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P3: 3 Benefits + 3 Risks

Public-private partnerships carry both benefits and risks.
By: | January 9, 2017 • 5 min read

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The American Society of Civil Engineers issues a report every year tracking the status of the nation’s infrastructure across 15 categories, including airports, pipelines, roads, bridges and solid waste facilities. In 2013, the United States earned a D+, a mark that has been steadily declining since it received a C in the ASCE’s first report card released in 1988.

To combat its ailing infrastructure, federal and state governments will increasingly rely on partnerships with private investors to help get these big-ticket projects off the ground.

The U.S. Department of Transportation defines public-private partnerships, or P3s, as “contractual agreements formed between a public agency and a private sector entity that allow for greater private sector participation in the delivery and financing of transportation projects.”

In its whitepaper “The United States: The World’s Largest Emerging P3 Market,” global insurer AIG outlines the promise offered by these partnerships in fixing the nation’s crumbling infrastructure, but notes that they come with their own set of challenges. Below are three major benefits and three key risks to the P3 model.

As we enter into new political landscape in the U.S. with President-elect Donald Trump, the role of P3 may become increasingly important.

The Benefits

1. Filling Investment Gaps

In a time when public dollars are limited but infrastructure needs are infinite, P3s help to fill in the investment gap to make desperately needed upgrades to American infrastructure.

According to the ASCE, an estimated $1.723 trillion is needed for surface transportation, $100 billion for rail and $134 billion for aviation infrastructure. The expense is far outpacing the level of investment from the public sector.

According to a McGraw Hill Construction Dodge report, public works construction dropped 14 percent from 2011 to 2012, and was projected to drop another 6 percent from 2012 to 2013. If the shortfall in public investment isn’t made up in some way, continually aging infrastructure may lead to disasters that cost lives and compromise economic activity in the towns they service — and state governments will be liable for the damages.

Especially in challenging economic climates, P3s can ease the burden on government budgets and help critical projects come to life.

2. Increasing Efficiency

On top of filling a pressing public need, P3 projects also save time and money. Compared to public projects, they have a better track record when it comes to staying on budget and finishing on time.

According to a study conducted by Infrastructure Partnerships Australia from 2000-2007, 18 percent of traditionally procured projects ran past deadline, while only 10 percent of P3 projects were past due. When traditional projects ran late, they were delivered 26 percent later than originally expected. Overdue P3 projects, on the other hand, were completed only 13 percent later.

Forty-five percent of traditionally procured projects incurred additional expenses, compared to just 14 percent of P3 projects. When traditional projects ran over budget, they incurred 35 percent extra expenses, while over-budget P3s went over by only 12 percent.

3. Spurring Economic Growth

P3s also help to spur economic development. They offer a lucrative business opportunity for investors in a time when returns are typically low. And infrastructure projects – particularly transportation networks – enable economic growth in the communities they connect.

Take for example E-470, the 47-mile highway constructed outside Denver, Colo., to service traffic to and from the soon-to-be-opened Denver International Airport. Eight counties and cities pooled their funds in 1989 to build the road, with no federal funding whatsoever. The highway was completed four years ahead of the airport and was the first large tollway to use electronic tolling.

The road paved the way for economic development in a previously sparsely-populated area. The population along E-470’s corridor was expected to double in the years following the project’s completion. In fact, the population of Denver — and the whole state of Colorado —has risen so much that the toll road is undergoing expansion.

The ASCE’s 2013 Report Card stated, “We know that investing in infrastructure is essential to support healthy, vibrant communities. Infrastructure is also critical for long-term economic growth, increasing GDP, employment, household income and exports. The reverse is also true – without prioritizing our nation’s infrastructure needs, deteriorating conditions can become a drag on the economy.”

The Risks

1. Uneven Liability

The chief complaint of private entities that want to further P3s as viable delivery mechanisms is that the government allots an unrealistic portion of the risk to private partners. To make matters worse, most of that risk is not transferrable though traditional insurance methods.

