The McDonnell administration soon will unleash $8 billion in new transportation spending on Virginia. But not everyone is convinced that borrowing billions for highway mega-projects is a wise use of the commonwealth's money.
By James A. Bacon
When Gov. Bob McDonnell took office in January 2010 with the promise to “get Virginia moving again,” his grand plans for addressing Virginia’s chronic transportation woes got off to a wobbly start. The General Assembly shot down his idea to raise money by privatizing the state’s ABC stores. After the Gulf spill, the Obama administration roped off Virginia’s offshore oil and gas resources, which McDonnell had counted on to generate royalties for transportation funding. And no one warmed to his proposal to erect tolls on the North Carolina border of Interstates 85 and 95.
Making matters worse, the new governor uncovered a mess at the Virginia Department of Transportation (VDOT) that took months to sort through. As the McDonnell team dug into VDOT finances, it found that maintenance work on state roads had fallen way behind schedule and money for construction was piling up unused in scattered project accounts.
“We were dealing with a whole organization and structure and funding that were in crisis,” said Secretary of Transportation Sean Connaughton in an interview with Bacon’s Rebellion. “They had lost control of their cash flow. We were trying to understand why we were putting dollars into one side of the machine and projects weren’t coming out the other end.”
The administration has since sorted out VDOT’s accounting, putting hundreds of millions of idle dollars to work, and now is focused on raising billions of new dollars through a combination of debt and private-sector investment. The state has accelerated the sale of previously authorized Capital Project Revenue (CPR) bonds -- $2.3 billion will be issued during McDonnell’s four-year tenure – authorized another $1.1 billion in GARVEE bonds backed by future federal transportation grants, scrounged up nearly $300 million for an “infrastructure bank,” and created an office dedicated to forging public-private partnerships. The potential exists to leverage the $3.4 billion in bond proceeds into as much as $4 billion in private investment. Add the idle funds uncovered in the VDOT audit and the total could approach $8 billion.
Despite the early setbacks, McDonnell’s transportation strategy is finally yielding tangible results. In recent months, Connaughton has put several long-delayed mega-projects on the fast track, such as a $2 billion expansion of the Mid-Town Tunnel linking Norfolk and Portsmouth, $1.8 billion to rebuild U.S. 460 between Petersburg and Suffolk, and the $200 million Charlottesville Bypass.
Some in the business community love it. The McDonnell team has “put VDOT’s house in order” and injected considerable capital into the system, says Jeff Southerd, executive vice president of the Virginia Transportation Construction Alliance. Virginia’s large-scale borrowing does not worry him. “You’ve got a triple A rating. When you’ve got low interest rates and projects ready to go, it’s a proper alignment of the planets to raise money.”
Ben Dendy, a lobbyist for the Old Dominion Highway Contractors Association, is impressed by the way the administration has found the money to fund long-discussed transportation projects and cut through the red tape to get them moving. “They’ve done a great job of taking projects that have been on the drawing boards forever and pushing them forward.”
Yet the positive reviews are tempered by business concerns that McDonnell has not developed any new revenue streams. “What’s missing – and the governor has acknowledged it – is any new, long-term, sustainable funding,” says Bob Chase, president of the Northern Virginia Technology Alliance. “There’s only so much you can do with bonds and infrastructure banks. Maintenance is draining $500 million out of the construction fund. It’s totally inadequate. The gas tax hasn’t been raised in 25 years. The seventeen-and-a-half cent tax [enacted in 1986] has the buying power of 8 cents or less.”
The smart-growth and conservation lobbies are leery for other reasons. They question the prudence of borrowing so much money at a time the nation is grappling with a debt crisis and debt-rating agencies have put AAA-rated Virginia on credit watch. Borrowing $3.4 billion is risky enough, they say. But using that money to facilitate private-sector borrowing on mega-highway projects borders on reckless. “It doesn’t fit well with fiscal conservatism,” says Trip Pollard, staff attorney for the Southern Environmental Law Center. “They’re spending all this money that previous administrations didn’t think was wise.”
