As the market for public private partnership transactions in the United States develops and opens up, selecting appropriate counsel becomes an important question for equity sponsors, lenders, contractors and public sector authorities involved in these major infrastructure projects. It can be challenging to select a law firm with the necessary expertise and commercial abilities demanded by this new and developing market. This article provides some pointers in the selection of external counsel and offers guidance based on experience derived from the development of the Canadian P3 market over the last ten years.
The first impulse is often to hire a name brand M&A or project firm, but often that can be counter productive as the urge will be to squeeze the deal into their standard firm precedents that will not work for P3s and will result in a costly and unsatisfactory exercise. A different approach is required. Certain aspects of the deal may be "fungible", for example bond issuance experience or negotiating the representation, covenant and event of default package for a financing. There may be many firms that can do that part of the deal, there may only be 10 firms that can do the true P3 aspects of the deal. Furthermore, once expertise is sourced with a particular person in a firm, it is important to make it a term of the engagement that that person is available to run the transaction and that he or she will not hand it over to inexperienced partners or juniors to do.
Skill Sets Required for P3 Transactions
Given the nature of the majority of P3 transactions, the skill sets required will cover a variety of legal disciplines. During the bidding process, lawyers with expertise in government procurement and bidding processes will be advantageous, but the principal skill sets will be twofold, namely, the ability to review and analyze the implications of the long term Project Agreement or Concession Agreement (the "Project Agreement") between the public authority and the special purpose vehicle established to carry out the project ("Project Co") and, secondly, to understand the implications of the risk allocations set out in the Project Agreement on any proposed financing structure for the project. The review and analysis skill set is, largely, a broadly commercial discipline and law firms can field practitioners with expertise in corporate/commercial matters, finance matters, large scale construction experience or even real estate lawyers, provided the individuals have the necessary breadth of experience. However, the ability to appreciate and predict the likely reaction of financial institutions involved in the Bond Markets, Lifeco and commercial bank debt sectors to risk allocations set out in the Project Agreement tends to put lawyers with particular expertise in project finance transactions at a distinct advantage. The highly leveraged nature of P3 transactions means that lawyers who can accurately analyze the likely reaction of rating agencies, bank lenders and underwriters to the proposed risk allocations set out in the Project Agreement will likely offer insights that may be less apparent to lawyers from non-finance related disciplines.
When to Select Counsel - Project Phases
P3 transactions are generally divided into a number of discreet phases. The first is the pre-qualification phase prior to the selection of a number of qualified proponents who will participate in the full bidding process and provide responses to the Request for Proposals issued by the public authority. The second phase is the bidding phase and the third phase runs from selection of preferred proponent to financial close, at which point the financing for the relevant project becomes available. In the early stages of the P3 market in Canada, it was unusual for counsel to be selected prior to the bidding phase. However, increasingly now the firms which have a reputation in the P3 sector are approached even prior to qualification. While the market will ultimately dictate when clients should approach law firms, there is advantage in deferring the selection process until after the qualified proponents have been announced. At that point there is greater certainty as to the process, the bidding consortia who will require legal counsel during the bidding phase are known and there is often greater incentive for law firms to propose more flexible fee structures if the pool of potential clients has already been reduced through the qualification process.
Risk Allocation Issues in P3 Projects and the Concept of "Stranded Risk"
One of the primary differences between P3 transactions and traditional procurements is that, unless a risk is specifically retained by the relevant authority pursuant to the express terms of the Project Agreement, then that risk will lie with Project Co and its equity sponsors. Accordingly, the focus of attention of the providers of financing solutions in P3 transactions is primarily a "stranded risk" analysis. Since the ability of the project vehicle to withstand risk is limited to the amount of equity invested into the project (P3 projects being primarily non or limited recourse transactions), lenders will first and foremost create risk matrices identifying each of the risks allocated to Project Co in a particular transaction and will then require an explanation from Project Co and its lawyers as to how these risks are mitigated. The risks can be mitigated by one of essentially three mechanisms: either the risk is passed down to a subcontractor of Project Co or the risk is mitigated through insurance or the risk has to be priced or reserved against at the Project Co level. The greater the amount of risk retained in Project Co, the more difficult it becomes to obtain debt financing for the project and the greater the likelihood of the debt providers requiring contingencies and reserves, each of which is likely to impact negatively on the competitiveness of Project Co's bid. Accordingly, when selecting a law firm to represent Project Co and the equity sponsors, an intimate familiarity with stranded risk analysis, the key issues in relation to subcontracts with construction contractors and facility operators and an understanding of the relevant insurance products which are available in the market to mitigate these risks are all prerequisites in the armoury of a P3 transaction lawyer.
Prioritization of Risk Issues
Law firms and practitioners who understand the prioritization of risk issues for their clients will be better placed to advise than those who adopt a overly-legalistic approach to project risk analysis. To some extent this is a two-way street, with clients being responsible for clearly articulating their risk allocation and pricing priorities. However, law firms will add significant value and improve the efficiency of transactions if they can distinguish between particular risk issues based on the following criteria:
(i) Does the risk allocation in question offend against the investment criteria for any given equity sponsor?
(ii) Will the risk in question negatively impact the financability of the project by debt providers or affect the appetite of debt providers to invest in the project?
(iii) Will the risk allocation require reserves or contingencies that will negatively impact the competitiveness of the relevant bid?
