risk contracts. These handling. For example, if the state does a poor job particular projects are summarized in Figure 5. of drafting agreements or fails to address relevant Price and Schedule Certainty Generally issues in these agreements, it could experience Achieved. In terms of the projects reviewed, most unexpected costs or receive lower levels of service of them were generally successful at staying on than planned. budget and schedule. When there were schedule Fewer Bidders. According to the research, and cost overruns, they were typically relatively infrastructure projects that are relatively expensive small. For example, three-fourths of the projects and complex tend to be more ideal candidates opened to users on schedule or within one month for P3s. In addition, private partners tend to be of the planned deadline. Three-fourths of the comprised of multiple companies who coordinate projects were also completed on budget or with efforts to develop a P3 bid—each with expertise in a less than 5 percent in cost overruns. While there particular component of the project (such as design is no way of knowing what the price and schedule and construction, financing, or maintenance). As outcomes would have been if these projects were a result, few private developers have the financial procured differently (such as a design-bid-build resources and technical skills to compete for P3 project), the projects were generally successful at projects, especially on their own. According to meeting the goal of price and schedule certainty. experts, P3 projects typically receive between one Mixed Results During Operations. The and three bids. In comparison, similarly sized SR 91 Express Lanes and the SR 125 Tollway both projects procured under traditional public sector experienced problems during the operational approaches typically receive a greater number of phases of their P3 contracts. Specifically, while both bids. Less competition for a project procured as facilities remained open to the public, Caltrans a P3 could be detrimental to the government, as incurred additional costs resulting from disputes more competition for a project generally reduces with its private partners. For example, the SR 91 the price of a project while increasing its quality. contract contained a “non-compete clause” that 12 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t prohibited Caltrans or other public agencies that Caltrans, as a partner in the agreement, was from competing with the tolled lanes built by the partially liable for losses claimed by some of the private partner. Thus, if public agencies made private companies involved in the project. The any improvements to transportation facilities in private partner ultimately declared bankruptcy, the SR 91 corridor (including minor projects to with the court awarding the rights to the remainder improve the safety of the general-purpose lanes of of the P3 to a group of lenders who had financed the highway), the private partner believed that the the project. This group subsequently sold the state would be required to compensate for the loss agreement to the San Diego Association of of toll revenue if fewer people drove on the tolled Governments. P3 lanes due to these improvements. The issue was Given the nature of design-build and litigated in court, but was ultimately settled when construction manager at risk contracts, the other the private partner agreed to sell the rights of the projects we reviewed did not transfer responsibility express lanes to the Orange County Transportation for operating the infrastructure facility to a Authority (OCTA), a local public transportation private partner after it was built. However, the agency. Since OCTA assumed control of SR 91, toll road projects involving SR 73, SR 241, SR 261, Caltrans has not had any conflicts regarding the and SR 133 did involve other public entities non-compete clause. being responsible for operating the facilities. This The SR 125 project experienced legal challenges network of tolled public highways in Orange that delayed its completion. Such challenges County (commonly referred to as “The Toll Roads”) made the partnership less profitable for the are managed by the Transportation Corridor private partner. Specifically, the lawsuit alleged Agencies (TCAs), which are public agencies led Figure 5 Design-Build and Construction Manager at Risk: Cost and Schedule Outcomes Percentage Implementing Type of Project Price Increase Project Agency Procurement Completion From Contracta SR 73 Toll Road TCAs Design-build 4 months early — SR 241, SR 261, and SR 133 Toll Roads TCAs Design-build 14 months early — SR 22 Carpool lanes OCTA Design-build 1 week late 4.6% Contra Costa Justice Center AOC Construction 1 week early 1.2 manager at risk Fresno Court Facility Renovation AOC Construction 1 month late 0.2 manager at risk State Office Building in Oakland DGS Design-build On schedule — San Francisco Civil Center DGS Design-build On schedule 1.2 State Office Building in Los Angeles DGS Design-build 3 months late 7.3 State Office Buildings in Sacramento DGS Design-build On schedule 10.4 Caltrans Office Building in Los Angeles DGS Design-build 15 months late 5.2 Caltrans Office Building in Marysville DGS Design-build On schedule 3.0 Central Plant Renovation in Sacramento DGS Design-build 4 months late 0.6 a Excludes cost of changes requested by the implementing agencies, such as increases to the contractors’ scope of work. SR = State Route; TCAs = Transportation Corridor Agencies; OCTA = Orange County Transportation