P3: What’s in a Name and What Does It Mean for Utility Contractors?

The Good, the Bad and the Unknown

P3 — folks that deal with public construction have become as familiar with this little abbreviation as the world is with Einstein’s E=mc². Yet the name recognition rarely equates to a genuine understanding of what either stands for or how they work. Fortunately for you and this writer, understanding P3s doesn’t require an advanced science degree. But assuming you don’t have a burning desire to google P3, a basic primer is outlined below to help understand the W3s about the P3s.

What Is a P3?
A public private partnership — P3 for short — is a contract and financing approach that cash strapped governments can use to fund infrastructure projects. Our nation’s infrastructure systems — some of which are actually old enough to qualify as antiques — are notoriously in need of long overdue repair, if not outright replacement. But what can a government do when utility work is needed and the government doesn’t have the money to pay for it? More and more, the answer is a P3.

Under a P3 arrangement, a government partners with a private entity to map out their own way to fund a particular project. When a public project is privately funded, the government is freed from regulatory constraints that dictate the amount of funding available, how it can be spent and how the project risks can be allocated. P3s come in varying forms, but a key characteristic is a performance based approach that lets the private sector cover upfront costs in exchange for future revenues generated by the completed project, e.g. tolls, water and sewer fees, etc. So while the actual construction is the same as a traditionally funded public project, the contracting structure allocates the risks and rewards very differently.

In order for a P3 to work, the risk allocation must be balanced in a way to be mutually advantageous for the contracting parties. Transferring too much risk onto the private entity can result in higher premiums, which can in turn make the P3’s ultimate price tag far too big to justify. Transfer too little risk and the government could up spending more to complete the project than if the government had just used public funds instead. This can sometimes happen when the private entity fails to deliver a completed project and the government retained too much liability for project delays and/or defaults. In some instances, private entities offer to perform ongoing maintenance and utility operations in exchange for an additional fee. The opportunity for additional fees may in turn afford even greater flexibility with the construction cost. Ultimately, risk allocation is a decided on a sliding scale basis based upon the amount of risk versus reward.

It should come as no surprise that with the risks involved, P3s are not entered into lightly and often only after extensive feasibility studies. While the P3 risk allocation is often thought of as more art than science, the reality is that our present water infrastructure is a vital part of our existence. Point being, risks will be taken on, one way or another. P3s will, therefore, play an important role in how those risks are handled for jobs already in the pipeline.

P3: What’s in a Name and What Does It Mean for Utility Contractors?

As state and local governments implement legislation to accommodate the use of P3s, the nation’s infrastructure
will undergo a collective and overdue upgrade.

Why Are P3s Important?
When contemplating our underground infrastructure and the important role that P3s can play, keep in mind few of us are willing to visit yesteryear’s outdoor plumbing for any longer than a weekend camping trip. Also, the luxury of indoor plumbing and a safe water supply has long since grown beyond mere comfort and has become the cornerstone of maintaining and developing society as we know it today. Just consider Central Floridian reactions after three back-to-back hurricanes in 2004 overwhelmed aged and outdated underground pipes. Water seeped in, waste seeped out.

Underground soil eroded, roads and grounds collapsed. Suddenly, Mr. and Mrs. Taxpayer were much more interested in the backburnered infrastructure projects and demanding to know what the government was going to address what folks considered near third world conditions.

The increasing use of P3s has helped push these infrastructure projects back to the forefront. Offering increased access to more money with fewer strings, P3s afford governments the option to look beyond their historically reactive measures. Previously limited to what could be afforded up front, P3s afford the flexibility to contemplate those upgraded options that before were just pipe dreams. It is now more common for governments to proactively analyze the cost benefits of implementing not just repairs, but expediting the incorporation of technological updates for environmentally friendlier and longer lasting systems. Infrastructure projects will be on the rise under either financing approach, and in turn, so too will opportunities for the underground utility contractors needed to build them.

What’s in It for You?
As state and local governments implement legislation to accommodate the use of P3s, the nation’s infrastructure will undergo a collective and overdue upgrade. Any rise in P3s will necessarily translate into more job opportunities. But due to the different risk allocations involved, P3s can and often do affect the governing terms and provisions in the underlying contracts. An unwary contractor may be ill-prepared for the “Who’s Has to Pay for That” pop quiz during the course of construction, and should the finger point back at the contractor, they may be even less prepared for the resulting cost.

p3-utility-3For those of you who have endured a contract dispute, you know an ounce of prevention is much less expensive than a pound of cure — especially when that cure involves an attorney fee that has the potential to grow bigger than the amount you were originally fighting over. Oftentimes, the private entity financing the work under a P3 is responsible for most delays and does not get paid until the project is up and running. Those sorts of risks are usually shared with the folks downstream, to necessarily include the contractor responsible for the construction. As a result, and even if you have worked with a particular contractor on prior public projects, do not assume your contract terms will be the same. In fact, expect the contract terms to be in some instances very different.

When analyzing P3 contract terms, it helps to keep in mind that governments covet P3s for a very simple reason — money. Generally speaking, contracts contemplate money in two distinct but inherently related ways. The “known” and the “unknown.” The known are the costs that everyone has agreed upon in advance and/or otherwise know will be incurred along the way. The unknown are the “mights” and “what ifs” and “how did that happen” events that haunt construction projects. As alluded to above, P3s can force a relatively seismic shift of liability away from the government and depending on how your contract reads, much of that liability could land in your lap. You may be surprised to learn that something you weren’t responsible for on the last project involving the same city and contractor may now be your baby. Moreover, your ability to negotiate a resolution may be more limited — if not foreclosed — when the entity you contracted with is no longer willing or able to negotiate under the P3 regime. It is therefore imperative that you read and understand your contract before signing on the dotted line.

Moral of the Story:  Read Your Contract.
At this stage, the use of P3s is still new and varied enough that there are not as of yet any standard forms or provisions that are consistently used. Overtime, that will undoubtedly evolve and likely on a state by state level. In the interim, all you can do is what you should have already been doing in the first place — invest the time to thoroughly review your contract and make sure you understand the risks imposed before you sign it. While you may not be able to prevent a risk from materializing, you will at least have had the opportunity to decide whether it is a risk you are ready, willing and able to take.

And for any of you wondering, “But I have a risk that has already materialized —now what do I do?” The answer is simple — put down this article, grab some Pepto and go call your attorney.

Kathleen M. Krak, Esq., and John H. Dannecker, Esq., are partners at Shutts & Bowen LLP.
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