Pennsylvania Turnpike "lease" puts it at policy crossroads

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Leasing of Landmark Turnpike Puts State at Policy Crossroads
Wall Street Journal
August 26, 2008

(See Corrections and Amplifications item below.)

DONEGAL, Pa. — Hobbled by the credit crisis, Wall Street firms and many state governments are hoping that a pockmarked strip of Pennsylvania highway could provide a road out.

Next month, the Pennsylvania legislature is expected to vote on a $12.8 billion deal struck between the governor and a group of private investors to lease America’s oldest major toll road, the 537-mile Pennsylvania Turnpike.

[turnpike map]

If it passes, the deal would be by far the largest ever of its kind in the U.S. Under these arrangements, known as public-private partnerships, investors lease or buy roads, bridges or other infrastructure, operate them independently and collect tolls.

A green light in Pennsylvania could bolster the political will of officials in other states trying to hash out similar deals. That in turn could jump-start projects in waiting, from Florida’s Alligator Alley to Chicago’s Midway Airport. Last month, New York Gov. David Paterson urged legislators to consider leasing some of his state’s roads, bridges and tunnels to help shrink a budget deficit projected at $26.2 billion by 2011.

Proponents say the lease approach could provide financial relief to state governments struggling with foreclosures, ballooning pension obligations and reduced tax bases. That’s not to mention crumbling roads — and lately, a drop in tax revenue to pay for repairs, owing to high gasoline prices that have reduced driving. The U.S. needs about $1.6 trillion in investment over the next several years to bring infrastructure conditions to acceptable levels, according to the American Society of Civil Engineers.

Pennsylvania’s needs rank among the highest in the nation; the state’s Department of Transportation estimates it will cost $11 billion just to repair the state’s bridges. Drivers complain about the turnpike’s potholes, insufficient shoulder room, and continual construction.

As much as states need money to fix their roads and bridges, Wall Street firms are eager to supply it. With the industry’s core businesses in distress from the credit crisis, so-called infrastructure funds — which have already raised more than $160 billion, according to Morgan Stanley — have emerged as one of the most promising growth areas in years.

Yet this hot area is already suffering growing pains. The end of cheap credit has forced all funds to borrow at higher rates, severely crimping profits at some of the leading infrastructure funds. The share price for Australia’s Babcock & Brown Ltd., one of the bigger publicly traded funds, tumbled 36% on Thursday to a record low after reporting a large decline in earnings, before rebounding. Shares of another Australian fund, Macquarie Group Ltd., have also sold off this year.

Pennsylvania Turnpike
Known as the nation’s first Superhighway, the Turnpike opened in 1940.

Those financial pressures are unlikely to affect the Pennsylvania deal, which already has a check in hand. But it might not have the votes to cash it. Gov. Edward Rendell, a Democrat who has championed the project, concedes that “the concept of leasing the turnpike is a decided underdog.”

Detractors, from the Turnpike Commission itself to labor unions, question whether the state is selling too cheaply. They also worry that jobs will be lost — under the proposal, union contracts are guaranteed only until 2011 — and that tolls will rise. The new operators can raise tolls 25% in 2009, then keep them in line with inflation every year.

More broadly, in a country that has often mythologized the car and the open road, the deal is sparking debate about whether America’s highways are too much a part of the national fabric to be controlled by anyone but the public. Adding to the backlash: Many of these private funds come from outside the U.S., where investors have reaped huge profits from rising oil and commodities prices and are looking for new places to put their money. The consortium vying to lease the Pennsylvania Turnpike includes Citigroup Inc. and Abertis, a Spanish toll-road operator.

Crowds opposing the deal have gathered along Route 209, in the northeastern part of the state, waving signs like “Pennsylvania’s Not For Sale,” as truckers honk horns in approval.

“Americans built this turnpike,” says Catherine Johnson, a nurse in Tarentum, Pa., who regularly drives the turnpike. “Why do we need someone else to operate it?”

The lease agreement is not the first time the nation has looked to the Pennsylvania Turnpike for a glimpse into the future.

The highway heralded a new era of transportation when it opened in 1940. A year earlier, a World’s Fair exhibit in New York sketched out an exciting vision of a publicly funded highway system that would crisscross America, connecting East to West. The exhibit, commissioned by General Motors Corp. and dubbed “Futurama: Magic Motorways,” enthralled an audience that still relied heavily on railroad travel.

The 160-mile stretch that initially connected the outskirts of Pittsburgh in western Pennsylvania with Harrisburg, the state capital, embodied that vision; it is often touted as the nation’s first superhighway. Service plazas along the road sold postcards, banners and other turnpike trinkets. Many drivers apparently saw it as an American autobahn; the turnpike’s wide, gently sloping lanes encouraged speed, and the road opened without a speed limit. A series of accidents eventually led to a 70-miles-per-hour rule.

Nearly seven decades later, the turnpike and other Pennsylvania roads are in worse shape than most. The state has 6,000 structurally deficient bridges. Pounded by harsh winter weather and hard-driving 18-wheelers, some 9,000 miles of highway are in poor condition, according to the state’s Department of Transportation.

“Seems like they are always having to do work on it, always having to fill potholes,” says Helen Elborne, a self-employed resident of Harmarville, in the southwestern part of the state. “There are a lot of accidents.” Ms. Elborne often takes the turnpike on trips to Ohio, where she says “the roads are better.”

Saving the Skyway

While private investment in state infrastructure has been around for decades in other parts of the world, it hasn’t caught on in a significant way in the U.S. State governments have turned instead to the municipal-bond markets for much of their funding. But this decade, costs for health care, education and pensions mushroomed.