(iv) Will the risk allocation in question impact the fixed price offered by the construction contractor, facility manager, operator or other subcontractor?
A law firm that can demonstrate that it understands the implications of risk allocation on the items listed above and can distinguish those from other less significant risk allocation items will provide more focused advice than those unable to prioritize their comments on project documentation.
Meeting the Team and Choosing the Quarterback
It is often instructive to conduct an interview of the entire team (or a large part of the team) that will be providing the legal services. In this way, the ability of the team leader and point of contact to manage the members of his or her team will become evident. Because the nature of P3 transactions is multidisciplinary, the team leader is invariably a quarterback who has to have the confidence of the other members of the team and to be able to identify the issues that need to be addressed by specialists, the level of detail required from those specialists and how the particular aspect of the transaction focused on by the specialists will fit into the project as a whole. Very often the team dynamic is a critical item in the efficiency of a law firm and understanding how this dynamic might play out before selecting the law firm involved is important.
In this regard, it is critical to note that the "quarterback" is just that. He or she is not a coach but someone who will be expected to be at the centre of the action on game day. In the authors' view from our experience over decades of work in project transactions, it is essential that the team leader within the law firm is involved in and aware of the transaction as a whole as it evolves throughout the bidding process. It is counter productive and inefficient to have to bring the team leader up to speed with issues which have been evolving for weeks or months. The team leader has to be able to make game time decisions which will impact the outcome of negotiations on the transaction, the terms of the Project Agreement and the conditions attached to the financing. Accordingly, the team leader must not be a mere title but a true leader on the field of play.
As time goes on, the client will be able to make more significant assessments of the attributes and characteristics of the team members. As with any team, these characteristics will vary. The client will require linebackers - solid, dependable practitioners who are able to withstand continuous and heavy workloads; receivers - who are a safe pair of hands prepared to get involved in the transaction at specific periods of time to achieve particular goals; and running backs - aggressive and combative individuals able to spot particular weaknesses in opponents' defences and exploit them to the advantage of the client.
Deploying these individuals with different characteristics at the appropriate moments of a project is very much a role for the client and the quarterback to manage together, but an understanding up front of who might be fulfilling these roles at the appropriate time is an important aspect of law firm selection.
Getting the Most out of your Law Firm
Shortening the Communication Chain
P3 transactions regularly involve a number of equity sponsors rather than one individual client. This presents significant challenges in terms of communication with the law firm and law firms should be interrogated on how this communication issue can effectively be managed. In particular, clients should form a view as to whether the law firm is to act as "honest broker" in the event of disagreements between the equity sponsors or if equity sponsors take a different view on a particular risk allocation issue. The mechanism for resolving such differences in views may differ from transaction to transaction, but it is critical that such a mechanism exists if the communication chain is not to be broken. Without such a mechanism, the law firm will have to manage a variety of unconsolidated and varying opinions on each issue which equity faces during the course of the transaction. Instituting a mechanism that is agreed by all parties from the outset will significantly reduce inefficiency in large scale transactions.
Applying Lessons Learned
Throughout the P3 process, at specific pre-identified points, the law firm and the client should assess and analyze the lessons learned both in terms of the legal and commercial issues arising out of a transaction and in terms of the way in which the client and law firm interface is being managed. Having identified junctures for such assessment will enable issues to be resolved before they become material concerns for either the law firm or the client.
After the transaction has come to an end, time should be set aside for assessing how the approach might differ on subsequent transactions and what lessons have been learned from the challenges faced on the previous transaction. It is important to seek to implement this review as soon as possible after the end of the transaction while memories are still fresh (raw ?) and before other demands on the client and law firm pose insurmountable scheduling obstacles.
Developing Standard Form Approaches
As part of the retainer, the client should consider whether the law firm should also be requested to develop standard form approaches based on the lessons learned from the previous transaction. For example, clients of Davis LLP, both public and private sector, have asked us to develop model forms of procurement process, model forms of project documentation, model drop-down contracts, model term sheets for financing, etc., etc. While these model forms of documentation have to be "tweaked" from transaction to transaction, they can often form the basis for a series of projects going forward thereby increasing efficiency on future projects. More recently, clients have become interested in developing a standard form approach for the running of competitive processes for the financing solution for the project, although it may be a little early in the US to develop such a model as yet.
Law Firm Mashup - Can it Work ?
In the US as in Canada, the cost base for various law firms is different from jurisdiction to jurisdiction (State to State/Province to Province). Efficiencies can and have been gained in Canada through using law firms with relatively low cost bases to carry out elements of a P3 transaction, but requiring input from more experienced practitioners in other jurisdictions for specific components of the project. Generally speaking, the "cherry picking" of individual law firms can present challenges, including turf warfare and/or the establishment of very specific scopes of work which leave certain elements uncovered by either firm involved. Nonetheless, where there is a relationship of trust between the key practitioners involved, this "mashup" can work effectively. In the context of the US where experience of P3 transactions is still relatively limited, the selection of a trusted advisor to provide the "fungible" input required on a P3 transaction and a P3 specialist from another firm or jurisdiction to provide experience based on more developed jurisdictions or the global P3 market may, if properly structured, provide one means of augmenting relatively inexperienced but trusted local advisors.
This article was original published in the November 2012 issue of American Lawyer Magazine.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.