Authority; AOC = Administrative Office of the Courts; and DGS = Department of General Services. www.lao.ca.gov Legislative Analyst’s Office 13 An LAO RepOR t by locally elected officials. While the TCAs may not meeting expectations and later rebid the work contract with private companies to operate the toll to a different company. Using separate contracts roads, they are ultimately responsible for making and retaining more responsibility for making key key decisions and directly managing the contracts. decisions helped avoid some of the unforeseen costs When the TCA’s encountered problems after the (such as legal costs) that were incurred with the highways became operational, they were able to state’s P3 projects. end a contract with a private operator who was P3 BESt PracticES As part of our examination of the P3 approach, having a transparent process so that potential we reviewed international research and interviewed partners are aware of the specific requirements experts in the field. Based on our review, we that must be satisfied to bid on a project and how identified a set of best practices that have been long the procurement process will likely take. Such found to maximize the potential benefits of P3s transparency also helps stakeholders and the public and minimize its potential limitations. These best understand how and why a government entity practices are summarized in Figure 6 and discussed selected a private company to build or operate public in more detail below. infrastructure. For example, Virginia created the Office of Transportation Public-Private Partnerships Establish overall P3 Policy and to develop a consistent institutionalized process for implement transparent Processes P3 procurements, in order to help attract qualified Experts recommend that governments adopt developers and contractors. an overall P3 policy to (1) guide decision-makers adopt criteria to determine good when evaluating different procurement options and candidates for P3 Projects (2) inform potential private partners and the public of the process. For example, experts recommend International research also finds that it is good practice for governments to adopt criteria for Figure 6 determining whether projects would be a good fit Public-Private Partnership (P3) for P3 procurement, as not all public infrastructure Best Practices projects would benefit from a P3 approach. For example, as we discuss later in this report, the 9 Establish overall P3 policy and implement Legislature could establish criteria that provide a transparent processes. reasonable means of screening potential P3 projects. 9 Adopt certain criteria to determine good Such criteria should not be too prescriptive or candidates for P3 projects. cumbersome. Experts recommend that the screening 9 criteria include the following: Conduct a rigorous value for money analysis. • Government Benefit From Using 9 Adopt and implement a project approval Nonpublic Financing. The screening process. process should determine if there is a benefit 9 (such as completing the project sooner) to Establish government expertise in P3s. 14 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t the government from financing the project • Revenue Source to Repay Financing. As with a private partner, rather than using discussed above, P3s require a revenue public funds upfront to pay for the project. source to repay the financing provided by Typically, relatively expensive projects—with the private partner. Ideally, a project would costs ranging from the hundreds of millions have a dedicated revenue source (such to billions of dollars—are more likely to as a toll or user fee) to repay the money benefit from private financing, as it can take borrowed from the partner. The government several years to save up enough funds to entity, however, could commit to make build a large project without financing or to payments to the partner from government get approvals for public financing. funding sources, such as tax revenues. • Technically Complex. Generally, projects conduct a rigorous value for Money analysis that are technically complex are more likely Once it is determined that a particular project to benefit from the innovation or specialized is a good P3 candidate, experts recommend that expertise that is typically associated with the government entity perform a detailed analysis P3s. For example, a private partner with that compares the project’s costs using a P3 to extensive experience designing and building using a more traditional procurement approach. tunnels or bridges may be able to construct A commonly used analysis is a “value for money” a complex tunnel or bridge more quickly (VFM) analysis, which identifies all the costs of and/or at a lower cost. On the other hand, a project (such as the design, construction, and projects that are very simple (such as operation and maintenance of the facility) over repaving a road) are not as well suited for the life of the project or the term of the lease the P3 approach because they are less likely with the private partner. These costs are then to benefit from innovation and specialized “discounted” over time to determine the project’s expertise. cost in net present value. In other words, because • Ability to Transfer Risks to Partner. the expenditures take place over several decades Projects that are good candidates for P3s and the timing of the expenditures differ between a generally have significant known risks that P3 approach and the more traditional procurement the government can transfer to a private approach, the