Bonding a Public-Private Partnership Project in the United States SEPTEMBER 18, 2012 VIRTUAL SEMINAR PRESENTED BY: Paul Ranalli, David McVicker, Courtney.

Bonding a Public-Private Partnership Project in the United States

SEPTEMBER 18, 2012

VIRTUAL SEMINAR PRESENTED BY: Paul Ranalli, David McVicker, Courtney T.Walker ZURICH SURETY UNDERWRITING

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PRESENTER BIOGRAPHY

Paul Ranalli is Senior Surety Account Executive/Practice Leader P3 with Zurich Surety. He is a 26 year veteran of the surety industry. He began his career with HMS Insurance Associates of Hunt Valley, MD in 1986. He worked in the branch and home offices of USF&G/St. Paul in Baltimore and in the Columbus, Ohio branch offices of St. Paul/Travelers and Zurich NA. Mr. Ranalli joined Zurich in 2004 and is presently transitioning from field office account responsibility to P3 Practice Leader for Zurich Surety.

David L. McVicker is a Vice President with Zurich Surety and a 30 year veteran with the company. He has participated in the underwriting and bond issuance on numerous P3 transactions. In 1980 he started with Zurich -- Fidelity & Deposit Company of Maryland -- in the Internal Audit Division and Comptrollers Department. He began his surety career with the underwriting team, holding various management positions in the Financial Guarantee and Contract Divisions. In 2006 Mr. McVicker became Senior Underwriting Officer in the Large Account Group and was promoted to Vice President, International Surety in early 2010 before becoming Vice President of Surety, responsible for contract underwriting for the Central Region of the U.S.

Courtney Turnage Walker is an Assistant Vice President for Surety Product Underwriting for Zurich North America. She has been in the surety industry for over 20 years where she has been employed as a surety claims attorney, as outside counsel with a surety and fidelity specialty law firm, and as a risk manager for surety underwriting. Ms. Walker helped develop a P3 bond form for Zurich and has been involved in the risk analysis of several P3 projects. She is a member of the Louisiana and North Carolina Bar Associations, the American Bar Association and is active in the Fidelity and Surety Law Committee within the ABA.

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WHAT WE WILL COVER TODAY

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• P3 History/Viability/Transactions (pp. 4-6)

• Types of P3 Surety Bonds/Terms (pp. 7-10)

• P3 Structure and Agreements (pp. 11-12)

• Stages of P3 Process (pp.13-17)

• Surety Underwriting Specific to P3 Projects (pp.18-20)

• The P3Client/Advantages of Surety Bonds for P3 Security (pp. 21-22)

• Where is P3 market going in the U.S.? (p. 23)

• Resources, Q&A (pp. 24-25)

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HISTORY OF P3 MARKET IN THE U.S.

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Letter of Credit (LOC) Surety Bonds

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P3 – IS IT VIABLE FOR THE US?

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P3 – TRANSACTIONS PER STATE

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TYPES OF SURETY BONDS AVAILABLE FOR P3 PROJECTS

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PROPOSER BOND FINANCIAL CLOSE

BOND

PERFORMANCE BOND

PAYMENT BOND

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P3 TERMS TO KNOW

Design-Build (DB): The private sector designs and builds infrastructure to meet public sector performance specifications, often for a fixed price, so the risk of cost overruns is transferred to the private sector. (Many do not consider DB's to be within the spectrum of PPP's).

Finance Only: A private entity, usually a financial services company, funds a project directly or uses various mechanisms such as a long-term lease or bond issue.

Operation & Maintenance Agreement (O.M.A): A private operator, under contract, operates a publicly-owned asset for a specified term. Ownership of the asset remains with the public entity.

Build-Finance: The private sector constructs an asset and finances the capital cost only during the construction period.

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P3 TERMS TO KNOW - Continued

Design-Build-Finance-Maintain (DBFM): The private sector designs, builds and finances an asset and provides hard facility management (hard fm) or maintenance services under a long-term agreement.