Stewart Schwartz, executive director of the Coalition for Smarter Growth, raises a related point. Connaughton is in such a rush to pour concrete that he is not pausing to evaluate more cost-effective alternatives. Instead of dumping $200 million into the Charlottesville Bypass, which will be obsolete the day it opens, the money would have been far better spent by fully funding the “Places 29” plan to reduce congestion on U.S. 29 north of Charlottesville through a combination of parallel roads, access management, mass transit and walkable, mixed-used development.
Moreover, growth patterns have changed in the wake of the 2007-2008 housing crash. No longer is development expanding the periphery of the state’s three main growth regions, Northern Virginia, Hampton Roads and Richmond. Tight mortgage standards, high gasoline prices and changing demographics now favor in-fill and re-development – a reality that Virginia’s Six Year Improvement Plan has not changed to reflect. “They’ve got the money. They want to go with whatever’s on the books,” says Schwartz. “This is the last large plug of money that Virginia is likely to have for transportation for a decade or more. We have to be careful that we’re spending it on the right things.”
Schwartz is also concerned about a “lack of public process.” While others laud Connaughton for cutting red tape, smart growth advocates see him cutting corners. The transportation secretary funded the Charlottesville Bypass, for instance, with money that had to be transferred from other accounts. “No one would have known this from the [Commonwealth Transportation Board] agenda that this was happening. It was hidden under an update on small balance transfers under the six-year plan. You never would have known there was a $250 million transfer.”
One thing all sides do agree upon: McDonnell has broken Virginia out of the cash-starved stasis of the past several years. He may not have found a sustainable funding source, but borrowed money will juice the road building program for a few years at least. Whether the projects are well advised or ill, Virginia will be erecting a lot more steel and laying down a lot more asphalt.
Managing Cash Flow
In Connaughton’s analysis, VDOT’s cash management woes can be laid at the feet of David Ekern, the VDOT commissioner who served during the Kaine administration. Ekern brought with him a number of practices from Idaho, where he had run the state road program before coming to Virginia. The policies may have been appropriate for a smaller state, says Connaughton, but they didn’t transfer well to Virginia.
The first mistake was making every project a federal project, thus ensnaring it in additional layers of administrative procedure. “Only one third of VDOT’s money comes from the federal government but they wanted to make everything eligible for federal dollars,” says the transportation secretary. “They kept saying, ‘A project is a project is a project,’ whether it was putting in a new curb or managing an Interstate project.”
Under Kaine, Connaughton says, “The big projects consumed everything and all the little projects started falling to the wayside. Nothing happened.” That policy was the exact reverse of what makes sense. Because federal oversight adds complexity, ties up projects in red tape and creates delays, the McDonnell administration’s goal is to focus federal dollars on a small number of big-dollar projects and run smaller projects through the more streamlined Virginia process.
Other problems arose as a result of the controls the Kaine administration had installed to manage cash during the 2007-2008 recession. Fearing additional revenue shortfalls, senior management slowed project development, explained Cherry, Bekaert & Holland in an August 2010 performance audit. Routine, low-risk projects were subjected to reviews more suitable for big, complex projects. Engineering work was delayed until VDOT had enough cash in project accounts to certify to the central office. Money would be set aside for projects even if construction wasn’t scheduled for a half year later. As a result, funds accumulated in numerous accounts.
The virtue of the Kaine administration policy is that VDOT didn’t start construction work on projects until it had had all the money buttoned down. But hundreds of millions of dollars sat idle. In fiscal 2010, only $355 million was spent on maintenance projects -- $488 million less than the total allocation available.
Connaughton’s priority is putting that cash to work. The VDOT staff now gives monthly cash-balance updates at meetings of the Commonwealth Transportation Board. As of June 30, major fund cash balances stood at $1.39 billion, down from $1.84 billion last year. Total contract work underway is $2.4 billion -- $830 million more than last year.
Borrowing Billions
Improving VDOT’s cash management freed up hundreds of millions of dollars, but McDonnell needed billions of dollars to pay for expensive mega-projects like the Midtown Tunnel, the rebuilding of U.S. 460 and the Coalfield Expressway. Unable to find new sources of tax revenue, the administration embraced a strategy of borrowing billions of dollars, using the proceeds to jump-start public-private partnerships, and repaying the project debt with toll revenues.
