Public-Private Partnership Policy Casebook/Chicago Parking

Summary

In 2008, the City of Chicago was experiencing a notable budget shortfall for the upcoming fiscal year. The City's six-term Mayor, Richard M. Daley, sought ways in which he could help fill the existing budget deficit. Chicago was an innovator in the realm of public-private partnerships (P3s), having already brokered two separate leasing deals with the private sector to manage and operate some of the city's public assets; including the Chicago Skyway toll road and parking garages located at Millennium and Grant Parks. When the Mayor was approached about a new potential P3 for the lease of the city's parking meters, he jumped on the opportunity.

Under the pressures of the pending budgetary quandary, Mayor Daley and his Chief Financial Officer (CFO) hastily pushed through a deal to award a 75-year concession agreement for control of the city's 36,000 parking meters to the winning private bidder, Morgan Stanley Infrastructure Partners (MSIP). Some of the City Council's aldermen expressed concern that the process for reviewing the deal had been too rushed and did not allow sufficient time to carefully review the contract for any potential long-term risks that the city would be taking on.

Chicago's parking meter P3 serves as a case study into the "...new forms of risk and risk management obligations that city governments often absorb in infrastructure leasing concession agreements." In seeking short-term budgetary relief, the city of Chicago unintentionally lost much of its flexibility to meet and protect the public's interests/needs, as well as absorbing additional longer-term costs. The sections to follow will detail the public issues that were encountered as a result of the parking meter deal and their implications for the city of Chicago.

Annotated List of Actors

Mayor Richard M. Daley: The six-term Mayor of Chicago that pushed through the parking meter lease agreement into fruition. He was a strong advocate of public-private partnerships (P3s) because he believed that the government had limits to what it could effectively manage/maintain and these public-private transfers allowed for large, up-front, cash payments that helped fill existing budget deficits. He was the chief proponent of the agreement and shouldered much of the blame when difficulties were encountered during implementation.

William Blair & Co.: A financial consulting company that was the chief support on the earlier Millennium Park parking garage P3. Though Mayor Daley was the main champion of this P3, the initial idea to lease the Chicago parking meters to a private entity originated with William Blair & Co. They would eventually be hired to oversee the parking meter valuation and bidding process.

Morgan Stanley Infrastructure Partners (MSIP): A consortium of global infrastructure investors that presented the winning bid for Chicago's parking meters lease. They won the 75-year lease with a bid of $1.15 billion. The main investor of this consortium was Morgan Stanley Investment Bank, which controlled a 50.1% stake of this deal. Next was Adu Dhabi Investment Authority with a 25% stake. Following closely behind Adu Dhabi was the German financial firm Allianz Capital Partners with a 24.9% stake.

Chicago City Council: The legislative branch of the City of Chicago. This Council consists of 50 aldermen that represent each of Chicago's Wards. Though the Council ultimately passed the lease agreement forty to five, many of the aldermen complained that they did not have sufficient time to review the details of the agreement and analyze the potential risks that the city would assume. Further, the alderman were initially not even provided a full copy of the leasing agreement, but, rather, received an eight-page summary of the deal.

Paul Volpe: The Chief Financial Officer of the City of Chicago. He pressures the aldermen to accept and sign the parking meter lease deal quickly, citing timeliness as being critical "since interest rates are at an all-time low and any upward movement will cost the city money."

Chicago Parking Meters LLC (CPM): The parking meter operations management group established by MSIP. They would be supported in the day-to-day operations of managing the parking meter system and enforcing its policies by another firm--LAZ Parking.

LAZ Parking: A national parking company that is based in Hartford, Connecticut. They were hired by CPM to run day-to-day operations; including enforcing parking regulations. Because of their enforcement role, they drew much of the ire of Chicago residents who were unhappy with the new parking policies.

Chicago Transit Authority (CTA): Operates Chicago's train and bus services. Chicago's public transit system is considered to be "the nation's second largest public transportation system."