Design-Build-Finance-Maintain-Operate (DBFMO): The private sector designs, builds and finances an asset, provides hard and/or soft facility management services as well as operations under a long-term agreement.

Build-Own-Operate (BOO): The private sector finances, builds, owns and operates a facility or service in perpetuity. The public constraints are stated in the original agreement and through on-going regulatory authority.

Concession: A private sector concessionaire undertakes investments and operates the facility for a fixed period of time after which the ownership reverts back to the public sector.

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P3 TERMS TO KNOW - Continued

Lender's Direct Agreement (LDA): This is an agreement between the Owner, ProjectCo and the Lender(s) which sets out the Lender's ability to "step-in" to the shoes of ProjectCo in the event of a material breach or default by ProjectCo under the terms of either the Project Agreement or the Credit Agreement.

Request for Proposal (RFP): This is an announcement, typically often by a government agency, of a willingness to consider proposals for the performance of a specified project or program component

Request for Qualifications (RFQ) : procurement tool routinely used by state and local governments and the private sector to select partners in major systems acquisitions, mainly those involving real estate development transactions.

SPV- Special Purpose Vehicle aka Developer, Project Co.: the private entity that contracts with the public entity to design, build, finance and sometimes operate and maintain the project.

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A TYPICAL PPP STRUCTURE

Owner

Project Co

Design -Builder

D.B.A. O.M.A.

Operator

Lender(s)

P.A.

C.A.

Surety Bond

M.O.R.

M.O.R.

M.O.R (Multiple Obligee Rider)P.A. (Project Agreement)C.A. (Credit Agreement)D.B.A.(Design Build Agreement)O.M.A. (Operation & Maintenance Agreement)

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AGREEMENTS IN A P3 PROJECT

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TYPES OF AGREEMENT AGREED PARTIES

Project Agreement Owner and Concessionaire or Project Co

Credit or Direct Agreement Developer and Project Finance Lender

Design Build Agreement Developer and Contractor

Operate/ Maintain Agreement Owner/Developer and O&M Contractor

Related Agreements and Schedules

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STAGES OF P3 PROCESS

STAGE 1: Request for Expression of Interest (RFEI)

STAGE 2: Request for Qualifications (RFQ)

STAGE 3: Request for Proposals (RFP)

STAGE 4: Proponent Chosen

STAGE 5: Commercial Close & Financial Close

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3P PROCESS – STAGE 1 & 2: RFEI / RFQ

Understanding the Prime Team Members (roles, what they offer, prior P3 experience, etc.)Review the Teaming Agreement or Memorandum of Understanding (MOA) between Prime Team MembersOverview of the project, anticipated term (Construction and O&M)Skin-in-the-game?Availability Payment or Concession?Anticipated nature of financing (Bond Issue, Bank, Bridge Loan, etc).Identity of Senior Lenders / Debt and Financial Arranger

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3P PROCESS – STAGE 3: RFP

Review of Project Agreement (PA), all related Schedules, Lenders Direct Agreements, and other support agreements. Project Co Structure – Project Team/ Prime Members, ownership, proportionate equity or LOC requirements, term of equity.How are equity/ LOC requirements to be funded / met, and the associated term of commitments.Copy of Financing/ Credit Agreement, or Pre-Sale Report if a Bond issue.Copy of any relevant project rating (ie. S&P, Moody’s, etc.)A summary of the proposed security package/ performance supports.A copy of the Lender’s Technical Advisor (LTA) pre-RFP-close report.Proposed Financial Model, Cash Flow, Construction Sched. (if not in the LTA report).A copy of the Lender’s Insurance Advisor (LIA) pre-RFP-close report.Anticipated Project Cost Breakdown to include: cost of financing, cost of construction, project overheads, soft costs, life cycle (O&M) budget, contingencies, margin.

