Public private partnerships are helping to fund viable projects related to port and infrastructure development.

A full year into global economic recovery, there’s still a lot less capital chasing port and related infrastructure projects than there was in the halcyon days of the mid-decade, but “good” projects are still getting funded, according to a leading consultant at the intersection of finance and development.

According to Laurie Mahon, whose varied career has included significant public sector stints at the Port Authority of New York and New Jersey and New Jersey Transit as well as 17 years as a Wall Street investment banker specializing in project finance, those winning the financing stakes share two significant attributes: Their credit is good and their projects are well-structured.

“What I think we’re seeing now is a growing interest in taking a look at intermodal and port projects again, and certainly both kinds of projects are getting financed both by banks and in the U.S. bond market,” Mahon says.

“The key to remember going in is that those providing the financing want to be confident that you can stand on your own two feet,” she adds.

Mahon, who holds a bachelor’s degree from Boston University and a master’s degree in urban planning from Harvard University, was speaking from Los Angeles, where she is currently working for LA Metro in collaboration with Infra Consult LLC, a West Coast firm specializing in the development and financing of sustainable infrastructure solutions.

LA Metro is the agency that runs subways, buses and numerous highway projects in Los Angeles County. Mahon and her fellow consultants are looking at six projects the agency has included in its capital plan, and considering whether and how to attract private investment to them.

“They’re three highway projects and three subway projects, including a very large project called the 710-South, a project that would provide much better highway access into the ports of Los Angeles and Long Beach, as well as a dedicated freight corridor,” she says.

“There are something like 45,000 trucks a day that go in and out of those ports along that road (Interstate 710), and we are looking at that as a potential P3 (Public Private Partnership) project.”

While in California, Mahon is also working on the Presidio Parkway Project in San Francisco, which is replacing Doyle Drive, the structurally and seismically unsafe south access road to the Golden Gate Bridge.

Also on her plate at the moment are P3 projects in North Carolina and Minnesota.

“So I’m pretty busy,” offers Mahon.




 

P3 projects underway

As further proof that deals are indeed getting done, Mahon pointed to another project she was intimately involved in-Ports America Chesapeake’s signing of a 50-year lease of the Port of Baltimore’s primary container facility, the Seagirt Marine Terminal. The partnership, which was financed by Ports America Chesapeake’s parent company, Highstar Capital, is valued at $1.3 billion to the State of Maryland over the life of the agreement.

Highstar closed the $334 million financing for the deal on January 7 of this year. The financing features $259 million in debt, issued in tax-exempt economic development revenue bonds, and $75 million in sponsor equity. The bonds were underwritten by Goldman Sachs, Citibank and the Bank of Montreal. In addition to an upfront payment to the Maryland Transportation Authority, proceeds from the bonds also fund the continued operation of Seagirt terminal’s three berths, 7 container cranes, and 12 gantries.

Also active on the P3 front is the Port of New York and New Jersey, which announced a pair of substantial deals in June that will fund a substantial expansion of its services in anticipation of the 2014 completion of the Panama canal expansion.

First, the Port Authority bought 130 acres of the former Military Ocean Terminal at Bayonne for future, long-term port use. Then, hot on the heels of that deal, the Port Authority acquired the 98-acre Global Terminal on the Port Jersey peninsula in Jersey City and Bayonne. The deal with Global Container Terminals USA, a division of the Ontario Teachers’ Pension Fund, will allow for the expansion of container-handling onto an adjacent Port Authority property, turning it into a two-berth, 170-acre facility.

Under the deal, the Port Authority took ownership of the Global property and then entered into a 37-year lease agreement with Global under which the terminal operator will develop the site of the Port Authority’s former Northeast Auto Terminal.

In addition to revenue sharing and staged rental payments from Global, the agreement also resolves an issue that arose after the U.S. Army Corps of Engineers began to dredge the channel leading to the Global Terminal to a depth of 50 feet. In order to satisfy Corp. requirements, such a project needs to benefit either the public or a group of private entities. The Port Authority had planned to build its own container terminal at the Auto Terminal site, and then lease it to comply with the Corp. By acquiring the Global property, the Port Authority satisfied the requirement by essentially “publi-tizing” the facility. The acquisition also relieves the State of New Jersey from a $150 million financial obligation to the Corp. to cover the cost of the channel deepening.

