Turnpike Lease: Fact & Fiction

FACT. Pennsylvanians already pay a lot for its transportation infrastructure—and policymakers need to eliminate the wasteful spending. However, that will still not meet our transportation demands. The Pennsylvania Transportation Funding and Reform Commission identified the need for an additional $1.7 billion in annual funding just to maintain the state’s current transportation infrastructure—$965 million for roads, highways, and bridges, and $760 million for mass transit.

FICTION. While transportation projects have been traditionally funded through taxes, fees, and bonded debt, these revenue streams are no longer sufficient to maintain existing roads, highways and bridges. It’s just not enough.

A recent Federal Highway Administration report estimated that nationwide annual capital investment is $6 billion less than what’s needed to properly maintain the condition of our highways and bridges. The Pennsylvania Transportation Funding and Reform Commission’s report put the state’s annual funding gap for roads, highways, and bridges at $965 million.

The existing state and federal fuel tax and highway trust fund system is insufficient to meet these transportation investment needs. Increasingly, states are turning to Public-Private Partnerships to begin to fill the transportation funding gap.

Public-Private Partnerships maximize the strengths of both the public and private sectors, offering taxpayers more efficiency, accountability, and cost- and time-savings.

FICTION. Public-Private Partnerships (P3s) are strict contractual arrangements between governments and private companies which aim to improve public services and infrastructure to capture the benefits of private sector involvement (such as cost- and time-savings) while maintaining public accountability.

While P3s can take a variety of forms, in transportation, long-term P3s are increasingly being used for new road construction and modernizing existing roadways. These P3s involve a private company investing risk capital to design, finance, construct, operate, and maintain a roadway for a specific term during which it collects toll revenues from the users. The public agency oversees all aspects of the agreement, from maintenance and performance requirements to setting toll rates. In some cases the private toll company pays the public agency an upfront fee for the contract, and in others the public and private partners share in the revenue generated by the road. When the contract expires, the government can negotiate a new arrangement or take over the facility at no cost.

FICTION. Public-Private Partnerships (P3s) are commonplace around the world. The entire motorway systems of countries like Italy, Spain, France, Portugal, Greece, and Ireland are done with P3s. More recently P3s have also become commonplace in Australia, Canada, Brazil, Chile, China, Hungary, India, Mexico, South Korea, Taiwan, Thailand, and many other countries.

P3s are less common but not unknown in the United States. In Detroit, the Ambassador Bridge and the Detroit-Windsor tunnel were built and have been operated under long-term concessions by different private companies for 80 years. The Dulles Greenway in Northern Virginia, 91 Express Lanes and South Bay Expressway in Southern California, and the Camino Columbia Toll Road in Laredo, Texas were developed under P3 toll concessions. Several new, large-scale P3 highway projects are underway or in negotiation in Texas, Virginia, Florida, Georgia and several other states.

In Virginia, the Pocahontas Parkway in Richmond was leased under a long-term concession in 2006, and a similar leasing is under way for the Northwest Parkway in Colorado. These are all in addition to the much-discussed long-term leases of the Chicago Skyway and Indiana Toll Road. Over 20 states now have legislation encouraging concessions for toll roads, and many are actively considering proposals.

FICTION. The truth is that the Pennsylvania Turnpike Commission has the unlimited power to raise toll rates at any time for any amount. Although the PTC has stated it plans to increase toll rates on the Turnpike by 25% in January 2009 and 3% every year thereafter, there are no legislative restrictions on the Commission’s toll hiking power.

Under the lease agreement on the Turnpike, toll rate increases will be legally restricted to 25% in 2009 and 2.5% or the Consumer Price Index (whichever is higher) each year thereafter.

FACT. A lease shifts the financial risk from taxpayers to the private-sector partner. Under Act 44, it is the taxpayers who bear all the risk if the Turnpike Commission fails to generate enough revenue to from toll hikes on the Turnpike and I-80. Indeed, the fact that the Turnpike Commission began borrowing before all revenue streams were assured has placed the taxpayers at even greater risk. Higher tolls or higher gas taxes may be necessary to pay back Turnpike bonds that are leveraged against the Motor License Fund, particularly if the federal government denies permission to toll I-80.

