News Analysis: Could BABs beat brownfields?

Under proposed revisions to the US’ successful Build America Bonds programme, issuers could use the bonds’ proceeds to refund debt from existing assets and fund current capital needs. Compelling reasons would remain to auction off an asset instead, but investors are going to have to work harder to prove their worth.

Looking back on 2009 the greatest fundraising success for infrastructure arguably didn’t happen in the private sector: through December 2009, state and local governments across the US raised $64 billion of capital through the use of the government financing programme, Build America Bonds.

Compare that with the estimated $10.7 billion raised by private infrastructure fund managers globally, and a familiar question is likely to revisit one’s mind – is the Build America Bonds’ (BAB) success a threat to public-private partnership investors and developers?’

In October 2009, when Infrastructure Investor magazine first looked at this question, the answer we got from the industry was a cautious “not much, if at all’. After all, the securities created by BAB issuances sit in a different part of the capital structure and serve very different needs than private capital for infrastructure projects.

But with US President Barack Obama’s recent proposal to extend and reform the BAB programme beyond its 2010 expiration date, there is an important need to revisit this question. The answer to whether BABs are a threat to PPPs, though, becomes more murky, especially with regard to brownfield transactions.

Think of it this way: if you’re a city or state issuer of public debt and you have some existing assets you’d like to monetise, you can do one of two things: you can raise debt via a bond offering or you can auction off the asset and raise equity.

Under the existing rules for BAB, the issuers – limited to government entities like cities and states – could only use the proceeds for capital expenditures for new projects. The reason for this limitation, ostensibly, was because the US was in the midst of recession and there was, and still is, a need to build and create jobs.

President Obama now seems to have brighter economic views for next year. Under his proposed changes for BABs, effective 1 January, 2011, a broader array of issuers – not just governments, but also non-profits – could use the bonds’ proceeds to fund, not just future capital expenditures, but also refund past debt issues and fund ongoing spending needs, such as working capital. (To read more about these changes, see p. 138 of the newest edition US Treasury’s Green Book, a document that fleshes out all the President’s revenue proposals).

This increased flexibility would be weighed down somewhat by the fact the subsidy for BABs would not be as sweet. Faced with intense political pressure to tighten the government’s belt, President Obama has proposed to only subsidise 28 percent of the issuers’ interest, as opposed to the current 35 percent.

Still, the end result could be that the debt-raising option becomes more attractive for governments looking to monetise their assets. It’s an option that’s always been there, as a city or state issuer can always retire old bonds with traditional tax-exempt bonds, provided they can “call” the issue or make the bond holders sell their bonds. With an 28 percent subsidy for interest costs that call might become easier to make.

And if the politics surrounding PPPs remains as difficult as it’s been, BABs could become even more attractive to local governments. After all, why go through all the political trouble, and the potential threat to re-election, when you can securitise the cashflows from your parking garage or meter system  at a more attractive rate than you could before using Build America Bonds?

For those willing to brave the potential political fallout of PPPs, the proverbial pot at the end of the rainbow will still be worth it. After all, subsidsed debt is still debt. But equity, and its many positive uses – like replenishing depleted pension coffers – is arguably more precious than ever. Indeed, the flurry of parking assets coming to market and the project pipelines in Puerto Rico and elsewhere looks encouraging. And not every government-owned asset has debt capacity for more BABs, so for some a concession may well be the only option.

But, if President Obama’s rules do get adopted, future investors may need to be prepared to start bidding more aggressively against this subsadised alternative – and be able to have a more frank and sophisticated conversation surrounding all these issues.