“So projects are getting done, but they tend to be much more heavily structured than they were in the past,” Mahon says. “If they are P3s, there tends to be more equity involved in them, and they tend to be projects that have gone a bit further down the development chain.”

Mahon notes that both attributes are a “good sign” and an indication that, in her words, the early “P3 euphoria” has matured.

“Early on,” she explains, “P3 projects didn’t necessarily tie into the fairly strong tradition in project finance that required that certain risks needed to be nailed down and identified before things got financed.

“Now I think you’re starting to see the P3 market start to look a lot more like the traditional project finance market, which certainly knows how to price and handle risk,” she says.




 

Balancing risk and reward

So what exactly is a proper P3 transaction today?

According to Mahon, a P3 transaction is a fairly simple construct based on the premise that there are certain elements of infrastructure that-because they either have a cash flow associated with them, or can have a cash flow associated with them if they are backed by a long term commitment by the government-become attractive investments for the private sector.

“The great benefit from the public sector perspective is that the private sector can often price risk far more efficiently than the public sector can,” she says. “Therefore you can create a project structure where you have some public contribution, some private capital and contribution-often taking on construction or performance risk or long term maintenance applications-and you arrive at a kind of equitable balance between risk and reward for both partners.

“That way the value proposition winds up being far more attractive than simple public sector ownership,” she says, which made the early euphoria over such deals completely understandable. What’s changed over time, however, is the growth of a more realistic sense of what can be done and at what price, Mahon says.

Muddying the process roughly a decade ago was a kind of wholesale importing of the British Private Finance Initiative (PFI) concept into the U.S. Adopted in the United Kingdom in 1992, the idea was to promote innovation and efficiency into infrastructure construction and operation. Under the scheme, private firms-usually construction companies-were contracted to complete and manage public projects. The public services would then be leased to the public, with the government authority making annual payments to the private company for the life of the contract.

“That doesn’t really translate well to the U.S. because, number one, we have a very well established municipal debt market, which for generations has provided very cost effective financing, and number two, most of the deals in the UK were backed by what are called ‘availability payments,’ which effectively are just long-term commitments by the government to make payments over time,” notes Mahon.

The first successful deal of this kind in the U.S. was the $1.8 billion deal in 2005 through which Macquarie Holdings (USA) Inc. and Spain’s Cintra, secured a 99-year lease of the Chicago Skyway. In its wake, scores of municipalities clamored to make similar deals.

 “Initially, I think a lot of people in the U.S. thought that the financing of transportation assets in the U.S. would just immediately kind of follow this model and that suddenly there’d be this huge influx of capital,” Mahon says.

But the PFI’s momentum in the U.S. was unsustainable. Mahon believes it’s because while there are similarities between the U.S. and UK economic systems, there are also substantial differences.

“Things are constructed differently and there are a different set of risks,” she says. “Most of these early deals were really just the sale of existing assets,” Mahon continues. “But the issue in the U.S. is building new infrastructure, which takes a lot more project planning and thinking, and a lot more risk identification, risk pricing, and risk stratification.”




 

Pension funds as a source for funding

Part of the maturation process has been recognition that there are certain risks that private sector investors are just not in a position to take. Chief among them-environmental permitting.

“No matter what you do, it’s a process that can be very arduous, and because of the way the U.S. process works, with an analysis of alternatives, you can’t really know what a major project will look like until you get a record of decision,” Mahon explains. “Because of that, it’s very difficult to attract private capital until that process has been completed. So environmental permitting is kind of a gating issue.”

A final problem with PFI is that in many countries that have adopted it, concessionaires are granted protection against competition.

“That’s a pretty un-American concept,” Mahon says. “Nobody is going to say to a toll road guy, ‘Well, sure, we’ll agree not to build any more roads in the county until your road makes money.’ It’s not happening.

