New Financing Options Demand New Evaluation Tools
By Mike Matichich
Water agencies are faced with a widening array of delivery and finance options for their major capital programs. That is good news, as the industry likely will need everything from the U.S. EPA’s relatively new WIFIA loan program to ‘pay for performance’ models and long-term concessions that will attract private capital and options in between to fund the growing backlog of infrastructure needs.
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In assisting clients throughout North America to develop implementation plans for their projects, I have found more clients want to at least consider a broader array of delivery and finance options for their programs, whether it be for building a new WWTP, financing a major rehabilitation of an existing WTP or funding a green infrastructure program for stormwater management.
Fortunately, there are several good guides that have been developed in recent years that provide useful starting points in defining the widening array of options. The Smart Cities Council is one organization that has developed a guide providing surveys of the funding and financing options. The U.S. EPA also has a guide that provides similar information on infrastructure financing options. In addition, the Water Design Build Council developed its own guide that describes the range of collaborative delivery options from traditional Design-Bid-Build through long-term Design Build Finance Operate Maintain (DBFOM), and points in between.
The new finance and delivery options require new evaluation frameworks for the water industry. Why? Because unlike earlier financial planning when the primary options available were direct fees, long-term SRF loans and municipal bonds, the consideration of the options with private finance and delivery require a more robust set of evaluations to make certain the interests of customers and other stakeholders are looked out for:
- While the interest rates for capital are typically higher for the options that include private finance, there may be risk transfers borne by the private team that outweigh the higher cost of capital.
- Over the life of a long-term concession, there may be the possibility of substantial operating cost savings in one model vs. another (e.g., through bulk purchases of commodities or optimization of energy costs).
Thus, there is a need to look beyond just the different interest rates for capital borrowing in determining the best value for customers. Developing an objective ‘value for money’ analysis that considers the direct capital and operating costs plus the monetized risk transfers and the time value of money, is critical to supporting informed decision making. Having conducted a dozen such studies for clients during the past 10 years, I have found that:
- The devil is indeed in the details, which is why it is important to conduct these studies, even if some information is only available at master planning levels of accuracy. In some cases, the risk transfers borne by collaborative options clearly have outweighed the higher interest rates for private capital. In other cases, they have come nowhere close to making up for the higher cost of private capital.
- It is better to develop evaluation frameworks, where the impact of the different cost and risk factors can be seen and tested through sensitivity analyses. There are some ‘black box’ approaches to conducting these studies, in which the result is an “expected value” in which one cannot figure out the role of the differing factors. I have found that stakeholders have greater confidence in the objectivity of the analysis if they can see the impact the various cost and risk factors comprise, including the effect of testing the sensitivity of key variables.
- It is critical that the decision on financing and delivery be framed in the context of an agency’s overall mission and values. In some cases, agencies are able and willing to embrace the emerging array of finance and delivery options. In other cases, the emerging options do not align well with an agency’s overall goals or are politically or legally too difficult to embrace.
There are a few conference papers and presentations that provide some guidance on how to apply these approaches in the water industry. But, the literature and guidance are far less developed in water than in some other sectors of infrastructure, such as transportation. For example, the Federal Highway Administration (FHWA) has published a number of guidances and tools to aid decisions. I believe the water industry would benefit from a combined effort by agency representatives, consultants, government agencies and intermediary groups, such as the West Coast Infrastructure Exchange, to further define best practices in this arena.
Beyond the “value for money” analysis, there is a growing interest in deploying finance and delivery options in a manner that helps communities achieve broader triple bottom line objectives, such as water equity programs that seek to implement capital programs in a manner that helps to achieve job training and growth options for local low-income residents and use of local contractors.
I had the opportunity to be part of an interesting project led by the Natural Resources Defense Council (NRDC). NRDC’s “High Road” white paper defines a 10-step pre-development process that local and regional agencies can use to accelerate identification of funding sources for critical, backlogged community infrastructure projects.
The process helps agencies frame the procurement and implementation of the capital projects in a manner that maximizes opportunities to realize the “High Road” social and economic objectives. A key element defined in this process is to embed High Road standards that will realize the key triple bottom line objectives into the required conditions for the projects. Because some delivery options may have greater opportunities to be structured in a manner that promotes realizing such High Road objectives, following a process like the one defined in the High Road paper increases substantially the likelihood that those benefits will be realized.
Mike Matichich is the financial services consulting lead for Jacobs Engineering Group. He has more than 30 years of experience in conducting financial planning studies for public infrastructure projects. Matichich served as the lead financial consultant in the development of a strategic plan for the West Coast Infrastructure Exchange, a collaborative effort of California, Oregon, Washington and the Canadian province of British Columbia to explore the use of private capital to address the significant infrastructure backlog in the West Coast Jurisdictions.