Public parking pains(2)

Chicago’s parking meter fiasco illustrates how rusty due diligence can put a huge dent in an infrastructure deal, writes Cezary Podkul.

It’s the kind of headline that would make any public-private partnership (PPP) investor cringe: “Chicago parking deal sparks anger, vandalism, legislation”.

Unfortunately, it’s all too real, and it shows how one misstep in a high-profile transaction like this can quickly snowball into an avalanche of controversy.

Shortly after the city handed over the keys to the city’s 36,000 parking meters to a Morgan Stanley-backed concessionaire for $1.15 billion, the concessionaire – Chicago Parking Meters LLC – raised parking rates, as per a city ordinance allowing them to do so.

However, collecting higher rates on parking meters isn’t as easy as it sounds. Canisters fill up with change more quickly and significant resources are required to re-calibrate the meters, collect the change and make sure that everything is operating smoothly.

Everything indicates that Chicago Parking Meters didn’t have the resources necessary to do this. Its chief executive officer, Dennis Pedrelli, admitted as much during a press conference in late March, when he said the company “under-estimated” the resources required for the system and was working to resolve the issues.

Cezary Podkul

Which means, of course, that this comes down to a due diligence issue for the winning bidder. In the world of private equity transactions, this is nothing new; buyers routinely get assumptions wrong and have to adjust to new realities. But in the world of infrastructure investing, an error in due diligence can translate into a subpoena from the Illinois Attorney General – as it did for Morgan Stanley.

More importantly, the whole fiasco has implications beyond this one deal. Now that 40 Chicago aldermen have egg on their face as a result of voting for this transaction, things are going to change for any investor attempting a similar transaction in Chicago.

Luckily, the ordinances they’ve proposed so far – one prompting more disclosure and another giving the city council more time to consider the lease terms and winning bids – aren’t too onerous.

But a scathing report from Chicago’s inspector general only adds to the fire: the report concludes that the city got nearly $1 billion less for the parking meters than what they’re really worth to the city.

The city’s former chief financial officer, Paul Volpe, was quick to tear apart the report’s “dubious” claims, including a “not defendable” 7 percent discount rate. Others on Wall Street point to an unrealistically low beta of .3 for the parking meter system (versus, say, .5 for an electric utility) and a risk-free rate of 2.19 percent based on Treasury Inflation Protected Securities. Both are inputs into the model that came up with the controversial 7 percent discount rate that led to the $1 billion valuation gap.

But while Wall Street scoffs at their numbers, the larger point goes unnoticed: the city’s aldermen don’t care what numbers the inspector general fed into the capital asset pricing model to get his valuation range. What they care about is that this kind of analysis wasn’t provided to them before they voted on the deal. Again, egg on face, so the next time a deal comes up for a vote, there will almost certainly be an independent city council advisor in tow.

One can only hope that other cities will learn from Chicago’s experience and not make similar mistakes, rather than not make similar deals.

But it just goes to show how one misstep can have huge repercussions for the whole market.