In 2007, the General Assembly had authorized $3 billion in CPR bonds (subsequently bumped up to $3.18 billion) to pay for rail and highway projects. Bond sales were projected to run $300 million a year. A legal challenge and the recession delayed the first bond issue until 2010, when the McDonnell administration sold $500 million worth. In January 2011, McDonnell proposed accelerating the issuance of CPR bonds to $600 million annually for three consecutive years, bringing the total value of CPR bonds issued during his administration to $2.3 billion.
The first of the three bond sales occurred in May. The bonds, which are backed by state taxes collected on insurance premiums and other sources, won a AA+ rating by the Fitch bond rating service. The state will pay an interest rate of just over 4%.
Additionally, McDonnell won approval for the issue of $1.1 billion in GARVEE bonds, which are backed by future federal transportation revenue. Used to finance specific federally backed projects, GARVEEs allow the state to stretch payments over the 20-year life of the bonds, and the interest can be repaid with federal funds. Using GARVEEs, Connaughton explains, also maximizes the commonwealth’s ability to focus federal money on a few big projects while the state concentrates its own dollars on smaller projects, free from the entanglement of federal red tape.
The governor also funded the Virginia Transportation Infrastructure Bank (VTIB) with $250 million in audit-identified funds and $33 million from the Fiscal 2010 General Fund surplus. The stated goal in January 2011 was to increase funding to $1 billion by the end of the administration. The purpose of the Infrastructure Bank is to grease public-private partnership deals by means of subsidized-interest loans or outright grants to municipalities, authorities or private companies.
Connaughton insists that the borrowing is consistent with sound fiscal policy. First, he says, Virginia is keeping its debt under the limit required to maintain an AAA rating. Second, this is the ideal time to borrow. Virginia has an opportunity to take advantage of very low interest rates and excess capacity in the construction sector. “We’re seeing bonds selling at 4% and construction bids coming in 17% below our estimates,” he says.
Of 105 projects submitted to the CTB in calendar 2010, total bids came in at $754 million compared to estimates of $907 million, according to figures provided by Connaughton’s office. That’s a savings of $153 million. In Connaughton’s estimation, borrowing money at 4% to save 17% on construction bids is a great deal. In fact, he says, the ability to take advantage of such a situation is why Virginia works so hard to maintain a AAA rating.
“By June of next year, we’ll get four or five mega-projects that are essential to mobility in the state and get them at great prices while all the other states are sucking wind,” says the transportation secretary. “We’re building projects that will make us economically stronger coming out of the downturn.”
Public Private Partnerships
Virginia enacted legislation in 1995 that enabled the creation of public-private partnerships as a tool for supplementing state resources with private-sector capital and expertise. Pierce Homer, transportation secretary during the Kaine administration, made it a priority to develop public-private projects installing HOT lanes on the I-495 Beltway and the I-95 corridor in Northern Virginia, and he initiated some of the other projects that the McDonnell team is now working on.
While Virginia has enjoyed some success in public-private partnerships – commonly referred to as PPPs or P3s -- the previous approach was “project driven,” not part of a comprehensive strategy, says Connaughton. VDOT mainly responded to unsolicited initiatives from the private sector as opposed to defining the state’s needs and finding private partners to help address them. Connaughton’s goal is to map out the state’s transportation priorities and systematically explore where P3s make sense.
What the state lacked in previous administrations, says Connaughton, was an “internal infrastructure” to analyze P3 projects. “We didn’t have a normal way of accepting and dealing with them.” To take public-private partnerships to the next level, McDonnell created the Office of Transportation Public Private Partnerships (OTP3) and endowed it with the resources to hire a top-notch staff and outside consultants, as needed.
If personnel is policy, then the administration made a bold move when it hired Tony Kinn as director of OTP3. Kinn brought entrepreneurial experience as co-founder of James A. Weaver Company, which he helped grow into the largest food brokerage firm in the U.S., and deal making experience as executive vice president of the Federated Group, a giant in the retail grocery and food service industry. After “retiring” for the second time, Kinn was living in Charlottesville and engaged in new business development for the University of Virginia engineering school when the McDonnell administration tapped him to run the P3 initiative.
The governor has set aside $1.4 billion in hard cash for P3 projects, plus $283 million (so far) in the Infrastructure Bank. It’s Kinn’s job stretch those public dollars into billions of dollars in private investment.