“So I think there’s more and more of an understanding that we live in a competitive world and that new projects-regardless of whether they are financed with public or private capital-are going to have to fight it out in the competitive marketplace.”

As illustrated by the Ontario Teachers’ Pension Fund’s involvement in the New York and New Jersey transaction, pension funds can be a prime target for a project in search of financing. This has proven particularly true when it comes to infrastructure projects, which offer pensioners the comfort of relatively stable, long-term returns on their investment.

In fact, in 2006 and 2007, several pension funds took the plunge into infrastructure, only to see their faith shaken by the dramatic decline in global trade in 2008. While pension fund managers understand that peaks and valleys in investments are inevitable, it doesn’t make those swings any easier to take when one has to mark their assets to market-account for the value of an asset based on its current market price-every quarter.

“Pension funds can be great investors, but the thing you always have to keep your eye on is the long term,” Mahon says. “As consistent, long-term assets, any infrastructure project you invest in should perform at a nominalized value or 10 percent to 12 percent.”

Among the hot topics in the project finance world at the moment is whether or not pension funds should invest directly in P3 projects. The questions raised revolve around whether such funds have the analytical capabilities to really analyze these types of assets.

“I don’t weigh in on these discussions, because it’s not really my end of the business, but it is an interesting argument, from both sides,” Mahon remarks.

“I mean, when you think about it, every infrastructure asset is really and truly unique, being reflective of the demographics of the area it’s located in, the local economic conditions, as well as all of the specific kind of management cash flow issues that are specific to any one project,” she says. “That’s an awful lot of analysis that’s going into looking at those investments.

“So the great and ongoing debate in the financial world boils down to this-should pension funds make direct investments in assets, or should they invest in the funds that make those kinds of investments?” Mahon continues. “On the one hand, funds theoretically have more professional management, which are able to cover a broader range of assets. But on the other hand, there are entities like Ontario Teachers’ Pension Fund and CALpers, the California Public Employees’ Retirement System, which are so big that they do have the ability to analyze assets on their own,” she points out. “Where the real question lies is in the hundreds of thousands of other pension funds. Are they similarly equipped? Where the break point is, I wouldn’t know.”




 

Looking to the future

Like anyone involved in port and port-related infrastructure projects in the U.S., the expansion of the Panama Canal is always in the back of Mahon’s mind.

In fact, from 2001 until last year, she led the international team advising the Panama Canal Authority on its expansion project, an assignment that involved all aspects of the Canal’s operation, finances, and management.

Stateside, in addition to the Seagirt project in Baltimore, Mahon has also worked as an advisor to the Ports of Jacksonville (Florida) and New Orleans, as they ramped up for an anticipated surge of cargo coming through the Canal.

“It’s something everybody is looking at-and for good reason, because as we move into a generation of larger ships certain ports will be disenfranchised, those being the ports that don’t make the necessary investments to handle those ships,” she says.

But Mahon was quick to add that concern over being properly positioned for 2014 can be overdone.

“I mean, it’s not as if suddenly all of the smaller cargo ships are going to disappear and that we are going to see nothing but these behemoths going forward. The post-panamax era is going to phase in, not all cargo is going to move on mega ships, and there will be a redistribution among the ports on the U.S. East Coast as to who handles what.

“That said, we’re in a very competitive time period where all U.S. ports are trying to get one-up on everybody else,” she adds.

In such a climate-and in the absence of a comprehensive, national port policy-Mahon believes that investors need to take a careful look at whether an investment in a particular port makes sense.

“Overall, investment and [expanding] the size and the water depth of our ports clearly needs to happen,” she says. “But does it need to happen at Port A? Or if it happens at Port B, does that mean Port A doesn’t have to do it? That’s the competitiveness issue there.

