Interested in a Water Public Private Partnership? Start with Realistic Expectations!

The Environmental Finance Center at The University of North Carolina recently completed a study which compiled and analyzed examples of alternative delivery models in nine communities across the country. This research was supported by EPA’s Water Infrastructure and Resiliency Finance Center and through partnership with the West Coast Water Infrastructure Exchange. Most of the communities profiled used public private partnerships between private companies and governmental entities to build, upgrade and/or manage essential water or wastewater facilities. The models were diverse: one of the examples involved an innovative partnership between two governmental agencies – Allentown and the Lehigh County Authority. Another involved a partnership in Prince Georges County to install distributed stormwater facilities.

Alternative delivery models, particularly models that involve a high degree of private sector participation and private sector arranged financing, can generate significant passion both in favor and against the approach. Critics complain that profit motive in an area as important as public health and environmental protection can lead to unaffordable or inequitable services, while advocates see these partnerships as a way of providing an influx of expertise; creating structural financial incentives that promote performance; and allocating risk more effectively.

Our study looked at only a fraction of the alternative project delivery examples across the country, but in our analysis we encountered neither miracles nor devastation in the wake of these partnerships. What we found in most cases was the implementation of management approaches that, like so many other innovative tools, resulted in some challenging situations, but which when used prudently were able to advance a range of diverse local objectives. After reviewing promises and outcomes across the country, it became clear that communities entering into these approaches need to have realistic expectations. While we looked at a relatively small numbers of cases, we did notice some very important trends in outcomes that communities may want to consider when crafting expectations.

Most of the models we studied had a significant impact on rates; however, the impact on rates had more to do with the new level of service than inherent higher costs linked to the models themselves.

In many cases, the implementation of the models we studied did contribute to higher rates. Rather, rates were linked to new facilities and higher level of service than existed prior to the model’s deployment. Communities like high quality service and facilities, but not the higher rates that they often require. Much of the debate (and newspaper coverage) about the projects we studied revolved around rate outcomes; however, in most cases the alternative service model was introduced with the express purpose of greatly improving a service or building new facilities.

Public Private Partnerships can “contractualize” future performance and investment.

Several communities with a history of deferring capital investments entered into partnerships where improvements and investments were integrated into contractual agreements. These agreements made it much more likely that necessary improvements and investments would occur than if they remained a discretionary public decision. At least one community leader involved in their project believed this method of formalizing future investment and service level was one of the best outcomes of the project.

Public Private Partnerships are unlikely to remove or significantly reduce the “demand risk” associated with running a utility.

Many utiltities across the country have had to address the challenges of falling water demand due to innovations in efficiency and economic pressures. While demand drops have been welcome in many areas where utilities are facing supply or drought challenges, the business, revenue, and operational implications of lower than expected water sales can result in difficult pricing and operational decisions. We did not find any examples where the private sector was interested in or willing to assume the responsibility for addressing demand fluctuation on its own. Short of a utility completely getting out of the business by selling its assets (which we did not study), utilities should face the fact that dealing with this aspect of the business will remain their responsibly.

Public Private Partnerships do not provide “cheap capital.”

Some of the models we studied were creative in incorporating and blending privately arranged debt and private equity contributions in a way that incentivized innovation and responsible design. However, we did not find any examples of models where the private sector magically provided capital at lower cost than publicly arranged capital. Advocates for privately provided capital often point to the potential to lower overall lifecycle costs through lower cost of construction and lower operating costs that compensate for the higher cost of capital. For whatever reason, this expectation is occasionally simplified to meaning the project has lower cost capital. On the other hand, we studied models where the incremental higher cost of capital was relatively low and could be compensated for with reasonable efficiency or risk reduction.

Public Private Partnerships can re-distribute many types of risk.

While we did not find examples of demand risk being significantly reduced, we did find examples of the private sector being willing to take on many other important risks that have the potential to lead to project headaches and costs. Basic economic incentives, such as making payments contingent on ambitious deadlines or integrating capital costs and operation costs into one contract, can shift risk to the private sector and provide financial incentive lead to positive outcomes.

Some of the most discussed alternative delivery models have as much or more to do with overall community objectives than pure water objectives.

Projects in Bayonne, Rialto, and Allentown involved risk transfer and innovation, but the biggest impacts were arguably these communities’ ability to monetize equity in a water system to be used to meet other essential community goals.

Overall, utilities looking for elusive silver bullets and magical unicorns, such as drastically improved service at much lower rates, likely will not find what they are looking for in the toolbox of alternative service delivery models. On the other hand, utilities with specific needs that are willing to devote time and effort to a creative delivery method can carry out services in some ways that may be quite difficult in a business as usual approach and which can meet realistic expectations of improved service and efficient project delivery.

To learn more, read the project summary and case studies on the Environmental Finance Center website.