Nailing down contractual language that is acceptable to both parties and spreads liability fairly is the primary obstacle in P3 deals.

According to AIG’s whitepaper, Administrator Victor Mendez, head of the Federal Highway Administration, has argued for more precise valuation of risk in P3 projects, so that public and private parties can place a dollar value on the amount of risk they are willing to assume and strike a fairer balance.

Insurers, for their part, will have to continually analyze the changing construction landscape and develop new products to meet the needs of the evolving P3 model. AIG, for example, recently developed a product to address contractual liability issues in P3 deals.

2. Long-Term Commitment

P3s require a long term commitment on the part of the private entity — as much as 20 to 30 years. Private investors have to be prepared not just for the construction, but also the ongoing management of the project, whether that means ensuring regular maintenance or operating tolling systems. On top of that, covering and projecting insurance costs for the operational and maintenance risk over that course of time provides another layer of complexity. Properly transitioning insurance coverage between course of construction and operational and maintenance can be challenging for some carriers.

Because it’s difficult to predict how the economic environment will change over the next several decades, private partners take on a big risk in assuming management responsibilities for that length of time. Proper due diligence, conducted by both parties, is necessary to ensure the private investor can go the distance.

3. Project Ownership

The general public has also shown concern that major pieces of infrastructure will be owned by a private company rather than the public, and therefore subject to that company’s financial viability over the long term, or to the needs of their bottom line. In other words, citizens don’t want their vital transportation networks and other facilities to be commoditized.

In reality, private investors merely help to finance and manage the project, while it remains the property of the public. Unless that message is communicated clearly, though, aversion to private sector involvement in public works projects could stall some P3 efforts.

In spite of the headwinds and slowly emerging P3 sector in the U.S., AIG stands ready to partner with stakeholder to manage the inherent risks, deliver solutions and value to our clients.

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This article was produced by the R&I Brand Studio, a unit of the advertising department of Risk & Insurance, in collaboration with AIG. The editorial staff of Risk & Insurance had no role in its preparation.




AIG is a leading international insurance organization serving customers in more than 100 countries.

More from Risk & Insurance

More from Risk & Insurance

Cyber Liability

Fresh Worries for Boards of Directors

New cyber security regulations increase exposure for directors and officers at financial institutions.
By: | June 1, 2017 • 6 min read

Boards of directors could face a fresh wave of directors and officers (D&O) claims following the introduction of tough new cybersecurity rules for financial institutions by The New York State Department of Financial Services (DFS).

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Prompted by recent high profile cyber attacks on JPMorgan Chase, Sony, Target, and others, the state regulations are the first of their kind and went into effect on March 1.

The new rules require banks, insurers and other financial institutions to establish an enterprise-wide cybersecurity program and adopt a written policy that must be reviewed by the board and approved by a senior officer annually.

The regulation also requires the more than 3,000 financial services firms operating in the state to appoint a chief information security officer to oversee the program, to report possible breaches within 72 hours, and to ensure that third-party vendors meet the new standards.

Companies will have until September 1 to comply with most of the new requirements, and beginning February 15, 2018, they will have to submit an annual certification of compliance.

The responsibility for cybersecurity will now fall squarely on the board and senior management actively overseeing the entity’s overall program. Some experts fear that the D&O insurance market is far from prepared to absorb this risk.

“The new rules could raise compliance risks for financial institutions and, in turn, premiums and loss potential for D&O insurance underwriters,” warned Fitch Ratings in a statement. “If management and directors of financial institutions that experience future cyber incidents are subsequently found to be noncompliant with the New York regulations, then they will be more exposed to litigation that would be covered under professional liability policies.”

D&O Challenge

Judy Selby, managing director in BDO Consulting’s technology advisory services practice, said that while many directors and officers rely on a CISO to deal with cybersecurity, under the new rules the buck stops with the board.

“The common refrain I hear from directors and officers is ‘we have a great IT guy or CIO,’ and while it’s important to have them in place, as the board, they are ultimately responsible for cybersecurity oversight,” she said.