Bus Rapid Transit (BRT): Chicago's bus system that has exclusive use of particular traffic lanes that are specifically designed for "...curbside boarding and make limited stops in order to speed up travel times relative to ordinary buses." The BRT system, administered by the CTA, felt the ill effects of the adverse action penalties that were included in the city's parking meter lease agreement because they greatly limited where CTA could add additional BRT routes.

Chicago Department of Transportation (CDOT): The agency in charge of maintaining Chicago's transportation systems. CDOT's ability to carry out its work was also negatively impacted by the parking lease deal and its compensation events. Before the existence of the parking meter lease, CDOT banned "...parking in the second lane of a road in order to speed-up rush hour traffic between the hours of 4pm and 6pm." CDOT was actually considering even more enforcement of this rush hour ban and wanted to implement more ticketing of parking ban violators prior to the lease's existence. After the lease began, CDOT had to do an "about-face" on its original policy and remove the ban on rush-hour parking on some streets that contained parking meters so that they would not activate additional penalties.

Mayor Rahm Emanuel: The Mayor who succeeded Mayor Daley in Chicago. After being elected into office in 2011, Emanuel publicly criticized the parking meter deal and its makeup. However, he still pushed for the utilization of new P3s and established the Chicago Infrastructure Trust.

Felipe Oropesa: An executive at LAZ Parking who oversaw the roll-out of Chicago’s privatized meters and their enforcement as part of the lease agreement. He was fired after the FBI began to investigate the kickbacks he received from George Levey in exchange for inside information regarding the parking contract.

George Levey: A Florida businessman who worked for Cale Parking Systems USA Inc. admitted in court that he paid Felipe Oropesa $90,000 for inside information that would help him construct a more competitive bid for the Chicago parking contract.

