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Public-private construction partnerships lead to complex insurance risks

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Public-private construction partnerships improve the public sector's access to capital and expertise, but also result in more complex insurance arrangements.

Known as P3 projects, public-private partnerships have long been used in construction in Europe, Canada and Australia. They have gained ground in the United States in recent years as cash-strapped public entities recognize their value in attracting private capital.

Meanwhile, benefits for the private partner from these arrangements can include receiving the right to collect revenues from the project, such as highway tolls, or getting periodic payments from the public entity based on performance.

Thirty-three U.S. states and Puerto Rico have approved legislation permitting these partnerships, but only a handful of states have been active in deploying the multiple-partner funding approach, which has been used most often to build highways.

More growth, though, is anticipated.

“Our view is that the delivery system will see a fairly steep trajectory over the next three to five years” as more public entities adopt this approach, said Geoffrey Heekin, Chicago-based executive vice president at Aon Infrastructure Solutions, a unit of Aon P.L.C.

“It's a really dynamic way” to bring public and private funds together to complete projects “that may have been waylaid for years,” said Bill Sullivan, who heads Boston-based Berkshire Hathaway Specialty Insurance's casualty construction practice.

“You're able to tap into private-sector expertise” that is normally unavailable, said Todd Herberghs, executive director of the Washington-based National Council for Public-Private Partnerships. “A big advantage also is ... the private sector has incentives to do the work faster, and thus the projects are completed more quickly.”

“The key advantage to me is you're sharing the risk,” said Bill Johnson, now the Miami-based director of the Miami-Dade Water and Sewer Department and previously the director of PortMiami, where he ran the $1.13 billion Port Tunnel Project that he said opened in August on schedule and under budget. The underwater tunnel connects the port to Miami's interstate system and, among other advantages, reduces surface traffic on city highways.

Providing insurance for such projects is far from clear-cut.

The coverage “still depends on the contractual relationships between the concessionaire, which is the financial entity putting the financing together,” and the actual contractor who performs the work, said Brian Cooper, managing director of the national construction practice at Arthur J. Gallagher & Co. in San Francisco. “So it's still contract-driven, and the review of the terms and conditions are still the critical aspect of insuring these projects.”

Coverage includes regular construction insurance for the construction phase, though operational and maintenance issues can present challenges.

“Being able to price (insurance) becomes, at times, challenging, because there isn't a lot of history to draw upon in the U.S.,” Mr. Heekin said.

P3 projects introduce “a spectrum of risk that goes well beyond construction. It also speaks to the need to have proper insurance in place around the operation and maintenance phase, which can run as much as 50 years,” Mr. Heekin said.

Geoffrey Hall, New York-based senior vice president of construction for Ace USA, said the project owner might want insurance to cover the operation and maintenance of a P3 project in one contract. But insurers provide coverage for a specific period, and “we don't provide operational coverage,” he said.

Insurers and brokers must navigate project-by-project “because each one of them varies and is unique in and of itself,” Mr. Hall said.

Similarly, from a surety perspective, “the marketplace generally only wants to go out five years with their guarantee,” said Drew Brach, Marsh USA Inc.'s Grand Rapids, Michigan-based U.S. surety practice leader. One approach is to issue additional surety bonds in five-year increments, he said.

Dan Knise, president and CEO of McLean, Virginia-based broker Ames & Gough, has advised several state transportation departments on P3 projects. Because multiple parties are involved in such joint ventures, “suddenly you've increased the complexity of the project,” he said. That increases the likelihood that “more entities will try to sue you if something goes wrong.”

“There is very little homogeneity among” P3 projects, which can be run by different public entities, said Mike Hastings, Atlanta-based managing director and project risk practice leader at Marsh L.L.C. “Virtually everyone does it differently.”

Canada, where the approach is more advanced, has taken “a much more uniform approach across the various provinces than the U.S has,” said Mike Bond, Owings Mills, Maryland-based head of surety at Zurich North America.

“If we can come up with a more standardized approach or at least principles that are similar, I think we'll see more and more of these projects being done,” Mr. Bond said.

“It's a different delivery system, so you have to tailor the insurance coverages to meet the contractual requirements that are mandated” by the various states, said Tim McGinnis, Addison, Texas-based senior vice president for the national construction practice with Willis North America Inc.

However, “We're starting to see a little bit of uniformity in these insurance requirements, making it easier and more and more manageable to go out and either get insurance estimates or quotes” and implement coverage of such projects. “Familiarity helps with anything, and experience helps,” Mr. McGinnis said.