Making municipalities work

Canada’s cities will be the next frontier for risk-sharing public-private partnerships, bringing new players and new complications into the now well-tested infrastructure model. It’s been a slow start, with logistical and political obstacles to using outside groups to do the work that cities have traditionally carried out themselves.

Making municipalities work
Cities look to P3 model to meet pressing infrastructure needs.
Canada’s cities will be the next frontier for risk-sharing public-private partnerships, bringing new players and new complications into the now well-tested infrastructure model. It’s been a slow start, with logistical and political obstacles to using outside groups to do the work that cities have traditionally carried out themselves. But some municipalities are commissioning private partnerships to build and operate new facilities or modernize creaking infrastructure, either because they are short of money or because they want someone else to shoulder the risks of construction delays or unexpectedly high maintenance and operating costs.

“We were used to the traditional, hands-on approach to municipal construction, so this was very different,” Claudia Pooli, a solicitor with the City of Edmonton, says of the Alberta capital’s first P3 project, a light rail transit system that’s being built with participation from three levels of government: municipal, provincial and federal.

“We had a model to work from, but absolutely it needed a fair bit of work from the initial draft that was issued, and I think we all learned a lot from that. We demonstrated that we were willing to change and revise accordingly in terms of what would make for the best deal for the project, and we made quite a lot of changes in terms of clarifying things and trying to get the best value for money at the end of the day.
It wasn’t all about just transferring risk. It was about making sure that both parties really understood what we were trying to accomplish. And you can only really get that through open dialogue.”

Under the P3 model, governments invite privately owned consortiums to tender to design, build and finance a project, and then to maintain and operate the facility over several decades. But the relatively small number of Canadian municipal P3 projects means legal teams have yet to develop templates that work for the type of project that cities may need — water treatment, waste management and the processing of organic waste are all likely examples. Municipal approval may involve many trips to a fractious city council and perhaps a referendum, as was the case for a waste water facility in Regina. And because it’s a local issue, every voter and every councillor has a strong opinion on what to do.

“As we do more projects in similar asset classes, as we do more municipal transit, as we do more water and waste water, I think that the market will be more familiar with those risks and those complexities will fall away. But every municipality is also slightly different from the other and they have their own challenges and their own perspectives,” says Marianne Smith, a partner at Blake Cassels & Graydon LLP where she acts mostly for public authorities.

“These projects are some of the biggest initiatives any of the individual people involved will work on, there’s a tremendous sense of pride. They are closer to the projects than if you are working for a larger agency. For some of these people, these projects are in the neighbourhoods they live in and they feel a tremendous sense of responsibility and accountability . . . and I don’t think that’s going to go away.”

And the fact that municipal legal and procurement teams are new to the private sector model means there’s a steep learning curve for all concerned and often a bigger role for outside counsel.

“They have different questions, they challenge certain assumptions that we think of as bible in the P3 world,” Smith says of her partnership with public authorities’ legal teams. “They are experienced in-house procurement and construction counsel, but they just have not done a P3 project before. While it is not the structure that they traditionally are used to, it carries some of the same protections, and in some cases is designed to drive better risk allocation than on a traditional municipal project.”

The most common model for P3 projects in Canada is the DBFOM model, which stands for design, build, finance, operate and maintain. The Canadian government describes it as the “most comprehensive P3 model and the one that transfers the most risks from the public sector to the private sector.” Provinces such as Ontario and British Columbia have established templates for this model, which are designed to reduce the risk of unpleasant surprises and make the bidding process more predictable.

But Doug Younger and Heidi Visser, partners at Aird & Berlis LLP, say some municipalities are trying to cherry pick the elements they like from provincial P3 templates or attempting to pare costs by inviting bids that don’t include a financing element. In theory, that’s cheaper, because the private sector pays more to borrow than the public sector does. But Younger and Visser say the reality could be more complicated, because it may remove an incentive for the bidders to make sure a project works long term.

“If there is no long-term private sector debt or equity once construction is completed, the question for the municipality or the government agency is how do you incentivize the private sector company to operate and maintain the project up to the requisite standard and assume the risk that you want to transfer to it?
With no skin in the game, the question is how do you keep the private sector partner committed for 20 or 30 years,” says Younger.

“As new jurisdictions get involved in doing P3s, like municipalities, those deals probably are more complex. We saw this, for example, with the Edmonton rapid transit project. The city, instead of simply sticking to a known template, tried to bash a whole bunch of documents together with the toughest and the worst provisions for each. It was a Frankenstein of a document and it resulted in a huge amount of additional time for all the bidders and all the participants in each bid team to review the document and comment on that document and try to get rid of the provisions that were effectively unbankable.”

And while a municipality will retain overall responsibility for something such as a water plant, regardless of who operates the facility, there are often strong public reservations about having something such as drinking water in the hands of for-profit private corporations.

“For water and waste water, there’s a public perception against the private sector,” says Dan Ferguson, partner at WeirFoulds LLP, who stresses that a P3 water project does not mean a city is selling its water to the private sector. “The water is still owned by the municipality, the municipality still has accountability for there being safe drinking water. By getting the private sector involved, you can get good facilities built, good maintenance and the municipality still manages the contract.”

One additional challenge for municipalities is that many of their infrastructure needs are simply too small for a typical P3 tender, which tend to start at $50 million, or even $100 million. That has prompted some authorities to work with their neighbours to create a package of projects that the private sector can bid to build and run. That also increases the need for close co-operation between authorities, who then need to iron out any differences before a contract is signed.

“The toolbox for municipalities is getting larger, for funding and addressing their infrastructure needs,” says Ferguson. “One tool is what we call bundling, where . . . two or three municipalities with the same need can bundle their projects together and procure them on a bundled basis as if they were one project.
It requires a degree of collaboration between municipalities and they are pooling resources and ideas. But we do see that happening.”

Another crucial element of the process is to find someone in the public sector who will champion the project and be involved at every stage of the operation, he says.

“For a municipal project to really work, it needs to have a public sector champion, someone who works in the municipality, who has the respect of the staff of the municipality, who has the respect of the council and has the respect of the private sector, and who is involved in the project at the procurement stage, at the entering into the contract stage and then when the contract is up and running.”

Pooli from Edmonton agrees that communication is the key to success.

“We had a special board that was approved by council that was the sounding board for the project team on business decisions. They were appointed by council as an expert panel and I think that helped a lot.
They could take the politics out of the project,” she says. “In a municipality, people are really close to these sorts of projects and there is going to be a million questions from the public, and unless you have a mechanism to address that you are going to be swallowed up in terms of resources and will not be able to focus as much on the actual project.” 

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