Timeline of Events

• 2000-2009: Chicago Mayor, Richard M. Daley, placed a significant political emphasis in keeping taxes low. This resulted in the City of Chicago operating under a continual budget deficit because the city's expenditures were outpacing the city's revenue intake. This led to the Chicago government needing to look for alternative methods to finance its operations. The prospect of leasing government infrastructure assets to private entities for large cash payments became an enticing option for helping fill the existing budget deficits.
• 2005: Chicago becomes the first city in the United States to utilize a public-private partnership to regulate its roads when it leased the Chicago Skyway to the Spanish private developer Cintra SA and the Australian Macquarie Infrastructure Group for $1.8 billion. This ninety-nine-year lease opened the door to the city of Chicago utilizing P3s to help fill budget deficits and served as a model for their later parking meter lease agreement with Morgan Stanley Infrastructure Partners (MSIP).
• 2006: The next leasing deal is agreed upon; this time it is between the city and MSIP for access to four parking garages located in close proximity to Millennium Park-- one of Chicago's chief downtown tourist attractions. This deal consisted of an upfront payment of $563 million from MSIP to the city in exchange for the garage concession agreement.
• 2007: With the recent run of leasing transactions between the city and private investors, it became clear to venture capitalists that Mayor Daley was open to continued collaboration with the private sector in the form of infrastructure P3s. With this in mind, William Blair & Co. approached the city government with the idea of leasing out its parking meter system. They were hired shortly thereafter to estimate the value of the parking meter system and oversee the bidding process.
• February 2008: Potential investors were invited to present their project qualifications.
• March 2008: Ten qualifications bids had been submitted, with six of them being approved by the city. The city then announces that their anticipated budget deficit for the upcoming 2009 fiscal year to be around $500 million. This revelation potentially led to a hastening of completion of the leasing process for the parking meters.
• December 2, 2008: The Mayor announced that an investment group led by MSIP had made the winning bid for the leasing rights with a bid of $1.15 billion.
• December 4, 2008: A special session of the City Council was called with the purpose of formally approving the ordinance that would establish this new P3.
• February 13, 2009: The City Council announces that it has finalized a deal with Chicago Parking Meters LLC (CPM)-the meter operations management group established by MSIP. It also announces that CPM will be supported by LAZ Parking-who will take over the day-to-day management of the parking system and particularly assist with enforcing parking regulations. Parking rates on the meters dramatically increase within a few days of this announcement.
• March 20, 2009: The Chicago Tribune reports that "all hell is breaking lose" with the new meters. The meters do not have the capacity to handle the additional quarters required by the new rate hikes. Citizens are also complaining of rates not being posted clearly at the machines and are frustrated that they are being ticketed as a result.
• March 25, 2009: The Chicago Sun-Times reports that parking meter vandalism is on the rise due to the rapid rate increase and the non-functioning machines. The newspaper also speculates that the parking meter issues could potentially lead to voter backlash.
• Fall 2009: Mayor Daley's approval rating reaches an all-time low of 35 percent, mainly because of the parking meter crisis.
• September 7, 2010: Mayor Daley announces that he will not run for re-election in 2011.He served the city of Chicago for six terms.
• 2011: CPM increased the number of parking tickets issuers by 10%. This resulted in nearly 73,000 tickets be administered in 2011.
• 2012: The non-compete clause--that MSIP made sure was in the parking meter lease-obligated the city of Chicago to protect the monopoly rights of MSIP. Moreover, through "adverse action clauses," any violation of MSIP's parking monopoly would result in financial penalties to the city that would need to be paid to MSIP. These types of penalties were known as compensation events. In 2012, the city of Chicago paid $61 million in compensation events to MSIP for various road closures, state handicap exemptions from paying parking meters, and other city events. For comparison, the fees MSIP charged Chicago in 2012 were nearly three times the $22 million that the city collected from the parking meters when they were in possession of them back in 2006.
• July 2012: The state of Illinois passed House Bill 5624 which makes the requirements to obtain parking exemptions for handicapped individuals even stricter and more difficult to secure. Critics of the new law argued that the passage of this legislation demonstrated that higher priority was being placed on placating MSIP's fee collection rather than on the social goal of assisting handicapped citizens.
• 2012: Chicago introduced its first bus rapid transit (BRT) route.
• 2012-2013: Amid the Chicago public's distaste for privatization efforts after the parking lease ordeal, new Mayor Rahm Emmanuel shortened the proposed lease length of the city's Midway Airport to 39 years and proposed profit sharing strategies. All but one of the bidders dropped out after this change was made. With only one bidder remaining, Emmanuel quickly terminated the bidding process, citing that "he wanted to avoid the pitfalls of the parking meter lease by opting for a more competitive bidding process." Emmanuel then formed the Chicago Infrastructure Trust that was designed to create more P3s, despite the negative view of them held by the general public.
• December 2013: Four more BRT routes were opened. It is widely speculated that the limitations caused by the potential compensation events factored in the route locations that were selected. Similar frustrations were communicated from the city's bike planners who encountered difficulties with trying to add designated bike lanes because of the adverse action clauses.
• April 14, 2016: The Chicago Sun-Times reports that an executive of LAZ Parking, Felipe Oropesa, was fired by the company for "...steering a $22 million contract for Chicago’s parking meters to a favored company and collecting $90,000 in kickbacks." Oropesa then pleaded guilty to wire fraud.

Map of Locations

http://map.chicagometers.com/

https://www.cityofchicago.org/content/dam/city/about/wards/32/Ward32NewParkingMap.jpg

Narrative

Background

In October 2004, the City of Chicago awarded the first Public Private Partnership (P3) contract for the long term lease of Chicago Skyway to a private entity for a period of 99 years. The winning bid was for $1.8 billion. The huge influx of revenues from the Skyway project rejuvenated the city’s budget and provided a large sum of money for future investments. Proceeding the Skyway project, the City of Chicago embarked on several other partnerships showing keen interest in P3s. In February 2008 the City of Chicago issued an RFQ for a 75-year-old lease on Chicago’s Metered Parking System.

On December 2, 2008 Mayor Richard M. Daley announced the winning bid of $1.157 billion to CPM for the city wide leasing of metered parking for a concession life of 75 years. The lease covered approximately 36,000 parking spaces. Two days later on December 4, 2008 the city council approved the 75-year lease agreement by a vote of 40 to 5 . The winning bidder, CPM was formed on November 18, 2008 for the single purpose of owning the right to the cities metered parking system . The members of the company are “Morgan Stanley Infrastructure LP (MSII), Morgan Stanley Infrastructure Partners LP (MSIP), Morgan Stanley Infrastructure partners A Sub LP (MS A Sub), and Deeside Investments Inc. The members control an equity stake of 0.653%, 11.415%, 38.032%, and 49.00%, respectively. .