“I think you’ve seen the State of North Carolina struggling for a while to get someone interested in building a new port…They would like to build an international port at Wilmington…but they just haven’t been able to find someone willing to make the commitment of funds to do it,” Mahon says. “Partly that’s because it’s probably a little too early in the project. A lot of the upfront work, like the environmental work, which really should be handled by the public sector, hasn’t been done yet. Then too, it’s still not clear whether there’s a real need for another terminal in the Southeast.”

Then there’s the matter of the infrastructure beyond the terminal gates, a consideration Mahon described as “huge.”

“The land side drives the success of a port,” she emphasizes.

For Mahon, the turn in the discussion brings to mind a current Massachusetts Institute of Technology project related to port competitiveness and port sustainability. She summed up its early findings, which for starters, are that the success of a port is contingent on the market it serves directly. “Therefore,” she says, “the Port of New York and New Jersey will always be successful because it sits in the middle of a market of 80 million people.” Secondly, success correlates directly to interconnectivity. “Ask yourself, ‘Why is the Port of Savannah successful?’ There aren’t a whole lot of people in Savannah, or in that part of Georgia, even. It’s successful, as is Jacksonville, because it has tremendous rail and highway connections,” Mahon says.

“In each of those cases, it’s very easy to get things to the port, and the port in question is very efficient in terms of getting things moved from the ship and onto a truck or onto a rail car,” she says. “Now step back and look at the rest of the United States, the way a logistics expert would. What do you see? That most of the U.S. doesn’t have a coastline. That’s really the jump ball.

“It’s how do you get goods into Ohio? Into Kansas? Because there are 17 different ways to get there,” Mahon says. “They can move through Canada and then down to Chicago, by coming through Prince Rupert. They can move through the West Coast ports, the Gulf Coast, or the East Coast. They can move through Mexican ports, and they can move through Halifax.”

The great art of logistics planners-and the financiers that try to anticipate and serve their moves-is how to move all of the goods they are manufacturing in the Far East to stores in middle America.

“And, they have a choice. This is something they are constantly re-evaluating.” Mahon reminds.

“That’s the thing I don’t think most people outside the business realize-how frequently those logistics planners make changes, not only to where things come into the U.S., but also where things are manufactured,” she says. “Those constant changes are basically what drives my business.”

 Mahon says that ideally, municipalities and their private partners should engage a financial analyst on the front end, while they are still considering whether or not to do a project at all. “The worst mistake I see clients make, in all honesty, and with no disparagement intended, is to make a decision, like expanding a port, and then immediately calling the engineers in to draw up new plans,” she says. “Now, engineers are really good at drawing up plans, but they are not trade experts, they are not really good at figuring out what can reasonably be afforded-because governments are typically really good at writing checks.

“If you are going to try to finance something in the marketplace or to have a private entity finance it, you have to right-size your investment,” Mahon says. “And right-sizing your investment means determining how much you can afford to build based on the revenues you are likely to generate. Once you figure that out, that’s when you should get the engineers in to design it for you,” she adds.

Mahon says another critical thing to remember is that in order to induce private sector investment, a public entity needs to be able to tell a compelling, but straightforward story.

 Simply put, they need to be able to explain why business would want to go there. wt

 

Contributing writer Dan McCue lives in Charleston, SC, where he writes on global trade, foreign direct investment, and port-related issues.


 

Sidebar: Unlocking Hidden Senior Debt Financing Alternatives in the Supply Chain, By Gary Carleton

The supply chains of small- and mid-sized enterprises (SMEs) should be based on the law of supply and demand. That is, the supply of inventory is based on the forecasting of customer demand. 

Consider a highly seasonal SME that crams most of its manufacturing into one or two quarters. This can cause tight production schedules, excess staffing and overtime charges. It can lead to a higher cost of goods sold (COGS), tighter cash flow and the need for more working capital. The situation may be compounded by suppliers’ demands for rapid payment and the transportation costs associated with cross-border trading.

The basic model of supply and demand has been responsible for the ebb and flow of goods for centuries. However, as in the above example, it can quickly reverse itself if companies finance their supply chains with the wrong combination of debt and equity. Although debt is much less expensive-generally one-fifth of the cost of equity-there are points when senior lenders are reluctant to or will not finance inventory with debt as goods move through the supply chain. 