comparisons are adjusted to account partner. For example, a project that is in for the fact that money available at the present time the very early stages of development and is worth more than money available in the future. does not have a completed environmental Specifically, the VFM analysis should compare review may lack sufficient information to the cost of the different procurement approaches allow for an effective transfer of risk. Given in net present value terms of delivering the same these unknown risks, potential partners level of service—both in terms of the quality of the may be hesitant to bid on the project or infrastructure constructed and the quality of the may incorporate large premiums into their maintenance and operation services provided. bid. Alternatively, a project with clearly The VFM analyses can be complex and the identified risks (such as if a toll road will underlying assumptions can significantly influence generate enough revenue to finance the the outcomes. Thus, most experts recommend project) would be more well-suited as a P3. www.lao.ca.gov Legislative Analyst’s Office 15 An LAO RepOR t specifying parameters for the assumptions (such as Establish government Expertise in P3s for the discount rate) so that all potential projects Another P3 best practice is for government are evaluated with similar criteria. entities to develop expertise regarding P3s, in order to better protect public resources when adopt and implement Project entering into large contracts with private partners. approval Process Experienced departmental staff can make it easier Experts recommend maintaining a process for the state to handle P3 workload quickly and to approve projects for P3 procurement that thoroughly, as well as effectively communicate with allows good candidates to proceed. The approving the private sector. Governments could use private entity (such as the Legislature or an independent consultants to help with this workload. board), which is typically separate from the Our research also found that P3 expertise agency sponsoring the project, should verify that can reside at multiple levels of government. For (1) the project satisfies most of the established P3 example, PPP Canada provides information and criteria and (2) the VFM analysis shows that a P3 assistance to Canada’s provincial and municipal procurement is the best option. In addition, P3 governments on the use of P3s. At the provincial experts recommend obtaining project approval level, Partnerships BC in British Columbia provides prior to having potential partners bid on the specialized services, such as managing projects and project. This is because private developers may facilitating communication with the private sector. not bid on a project if they are unsure whether In addition, experts recommend reviewing the the approving entity might stop it from moving outcomes of P3 projects at various stages to allow forward. a government entity to determine what worked well and what problems were encountered on each project. The lessons learned can be used to inform future P3 procurements. StatE’S uSE oF P3S FaLLS Short oF BESt PracticES As we discussed earlier in this report, a P3 procurement—meaning the Presidio Parkway existing state law authorizes Caltrans, AOC, and project and the Long Beach courthouse project. the HSRA to use P3s to procure certain types Our findings regarding each of these projects are of infrastructure. In analyzing their use of this summarized in Figure 7 and described in detail authority, we generally found that the practices below. of Caltrans and AOC are not necessarily aligned State Lacks transparent P3 Processes with P3 best practices. (At the time of this report, HSRA had not entered into any P3 contracts.) As discussed above, having clearly defined For example, our analysis indicates that these and transparent P3 processes is considered a best departments did not use clear P3 processes and practice. However, our review found that the state’s appear to have selected projects not well suited for use of P3 procurement for the Presidio Parkway 16 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t and Long Beach courthouse projects lacked Similarly, AOC did not use a transparent transparent frameworks and clear processes. For framework in selecting the Long Beach courthouse example, when Caltrans used a P3 procurement to be a P3 project. For example, AOC did not for the Presidio Parkway, the department lacked develop guidelines for selecting potential P3 a transparent framework for selecting the project projects and conducting VFM analyses. More and conducting a VFM analysis. It did not release importantly, at the time of this report, AOC had a draft P3 program guide until December 2011, not developed transparent criteria or processes one year after signing the agreement for Presidio for determining potential P3 projects in the Parkway. While the guide addresses many future. For example, it is unclear how AOC will procedural questions regarding the department’s identify projects that are likely to benefit from a P3 future use of P3s, it does not establish a consistent approach and evaluate potential projects through process for evaluating potential P3 projects the use of VFM analyses. through the use of a VFM analysis. We think this Selection criteria for recent Projects is a significant shortcoming of the guide because not aligned to Best Practices establishing VFM processes and parameters is important to ensure that projects are evaluated on Our analysis indicates that the