Process

On February 8, 2008 the City of Chicago issued a Request for Qualification for the long term lease of Chicago’s Metered Parking system. The City received ten responses to the RFQ and of those ten, six were determined qualified to bid on the project. The City spend several months negotiating, providing clarifications, and defining the length of the lease with the potential vendors. Proceeding the original bid solicitation, a second round of bidding was requested by The City of Chicago. The winning bid of $1.157 Billion was finally awarded to MSIP . The City of Chicago outlined the approved parking rates in the Metered Parking System Ordinance for a period of five years . The table below summarizes the meter rates for the 3 different types of classifications.

Parking Meter Classification	2008 Rate/Hour (existing)	2009 Rate/Hour	2010 Rate/Hour	2011 Rate/Hour	2012 Rate/Hour	2013 Rate/Hour
Neighborhood Meters	$0.25 -$0.75	$1.00	$1.25	$1.50	$1.75	$2.00
central Business District	$1.00	$2.00	$2.50	$3.00	$3.50	$4.00
Loop Meters	$3.00	$3.50	$4.25	$5.00	$5.75	$6.50

Source: Amended and Restated Chicago Metered Parking System Concession Agreement - Exhibit A

Internal Financial Evaluation

In order to determine what a 75-year lease on the City’s metered parking was worth to the private concessionaire, the City hired William Blair & Co. as its lead financial advisor to calculate the net present value (NPV) of the concession. The NPV is the difference between the present value of the cash inflows versus the present value of future cash outflows. The effort includes projecting potential cash inflows and outflows considering all variables. Variables such as operation & maintenance cost could be derived from historical information. With the information and timeframe provided to William Blair & Co. from city officials/leadership, the firm calculated preliminary valuation of the asset's present value and estimated a minimum acceptable bid within the range of $1 Billion. Based on this valuation, the City determined the $1.157 Billion bid by MSIP was acceptable and it was in the city best interest to take the deal.

The City of Chicago also required the concessionaire to make several upgrades to the system (estimated to cost the concessionaire a total of $30 million in capital improvements), such as providing an alternative payment method to cash for meters greater than $1.50. This is an upfront cost that the concessionaire has to absorb . The lease signified the installation of Pay and Display boxes during the initial lease period. The City of Chicago has had great success with the implementation of Pay and Display boxes in the past realizing an immediate increase in revenue due to the fact that drivers won’t be allowed to piggy back off of each other’s time. Each new driver will have to pay and then display proof of payment.

Value to the City

The financial evaluation of the 75-year lease yielded an unfavorable result. A deeper look into the financial structure of deal led many experts to conclude that City of Chicago had grossly underestimated the value of their asset. What the City of Chicago believed to be the highest value for the project at the time of award was not accurate. The City went through much criticism because of this. Many experts claimed the City should have conducted a more comprehensive review of the proposal prior to acceptance. Others claim the discount rate utilized for present value calculations was not accurate. The finance structure from a governing body’s perspective is very different from a private entities perspective. For instance, “governments do not use equity financing but rather investments are completely financed through borrowing. Additionally, governments are able to issue tax-exempt debt meaning governments can typically borrow at lower interest rates”. Instead of utilizing the City’s borrowing rate, a more beneficial methodology would have been to incorporate the risk associated with the parking meters into the discount rate. The risk associated with parking meters is categorized as very low risk because of stable historical revenue information. If historical revenue information presented low and high peaks, then the risk categorization would have been high because of uncertainties in revenue generation. Historical information from the City’s annual reporting database showed stable revenue income in years past. Using the methodology of incorporating the risk, the new calculation showed a discount rate of ≈7% should have been used instead of the ≈5% utilized by William Blair & Co. . Utilizing a discount rate of 7% results in a present value of approximately $2.13 billion in today’s dollars using the mid-level revenue projections. It was determined from the Inspectors General Findings Report that even the most pessimistic financial projection yielded values higher than the winning bid of $1.157 billion. By accepting the $1.157 billion dollar bid the city accepted far less than it could have potentially attained. Grossly underestimated internal financial projections potentially cost The City of Chicago several hundreds of millions of dollars; if not billions.

Chicago Fights Back

Proceeding the release of the Inspectors General’s Findings and criticism from various public and private organizations, the City responded with several arguments justifying their position in favor of accepting the concession. The recession of the 2008 had significant impacts on Chicago as well as other municipalities across the country. The short term budget deficits resulting from the recent recession presented very few opportunities for cash stricken governments to accommodate infrastructure repairs and renovations. The City was in desperate need of immediate cash inflows so City leadership decided it had to take the best offer at the time of acceptance. The City of Chicago argued they could not wait out the recession and had to accept the best deal the market had to offer at that time. The Inspector General’s Report presents findings that tells us the City would have been much better off if they had waited and conducted more comprehensive financial analysis encompassing different possibilities and all variables. Proponents of the deal argue that during the recession period 2008 there was very little opportunity outside the deal that made sense for the City. Furthermore, the City argued that it could never increase rates to the same extent as the leases operators without suffering severe public backlash. Nor did they have the capabilities to maintain the parking meters if they had chosen to opt out of the deal completely.

Political Influence

Political influence has a significant role with determining and shaping P3 structure and trends in Chicago. Mayor Richard M Daley (1989 – 2011) made it a high priority to keep taxes low during his time as mayor. Keeping property taxes low takes foregoes a significant chunk of change from the municipalities operating budget and with amidst an economic recession the City accumulated debt rapidly. Chicago’s General Obligation bond debt is approximately $10 billion which is down $6 billion from 2009. At one point the City of Chicago was required to make annual debt service payments of $1.2 billion. Chicago adopted a P3 model by leasing infrastructure assets over long periods of time for large lump-sum payments; often in order to fill short-term budget deficits. Nearly half of the lump sum payment from the Skyway P3 was used to bridge budget shortfalls and pay off debt. The City was anticipating a budget shortfall of $500 million in 2009. It is noteworthy to mention that the anticipated 2009 budget shortfall could have pressed the CMP deal to go through. Rushing to put the project out for bid, the City (and especially its elected City Council members) did not have sufficient time to analyze all the different variables could have produced a higher bid.

Policy Issues and Key Takeaways

Policy Issue #1 – Bid Process

Shortly after the concession deal was finalized and CPM hired LAZ Parking to assume day-to-day operations of the City’s metered parking system, Mayor Daley and other administration officials were receiving sharp public and media criticisms over the deal and its problematic implementation. Chief among these criticisms was the notion that the public, and more importantly its representatives (aldermen) in the City Council, were rushed and offered little information or documentation about the deal prior to having to vote on the ordinance authorizing it. In fact (as shown in the above timeline), the City Council only had two days between Mayor Daley’s public announcement of the winning bid (December 2nd 2008) and its special session vote on the ordinance (December 4th 2008). Initially without full copies of the winning bid contract (reportedly aldermen only received an eight page summary the day it was announced) and with less than two full days to review and debate the provisions of this agreement, it’s no wonder that in the weeks and months after the deal commenced, many city aldermen began conceding that they had no idea what they had signed up for.

The Mayor and his CFO Paul Volpe denied the allegations of a rushed and nontransparent bid process by claiming that the deal represented over a year and half of planning, detailed analysis, legal work and a completive pricing. Volpe even went as far as to say, “The city conducted a robust, open, transparent, and competitive bid process”. However, this was not the sentiment reflected by city residents and their elected officials on the Council who felt their city had been hoodwinked into signing a terrible deal. So the question then becomes, which side accurately described the reality of the bid process? In order to answer this question, it seems most effective to return to and take a deeper look at facts of the case as outlined in the narrative and timeline sections of this report.

