Jeff Troan, principal for H&A, was recently featured in Area Development’s Q3 issue. Titled, “Aerospace Industry Costs ‘Disrupted’ by Economic Development Partnerships”, the article dives into incentives and their potential impact on the aerospace industry. The article was originally posted here.
The full article is below:
Aerospace Industry Costs “Disrupted” by Economic Development Partnerships
By: Jeff Troan
If aerospace was not a genetic predisposition for me, as the son of a science writer for one of the national wire services, it certainly came to me early in life. My childhood and adolescence were spent on the X15, Mercury, Gemini, and Apollo programs, followed by a predictable three decades-plus with Lockheed Martin.
My involvement with economic development came later, about 20 years ago, when it began to impact the aerospace industry. Over the last two decades, aerospace has increasingly become the targeted industry of choice for economic developers, delivering massive investment, substantial fresh cash spend, and wages between 150 percent and 200 percent of the county average.
Economic development normally comes into play in aerospace when a company is facing a major contract competition. System level awards can run in the billions of dollars and represent the entire operating base of a major facility for years to come. Contracts are awarded based on a three-factor formula of technical premise, past performance, and cost. The aerospace consolidations of the 1990s have left the industry in a tiered structure where the prime contractors often find it difficult to differentiate themselves technically, and they all have good past performance. Likewise, the broad implementation of Total Quality Management (TQM) over the last 30 years has resulted in similar costs structures. Often the economic development package, which can generate a 2 percent to 10 percent differentiation in cost, is the key to winning a procurement.
Let us speak to incentives in their four forms: (1) statutory, (2) discretionary, (3) legal construction, and (4) special legislative; and in their four types: (1) tax, (2) infrastructure, (3) workforce development, and (4) financing.
Income tax abatement: Income tax abatement generally has limited value to an aerospace project, as the capital expenditures are large (credit basis) but regional tax liability is limited because of low industry margins. Look for income tax credits that allow alternate means for recovery, such as New Jersey and Louisiana credits that can be sold to third parties for cash; or Georgia’s credit, which can be taken against employee income tax via a withholding tax credit option.
Sales tax abatement: Most jurisdictions offer a sales tax exemption for manufacturing equipment as a statutory incentive. The challenge, however, is working with the Department of Revenue to establish the most generous line between manufacturing and supporting equipment. In a world increasingly driven by digital software, be sure to check with the program administrator or statute to see if software can be considered a “product,” and the engineering workstations, therefore, manufacturing equipment. A more comprehensive exemption can be obtained in many jurisdictions through legal construction, setting up a tax-exempt public economic development agency to do the procurement with the company acting as its design agent. The Florida Space Authority is a master of this process.
Aerospace has increasingly become the targeted industry of choice for economic developers, delivering massive investment, substantial fresh cash spend, and wages between 150 percent and 200 percent of the county average.
Property tax abatement: This is generally the largest form of taxation levied on an aerospace company over the life of a program. Abatement is often contentious because school taxes are paid from this pool. In the U.S., many communities have the right to issue a property tax abatement via a local resolution, a discretionary incentive in state or local statute. Where this is not available, an exemption can often be created via legal construction, by creating a Capital Tax Lease (CTL) for the facility and tooling, between the company and a local public-sector economic development agency. Under the CTL, the public sector holds title for tax purposes, but the company remains the owner under GAAP (Generally Accepted Accounting Principles) for operating purposes. Beware of states that have passed “Lease Hold Interest” statutes that invalidate the CTL tax shelter.
Infrastructure support: Capital can earn you technical and management points in a federal competition, but it plays havoc on cost, and is always dear to the company. A special legislative economic development partnership that involves the repurposing of surplus facilities, or a discounted lease on new facilities, combined with a property tax holiday through public ownership, can trim 10 percent off a proposal bid and serve as a primary award criterion. Unlike commercial ventures, which generally demand new infrastructure, pricing is so competitive on federal procurements that most contractors will abide repurposed facilities to gain a cost advantage.
These large deals should look beyond state and local economic development incentives to the federal markets. My favorite programs are the U.S. Treasury’s New Market Tax Credit program, which can trim about 20 percent off facilities costs (delivering cash, not a credit to the user), and the U.S. HUD Community Development Block Grant program, which often pays for ancillary infrastructure. The U.S. Department of Agriculture’s Rural Loan Guarantee program can provide financing capacity or simply lower the implied interest rate on large publicly funded projects, guaranteeing up to 90 percent of financed costs. And the U.S. Economic Development Administration also runs a gamut of small programs ($300k+), which they advertise on www.grants.gov.