processes a consistent basis using reasonable assumptions. used to identify the two recent state projects for The Caltrans draft P3 program guide also does P3 procurement—the Presidio Parkway and the not address how project evaluation, review, and Long Beach courthouse—included few of the best procurement responsibilities will be carried out practice criteria. when the state partners with local transportation Presidio Parkway Selection Was Problematic. agencies. Specifically, the guide does not lay out how According to Caltrans staff, the Presidio Parkway the lead agency will be determined and which entity project was selected as a P3 candidate primarily is responsible for certain tasks, such as review and based on two criteria: (1) an estimated project cost oversight. As a result, various local agencies that we of more than $100 million and (2) a completed talked to appear to have different understandings of environmental impact review. However, according what will be required of them for P3 projects. to the identified best practices, these two factors Figure 7 State Not Meeting Many Public-Private Partnership (P3) Best Practices Long Beach Best Practice Presidio Parkway Courthouse Establish transparent P3 processes Adopt certain criteria to determine good P3 candidates Conduct rigourous value for money analysis Implement thorough project approval process Establish state expertise in P3s Not meeting Mixed results www.lao.ca.gov Legislative Analyst’s Office 17 An LAO RepOR t alone do not constitute a robust set of screening project, the selection process for the Long Beach criteria. In other words, the selection process for courthouse project did not include much of the the project did not include such recommended recommended best practice criteria. For example, criteria as the ability to transfer risk to the private the selection process did not evaluate whether the sector and whether the state would benefit from project is technically complex. While the ideal using non-state financing. While the selection level of complexity for a P3 is difficult to define in process for a P3 project does not need to include all specific terms, the Long Beach courthouse project of the best practice criteria, including such criteria lacks unique or complex features that would likely does help ensure that the intended P3 benefits are benefit from innovative design and construction achieved. Our analysis indicates that if Caltrans techniques. Accordingly, our analysis indicates that utilized such criteria in its selection process, the if AOC utilized best practice criteria in its selection Presidio Parkway project would have been found to process, the Long Beach courthouse project be inappropriate for P3 procurement. would have been found to be inappropriate for P3 For example, the Presidio Parkway project was procurement. too far along to transfer many of the project’s risks vFM analyses Based on assumptions to a private partner. This is because the Presidio that Favored P3 Procurement Parkway’s first phase of construction was already underway using a design-bid-build procurement As described above, VFM analyses can help when the second phase of the project was selected decision-makers compare the cost of a project under for P3 procurement. As a result, potential private different procurement options. Both Caltrans and partners had limited access to the construction AOC contracted with private consultants to perform site, which in turn made them less willing to such analyses for the Presidio Parkway and Long take on many of the project’s construction risks. Beach courthouse projects. Specifically, the analyses For example, the state retained significant risks compared the costs of constructing the project under regarding the discovery of archeological artifacts a more traditional approach to a P3 approach. The and endangered species. In addition, Caltrans had VFM analyses found that the state would benefit already designed about half of the project’s second financially if the Presidio Parkway and Long Beach phase prior to awarding the P3 contract. Thus, courthouse projects were procured as P3s—meaning the winning bidder may be limited in its ability to it would be cheaper to have a private developer build find cost-savings through innovative design and and operate the planned facility. Our review of these construction techniques because it must adhere to particular analyses, however, indicates that both certain specifications it did not design. VFM analyses were based on several assumptions Long Beach Courthouse Selection Was that are subject to significant uncertainty and Problematic. According to AOC staff, the Long interpretation and tended to favor a P3 procurement. Beach courthouse project was selected as a P3 If a series of different assumptions were made, candidate based primarily on two criteria: (1) it the VFM analyses would have shown that the P3 was one of the largest court construction projects procurement on the Presidio Parkway and Long considered at that time and (2) the Long Beach Beach courthouse projects would be more expensive area has a competitive market for the type of in the long run than a more traditional procurement. property management staff needed to operate a P3. Assumptions in Presidio Parkway Analysis Similar to the selection of the Presidio Parkway Favored P3. Some of the key assumptions made 18 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t by Caltrans in the VFM analysis of the Presidio would need to be paid for at the start of Parkway project that tended to favor