Op-Ed: The Birth of a Public-Private Boondoggle
by Craig Ladwig
An exchange during a meeting this week of an Indiana city council says all you will ever need to know about those public-private “partnerships.” It is between a skeptical councilman and two prospective developers regarding a huge downtown renovation project.
The participants make clear that the elements of a “successful” public-private partnership are threefold:
- Establish a low-ball cost for the project, with taxpayers on the hook for overruns.
- Offset the “investment” of the eventual private owners, some of them unnamed, with front-loaded fees so they aren’t concerned about the lack of a serious market study.
- Pay three times what the project is worth, using someone else’s money.
Transcript of the discussion of a resolution pledging support for the Electric Works project at the Feb. 27 Fort Wayne City Council meeting (immediately prior to a 7-2 vote of approval):
Councilman Jason Arp — “I haven’t seen the pro forma (financial statement), but we are looking at 1.26 million square feet. Is that for both sides of the street?”
First Developer —”Yes, the existing campus is 1.2 million square feet.”
Councilman Arp — “So that would be for Phase I and Phase II. And using $15 per square foot and a 6 percent discount rate that gives us a present value of 157 million dollars. Does that sound about right?”
First Developer — “For . . .?”
Councilman Arp — ”The market value of the property, after everything is done, using a discounted cash flow valuation method?” *
Second Developer —”That seems in the range.”
Councilman Arp — “And we are going to spend $444 million from different sources — federal, state, city — but we are going to end up building something with construction costs that are $440 million that is worth $150 million?”
Second Developer — “Hence the public-private partnership . . .”
Councilman Arp — “So we are potentially paying three times what this is worth.”
First Developer — “Well, that $15-square-foot rent, which is what your analysis is based on, is the rent we are starting at in terms of what our base rents will be, so . . .”
Councilman Arp — “Yes, but a 6 percent discount rate is pretty generous and a 50 percent operating margin. You are getting the benefit of the doubt on these numbers.”
First Developer — “OK . . . but councilman, we would be happy to sit down (outside of council chambers) and go over the pro forma with you.”
Councilman Arp — “Great, but how much of a development fee are we looking at?”
Second Developer —”The development fee is at market or about 10 percent.”
Councilman Arp — “About 15 to 16 million dollars?”
Second Developer — “Correct.”
Councilman Arp — “How much equity are you putting in up front?”
Second Developer — “The total is . . . about $18 million.”
Councilman Arp — “So substantially all of it (the investment) gets repaid in a development fee at closing (before the project begins)?”
Second Developer — (Nods of agreement.) “Yes, but only a fraction at closing, the rest as we have rent stabilization.”
Councilman Arp — “Who will own this when it’s done?”
Second Developer —”The partnership” (detailing certain of the numerous private individuals and holding companies involved).
Craig Ladwig is editor of the quarterly Indiana Policy Review.
* A discounted cash-flow valuation method involves revenues (rents) less expenses in perpetuity discounted back to present value using a single expected return rate (the lower the rate, the higher the value).