Funding of Public Transport Projects

As part of a review of alternatives for financing the future Light Rail Transit lines within the mass transit systems in the Tel Aviv metropolis, ADALYA conducted an international analysis of relevant trends and alternative financing solutions for infrastructure projects, with an emphasis on transportation projects.

In developed countries, it is common that revenues from passengers’ rides cannot cover the direct operating costs of the mass transit projects. Therefore, the revenues from the project itself cannot finance the cost of its construction. This fact, together with the expenditure limit on the government's budget, requires finding alternative sources for financing transportation projects.

The 2008 global financial crisis caused a decrease in infrastructure investment along with an increased difficulty in raising long-term financing for infrastructure projects. Regulation of the banking system, reflected in the Basel III regulations, necessitated a search for complementary financing alternatives for the banking syndicate.

The review ADALYA conducted found three trends in the field of project financing:
  1. Private Finance 2 (PF2): modifications of the Private Public Partnership (PPP) model in the United Kingdom;
  2. Value Capture: funding through taxation of increased real estate values in areas impacted by the projects;
  3. Project Finance Bonds: issuing project bonds.
Private Finance 2 (PF2)

The PF2 model developed from lessons learned in the United Kingdom from the traditional PPP model.

The principal difference between PF2 and the traditional model is the government's role. In the PF2 model, the government operates as a minority equity investor in the project. Since the public sector has better access to data and greater involvement in strategic decision- making, having the government become one of the investors should allow for better risk allocation and for an increase in public sector involvement in projects. Moreover, the public sector becomes one of the benefactors of the investment's return.

The PF2 model includes: standardization of the tender and contract structure; setting standard time limits for the tender process; minimization of the services included in the PPP tender; and reduction of the structural barriers between the government organ responsible for conducting the tender and the government organ responsible for managing the investment in the project. 
Value Capture (VC)

Value Capture refers to a number of financing strategies which are based on "capturing" the economic value created by investing in transport projects.

There are four conventional mechanisms for implementing VC:
  • One-time Development Impact Fees;
  • TIF: Tax Increment Financing;
  • Joint Development through land allocation;
  • Income/Payroll Based Tax in the project's service area.
The applicability of the VC tool as a financing source varies according to the rate of change in the value of real estate. This change depends on an array of variables, including the quality and frequency of public transport services, the real estate market situation, the range of land uses in the vicinity of the public transport station and the level of incentives inherent in the transition from private to public transport.

Most of the recent investment-intensive transport projects have been financed in varying degrees by the VC mechanism. Among these are the Crossrail in London (32%), the Grand Paris Express (80%) and more.

The main advantages of the VC model are:
  • It taxes the specific group benefiting from the project;
  • It has the potential to finance a significant share of the project;
  • It creates a cash flow which can be securitized. 
Project Bonds
Project Bonds are long-term bonds for financing construction of public infrastructure projects. Project Bonds can either be targeted for a specific project or can be unspecific, tradable or allotted to institutional investors. They are usually accompanied by a credit rating. The source of repayment for the bond is the cash flow associated with the project.
A prominent example of unspecific Project Bonds is the United States’ federal Build America Bonds. Depending on the program, the issuer of Build America Bonds is local, either a state administration or a metropolitan or municipal authority, and the value is usually based on cash flow arising from Value Capture. The federal support is expressed by an exemption from the 35% capital gains tax on the coupon. The program recruited a total of $180 billion, and the United States Department of the Treasury estimates that the present value of savings to local administrations stands at about $20 billion.

The ADALYA analysis above has been presented to senior officials involved in establishing a mass transit system in the Tel Aviv metropolitan area and serves as a basis for a review of strategic alternatives for financing future transportation lines.

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