P3 procurement construction. However, such overages do include: not typically occur at the start of a project, but rather as a project progresses through • Relatively High Discount Rate. In order to construction. While some consideration calculate the net present cost of the project, of the potential for cost overages is Caltrans’ VFM analysis discounts the cost reasonable, Caltrans’ method relies on of the project under a traditional approach subjective judgment rather than objective and a P3 procurement by 8.5 percent per evidence. Consequently, the chosen method year. As discussed above, this adjustment has the effect of overstating the net present is intended to reflect that money spent cost of the project under a traditional in the near term is more valuable than procurement approach, thereby favoring a money spent in the future. In the past, P3 procurement approach for the project. our office has suggested that a 5 percent discount rate be used for such analyses, • Failed to Account for Competitive but acknowledges there is no one “right” Bidding Environment. The Caltrans’ VFM discount rate. We also note that the state’s analysis, which was prepared in February long-term borrowing rate is currently less 2010, also did not take into account than 5 percent. the competitive construction bidding environment that occurred around that • Unjustified Tax Adjustment. The VFM time. During this period, Caltrans awarded analysis for this project also included construction contracts that were on average a $167 million adjustment in order to 30 percent below the project’s original account for increased tax revenues (such cost estimate. While it is not possible to as from corporate taxes) that the private know exactly what the bids would have developer would pay to the state under been if the Presidio Parkway project had the P3 approach. The analysis assumed been procured using a more traditional that if the project was not procured as procurement, it appears reasonable to a P3, the state would not receive these assume that the project could have been additional revenues. However, we found awarded at a much lower cost than the the adjustment included mostly revenues engineer’s cost estimate. related to potential federal taxes, which would not directly benefit the state. Thus, Our analysis indicates that utilizing a the adjustment made a P3 approach look different set of assumptions (such as a discount more favorable than is warranted. rate of 5 percent and excluding the assumed tax adjustment) would result in the cost of the • Assumed Early Payment of Cost Presidio Parkway project being less—by as much Overruns. Under a more traditional as $140 million in net present value terms—in the procurement approach (such as design- long run under a traditional procurement approach bid-build), Caltrans assumed the Presidio than the chosen P3 approach. Parkway project would exceed its budget by Assumptions in Long Beach Courthouse $125 million and that such cost overruns Analysis Favored P3. Some of the key assumptions www.lao.ca.gov Legislative Analyst’s Office 19 An LAO RepOR t in the VFM analysis of the Long Beach courthouse used by the court. The VFM analysis also that tended to favor P3 procurement include: assumes this additional space would be needed by the court in Long Beach in • Unjustified Tax Adjustment. Similar to the future, and builds the cost of leasing the Presidio Parkway project, the VFM this additional space into its estimates. analysis for the Long Beach courthouse This factor adds $260 million in costs to a project included a $232 million adjustment traditional procurement of the Long Beach to account for increased tax revenues courthouse project, but only $69 million that would be paid for by the private to the cost of the P3. The higher cost developer under the P3 approach. A under a traditional approach assumes major component of this adjustment that a separate building would be leased reflects revenues from federal taxes. Since and that the leased building would need additional federal tax revenues would not substantial modifications. The analysis for directly benefit the state, there appears to the traditional procurement also assumes be little to no justification for increasing increased costs for security officers to the cost of using a traditional procurement monitor the leased building. While there is approach to reflect the federal taxes that some basis for estimating a higher cost for would be paid by a private developer. the potential need to lease additional space • Overstated Cost Overruns. The VFM under a traditional procurement approach, analysis assumed that using AOC’s more the AOC has not conclusively demon- traditional procurement approach of strated that all of this additional space construction manager at risk—rather would be needed by the court in Long than a P3 procurement approach—would Beach. Moreover, AOC’s other courthouse result in construction cost overruns construction projects ordinarily do not for the Long Beach courthouse project include this kind of extra space. totaling $128 million (about 30 percent • Project Completion. The AOC’s VFM of the project’s estimated cost). However, analysis assumes that it would take given that AOC has procedures in place 14 months longer to complete the Long to prevent such cost overages and has Beach courthouse under construction not experienced them with recent court manager at risk procurement than as construction projects, this assumption a P3 project. Accordingly, the analysis has the effect of overstating the