CUSTOMER:

City of Portland, Oregon

SERVICE PROVIDER:

Riedel Oregon Composting Company, Inc.

TRANSACTION STRUCTURE:

Design, Build. Own, Operate a Municipal Solid Waste Composting and Resource Recovery Facility

YEAR:

1989                                           DURATION: 20 years

ILLUSTRATION: This case study illustrates how one municipality insulated itself from the performance risks associated with a technology by limiting its involvement in the financing and ownership of the composting facility. In addition, the presence of third-party financing sources imposed additional scrutiny on the project, leading to a search for a replacement contractor conducted at a commercial bank's expense. Ultimately, the facility failed to pass its performance test and was decommissioned. Since the city's exposure in the agreement was limited to a commitment to send its waste to the facility, it was able to "walk away" from the transaction at minimal cost.

BACKGROUND: The Portland, Oregon Metropolitan Service District entered into an agreement with the contractor to build a facility capable of composting municipal solid waste. The city committed to provide up to 185 tons per year solid waste to the facility. In return, the contractor agreed to construct the facility and operate it based on a tip fee that consisted of debt service payments, operating and maintenance expense, and pass-through costs less credits for recovered materials.

KEY TERMS OF CONTRACT/RISK ALLOCATION: Under the agreement, the city assumed the risk of providing waste feed of sufficient quantity and quality. This was handled through a put-or-pay agreement wherein the contractor would be paid for accepting 185,000 tons per year even in the event the waste flow was less than that amount. Market risks for recovered materials were borne between the contractor and the city. The contractor assumed all commercial risk for the project including development, permitting, construction, operations, financing, and ownership.

ISSUES CONFRONTED: After the facility was substantially completed and performance testing had begun, the contractor was unable to complete the testing successfully due to complaints concerning the emission of malodors from the facility. Due to this problem, the contractor defaulted under its agreement with a commercial bank which had provided the letter of credit The purpose of the letter of credit was to provide a credit enhancement and liquidity support for the bonds issued by the contractor to finance the facility. The contractor had agreed to secure its obligation under the letter of credit agreement by pledging to the bank, among other things, its entire right, title, and interest in the facility and the related contract rights. Due to its inability to solve the emissions problem, the contractor defaulted under the agreement and the bank acquired ownership of the facility and the related contract rights.

OUTCOME/CURRENT STATUS: Through a "workout" process, the bank initially attempted to replace the contractor. However, since a solution for the odor problem did not appear to be forthcoming, the bank was able to collect on an efficacy insurance policy it had placed with an insurance syndicate. Therefore, the bank was able to terminate its debt obligation of $27 million and decommission the plant. Although the project was a failure from the City's standpoint, its initial risk allocation protected it from owning a failed project.