Since 2005, eight states have enacted legislation enabling officials to sell or lease highway or transit infrastructure, bringing the total to 25 states, according to the U.S. Department of Transportation. Infrastructure funds recently acquired long-term leases for the Indiana Toll Road and the 7.8-mile Chicago Skyway bridge. Chicago has used about half of the $1.8 billion in lease fees to retire debt and to boost emergency reserves. It has also used the money to fund homeless programs and job-training initiatives.

In bad shape just three years ago, the Skyway itself has been given new life. Australia’s Macquarie Infrastructure Group and Cintra, another Spanish toll-road operator, together leased the bridge, filled in potholes and added electronic tolling that can process nearly triple the number of cars as the cash lanes can. They also installed reversible lanes, so that the bridge can better accommodate periods when traffic flows are particularly strong in one direction.

Abertis, the Spanish company hoping to lease the Pennsylvania Turnpike, operates motorways in the U.K., South Africa and Chile. It points to its other ventures in the U.S. as proof that it can turn around a sinking ship — or in one case, an airport. The company took over operations of the Orlando International Airport in Florida in 1996, paying $20 million for a 30-year lease and assuming $30 million in debt. Since then, it has invested $70 million on upgrades, from parking spots to expanding the gates. Last year, Orlando officials extended the lease for 30 more years.

In Pennsylvania, Abertis says it and its partners are committed to spending at least $11 billion on the turnpike over the proposed lease period. Its plans include wiring fiber optics and installing a series of tiny monitors and cameras across the length of the turnpike. Abertis says this equipment, combined with an independent fleet of roving patrol cars to supplement the state Highway Patrol, will enable it to detect accidents in five minutes or less. That could get help on the way faster, and warn motorists earlier to detour. Currently, Abertis says, it takes the Turnpike Commission up to half an hour to detect an accident.

Other improvements would be more subtle. Jordi Graells, managing director of Abertis, says turnpike workers now sprinkle too much salt on the roads before winter storms. Salt can enter the ecosystem, damaging trees and other vegetation. Abertis workers, he says, are trained to add just the right amount of salt to minimize the environmental effects.

Carl DeFebo, a spokesman for the Turnpike Commission, says, “When it comes to winter maintenance, turnpike crews do whatever it takes to keep the road open in the heaviest snow and ice storms.” He says the salt is necessary to de-ice the roads “despite some infrequent impacts to plants near the highway.”

Regarding accident detection, Mr. DeFebo says the commission uses the latest technologies and is working to improve incident detection and response times.

The Turnpike Commission, which has operated the road for nearly 70 years and is run by officials appointed by the governor,

says it can fix the highway without foreign aid. It plans to invest $4.8 billion over the next 10 years, and a fiber-optic network is in the works, though “it is going to take some time,” Mr. DeFebo says.

The commission estimates the turnpike can generate $83.3 billion in revenue for the state over 50 years. But it first has to receive federal approval to add tolls to Interstate 80, which runs parallel to the turnpike in the northern part of the state, or that figure could be cut in half.

‘The Last Bastion’

The commission, some charge, has another reason for not wanting to turn over control of the turnpike: The politically powerful group is often accused of filling jobs with friends or relatives of elected officials. “It is the last bastion of political patronage for both parties,” says Gov. Rendell. “Very few in politics want to mess up that arrangement.”

While the commission says it listens to lawmakers when filling job openings, “the turnpike is not obliged to hire referrals,” Mr. DeFebo says.

When Mr. Rendell campaigned for the governor’s job in 2002, he promised to tackle the problem of deteriorating road conditions. But the legislature failed to enact funding measures during his first two years in office. The spike in oil prices made an increase in the gasoline tax politically untenable. Toll increases weren’t much more popular.

In 2006, when Indiana leased its toll road, “the governor said, ‘Why don’t we consider something like this?'” recalls Roy Kienitz, a deputy chief of staff.

That deal, which brought the state $3.8 billion in exchange for a 75-year lease, has helped shore up Indiana’s finances, according to Standard & Poor’s Corp. In July, the ratings agency upgraded the state’s credit rating to triple-A.

A Lucrative Prospect

The lucrative prospect of running a turnpike more than three times the length of Indiana’s toll road quickly attracted myriad banks, funds, toll-road operators, law firms and other contractors.

But Gov. Rendell found little enthusiasm in the state legislature. Then in August 2007, the collapse of a Minneapolis bridge across the Mississippi River, with 13 deaths, sparked a nationwide re-examination of structurally deficient bridges. The tragedy brought a new sense of urgency to find funds for repairs, and the governor renewed his effort to lease the turnpike.

By early 2008, the field of bidders had been narrowed to two groups: the Citigroup-Abertis team and one led by Goldman Sachs Group Inc. In a second round of bidding, Pennsylvania gave the teams one week to come up with their final offers. The Citi group’s $12.8 billion bid won.

With less than three weeks to go until the Pennsylvania legislature returns from summer recess, Gov. Rendell says he plans to meet with as many lawmakers as he can to win them over. Most opposition comes from his own party. Prominent unions have also condemned the plan. The governor sounds less than enthusiastic about its odds. “This is very high on my list of priorities,” he says. “There’s still a decent chance it will pass.”

Corrections and Amplifications:
Abertis Infraestructuras SA runs the Orlando Sanford International Airport, which is in Sanford, Fla. This article about the Pennsylvania Turnpike incorrectly said Abertis runs the Orlando International Airport, which is in Orlando, Fla.