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It is during this window between the naming of a preferred proponent and commercial close in which significant negotiations occur on all commercial terms. Essentially, updates/ reconfirms all required in Stage 1 -3Lead time is critical during this Stage (updates, including black-lined versions of all documents with each and every turn)Bond Forms negotiated among the Surety(ies), Contractor and Lender/Funder and Rating Agency.Multiple Obligee Rider negotiated with any co-obligees (typically the Owner and Lender)

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3P PROCESS – STAGE 4: PROPONENT CHOSEN

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Commercial Close is representative of the day on which all project documents (including the credit/finance agreement, but not the financial model) need to be finalized and executed and is generally 60 days after the naming of a preferred proponent or winning bid.Financial Close is representative of the day on which the financial model is finalized, rates are set, and the financial structure becomes fixed and is generally no more than 30 days subsequent to Commercial Close.The current commercial trend is towards shortening this time frame (to remove the risk of adverse market conditions developing), and in some instances, Commercial Close and Financial Close occur on the same day, or within 24 hours of one another.

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3P PROCESS – STAGE 5: COMMERCIAL CLOSE & FINANCIAL CLOSE

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UNDERWRITING CONSIDERATIONS SPECIFIC TO P3 PROJECTS

What is Relationship of Developer/SPV to the DE Contractor and/or O&M Contractor?

What is Contractors past experience with SPV? What is Financing Structure of job? (Availability Payments or

Concession Revenues as source of payment. Equity Financing, Bank Financing, Bond Issuance )

What are potential financial risks to Contractor (and Surety)? What are the bonded obligations? – limit to design/construct

and exclude Concessionaire activities. Does Contractor have an Equity Interest in SPV? Are Dispute Resolution procedures defined in contract?

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SURETY U/W AREAS OF FOCUS – P3 TRANSACTION ISSUES

Pass thru of project agreement obligation to Design Build Agreement and O&M Agreement (normal contractual T&C’s )Bonded obligation related to constructor not developer activities No obligation of finance guarantee or credit enhancementImpact of Lender’s rights on the Surety’s rights Funding terms and availability of funds in event of defaultSpecific security requirements – liquidity, performance, otherMultiple Obligee Rider RequirementsO&M usually not bondedSub/ supplier securityInsurance/ contingencies

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SURETY U/W AREAS OF FOCUS – ENSURING APPROPRIATE BOND LANGUAGE EXCLUSIONS

Financial regulations and constraints (aka Appleton restrictions) Bonded Obligations should not include non-construction obligationsFinancing CostsBreakage FeesLiquidated DamagesOther DamagesOperations & MaintenanceExamine definition of Events of Default

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THE P3 SURETY CLIENT

Best in Class Contractors (excellent history of building)Financially strong credits (strong JV team)Sophisticated risk managersTypically larger contractors in scaleIndemnity - all project level participants/ DB contract guarantors

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ADVANTAGES OF SURETY BONDS FOR P3 SECURITY

DB Contractor’s motivation for bonded P3 project – Continuing Surety RelationshipSurety expertise with troubled projects vs. a lender’s experienceSignificantly increased performance and financial security to owner and developerReduced financial impact on contractor’s balance sheet with Surety Bond vs. cost and collateral for an LOC

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WHERE IS P3 MARKET GOING IN THE U.S.?

FMI Research Group reports - “The number of construction projects in the US that are more than $1billion has gone from zero in 2005 to 104 in 2011."*PA latest state to pass P3 legislation and 31 states have P3 laws.Many state agencies are exploring P3, but it is a tremendous learning curveP3 procurement model will be a staple over the long termPublic debt will be cheaper than P3, in just about every instance. However, P3 offers efficiency of the private sector in financing, design, construction, operations and maintenance

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*Source: 2012 Issue 2 FMI Quarterly , ‘What’s Ahead for P3s in the US?

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RESOURCES

www.NCPPP.orgNational Council for P3

www.fhwa.dot.gov/ipd/index.htmUS Department of Transportation Innovative Program Delivery

www.pwfinance.netTrade Journal : Public Works Financing – the journal of record for P3 in infrastructure development since 1988

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QUESTIONS?

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Paul Ranalli, Sr. Surety Account Executive/Practice Leader P3 Zurich SuretyTel:614-934-1249E-mail: [email protected]

If you do not have the opportunity to have your question addressed during the Seminar, you may contact the presenter directly: