Wiggle room

In many ways, North Carolina may have bitten off more than it should have tried to chew on its first toll road PPP, with David Tyeryar, chief financial officer for the state’s department of transportation, admitting “it’s probably a bit more complicated of a project than the state should’ve gotten into on its first one out of the box”.

For one thing, despite the fact that the I-77 managed lanes project only encompasses a 26-mile stretch of urban highway in Charlotte, North Carolina, the Cintra-led I-77 Mobility Partners consortium will have to accommodate seven entry and exit ramps as well as connecting ramps to Charlotte ring road I-277. 

Perhaps even more complicated is the financing package for the 50-year I-77 managed lanes concession. It was delivered through a complex web including a $94.7 million North Carolina Department of Transportation (NCDOT) upfront subsidy, $103.6 million in private activity bonds (PABs), a $189 million TIFIA loan, and $248 million in equity. 

But where complexity gave birth to innovation is in the unique credit enhancement mechanism the state built into the contract to try and mitigate some of the traffic and revenue risk and ensure debt service and interest payments are made, especially in project’s early years.

THE AVAILABILITY CONUNDRUM 

Generally, US states tend to prefer availability payment contracts for toll road projects. This is partly to do with TIFIA’s preference for availability deals, says Tyeryar. However, under North Carolina’s tax code, availability payments are viewed as debt, and are therefore unfavourable from a budgeting standpoint, so that type of arrangement was out of the question for the I-77 project.   

Enter the developer ratio adjustment mechanism, or DRAM. Given that drivers in the Charlotte metropolitan region are relatively unfamiliar with toll roads, and there are no other nearby managed lanes projects to serve as a traffic benchmark, the DRAM was developed as a means to ensure that debt service will be met regardless of whether traffic projections live up to expectations. 

“The DRAM is a contingent subsidy that applies during the early years of the project, which are usually the riskier ones, where there’s more uncertainty about the traffic,” I-77 Mobility Partners chief executive Javier Tamargo explains. 

The way this works is, if the debt service coverage ratio drops below 1.0, then North Carolina’s treasurer will disburse up to $12 million in any given year of operations, with a cap of $75 million in contingent subsidies over the project’s lifetime. 

In preparing its base and rating case, Fitch saw this as a major credit positive, and in its break-even analysis, the agency found that “the project could perform materially worse than the [Fitch rating case] on a prolonged basis while still meeting all debt service obligations”. 

“The DRAM provides considerable additional credit enhancement for the project, particularly in the early years of operation when uncertainty exists as to demand for the managed lanes and their ability to generate significant revenues,” a report prepared by analysts Tanya Langman and Saavan Gatfield suggests. 

Fitch, which rated the project’s TIFIA loan and PABs at BBB- with outlook stable, estimates that I-77 Mobility Partners will likely need to draw about $31 million from the DRAM in order to meet obligations in the early years. But it also projects 6 percent annual growth, with revenues climbing from about $34 million in 2020, to $110 million in 2035 and $309.5 million at debt maturity in 2054.  

While the DRAM was not the only credit-enhancement mechanism deployed in the I-77 contract – a flexible debt service schedule, mandated senior debt, TIFIA, major maintenance repair reserves and a 14-year debt-free tail were listed among credit-positives – it allowed the state to push through a project with a much smaller firm commitment than it was looking to initially make. It also allowed it to minimise impact on borrowing capacity, with $12 million to be set aside from the state’s borrowing capacity throughout the years where a DRAM could be called upon.
All in all, Tyeryar calls the I-77 managed lanes contract North Carolina’s “perfect P3 deal”. 

“There’s TIFIA debt and there’s PABs in there, it’s all non-recourse for the state of North Carolina because it has an investment-grade rating in its equity investment,” said Tyeryar at the time. “If something happens to equity, that’s non-recourse to the state. It’s a fixed amount of money up front of $95 million with contingent liability over the life of the project of $75 million and we’re done. With $170 million in our cap, we get a $660 million asset.”

TOTAL RECALL? 

So far so good. But while most projects would be considered well clear of legislative hiccups once construction starts, a shadow was cast on the I-77 managed lanes project when news broke of a bankruptcy filing by the project company for the Texas State Highway 130 project, where Cintra is again majority partner, this time with Zachry American Infrastructure. 

Fear spread quickly and shortly after the filing, North Carolina Governor Pat McRory deployed NCDOT Secretary Nick Tennyson to the Lone Star State to ascertain whether or not his state’s I-77 project was in jeopardy of financial collapse. 

When he returned from his visit, Tennyson told local reporters there was nothing about the bankruptcy of “an independent entity or an independent project having financial trouble” that would lead to his state’s cancellation of the I-77 project. 

Tyeryar agrees that there is no reason for concern. “The deal is guaranteed with letters of credit, and our guarantees are with the parent, Ferrovial, not the subsidiary, Cintra, so we don’t find that to be an issue,” he explains. “Plus, we have letters of credit to back all of the other equity investments as well.” 

Despite these assurances, two separate bills to cancel the I-77 project have surfaced in the North Carolina House of Representatives, one of which has garnered support from a coalition of roughly 20 representatives. While one bill does not specify who would pay the contract termination fee – which the state legislature estimates at around $300 million – the second suggests that burden should fall on NCDOT. 

Tamargo did not have much to say about the current prospects for a total recall: “We will let the North Carolina legislature decide on what they’re going to enact and we will comply”. However, he confirms that with TIFIA and PABs secured, and with equity fully backed, “the company right now has all the funds needed to complete the construction and operation” of the project. 

Regardless of its fate, what the I-77 managed lanes project shows is that in any case where an availability deal is not an option, a DRAM could be a useful tool to keep in the box. Tyeryar argues the DRAM “could be useful in a lot of places if someone’s got an appetite to do it”. 

He admits that “on a different day, in a different time we may have said we don’t want the contingent liability and we will just put the $165 million up front. That’s what it all comes down to,” he says. “Do you put all the money in up front, or do you put in part of it up front and take the rest as contingent liability?”