cost of the uses different timelines to discount the project under a construction management costs of the project under each type of at risk approach. procurement. The way the VFM analysis • Leasing of Additional Space. The AOC’s adjusts for these assumed differences in VFM analysis assumes that under the timing effectively increases the cost of a P3 approach, the courthouse project traditional procurement in net present would include space that would initially value terms. However, it is not evident that be leased by the private developers to such a procurement would necessarily take other entities, but could eventually be 14 months longer—especially in view of the 20 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t considerable flexibility state law gives AOC state law does not require that Caltrans address any with respect to its construction contracting of the concerns raised in these reviews. methodology. For court construction projects, state law authorizes the Joint Legislative Budget Committee Our analysis indicates that utilizing a different and DOF to review a potential P3 project before set of assumptions than those discussed above AOC can fully develop the project’s concept. (such as excluding the assumed federal tax Accordingly, the Legislature reviewed and adjustment and leasing costs) would result in the approved the general criteria used by AOC to select cost of the Long Beach courthouse project being the private partner for the Long Beach courthouse less—by as much as $160 million in net present project. However, the Legislature did not have an value terms—in the long run under a traditional opportunity to review and comment on the VFM procurement approach than the chosen P3 analysis before it was finalized and the contract was approach. signed with the private developer. State Law Lacks thorough State Lacks P3 Expertise Project approval Processes As previously discussed, experts recommend Our analysis found that for both the Presidio that government entities develop expertise Parkway and Long Beach courthouse projects, the regarding P3s in order to better protect public state did not utilize a thorough process for selecting resources when entering into large contracts with P3 projects. Having thorough processes in place private developers. Our review, however, finds that could have prevented Caltrans and AOC from such expertise within state government has not entering into a P3 agreement for each project, or been sufficiently developed in California. at least required changes to negotiate lower prices PIAC Has Limited P3 Expertise. The PIAC and better ensure that the intended P3 benefits are was established in 2009 to assemble and share achieved. research on best practices and lessons learned For P3 transportation projects, state law from transportation P3s around the world. requires the CTC to conduct a limited review However, based on our discussions with staff at of the basic features of each project sponsored the BT&H Agency and our review of various PIAC by Caltrans or a regional transportation agency. documents (including the minutes from the seven (We note that in reviewing the Presidio Parkway PIAC meetings that have taken place), we find that project, CTC extended its evaluation beyond the PIAC has done little to implement best practices basic requirements to further review the project’s for transportation P3s. The only steps that PIAC financing.) However, state law does not require appears to have taken in this regard are to post the commission or another entity to conduct an reports containing information on P3 best practices overall review of whether (1) the state would benefit on its website and to contract for two reports on from procuring a particular project as a P3 and P3s. We also note that the commission currently (2) whether a particular P3 contract is structured lacks members with in-depth expertise on issues to maximize the state’s benefits. Moreover, while such as state financing, state procurement, and state state law does provide a 60-day period for the labor issues. Perspectives on these issues could help appropriate legislative fiscal and policy committees to ensure that the state maximizes its benefits when and PIAC to review P3 proposals before Caltrans using P3s. can sign an agreement with a private developer, www.lao.ca.gov Legislative Analyst’s Office 21 An LAO RepOR t No Systematic Approach for Reviewing past P3 projects in order to maximize benefits and Lessons Learned. Our review also finds that avoid repeating past mistakes. We understand the state does not have a systematic process for that AOC is currently developing a review and identifying and applying lessons learned from prior reporting process for the Long Beach courthouse P3 projects. Although Caltrans is the only state project. Once completed, these reports may provide agency to have entered into multiple P3 agreements, helpful lessons learned about AOC’s use of P3 it currently lacks a formal process for reviewing procurement. rEcoMMEndationS to MaxiMizE StatE BEnEFitS FroM P3S In this report, we reviewed the state’s authority utilize certain criteria when evaluating experience with P3s and identified several instances whether a particular project should be procured as a where the best practices identified in existing P3 P3. According to the research, these selection criteria research have not necessarily been followed. Based should not be highly prescriptive, but rather should on our review and findings, we have identified provide general guidance regarding the