Asset Recycling – an Alternative Approach to P3s

This memo provides background on asset recycling, including its strengths, weaknesses and potential pitfalls. To learn more join us on Wednesday, August 16, 2017 at 2pm EDT for a discussion on asset recycling. Register here.

What Is Asset Recycling?

Asset recycling is selling or leasing public assets and using proceeds to pay for other infrastructure. This type of public private partnership (P3) is different from other P3s, which typically engage the private sector in building and operating new infrastructure. Asset recycling instead involves two pieces of infrastructure, the asset being sold or leased to the private sector, and a second piece of infrastructure – unrelated to the first – built with the proceeds of that sale or lease. The name “asset recycling” comes from the idea that the value of the old asset is recycled to pay for the new asset.

The new infrastructure being funded by asset recycling may not be a revenue generator – whereas most other P3 approaches would require the new infrastructure to be revenue generating. The asset being sold or leased must generate revenue to be of value to private sector purchaser.

What Asset Recycling Isn’t

Asset recycling does not recycle the asset itself, only the value of that asset. Unless unused excess public property is being sold off, the fundamental underlying principle of asset recycling is that a public entity privatizes a public asset to gain access to capital in the short term at the expense of longer-term revenue. This process creates a one-time funding infusion, generally at the expense of longer-term revenue. This is not a source of long-term funding and would be better described as a form of financing, not funding.

Case Studies

Australia’s Asset Recycling Initiative

Australian Prime Minister Malcolm Turnbull launched a 2-year Asset Recycling Initiative in 2014 offering $5 billion in federal funds to incentivize privatization of infrastructure like ports, power stations and transmission lines. As long as the state or territory invested the sale or lease proceeds in infrastructure, the federal government provided a 15 percent match. The program addressed state and territory-owned infrastructure, not municipal infrastructure. The Australian Senate conducted an inquiry into the process and found major risks to this approach. The report found that the program distorted the market through incentivizing the sale of assets that would not have been sold without the Australian government’s subsidy. Also, the Senate found that linking asset sales to new infrastructure investments could in fact have a negative fiscal impact by selling income-generating assets to fund infrastructure that does not generate any income. In the end, the report recommended, “the link between privatization and infrastructure funding under the Asset Recycling Initiative should be removed.” P.M. Turnbull ended the Asset Recycling Initiative in May 2016, redirecting remaining funds to other infrastructure programs.

Virginia’s I-66 Outside the Beltway

Virginia Department of Transportation entered into a P3 with Express Mobility Partners to build express lanes on a segment of I-66 outside the beltway. In one sense, this was a traditional P3 in which the private sector entity builds the express lanes and collects the tolls. However, VDOT negotiated a deal which requires Express Mobility Partners – in exchange for the rights to this project – to pay $500 million upfront for improvements to the corridor. The State also required the concessionaire to pay $800 million for transit service and $350 million for other improvements to the corridor over the next 50 years. These additional resources secured from the private entity can be viewed as recycling the value of the expressway asset into additional infrastructure and services, and they were made possible because of the McAuliffe administration’s investment in P3 expertise and development of reforms to Virginia’s approach to P3s after some past failures.

Chicago’s Parking Meter Deal

In 2008 Chicago mayor Richard Daley leased the city’s parking meters to Chicago Parking Meters LLC for 75 years in exchange for $1.16 billion. The private entity increased meter rates, added metering in areas that had not yet had it, and charged the city for lost revenue whenever parking spaces were unavailable – for example, during repaving. The deal also prevented the city from opening new off-street lots that could compete with the on-street metered spaces. In addition, rather than reinvesting the funding in new infrastructure, the city used it to fill budget holes. By 2010, only $180 million of the original sum was left.

Concerns And limitations

There are many elements to privatizing a public asset that impact whether that asset can serve its function effectively, such as determining:

• whether the agreement requires the asset to be properly maintained before being passed back to the public ownership at the end of the lease;
• how much local control to surrender;
• the price the public pays for the service change;
• whether the asset will be managed in a way that is consistent with public goals.

Without expertise in P3 agreements, governments risk negotiating problematic deals for themselves. P3 offices established in Virginia and District of Columbia have helped them to cultivate expertise to support P3 agreements.

Unlike other P3 arrangements, asset recycling couples two separate decisions – selling or leasing a publicly owned asset, and investing in new infrastructure. Each of these has its risks, but when they are combined in a single action with the federal government incenting the deal, the risks multiply. As with other P3s, asset recycling are better viewed as a form of financing rather than a source of long term funding. Selling or leasing a revenue-generating public asset means a government loses ongoing revenue in exchange for a one-time payment.

One concern with evaluating P3s and asset recycling is that both public and private debt should be considered in order to leverage financing. Optionality is key to a good deal. By comparing the private sector funding source against public or municipal debt, communities will be able to negotiate the best deal for taxpayers.

Limitations in Rural Communities

Asset recycling is of limited utility for smaller jurisdictions, who are less likely to own public infrastructure that can be effectively privatized. Aside from some toll roads, most revenue generating infrastructure assets – such as airports, parking garages, ports, or transit systems – are in dense urban areas, not rural or mid-size communities. The assets that small communities do have may not generate significant enough funding to address local infrastructure needs.

Smaller jurisdictions also have more limited resources to invest in P3 expertise. For example, moving forward on projects that involve the private sector without having capacity to calculate the net present value (the difference between the present value of cash inflows and the present value of cash outflows) can open communities to unwanted risk.

An analysis published by APM Reports in May shows that of 520 projects submitted to the Trump Administration for possible inclusion in an infrastructure package, 46 projects have sponsors considering private financing and of those only 2 projects are located in rural communities.[1] This analysis clearly shows that private investment primarily focuses in larger population centers.

Some have suggested that using asset recycling to finance project in urban areas would make more resources available for rural areas, or that states might consider urban assets to fund rural infrastructure needs. However, if the income from the asset being sold had previously gone to the urban area, this could be a highly controversial diversion of funds from one portion of the state to another. Existing funding sources already raise a disproportionate amount of funding from metropolitan regions, but do not meet the full needs in rural communities.

[1] http://wuwm.com/post/trumps-desire-private-infrastructure-money-will-narrow-his-choices-mostly-urban-projects#stream/0