William Kelly, senior vice president, underwriting, Argo Pro

William Kelly, senior vice president, underwriting at Argo Pro, said that unknown cyber threats, untested policy language and developing case laws would all make it more difficult for the D&O market to respond accurately to any such new claims.

“Insurers will need to account for the increased exposures presented by these new regulations and charge appropriately for such added exposure,” he said.

Going forward, said Larry Hamilton, partner at Mayer Brown, D&O underwriters also need to scrutinize a company’s compliance with the regulations.

“To the extent that this risk was not adequately taken into account in the first place in the underwriting of in-force D&O policies, there could be unanticipated additional exposure for the D&O insurers,” he said.

Michelle Lopilato, Hub International’s director of cyber and technology solutions, added that some carriers may offer more coverage, while others may pull back.

“How the markets react will evolve as we see how involved the department becomes in investigating and fining financial institutions for noncompliance and its result on the balance sheet and dividends,” she said.

Christopher Keegan, senior managing director at Beecher Carlson, said that by setting a benchmark, the new rules would make it easier for claimants to make a case that the company had been negligent.

“If stock prices drop, then this makes it easier for class action lawyers to make their cases in D&O situations,” he said. “As a result, D&O carriers may see an uptick in cases against their insureds and an easier path for plaintiffs to show that the company did not meet its duty of care.”

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One area that regulators and plaintiffs might seize upon is the certification compliance requirement, according to Rob Yellen, executive vice president, D&O and fiduciary liability product leader, FINEX at Willis Towers Watson.

“A mere inaccuracy in a certification could result in criminal enforcement, in which case it would then become a boardroom issue,” he said.

A big grey area, however, said Shiraz Saeed, national practice leader for cyber risk at Starr Companies, is determining if a violation is a cyber or management liability issue in the first place.

“The complication arises when a company only has D&O coverage, but it doesn’t have a cyber policy and then they have to try and push all the claims down the D&O route, irrespective of their nature,” he said.

“Insurers, on their part, will need to account for the increased exposures presented by these new regulations and charge appropriately for such added exposure.” — William Kelly, senior vice president, underwriting, Argo Pro

Jim McCue, managing director at Aon’s financial services group, said many small and mid-size businesses may struggle to comply with the new rules in time.

“It’s going to be a steep learning curve and a lot of work in terms of preparedness and the implementation of a highly detailed cyber security program, risk assessment and response plan, all by September 2017,” he said.

The new regulation also has the potential to impact third parties including accounting, law, IT and even maintenance and repair firms who have access to a company’s information systems and personal data, said Keegan.

“That can include everyone from IT vendors to the people who maintain the building’s air conditioning,” he said.

New Models

Others have followed New York’s lead, with similar regulations being considered across federal, state and non-governmental regulators.

The National Association of Insurance Commissioners’ Cyber-security Taskforce has proposed an insurance data security model law that establishes exclusive standards for data security and investigation, and notification of a breach of data security for insurance providers.

Once enacted, each state would be free to adopt the new law, however, “our main concern is if regulators in different states start to adopt different standards from each other,” said Alex Hageli, director, personal lines policy at the Property Casualty Insurers Association of America.

“It would only serve to make compliance harder, increase the cost of burden on companies, and at the end of the day it doesn’t really help anybody.”

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Richard Morris, partner at law firm Herrick, Feinstein LLP, said companies need to review their current cybersecurity program with their chief technology officer or IT provider.

“Companies should assess whether their current technology budget is adequate and consider what investments will be required in 2017 to keep up with regulatory and market expectations,” he said. “They should also review and assess the adequacy of insurance policies with respect to coverages, deductibles and other limitations.”

Adam Hamm, former NAIC chair and MD of Protiviti’s risk and compliance practice, added: “With New York’s new cyber regulation, this is a sea change from where we were a couple of years ago and it’s soon going to become the new norm for regulating cyber security.” &

Alex Wright is a U.K.-based business journalist, who previously was deputy business editor at The Royal Gazette in Bermuda. You can reach him at [email protected]