selection several opportunities for the state to further of potential P3 projects. Such an approach would maximize its benefits when deciding to procure provide for greater consistency across departments a state infrastructure project as a P3. Our specific in terms of how P3 projects are selected. The recommendations are summarized in Figure 8 and selection criteria should include being a technically discussed in detail below. complex project, as well as a project that can transfer risks to a private partner and benefit from non-state Specify P3 Project Selection criteria financing. In addition, the Legislature may want to As previously mentioned, the state’s processes specify whether P3 projects must have a revenue for selecting P3 projects are inadequate and not source, such as a user fee. necessarily based on selection criteria identified require analysis of a range of in the research as best practices. Accordingly, we Procurement options recommend that the Legislature adopt legislation requiring that each state department with P3 In order to determine which procurement approach would most Figure 8 effectively benefit the LAO Recommendations to Maximize Public-Private state, we recommend Partnership (P3) Benefits that the Legislature adopt legislation requiring 9 a comparative VFM Specify P3 project selection criteria. 9 analysis of a range of Require analysis of a range of procurement options. procurement options 9 Modify structure and responsibilities of Public Infrastructure Advisory (including design-bid- Commission. build, design-build, 9 Improve consistency of state’s P3 approval process. and P3) for all potential 22 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t P3 infrastructure projects. Evaluating a range Modify Structure and responsibilities of Piac of procurement options would allow the state to In order to help ensure that PIAC effectively better balance the potential benefits of increased assembles and shares research, best practices, and private sector involvement with the potential risks lessons learned from transportation P3s around unique to each project. In contrast, the benefit of the world, we recommend the Legislature adopt evaluating only two procurement approaches—as legislation to: was done by Caltrans and AOC—can be limited. • Expand PIAC’s Authority. In order to This is because it does not evaluate other options provide a consistent review and approval (such as design-build), which in some cases may be process for the use of P3 procurement, we the best option. recommend expanding the PIAC’s role We also recommend that the Legislature to require the commission to approve all specify in statute that such VFM analyses: state P3 projects, as discussed in detail • Exclude Federal Tax Adjustments. later in this report. We also recommend Increased federal tax revenues do not expanding the scope of PIAC to all types directly benefit the state and should not be of infrastructure projects, rather than only included in a VFM analysis. those related to transportation. Having the commission involved in all types of P3 will • Apply Costs to Expected Year of further the state’s P3 expertise. To reflect Expenditure. Project costs should be this broader scope, we also recommend accounted for in the year they are likely to making PIAC an independent commission, be incurred, in order to effectively estimate rather than part of the BT&H Agency. the project’s likely total cost in the long run. • Direct PIAC to Evaluate Other Departments for P3 Authority. We have • Use Current Construction Cost found that certain types of projects may Estimates. Construction cost estimates benefit the state if procured using a P3. It should be based on the current bidding is possible that state departments other environment in the state. than Caltrans, AOC, and HSRA will • Include a Sensitivity Analysis. A have projects meeting these P3 criteria. sensitivity analysis can help to indicate Accordingly, we recommend that the how the results of the VFM analysis might Legislature direct PIAC to review the types change with a different set of assumptions. of projects planned by other state depart- Specifically, this analysis should evaluate ments and recommend to the Legislature project costs and revenues with a range whether P3 authority should be granted to of reasonable discount rates to show how additional state departments. differing assumptions can influence the • Broaden PIAC’s Expertise. In order outcome of the VFM analysis. If a project to ensure that PIAC has the expertise will generate revenue, such as from tolls necessary to advise state departments or fares, a reasonable range of revenues on all types of P3s, we believe it would should also be evaluated in the sensitivity be beneficial for the commissioners to analysis. www.lao.ca.gov Legislative Analyst’s Office 23 An LAO RepOR t have a broad mix of expertise related improve consistency of State’s to P3, as well as state finance and P3 approval Process procurements. Specifically, we recommend We recommend that the Legislature adopt that the Legislature appoint some of the legislation to make the process for reviewing and commissioners and that, in addition to approving P3 projects consistent and thorough P3 experts, the commission include the across those state departments authorized to Director of the Department of General pursue such projects. Specifically, we recommend Services (or a representative), and the requiring the use of the review and approval State Treasurer (or a representative). The process summarized in Figure 9 and