The Midtown Tunnel project is an example of how much leverage the state can get from a P3. The state is putting up $395 million, says Kinn, while ERC, a consortium of Skanska Infrastructure Development, hte Macquarie Group and the Kiewit engineering and construction firm, is investing in $320 million in private equity and raising the balance of the $1.9 billion project through toll-backed debt – four private dollars for every public dollar. The project will address one of the worst congestion bottlenecks in Hampton Roads by constructing a new tunnel between Norfolk and Portsmouth, rehabilitating the Downtown Tunnel, upgrading the Martin Luther King Boulevard connection to Interstate 264 and making some smaller, related improvements.
Besides managing the Midtown Tunnel project, advancing the U.S. 460 deals and put the finishing touches on the Interstate 95 HOT lanes initiative, Kinn is preoccupied with developing relationships and building a team of strong professionals. “We are going to be very proactive with working with all localities, state agencies and planning commissions” to learn their transportation priorities, and also to cultivate the big players in infrastructure finance like Skanska and Macquarie. “We’re dealing with some of the best players in the world,” he says. “We want to create an atmosphere that Virginia is open for business.”
A critical challenge is to ensure that his office negotiates the best possible deals for Virginia taxpayers. That means gaining insight into the risks associated with a project and protecting against them – something that big corporations do as a matter of course in large deals but state governments do not. “You can’t take a knife to a gun fight,” says Kinn. “We’re building a very strong, reputable, talented team that is a good negotiating representative for the commonwealth.”
Building a strong OTP3 team will give the state options it never had before, says Connaughton. “Why did we finish the mid-town tunnel in record time? We got a proposal to a private-sector outfit and had a closing within two years. We’ll have a closing on [U.S.] 460 in less than two years. Why? In the past, you’d go to VDOT. The engineers reported to the chief engineer, and the environmental people to the chief environmental guy. It only came together at the commissioner level. Now I have an office with project managers whose whole focus is getting the deals through the process to the point where we can sign a contract.”
Mobility and Economic Development
The first round of transportation projects are ones that the administration inherited from the Kaine administration. “We need to get them over the finish line,” says Connaughton. Soon, he says, he expects the McDonnell administration to originate projects of its own.
The administration has three main key criteria for evaluating transportation projects. Does it improve safety? Does it increase mobility (reduce congestion)? And does it move freight? As the self-proclaimed “jobs” governor, McDonnell has given priority to projects with economic development potential. Given that emphasis, he found in Connaughton a good choice to execute his strategy.
Connaughton’s thinking was colored first by his experience as chairman of the Prince William board of supervisors, putting him in charge of one of Virginia’s largest county-funded road-building programs, and second by a stint as U.S. Maritime Administrator during the Bush administration. In Prince William, his priority was addressing congestion. As the chief of MARAD, his priority was moving freight through ports and intermodal connections with rail and highways. To make things happen, he doesn’t mind rocking the boat – or the cargo container, as the case may be.
Connaughton’s style is vividly on display in Hampton Roads, where he has shown aggressive oversight of the Virginia Port Authority. Citing a slow rebound from the recent recession – freight traffic has recovered more slowly than in competing ports like Savannah and New York – McDonnell announced in July the replacement of 11 of 12 members of the VPA board. As Connaughton told the Virginian-Pilot, “We are in real strong competition, and we need people on that board who are proven business leaders with experience in trade and in transportation and with finance and business practices that’ll help us recover and take us to the next level.”
Similarly, Connaughton viewed the Charlottesville Bypass controversy, at least in part, through a freight-moving prism. The Bypass was conceived around 1990 to circumvent a heavily congested patch of U.S. 29 north of the University of Virginia. Due to strenuous local opposition, the project was never funded beyond preliminary engineering studies and the acquisition of some right of way. However, the project was never removed from the Six Year Improvement Plan because it was a priority for Danville and Lynchburg, whose business communities viewed the U.S. 29 corridor as an economic lifeline for their manufacturing-based economies. The Bypass lived in limbo for years.
Figuring that the Bypass would never be funded, community groups in Charlottesville and Albemarle County devoted the past six years to refining an alternative – the Places 29 plan – that aims to improve mobility on the state highway more by reducing local traffic than adding capacity. Confronted with a seemingly irreconcilable conflict between the business lobbies in Danville and Lynchburg on the one hand and citizen activists on the other, the McDonnell administration cast its lot with the downstate business groups.