Unfortunately, in this situation, many SMEs may be held hostage by the demands of their current lenders without even realizing it. Traditional senior lenders are usually uncomfortable lending against inventory that’s in-transit or domiciled in foreign countries, which makes it impossible for them to offer additional debt to finance an SME’s supply chain and logistics. Since this leaves equity as the only alternative, the SME will cram the production schedule as tight as possible because of the additional cost factors are less than the high cost of equity, as discussed in the example above. SMEs can combat this by looking to lenders outside the “traditional” sphere.

In the current economy, there are many new legitimate entrants into the financial space. Several companies are working to help their customers’ supply chains get moving by financing equipment purchases through vendor financing. Other interesting entrants include transportation and logistics providers that lend on inventory domiciled outside the U.S. because they own and operate warehouses in foreign countries. Additionally, visibility tools used to track and trace shipments enable them to provide short-term loans or debt on inventory in transit from foreign suppliers.  

Gaining access to this type of short-term debt from these players can do several things: help balance the manufacturing of goods over a longer period of time; warehouse inventory closer to an SME’s customers, even in a foreign location, which may be less expensive; and reduce shipping expenses. 

By having access to lower-cost debt financing on a greater percentage of assets in lieu of equity financing, overall financing costs can be lowered. It can place an SME back in control of its supply chain costs, enabling it to drive down operational costs and minimize the financing costs of its day-to-day business operations.  



Gary Carleton is Managing Director of Global Supply Chain Finance for UPS Capital (www.capital.ups.com), the financial services arm of UPS.


 

Sidebar: Filling the Trade Finance Void, By Dan McCue

The tightening of credit and finance markets in the wake of the global economic crisis is providing golden opportunities to innovative lenders that have recognized small- and medium-sized businesses still yearn to grow, even when their access to easy money has been curtailed.

Two cases in point are UPS Capital and LogisticsFinance of Laguna Beach, California, whose top executives say they are not only willing but eager to provide inventory-based financing.

“I think that attitude was really born out of the uniqueness of how we got started,” says Mark Robinson, the senior executive responsible for UPS’s global supply chain finance business. “UPS, of course, wasn’t a financial institution, for most of our existence we were primarily a strong, robust, transportation company,” he says. “But, what we realized as the information technology revolution occurred and greater transparency emerged in all aspects of the flow of goods was that the missing link in the equation was dealing with the flow of money.”

In response, during the late 1990s, UPS assembled a team of employees with insurance and lending backgrounds, and began looking at ways companies used and relied on money during a cargo transaction and how the movement of money could fit into UPS’s international movement of goods.

“All these years later, we are still looking for holes in the existing trade finance methodology and trying to determine how we can fill them,” Robinson explains.

The basic vehicle for UPS Capital’s involvement in this area is lending on goods while they are in transit, essentially providing liquidity out of their customer’s supply chains. “Basically, it’s a form of risk mitigation for our clients,” Robinson says. “Companies that are growing, whether in terms of volume or size, and/or growing into emerging markets need cash on hand to meet their growth needs. With UPS Capital, what we’re saying to clients is, not only can we move and store your inventory, but you can use the inventory that you have in transit as collateral,” he says.

As such, Robinson says, he’s looking to be the financial partner of companies “that are continuously importing goods, rather than those who might be making a one-off, opportunistic buy.

“They could be a small- or medium-sized company, but a key for us is that they are sourcing goods on an ongoing basis, and that they always have something in the pipeline,” he says. “And, we’re equally adept at working with someone shipping 12 to 15 containers a year as with someone shipping 5000 containers. Basically, whatever the situation, it’s a matter of developing the right credit structure for the situation and working to meet that specific buyer or seller’s needs.”

One thing UPS Capital doesn’t do, Robison says, is lend on anything that’s still a work in process, nor does it do purchase order financing.

“What we do is set up a credit line for companies shipping completed goods, which they can draw in while the goods are in transit and pay us back once they are delivered,” he says. “It’s much easier to transact than a letter of credit because there’s no paper and the entire transaction goes through a single provider.