discussed in Legislature could also consider reducing detail below. the number of commissioners on PIAC to a Require PIAC to Approve P3 Concept and more manageable size. VFM Analysis. Our above recommendations to modify the structure and responsibilities of PIAC • Require PIAC to Develop and Implement would make it well-suited to review and approve Best Practices. We recommend requiring a department’s proposed use of P3 procurement. PIAC to (1) develop a set of best practices As shown in Figure 9, we recommend that the for P3 projects in California, (2) provide Legislature require departments to provide a VFM state departments specific steps for analysis and other relevant project information implementing those best practices, (such as draft procurement documents) on and (3) provide technical assistance to all proposed P3 projects to PIAC. Under our state agencies planning to pursue a P3. recommended process, if PIAC identifies concerns Consistent with the research, it would with a P3 proposal, the commission would require benefit the state to have such expert advice the department sponsoring the project to perform provided from the initial project screening additional analyses and resubmit the proposal stage through the procurement and for subsequent review. If a project does not administration of a P3 contract. We also satisfy the above P3 criteria, we recommend that recommend that the Legislature require PIAC have the authority to reject the use of a P3 periodic reports from PIAC in its efforts approach, and direct the department to use another in developing and implementing P3 best procurement method. Thus, we recommend that practices. the Legislature adopt legislation directing PIAC to implement a process to evaluate (1) whether a P3 project proposal is consistent with the scope and cost approved in the state’s current capital outlay processes (meaning either by the Legislature or CTC) and (2) whether using a P3 approach would be the best procurement option. 24 Legislative Analyst’s Office www.lao.ca.gov Graphic Sign Off Secretary Analyst Director Deputy An LAO RepOR t Figure 9 A Uniform P3 Approval Process Likely to Ensure Better Outcomes for the State Current Infrastructure Project Approval Process Legislature or CTC establishes project’s scope and funding. Department Evaluates Potential P3 Project Benefit from financing. Technically complex. Ability to transfer risks. P3 is not best choice Revenue source. Department Conducts Value for Money (VFM) Analysis Evaluate a range of procurement options using reasonable assumptions. Modifications needed to PIAC Review VFM analysis Review VFM analysis. Rejection Ensure project is consistent with established scope and funding. Verify P3 is best choice. Approval Procure Using More Procure Using P3 Traditional Approach P3 = Public-Private Partnership. CTC = California Transportation Commission. PIAC = Public Infrastructure Advisory Commission. concLuSion Based on our review of existing research, we (including private loans) may even be the only way ARTWORK #110623 believe that P3 procurement—if done correctly— to build those projects that are both very complex has merit and may be the best procurement option and expensive. For such projects, the use of P3 for some of the state’s infrastructure projects. In procurement can make the price and schedule certain instances, sharing risks with a private more certain by transferring various project risks to partner and using a diverse financing package a private partner. In addition, access to specialized www.lao.ca.gov Legislative Analyst’s Office 25 An LAO RepOR t expertise and private financing could have the such best practices are followed in developing and effect of accelerating projects and providing other implementing future P3 projects. For example, benefits to the state. However, the state does give we recommend specifying P3 project selection up considerable control over the management and criteria and improving the state’s approval process long-term funding priorities of a project that is to utilize an entity with expertise in P3s. More constructed under a P3 approach. This limitation importantly, our proposals to develop P3 expertise and others must be considered carefully when and better evaluate potential P3 projects would considering a decades-long partnership. provide for a better understanding of the actual We also find that implementing certain P3 benefits and limitations of P3 projects. Finally, as best practices identified in the research can better the state gains experience with P3s, the Legislature ensure that the intended benefits of P3s to the may want to consider whether the existing P3 state are achieved. Thus, in order to maximize the authorization provided to Caltrans and AOC state’s benefits from P3s, we recommend that the should be expanded to other departments. Legislature take a series of steps to ensure that 26 Legislative Analyst’s Office www.lao.ca.gov An LAO RepOR t www.lao.ca.gov Legislative Analyst’s Office 27 An LAO RepOR t LAO Publications This report was prepared by Jessica Digiambattista Peters, and reviewed by Farra Bracht and Anthony Simbol. The Legislative Analyst’s Office (LAO) is a nonpartisan office that provides fiscal and policy information and advice to the Legislature. To request publications call (916) 445-4656. This report and others, as well as an e-mail subscription service, are available on the LAO’s website at www.lao.ca.gov. The LAO is located at 925 L Street, Suite 1000, Sacramento, CA 95814. 28 Legislative Analyst’s Office www.lao.ca.gov