FICTION. A sale involves the transfer of ownership (title) in perpetuity and usually without conditions. Under the long-term leasing of a toll road, the state maintains ownership of the road; the lease is for a finite period of time; and the contract involves whatever set of conditions and controls that the state chooses to put in the lease agreement.

The distinction between a sale and a lease is very real. For example, if a homeowner sells his/her house to a homebuyer, the purchaser can do whatever he/she wants with it, irrespective of the former owner’s wishes. The purchaser can tear the house down, remodel it, add on to it, re-sell it, or even do nothing with it. But if that same homeowner leases the house to a renter, the ownership of the property is not in dispute and the renter is legally bound to adhere to the terms and conditions of the contract.

Concession contracts are often several hundred pages long and may incorporate other documents (e.g., detailed performance standards) by reference. The public interest is protected by incorporating enforceable, detailed provisions and requirements into the contract to cover such things as:

• Who pays for future expansions, repairs and maintenance;
• How decisions on the scope and timing of those projects will be reached;
• What performance will be required of the private toll company (i.e., safety, maintenance, plowing, and many other requirements);
• How the contract can be amended without unfairness to either party;
• How to deal with failures to comply with the agreement;
• Provisions for early termination of the agreement;
• What limits on toll rates or rate of return there will be.

Indeed, under the contractual arrangement there will be many restrictions on what can be done to the property, requirements for maintenance and care, and financial penalties for failing to abide by lease terms. So it will be with a lease agreement between the state and a private operator of the Turnpike.

Changing circumstances will probably require revisions to the leases. That is why all concession agreements have detailed provisions to permit changes during their term. Concession agreements lay down procedures for negotiating changes and arbitrating disputes, and employing independent parties to make fair financial estimates. The only limit to changes in the terms of the concession is normally that neither side—public nor private—should be disadvantaged financially by the changes.

State governments regularly make commitments that impact taxpayers for longer than 50 years. Bonding for infrastructure and changing pension benefits are two examples. Because the capital costs for major infrastructure projects are so high, it is necessary to finance them over long periods of time.

FICTION. The value of a toll road doesn’t come from toll revenues, as such, but from the surplus—if any—of revenues over costs. When costs consume most of the revenues of the Turnpike, there is little left to invest in new projects or provide a return on investment. The trapped or inherent value of government-run toll roads—the value that is unlocked by going into a concession—lies in the ability of the private sector to operate the roads more efficiently and to provide better service at lower cost. The private sector has the proven advantage of being focused single-mindedly on customer service and containing costs. Moreover, as a state agency, the Turnpike Commission is unable to operate across state lines. Private companies achieve major efficiencies through operating nationally and internationally.

FICTION. Since the enactment of federal legislation in 2005, companies involved in long-term public-private partnership toll road deals can gain access to tax-exempt Private Activity Bonds. For example, the private investors in the toll concession on the $1.4 billion project to widen the Capital Beltway (I-495) in Virginia to 12 lanes went to financial close in June 2008 on $589 million in 40-year tax exempt Private Activity Bonds with a weighted average interest of 4.97%. Yet the average interest rate on $245 million in bonds sold to the Pennsylvania Turnpike Commission in April 2008 was 5.08%.

Even if the claim were true that the financing by a public entity is less costly, this offers no benefit to taxpayers and motorists. Debt incurred by the Turnpike Commission is ultimately owed by taxpayers and toll-payers. The debt of a private operator is not.

The public versus private financing argument also ignores the operating efficiency of a private operator, as it assumes the Commission’s costs of operation, maintenance, and capital expenditures will be equal. As the Pennsylvania Turnpike Commission could tell you, this is not the case—which is why the Commission is currently seeking its own public-private partnership to complete construction, and operate, the Mon-Fayette Expressway, bringing in private sector capital and efficiency.

FICTION. An excellent measure of efficiency for a toll road agency is the fraction of toll revenues consumed by operating and maintenance costs (the “cost-take”). According to an analysis by the Reason Foundation, the Pennsylvania Turnpike Commission’s “cost-take” from its latest annual report is 62.4% ($369.9 million out of $592.6 million revenue)—third highest among the 35 public and private toll facilities studied.

