California constitution may hinder PPPs

Public-private partnerships have made their way onto the agenda in California, but constitutional debt restrictions are a possible hindrance. In an exclusive article for Infrastructure Investor, two leading lawyers explore how potential issues can be negotiated.

A leading law firm has cautioned that constitutional limitations in California mean that government agencies may face difficulties in structuring public-private partnerships (PPPs) which contemplate long-term availability-based concession payments.

Availability-based concession agreements provide for periodic payments by public entities in return for a private entity constructing, operating and maintaining a project in a manner that ensures availability for public use in accordance with specified criteria. 

In an article for the October 2010 issue of Infrastructure Investor, Latham & Watkins partners Warren Lilien and Ursula Hyman point out: “While PPPs offer benefits to both the public and private entities participating, the picture is more complicated in California because its constitution prohibits certain public entities from taking on any indebtedness that exceeds the current year’s income and revenue without qualified electors approving the debt.”

The authors go on to say that the limitation “generally precludes specified public entities from guaranteeing future payments”.

They say that a common way to avoid the restrictions is to include a provision in multi-year contracts that payments in future years are subject to appropriation in future years’ budgets. “Under this construct, investors accept the risk that the controlling body of the applicable public entity will continue to make the future payments even though there is technically no legal obligation for the public entity to do so.”

The full version of the article (see “Old rules, new problems” link, top right) goes on to explore all relevant issues in relation to the applicability of the restrictions: namely, the meaning of indebtedness; the kind of contracts proposed for PPPs; the source of funds used to make concession payments; the party obligated to make the payment; and the contractual provisions that may give the private party additional protection against a public entity default.

California and its municipalities have been increasingly turning to PPPs as an efficient means of tackling vital public projects while limiting budgetary strain. Among PPP projects currently in the pipeline are the Presidio Parkway and Long Beach courthouse.