In his public statements, Connaughton emphasized that U.S. 29 was a “corridor of statewide significance,” meaning that its function was not to serve as a local commercial main street, as it had evolved into, but as a highway that moved freight and expedited economic activity. Indeed, in a letter to the Charlottesville-Albemarle Metropolitan Planning Organization, he stated that in exchange for the $230 million he had steered to the region for the Bypass and a related project, he expected local officials to tighten up local access – personal driveways, retail curb cuts, crossovers and street lights – that gummed up traffic.
The economic-development imperative also can be seen in the U.S. 460 project, which entails constructing a 55-mile, four-lane limited access highway to replace the existing four-lane highway that functions as the main street for a half dozen small communities between Petersburg and Suffolk. Connaughton terms it “the economic future of Hampton Roads” and “potentially one of the biggest economic drivers the state has seen in a long time.”
The Virginia Port Authority has ambitious expansion plans to capture a growing volume of international freight. The problem is that the road and rail infrastructure tying Hampton Roads to the rest of the country is inadequate to handle the projected cargo volumes. “I can’t keep sending all those trucks through I-64,” the secretary says. “We physically don’t have the room to do it.” The new U.S. 460 will allow the ports to increase volume without overwhelming existing highways.
The success of a port depends upon an ability to attract new distribution and manufacturing centers. Hampton Roads doesn’t have much land available. The new U.S. 460, running through sparsely inhabited land, “will become the manufacturing and distribution hub for not only the Mid-Atlantic but potentially for the country,” Connaughton says. “Think about what we’re going to have – we’ll have an interstate-grade road running parallel to Norfolk Southern and CSX lines connecting our port to I-95, I-85 and I-64." Economic development prospects are already scouting out property in the area, he adds, "because they see the opportunities.”
Likewise, Connaughton views the Coalfields Expressway, a four-lane highway running through three counties in far Southwest Virginia, as an economic boost to an economically depressed region. The cost, estimated at $4.7 billion in 2008, may seem exorbitant but coal companies will knock $2 billion off the price tag by moving much of the dirt in order to improve access to their mines. “It’s so cool,” says the secretary. “We are now moving forward with parts of the Coalfields Expressway, and it’s costing us 10 cents on the dollar. We’ve set aside $120 million that will get us $900 million of road.”
What’s Next?
It’s not clear where the McDonnell administration will go after it completes the current round of mega-projects.
In contrast to the aggressive posture adopted with downstate projects, the governor has been remarkably passive in dealing with the Rail-to-Dulles heavy rail project that he inherited from the Kaine administration. That extension of Washington’s Metro rail system is arguably the most important infrastructure project in Northern Virginia but it is facing significant cost overruns, which will be paid for through higher tolls charged to commuters on the Dulles Toll Road. Perhaps perceiving a no-win situation – taking a strong stance will anger either commuters or the business interests supporting the rail line – McDonnell has been content to let U.S. Transportation Secretary Ray Lahood take the lead in sorting things out.
One possible project looming on the horizon is the controversial outer Washington beltway. In May the Commonwealth Transportation Board designated as a “corridor of statewide significance” a route approximating the location of a long-discussed north-south route skirting Dulles airport. Meanwhile, Kinn’s OTP3 group may identify other tempting public-private partnership projects.
It has taken McDonnell a year and a half, but a flood of flood of money is about to descend upon Virginia’s transportation system. The governor advances a powerful case for borrowing and building now to save hundreds of millions of dollars in construction costs. Less evident is whether Virginia is building the right projects. Does the Charlottesville Bypass make sense given the existence of a carefully thought-through alternative, Places 29? Is the Coalfields Expressway justifiable even at the bargain-basement cost of $2.6 billion? Will an upgraded U.S. 460 relly stimulate the massive investment that Connaughton believes it will?
The McDonnell administration suffers from no lack of conviction. With Connaughton serving as his bannerman, McDonnell is charging ahead. By the end of his term, the governor will be able to make a strong case that he made good on his promise to “get Virginia moving again.” The lingering question will be, is did he steer Virginia in the right direction?
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This article was reported and written thanks to a sponsorship by the Piedmont Environmental Council.
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