Starting with the background of the deal, in the early 2000’s the Daley administration had established a reputation for being strong proponents and pioneers in the realm of using P3’s to extract value from the City’s public assets. The Chicago Skyway and Millennium/Grant Park parking garage deals illustrate this reputation. Fast-forward to June 2007 and the same financial consulting firm (with political ties to the Daley administration) which had been involved with these past deals (William Blair & Co.) approached city leadership with the idea to privatize the City’s metered parking system. Unsurprisingly, William Blair & Co. was quickly thereafter hired (without competition) to serve as the City’s primary financial consultant (for a fee of 0.375% of the expected winning bid payment) and advise the City on this deal’s potential viability, perform a valuation of the public asset and consult city officials throughout the bid process if a solicitation was pursued.

This role was given to William Blair & Co. ostensibly without any consideration of potential conflicts of interest, despite the fact that, the firm had worked directly with a potential bidder and the ultimate winner of this deal (MSIP consortium) in a prior P3 deal. Most importantly, the selection of William Blair & Co. and its preliminary valuation (which reportedly utilized a more private-sector investor’s perspective rather than a public sector perspective) were all conducted unbeknownst to the general public and City Council. In fact, it wasn’t until October 15th 2008 when Mayor Daley released his proposed 2009 budget (which included an expected $150 million infusion from the parking meter agreement) that most of the city’s elected officials had any idea planning and negotiations for this deal had already taken place. By then the concession agreement was essentially a done deal given that it was already a staple of the Mayor’s proposed budget; which was subsequently adopted a month later by a City Council vote of 49 to one. This in turn put significant political pressure on City Council aldermen to approve the ordinance authorizing the deal given that they had already adopted a budget which relied on its proceeds.

Hence a significant portion of the ‘year and a half’ of planning that Mayor Daley and CFO Volpe referenced was kept secret from the City Council. This included the preliminary NPV valuation (the only valuation the City ever commissioned), as well as, the entire RFQ and final solicitation processes. Furthermore, the decision to only solicit one valuation of the City’s metered parking system arguably seems to be one of the City’s most detrimental mistakes. Instead of assessing the asset's value based on multiple independent valuations, the Mayor and his administration were fine with accepting William & Blair, Co.’s $1 billion preliminary valuation and quickly moving on with the solicitation and competitive bidding processes. This decision appears even more damning when considering that MSIP’s own internal valuations of the asset have fluctuated between $5 billion and $11.6 billion , and that, City alderman Scott Waguespack’s report published shortly after the deal was finalized calculated that after “applying a discount rate of 3% [(rate of inflation)] and a profit margin of 85% [(based on trend of increasing city margins)], the present value of the revenue cash flows is $5.19 billion”. Finally, in the aftermath of the deal it took the persistence of local media organizations like the Chicago Reader to file Freedom of Information requests in order to obtain the documents detailing the competitive bidding process.

These facts certainly contradict CFO Volpe’s assertion that the deal reflected an ‘open’, ‘robust’ and ‘transparent’ bid process, and, in the contrary, seem to paint a picture of a rushed deal founded on the determination to cover budget deficits, political patronage and back-room negotiations. Thus the key takeaway from this policy issue is an understanding of the value of transparency, openness, oversight, and political debate in P3 negotiations. Another important takeaway comes in recognizing the value in conducting multiple comprehensive (including analyses of transferred and retained risks) and independent valuations to determine the true present value of the particular asset in question. For example, had the City conducted a thorough Value for Money (VfM) analysis comparing the revenues and costs of the City keeping the asset (Public Sector Comparator) versus the private sector concession (Shadow Bid Model), perhaps the city would have decided against the undervalued winning bid.

Policy Issue #2 – Short-Term Politics Versus Long-Term Interests

In the context of the economic downturn of the Great Recession and a projected $500 million dollar deficit in the city’s 2009 budget, there was certainly high level of political pressure on the Mayor and his administration to offer solutions for how to resolve the city’s dire fiscal outlook. Seeing that politicians, and especially municipal leaders, tend to care mostly about short-time horizons (seeking short-term political gains to increase their electability), it is unsurprising that the Daley administration chose a short-term solution. By selecting a one-time, upfront lump sum payment over more traditional, long-term and politically unpopular approaches to budget deficits (i.e. raising taxes or cutting spending), the Daley administration was able to present a public image of fighting for fiscal responsibility while also protecting the tax obligations and levels of government service delivery that city residents were accustomed to. Moreover, by agreeing to the concession the Mayor and City Council were essentially seeking political cover from the undeniable need to increase parking meter rates in the future.