What is most informative is that the average “cost-take” for private toll operators is only 27.6%—about half the costs of the Turnpike Commission. Private toll companies are able to hire and retain experienced management talent, whereas in a public authority the chief executive is likely to change with every change in political administration. Many chief executives of public toll authorities come to the job with no toll road experience at all, as is the case of the current Turnpike Commission CEO who is a political appointee. Not only are they forced to make decisions in ignorance of the industry, but they find it difficult to retain experienced people. If the top position is virtually guaranteed to a politician, the managers immediately below lack an incentive to make a career in public toll road management.

Contributing to the Pennsylvania Turnpike Commission’s inefficiencies is its well-documented record as a patronage playground for politicians and the extraordinary efforts of the agency to fight the Governor’s proposal to lease the toll road.

According to a 139-count federal indictment of Senator Vince Fumo, Turnpike consultant Mike Palermo—who earned $220,000 over two years—apparently completed no work for the PTC, but did find time to manage the senator’s 100-acre Harrisburg farm. The indictment also alleges that when he was no longer able to put his no-work contracts on the state senate payroll, Fumo used the Turnpike payroll instead.

The Turnpike Commission used toll revenues to pay $26,000 per month lobbying state legislators to pass Act 44, and spent $280,000 lobbying the federal government in 2007. The Turnpike Commission has used hundreds of thousands of dollars in toll revenues to buy radio and newspaper ads across the state to deflect criticism of I-80 tolling.

FICTION. Long-term leases offer the prospect of better service for the long as well as the short term. Putting the toll road into a long-term lease creates strong incentives for the private manager to improve operating efficiency, lower operating and maintenance costs, provide better customer service, dole out less political patronage, gain access to equity markets for capital, increase accountability, tap economies of scale by operating across state lines, and many other benefits.

The argument that a private operator of the Turnpike will transform the original mission of the toll road from mobility to profit is a false dichotomy. All organizations exhibit self-interested behavior, whether they are for-profit, not-for-profit, employee-owned or government-owned like the Turnpike. America has an abundant and affordable airline service, freight railroads, and trucking companies, all operated by for-profit companies. Major roads, bridges, and tunnels in numerous other countries are operated by for-profit companies, under long-term concession agreements. Mobility is being well-served in all of these cases.

The Turnpike, as presently constituted, is not single-mindedly focused on mobility. It is a naïve, idealized view of government agencies that they are solely concerned with the public interest and with their customers. They are also concerned with the careers, incomes, and power of their managers and staff. In the particular case of the Turnpike, there is a long and well-known history of using that power to reward friends and allies with jobs and contracts at the expense of merit-based selection.

Private concessionaires must certainly look to their self-interest, too. A business must generate enough revenues to recover its costs and earn a return on investment, since it doesn’t have the power to tax the citizenry to make up for a shortfall. For a business to be profitable operating a toll road, it must focus on providing superior mobility services. That’s where its revenue comes from—attracting and retaining more motorists.

Given that maximum toll rates will be set by formula in the lease agreement, the toll road company will earn a profit based on its ability to improve service, attract additional customers, and contain costs.

FACT. The Governor and General Assembly will be tempted to spend an upfront lease payment immediately and on non-transportation related programs—to the detriment of Pennsylvania’s long-term infrastructure. But this same risk exists under Act 44, as neither the new funding for highway maintenance nor the mass transit fund is constitutionally protected—a simple majority can vote to use this money elsewhere in the next budget.

In order to protect the revenue from an upfront lease payment, legislators should create a new fund and pass a Constitutional amendment to define how this revenue may be used, much as the Motor License Fund does now.

FICTION. Performance standards for the maintenance and care of the Turnpike are specified in the lease agreement. The contract sets minimum requirements for road conditions (with financial penalties for the private operator if these are not met) and requires minimum levels of capital expenditures on the Turnpike itself (in addition to the lease payment). In the examples of the Indiana Toll Road and Chicago Skyway leases, private operators are already pouring millions into repairing and modernizing the facilities.