“A typical customer is the company that’s growing, but finding that with growth has come a strain on their working capital,” Robinson says. “In other words, the rising demand for their products is causing them to push their working cap needs, and that’s constraining their ability to grow.

Transaction risk is mitigated by utilizing UPS’s extensive network of transportation and warehousing services, something that guarantees the visibility of products being lent against.

By utilizing these services, small- and medium-sized companies entering into new trade relationships, or even new global emerging markets, can offer and sustain the longer payment terms these fresh relationships often entail without endangering their bottom line.

The same philosophy is in play at LogisticsFinance, an independent firm that draws extensively on founder and president Kevin B. Lynch’s experience in working with venture-backed medical device and biotech companies at Silicon Valley Bank, as well as managing the portfolios of numerous distribution finance clients.

“The reality is there’s still a big gap [in trade finance]. The banks have left a big gap, from our perspective, and that’s provided us with an opportunity to plug that gap. At the same time, as a result of the void they’ve left in the market, you get some pretty good credits, at above market pricing.”

Moving into the space in partnership with board members Ed Collins, an executive with thirty years experience in supply chain management, and Alexander Banz, a partner in Tribune Capital Geneva who comes to LogisticsFinance with a background in clean tech and renewable energy, the firm has played different roles for different customers.

Sometimes that’s meant providing in-transit financing directly; other times that’s meant simply helping a client structure its transactions to be more attractive to third-party financing.

“Right now we’re concentrating more on our own fund, with private investors,” Lynch says.

So, who’s looking for money in this market?

“Typically, it’s small- to medium-sized businesses, and generally speaking, we prefer to work with importers who are moving commodities, seafood, that kind of thing,” says Lynch. “We do some technology, of course, but those tend to be our smaller transactions, along with a little bit of purchase order financing.”

In a typical transaction, the client, say, a sporting goods company, would ask their logistics partner to not only move their product-say, for instance, gold clubs-but to assemble them before delivery.

“In that situation, the logistics company doesn’t want to have title to the inventory and doesn’t want to have the inventory on their balance sheet,” Lynch says. “They just want to concentrate on their core business. As a result, they would come to us and we would put a program together for them.”

Despite some early success with these partnerships, Lynch said the market didn’t mature the way he and his partners envisioned. As a result, presently they are working almost entirely in cash-flow transactions. In these, LogisticsFinance takes title to an importer’s goods, buying them from the supplier, holding them in a warehouse, and then having the client invoice the client with payment “coming directly to us,” Lynch says.

“It’s a little bit different,” he explains, “because most of the smaller trade finance companies are still focusing primarily on purchase order finance. We’re a little bit more of a hybrid.

“In each of our transactions, our client still manages the operational side of their business, as well as their relationship with their customer,” he says. “So it’s a little more of a managed inventory trade transaction.”

Before entering into a transaction, Lynch and his partners look at a prospective client’s procurement needs, their credit worthiness, as well the company the client is dealing with and its credit worthiness.

“And if there are commodities involved, we also look at how marketable they might be if the transaction were to fall apart for some reason; if they aren’t, then we’ll really be looking especially hard at the prospective client’s ability to stand behind the deal. If it’s a commodity, we have a little more leeway in terms of how we structure it and what kind of inventory risk we’d be willing to take,” Lynch adds.

Asked how long he expects the seeming trade finance boom to continue for independents, Lynch says it’s important to remember while there’s a “gap” in the world of trade financing, it would be ludicrous to suggest banks, particularly large banks, are entirely absent.

“I mean, world trade is a multi-billion dollar industry, so somebody is providing financing,” he says.

Nevertheless, Lynch believes it’ll be three to five years before banks jump back into the market with both feet. “I think it’ll take that long for the big banks to really get reengaged in trade finance, but I don’t think, even then, it’s going to be the end of independent trade finance. Yes, pricing will go down. Our yields may go down, but there’s room enough for everybody,” he concludes.