Expert Commentary

Public-Private Partnerships Can Provide a Financial Boon to Contractors That Understand the Complexities

It's no secret. America's entire infrastructure ranging from pipelines, roads, levees, rail, bridges, and waterways to municipal and healthcare facilities is in dire need of an upgrade. According to the Global Competitiveness Report for 2012–2013, which was issued by the World Economic Forum in May 2013, the US global infrastructure rank is now 14, down 7 spots from 2008.


Design and Professional Liability
August 2013

The recent bridge collapse on Interstate 5 in Washington state was the just the latest reminder of the overall problem that is afflicting nearly every state in the union. Unfortunately, with so much to do, there is not an overabundance of options to pay for it all. Costs are estimated in the trillions over the next 10 years for repairs needed to substantially improve the country's aging transportation, energy, and water infrastructure. This is the harsh reality in an era fraught with governmental quibbling and a federal budget for public infrastructure investments that is far less than it was decades ago.

However, public-private partnerships (P3) are continually gaining ground in the United States as a viable alternative for funding a vast array of institutional and healthcare projects as well as overcoming budgetary gaps. For years, countries worldwide have used P3 to facilitate multimillion dollar construction efforts. Today, the transition to this form of financing in America is increasingly gaining traction due to its ability to transfer risk and funding from the public to the private sector in exchange for future revenues.

A hypothetical example entails the building of a public facility by a private developer, which would then retain rights of ownership and/or act as the facility's landlord for a specified period of time. In this type of arrangement, the owner would then collect mutually agreed upon fees from the entity using the facility and possibly even additional restitution for the performance of maintenance or other operational services. Other all-around benefits include greater access to capital in an economic climate that is still suffering from the downturn and the sharing of risks that accompany any large-scale building project.

Facilitating P3

As imagined, such agreements can also be very difficult to formulate given their complex nature and all the various contributors needed to make them a success. First, the stakeholders involved can number in the dozens, often including federal, state, and local government officials, contractors, lawyers, financial investors, owners, architects, and designers—all with their own perspectives and goals layered within the area's unique political environment.

In addition, the legislation for such endeavors can vary widely according to the individual state, municipality, and project type. For instance, Florida, Texas, and Virginia currently offer advanced design-build-finance options, while Ohio and Illinois recently passed P3 legislation. Unfortunately, many other states still lag behind the learning curve in this area and are only now beginning to explore P3 advantages and possibilities.

Consequently, contractors and owners alike are often reluctant to participate in such opportunities given the complicated nature of P3 deals and their unfamiliarity with arrangements expanding beyond traditional project delivery models. But difficult market conditions have coupled with a better industry understanding of P3 dynamics and government incentives driven by new regulations to increasingly spur its adoption in the commercial building sector.

Transfer of Risks

Another key concern is the "transfer of risks" that are commonly associated with P3 building projects. Most arrangements proceed with the public entity retaining all the risks, the transfer of risks to the private industry partner, or an agreement of shared risks. Education, knowledge, and familiarity with P3 landscapes are integral for laying the groundwork for mutually beneficial partnerships that are not only exceedingly complex but also can last for decades.

As a result, it is imperative to clearly define expectations and each partner's responsibilities long before the work begins. That's because the added risks for contractors involved in a long-term P3 program are likely to be significantly different and far more extensive than the standard professional liabilities associated with traditional design-build activities.

Rectification Coverage

However, as P3 continues to evolve, so do the professional liability insurance products that protect against design liability and other liabilities associated with offering professional services. Insurers are now offering coverage enhancements that go beyond typical professional liability insurance for the entire design and construction team. One type of coverage is referred to as "rectification coverage." Simply put, rectification coverage will pay the costs to remedy a design defect identified during the course of construction. It is added to the typical project professional liability policy and usually covers both the design and construction teams—minimizing the likelihood of project delays and potential costly liability claims. Of course, the insurer must determine that the design defect or error is likely to result in a third-party claim if not remedied; otherwise, coverage does not apply. Even with the above to finance a loss, insurance should never be substituted for thorough project risk management.

Risk Allocation and Prioritization

Furthermore, active involvement is also a necessity during the risk allocation process, which involves identifying potential challenges throughout the project life cycle and then assigning well-defined "relief and compensation events" to remediate those problems. These can include, but are not limited to, the:

  • Conflicts and delays caused by unknown historical, archaeological, endangered species, and utility conditions

  • Delays resulting from public protests, related legal actions, and eminent domain proceedings

  • Design and survey data inaccuracies

  • Long-term maintenance, structure, and litigation exposure liabilities

  • Extraordinary guarantees

Subsequently, contractors and owners alike need to select partners with extreme diligence. Construction managers and related stakeholders must be aware that the lessons learned with previous projects will not necessarily apply to the P3 arena. Divorce is not an option, especially with contracts that can span 20 years or more and can include a broad spectrum of construction, operations, and maintenance services.

Since municipal projects can take years of planning and multimillion dollar investments before they finally reach the groundbreaking stage, priorities should also entail the thorough understanding of the owner's ecosystem and the political and public sentiment surrounding the project. These are among the many questions that a contractor should ask before even considering P3 involvement:

  • How committed is the federal, state, and local government to the completion of this structure?
  • How is the public involved, and how will they be affected by the outcome?
  • Who are all the P3 players?
  • What is the status and source of the financing backing the project?
  • What legislation is in place, and how is it likely to change during the project's life cycle?
  • Who's in charge and what is their level of commitment?

Conclusion

Going forward, P3 will likely become an integral nationwide method for securing the finances and resources needed to update the country's crumbling infrastructure. The key for contractors and construction managers is the understanding of its numerous complexities, the various liabilities that can arise during any project phase, and the need to take advantage of the developing professional liability insurance products that can minimize the impact of financial loss.

The depth and choice of partnerships should be considered at every level. All contract negotiations require clearly defined roles in the mitigation of problems. It would also be a mistake to proceed without professional liability insurance advice. This includes experts who thoroughly understand the complexities of P3 arrangements and the safety nets needed to safeguard against the myriad of challenges that can arise throughout the lengthy duration of such agreements. The truth is that the failure to act wisely, professionally, and with forethought at the planning stages can result in decades—not years—of financial shortfalls.


Opinions expressed in Expert Commentary articles are those of the author and are not necessarily held by the author's employer or IRMI. Expert Commentary articles and other IRMI Online content do not purport to provide legal, accounting, or other professional advice or opinion. If such advice is needed, consult with your attorney, accountant, or other qualified adviser.

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