Thus the Daley administration was trying to avoid individual political risk by buying political cover for rate hikes, while at the same time, ensuring political capital through guaranteeing the ability to meet short-term budgetary obligations with the deal’s lump sum payment. Unfortunately, these motivations were more suited to advance short-term political gains versus long-term interests of this City, and, potentially blinded the Mayor and top administration officials from taking a more skeptical view of the valuation and winning bid. Confirming this view and acknowledging MSIP’s perceptions of the situation, Waguespack’s report stated, “a private investment conglomerate would … [not] put up a billion dollars in up front revenue at a time when credit markets are near frozen and banks are so illiquid they are struggling to finance day-to-day operations, unless the agreement is so weighted in their favor that it is simply too good to pass up. Without question, the City’s capacity to negotiate effectively was compromised by months of public assertions that it is in the midst of a dire fiscal crisis and the budget cuts, departmental consolidations, and layoffs that provided the backdrop for this negotiation”.

This type of political and budgetary shortsightedness often conflicts with the long-term nature of P3 concession agreements. Ideally, funds from long-term agreements are reinvested in programs with long-term benefits. Instead, the Daley Administration agreed to a deal with a below-value price point and “spent all but approximately $100 million of the revenues from the lease to fill deficits gaps for 2008, 2009, and 2010”. Moreover, only one of the four major funds (Revenue Replacement Fund, Human Infrastructure Fund, Mid-Term Fund, and Stabilization Fund) created to house the lump sum payment was designed to actually provide long-term benefits: the Human Infrastructure Fund which provided funds to support programs serving low-income and senior citizen residents. This budgetary shortsightedness also did nothing to impress the rating agency (Fitch) who downgraded the city's bond rating from an AA+ to an AA; citing the P3 deal as a large part of their determination. As a consequence the city would not have to pay more expensive borrowing costs in financing debt through municipal bonds; therefore further weakening the City's fiscal situation.

Therefore, the key takeaway from this policy issue is that the best way to approach and negotiate P3 deals is with a more long-term perspective. Because of the normally long lives of typical concession agreements, city leaders and officials must carefully address all the potential risks over the life of the concession; including revenue risks from the lost revenue streams (accounting for more than $30 million in lost revenues annually in this case) associated with concession deals. Moreover, these officials should also attempt to commission the most sophisticated and rigorous valuations so they can develop a realistic understanding of what the asset is worth; as to not be blinded by the optimism bias that can be associated with P3 deals and their often large upfront lump sum payments. Finally, payments should be tailored to meet the long-term benefits of the government constituency instead of being used exclusively to fill short-term deficits.

Policy Issue #3 – Contractual Terms and Conditions

Not only had MSIP walked away with a steal in terms of an undervalued bid price, the concessionaire was also able to secure a number of contractual risk reduction mechanisms which continue to bolster the company’s bottom line. These risk reductions mechanisms came primarily in the form of adverse action and non-compete clauses.

Per the contract the City retains a number of powers over the metered parking system including: performing enforcement and collections (however the concessionaire is able to hire additional ‘supplemental enforcement’ to augment city workers); revising rates, hours and locations; adding and eliminating on-street parking spaces; and restricting metered parking during special events or activities, festivals, construction, or periods of concerns over compromised public safety. While retaining these powers was an important selling point for the City, per the terms of the agreement the City must compensate (compensation events) the concessionaire whenever any of these actions cause an adverse effect on the concessionaire’s revenue streams or operating expenses. Specifically they the deal defines adverse actions occurring when “the City, the County of Cook or the State of Illinois (or any subdivision or agency of any of the foregoing) takes any action or actions at any time during the Term (including enacting any Law) and the effect of such action or actions, individually or in the aggregate, is reasonably expected (i) to be principally borne by the Concessionaire or other operators of on-street metered parking systems and (ii) to have a material adverse effect on the fair market value of the Concessionaire Interest (whether as a result of decreased revenues, increased expenses or both)”. For example, when the City wants to close off a street with metered parking for a parade, the city will be financially responsible for reimbursing the private operator the “maximum utility” of a meter during its period of inoperability. Furthermore, if at any time the city has a need to remove a particular meter, the City must find a comparable replacement meter somewhere else or else trigger a compensation event.