FICTION. The fear and economic concern of a “foreign” company leasing and managing the Turnpike is misplaced. First, the winning bidder for the Turnpike lease—a partnership of Citi Infrastructure Investors and Abertis Infraestructuras—is best described as an “international” team. Citi Infrastructure Investors is a division of New York City-based Citi, a major American financial services company that invests in North American and European infrastructure assets. Abertis is one of the world’s most experienced toll road operators, directly or indirectly managing over 5,000 miles of toll roads in 10 countries on four continents. Abertis also specializes in other infrastructure areas as well—airports, parking garages, logistics parks, and telecommunications-and it currently has a significant U.S. presence, operating and managing U.S. facilities at Orlando Sanford Airport, Hartfield-Jackson Atlanta International Airport, and Burbank Airport, as well as the Teodoro Moscoso Toll Bridge in San Juan, Puerto Rico. Both companies are publicly traded, with both American and international shareholders.

International companies like Abertis frequently dominate toll road lease discussions because private financing of toll roads has been occurring around the world for decades, but is relatively new in the United States. For example, Abertis has been in the toll road market since the initial construction of Spain’s toll motorway system in the 1960s, and the company is now the top toll road operator in Spain and one of the top international operators. Hence, international firms have far more experience in this field than U.S.-based firms, given that until recent years toll roads in the United States have been run almost exclusively by public-sector authorities. Even so, many U.S.-based firms are getting involved in infrastructure deals, and were among the bidders on the Pennsylvania Turnpike.

Obviously a private operator cannot ship the Turnpike overseas, nor would they be allowed to shut down the Turnpike on a whim. An international operator would not jeopardize national security, and would have strong financial interest in ensuring security and safety on the Turnpike. The lease agreement requires the concessionaire to provide (at their own expense) the same level of traffic patrol, law enforcement, and emergency services in place today on other Commonwealth highways and the Turnpike itself. Further, the lease agreement requires the concessionaire to grant access to police, fire, emergency, security or armed forces personnel for a broad range of emergency management and homeland security purposes, and in the event of a declaration of a state of emergency in the Commonwealth, the state always reserves the right to temporarily designate the Turnpike as a toll-free highway to facilitate evacuations or for any other emergency purpose.

Finally, with all the talk about U.S. firms “outsourcing” jobs, Pennsylvania should welcome companies interested in creating job opportunities and investing billions of dollars in the state—essentially the “in-sourcing” of private capital from around the globe into Pennsylvania’s economy. In addition to the lease fee paid to the state, the private operator would hire Pennsylvania workers, contract with Pennsylvania contractors, and pay Pennsylvania taxes.

FICTION. According to the lease agreement, all collective bargaining contracts for employees must be honored. Even if this were not a condition in the lease agreement, it is likely that most employees of the Turnpike would be retained by the private contractor anyway.

In Indiana, the private operator set up a subsidiary within the state and retained 85% of the public workforce (in addition to hiring many new local employees), the rest of the toll road employees received jobs with the state. In Chicago, all employees were offered jobs with the private contractor, though most accepted jobs with the city. Rank-and-file Pennsylvania Turnpike workers—those who earned and kept their job due to merit—have little to fear from a lease. Those who might be at risk are employees whose employment is linked to political connections or relationships to Turnpike Commissioners.

• Policy Brief: Leasing the Turnpike: Questions & Answers
• Report: The Emerging Paradigm: Financing and Managing Pennsylvania’s Infrastructure and Mass Transit
• Testimony: Concerns About Turnpike Lease Misguided
• Policy Point: Act 44 and Transportation Policy
• Policy Point: Pennsylvania Turnpike Commission vs. PennDOT
• Commentary: Foreigners Create Jobs
• Testimony: Concerns About Turnpike Lease Misguided
• File: Synopsis of Lease Requirements/Limits
• File: Full Concession Agreement
• Video: Turnpike Lease Q&A
• Reason Foundation Report: Leasing State Toll Roads FAQ
• Reason Foundation Report: Leasing the PA Turnpike: Response to Critics
• Reason Foundation Report: Pennsylvania Turnpike is One of Country’s Least Efficient Toll Roads