Utility discounts: In a community with a strong economic development program, the transportation and power utilities are tied directly in with commerce officials. A mixture of discretionary and pseudo-special legislative programs can be marshaled to provide transportation and facilities infrastructure, and/or utilities discounts.
Leveraged zoning: Aerospace projects frequently involve repurposing old WWI and WWII aerospace plants for new production. In turn, this often generates surplus industrial land in areas that support a higher, highest-and-best-use. Leveraged zoning is the process of rezoning a district to generate a sustainable mixed-use community, with high-margin commercial and retail developers financing the bill to obtain core manufacturing jobs for increased money-turn.
Zone legislation: At its core, zone legislation is enabling legislation. It enables lawmakers to target a small area for significant special incentives that they can pass into law now or later to enhance growth and investment there (and only there). Zones come by a lot of names, but fit into two general categories: economic development zones and foreign free-trade zones. The latter type generally adds the special characteristic that product can be imported, processed, and exported without duty, or can be brought in as piece parts and assembled in the zone, avoiding the larger duty. My theory has always been that you should get into a zone when you have the chance, regardless of whether you can use the current benefit. Membership helps you sponsor your own future legislation as well as take advantage of someone else’s work, and rarely has a downside.
Enhanced use leases: In the early part of the 21st century, the U.S. government passed special legislation that allowed military commanders to lease out portions of their bases for other uses. The resulting document package is referred to as an Enhanced Use Lease or EUL. If a public coalition is also layered in the Enhanced Use Lease to insert a general economic development agreement, the EUL becomes a MEUL, or Modified Enhanced Use Lease. The benefits to the commanders are too many to voice in this article. For the company, EULs can be used to gain access to government infrastructure at reduced cost, as well as to locate near a customer’s operating offices, both often key discriminators in major contract awards.
Workforce development and workforce pipelining: No economic development partnership can succeed without an adequate workforce. That said, programs like TQM and Zero Defects have demonstrated that a large diversity of workforces can produce quality product in many industries. The winning bid in a major aerospace project is increasingly housed by the company with the best business process optimization, in a community that boasts the best business climate. This is almost always an area where costs are low, and the workforce is good but requires some skills strengthening.
Workforce development is the process whereby the company and community use public and private funds (usually 50/50) to train the workforce for immediate needs. Workforce pipelining looks into the future to a partnership with the local university and trade schools to develop curriculum that provides a future stream of professional and blue-collar workers suited for immediate productivity on the company’s production floor (serving attrition, retirements, and growth).
Throughout the U.S. and, increasingly, the world, most communities offer a program to pay for immediate worker training as part of a plant expansion or new venture. A common format is for the public agency to pay 50 percent of the cost, defined as all the direct training costs save the worker’s salary. The latter becomes the company’s corporate match. These are regionally funded.
In the U.S., under the Workforce Investment Opportunity Act (WIOA), the Department of Labor distributes billions of dollars in workforce development funds to the states, and they in turn develop formal and on-the-job training programs for new and retained workers. Though much of this funding is absorbed to pay state employees and help the chronically unemployed, there is both cash and in-kind training for aerospace companies available. In particular, Georgia and California’s use of WIOA funds to provide cash payments to companies providing training for new and incumbent workers is both efficient and timely.
The U.S. federal H1B Grant program has also historically provided a good pool of money for aerospace companies to keep their knowledge workers current. An H1B VISA is filed when a company needs to employ a highly technically skilled employee in a niche discipline, and the worker cannot be found in the U.S. resident population. By paying a fee, the petitioning company is allowed to import an employee with the required skills. These fees are then pooled and issued out in the form of grant competitions, where successful companies can use the grants to “train-up” their resident workforces in niche skillsets, thereby retaining advanced skills in the U.S. and eliminating the future need to import workers.
In sum, it is impossible to speak of aerospace without addressing U.S. and allied government contracts. These are increasingly awarded on cost, in an industry where cost can be significantly differentiated via economic development partnerships. Since these are among the world’s most sought-after jobs, the agreements represent a win for the community, the company, the customer, and the workforce. To qualify as a “bid disruptor,” the partnership must be broad, encompassing tax relief, infrastructure support, financing support, utilities discounts, and a workforce partnership.