Angry in the Great White North

The Durham Region courthouse is a fascinating project. It is a template for how Dalton McGuinty's Liberal government in Ontario handles public-private partnerships (P3 or PPP), which is a method for getting public projects like courthouses and hospitals and roads built by enlisting private companies.

I've already looked at how the Durham Courthouse is being funded by a bond offering promising to reward investors with a very generous interest rate, the interest being paid by the Ontario government. I've also looked at just how the private consortium has actually invested very little of its own money in the project (much lower than the average for the equity investment of a P3), and how that is a red flag when it comes to controlling costs.

We've already seen how the new hospital in Sarnia has doubled (or more) in cost, and the likelihood is that the government will bail the project out.

The private partner in the courthouse project was the consortium Access Justice Durham. AJD was itself bought by the Australian investment firm of Babcock & Brown on March 2, 2007, the same day as the award was announced and the same day as the bond offering was made.

On September 18, Babcock & Brown chairman Keith Dorrian held a conference call to discuss financial performance:

I am pleased to report that the Company has performed successfully during the six months to 30 June 2007. The individual economic interests that make up the portfolio have all performed at, or in excess of the Directors' projections. In accordance with the Directors' declared intent, the Company has commenced the broadening of its international exposure with the acquisition of Durham Courthouse in Canada.

Interests acquired during the period

Durham Courthouse
% economic interest: 100%
Status:Construction (completion due late 2009)

The PPP Council of Canada carried a similar announcement:

Babcock & Brown is a global investment and advisory firm with longstanding capabilities in structured finance and the creation, syndication and management of asset and cash flow-based investments. Babcock & Brown was founded in San Francisco in 1977 and listed on the Australian Stock Exchange in October 2004. Babcock & Brown operates from 26 offices across Australia, North America, Europe, Asia, United Arab Emirates and Africa and has in excess of 1,000 employees worldwide.

Babcock & Brown is a well established developer and operator of Public Private Partnerships and has a dedicated fund PPP fund, Babcock & Brown Public Partnership (BBPP). BBPP was listed on the London Stock Exchange on 9 November 2006, raising £300 million, which was used to acquire the initial portfolio and to provide a platform for future acquisitions.

The seed assets acquired by BBPP were all previously owned by Babcock & Brown and a group of private investors. Babcock & Brown either developed or acted as financial adviser in respect of all of the initial projects. Since listing, BBPP has acquired a 12.75% equity interest in the Reliance Rail project in Australia and 100% equity interest in the Durham Consolidated Courthouse in Canada.

Now let's be clear. BBPP is not carrying 100% of the estimated $214 million cost to build the courthouse. The total investment by AJD is a mere $15 million, or just over 6% of the projected cost. Typically in a P3, the private partners will invest something approaching 30% of the total cost, while raising the remainder on the bond market.

AJD raised almost 95% of the cost using a 5% bond offering. Ontario taxpayers will be paying back the bond over the next 30 years.

Still, you would be forgiven if you thought BBPP was putting up the whole cash. Over and over again, news releases and news reports pound away at th 100% stake:

Babcock & Brown PPL, which raised around 300 mln stg in its LSE listing last November, increased its net asset value by 5.2 pct to 322.4 mln stg in the period and said it has 61 mln stg in uncommitted cash available for investment.

The company, which aims to be a quality provider of PPP financing, said it believes that its outlook is positive and continues to review a 'large number' of possible investment opportunities.

In the six month period, it has carried out its first investment in a Canadian PPP project, acquiring a 100 pct interest in 30-year Durham Courthouse project...

The official news release from BBPP announces the acquisition of 100% of the equity in the $214 million dollar project in the first paragraph, and then in the third paragraph mentions the actual amount of cash spent to acquire the equity -- $15 million.

According to data at the London Stock Exchange, in March (when BBPP took control of AJD), the share value was at about 102 pounds. By midsummer, the stock value had risen to 114 pounds, and today it sits at 106 pounds.

The point is that the $15 million investment to take control of AJD was made back within days, at the most weeks, of the initial investment. Certainly there is no concern about recouping the investment being contingent on the actual completion of the courthouse.

Talking about 100% equity investment sounds like you are buying bonds from a company that has a $200 million stake in the project and so is seriously concerned about the long term success. Instead, on the scale on which these firms operate, a $15 million investment is something that is quickly turned around. And remember that BBPP hasn't even thrown in the $15 million yet, since they have 30 months after the Closing Date of March 2, 2007 to come up with the money. That's after the courthouse is finished. So they've already made over $15 million in profit on $15 million they might not even have spent yet, or at least on $15 million that does not have to be handed over to pay for the construction bills yet.

Not that $15 million covers all that much. Remember that it is just over 6% of the total cost, assuming no overruns.

Of course, Ontario taxpayers will be paying back the 5.015% interest on the bonds covering the other 95% of the cost of the courthouse over the next three decades.

I wonder if that "100% equity" line helped convince people to invest. I don't think BBPP did it on purpose, but it sure sounds better that way. A lot better than "100% equity contributing 6% of the total investment", which makes you sound like a bit player in the project.

It seems to me that if Dalton McGuinty is going to proceed with P3 projects, he ought to insist that the private partners act like partners, and contribute a much larger share into the pot. That will keep out the bit players who don't have the capital to play with the big boys. It reduces the reliance on bonds that are an added burden on the taxpayer. And it will definitely make the private partners much more concerned about keeping costs under control, since they stand to lose a much bigger stake if the project is poorly managed and if costs are not controlled.

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