With respect to the non-compete clause, the City agreed to not operate or permit the operation of any, “Competing Public Parking Facility … [including] any off-street public parking lot or public parking garage that (i) is (A)owned or operated by the City or (B) operated by any Person and located on land owned by the City, or leased to the City, (ii) is within one mile of a Concession Metered Parking Space, (iii) is used primarily for general public parking; (iv) has a schedule of fees for parking motor vehicles that is less than three times the highest Metered Parking Fees then in effect for Concession Metered Parking Spaces in the same area; and (v) was not used for general public parking on December 4, 2008”. Moreover, if at any time it breaches this framework the City is again financially responsible for compensating the concessionaire. While these non-compete clauses tend to be par for the course with concession agreements involving tolled road, bridge or tunnel projects, in the context of operating a parking metered system, this type of clause seems a bit draconian; especially considering the benefits city resident could experience if some level of competition were permitted.

Ironically, as a consequence of the these contractual clauses and their associated compensation events, the City’s parking meter system was converted from a revenue generating service into an annual expenditure. In fact, in 2012 the City had to pay more than $61 million in compensation events to the concessionaire; accounting for almost three times what it had collected in parking meter revenues in 2006. Moreover, by 2015, in part due to these compensation events, the concessionaire had recouped more than half ($633 million) of its initial bid with 69 years left over the life of the concession.

While these contractual terms and conditions (which create compensation event triggers) are often used as a way to incentivize potential bidders, they also in effect shift much of the demand and revenue risks transferred to the private sector in the P3 deal back onto the public sector. This essentially defeats the purpose of choosing a P3 procurement mechanism considering its value is founded on the idea of transferred risk. Furthermore, these types of terms and conditions can present other types of risk to the government sponsor such as planning and autonomy risks since the City loses some of its flexibility and project planning discretion as it attempts to avoid various triggers of compensation events.

Therefore, the key takeaway from this policy issue centers around an understanding of how important it is to negotiate P3 contract terms and conditions in a way which effectively balances the interests of making the project financially viable for bidders, as well as, protects the fiscal and autonomy interests of the government sponsor. For instance, in this case it likely would have been in the City’s interest had it negotiated a less draconian non-compete clause, as well as, maybe put an annual cap on the amount of adverse action compensation events it could incur each year. Moreover, in comparison to the adverse action clause, the city could have negotiated some sort of payment or contribution from the concessionaire for any governmental action which produces a positive impact on the parking system; such as maintaining adequate levels of parking enforcement or even street cleaning services.

Discussion Questions

1. Given that William Blair & Co. was working with a potential bidder (MSIP) on another P3 deal, did the city's decision to hire the firm as its primary financial advisor/consultant (without competition) present a potential conflict of interest. If so, do you think this conflict of interest may have infringed on the firm's ability to produce a truly independent and accurate valuation of the city's metered parking system?

2. What do you think were Mayor Daley's primary motivations behind keeping the majority of planning and solicitation processes secret from the City Council?

3. Why do you think the city only commissioned one valuation of the asset? Cost, speed, politics/patronage?

4. Did the Mayor and Council's attempt to buy political cover from planned meter rate hikes work?

5. According to media reports , if the rate of annual compensation events continue the city could assumedly end up paying the concessionaire over $1 billion in payments over the life of the concession? What if any options does the City have to avoid such a disastrous result?

6. Aside from some of the ideas mentioned in the case, how else could the City have better negotiated the concession agreement's contractual terms and conditions (especially with respect to the non-compete and adverse action clauses)?