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Warranty loophole costs millions

U.S. 550 south of Cuba to Bloomfield was rebuilt and widened more than a decade ago, with repairs and maintenance work covered by a controversial $62 million warranty. But the state has paid more than $10 million in unexpected repair costs. (Dean Hanson/Albuquerque Journal
U.S. 550 south of Cuba to Bloomfield was rebuilt and widened more than a decade ago, with repairs and maintenance work covered by a controversial $62 million warranty. But the state has paid more than $10 million in unexpected repair costs. (Dean Hanson/Albuquerque Journal
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The 118-mile stretch of U.S. 550 to the Four Corners could be the most pampered roadway in New Mexico.

That shouldn’t come as much of a surprise, because more than a decade ago the state shelled out $62 million for a controversial 20-year warranty on the $323 million reconstruction and widening of the highway between San Ysidro, northwest of Albuquerque, and Bloomfield.

The first of its kind warranty in the country was aimed at protecting the public from maintenance and repair costs on the road for two decades.

But the Journal has learned of a costly loophole in the warranty coverage guaranteed by the private contractor, a subsidiary of the Kansas-based billion-dollar private corporation, Koch Industries Inc.

A liability limit tied to the escalating cost of asphalt materials was inserted in the Koch warranty contract. That has forced the state Department of Transportation to pay nearly $14 million so far in unexpected repair costs – money that could have been used on badly needed road repairs elsewhere in the state.

To date, the state has picked up about one-third of the $41 million spent to maintain the road under the warranty, which took effect in 2001. The loophole is expected to cost the state another $10 million before the warranty expires in eight years.

“It didn’t seem like a big deal at the time,” former DOT chief Pete Rahn said of the warranty provision. “But obviously, if we knew then what we know today, then we would have approached that differently, I’m sure.”

Fifteen years ago, Rahn headed up the DOT under the administration of Republican Gov. Gary Johnson and spearheaded the road reconstruction deal – which he continues to defend as a good one for New Mexico.

“Frankly, this is still a heck of a deal,” Rahn said, noting that the Koch subsidiary has paid out nearly $28 million on warranty repairs. “That whole (road widening) package was a heck of a deal for us.”

But while sharing in the ongoing repairs, the state is still paying off the warranty. A decision to refinance the project bonds under Democrat Gov. Bill Richardson in 2004 means the state won’t pay off the U.S. 550 project until well after the warranty has expired.

And the state must continue sharing the warranty repair costs or risk invalidating the agreement – which would leave the DOT on the hook for all repair and maintenance costs, DOT officials say.

In the meantime, other New Mexico roads and bridges have fallen behind on necessary repairs, according to a recent Legislative Finance Committee staff analysis. The unmet needs are estimated at more than $1.5 billion.

“In general, the department is facing serious obstacles related to highway maintenance,” the analysis said.

“Increased maintenance costs combined with revenue shortfalls have forced officials to decide whether to spend limited funds on good roads so they do not become bad roads or bad roads so they do not become failed roads,” the analysis stated.

The unfunded construction needs across the state include a gap of about $225 million for routine maintenance and $250 million for repairs to structurally deficient bridges, the analysis stated.

More than $390 million in transportation projects from the Gov. Richardson Investment Partnership program have also been deferred for lack of funding, the analysis added.

Asked about a liability cap that is hitting New Mexico in the pocketbook, a Koch Industries spokeswoman told the Journal in an email that the company “continues to meet its long-term contractual obligations. Thank you.”

(Journal)

(Journal)

Future funding

Sen. John Arthur Smith, D-Deming, was critical of the U.S. 550 road widening project from the start, in part, because it broke from traditional road financing practice and relied on future federal funding to pay for the reconstruction and warranty.

“I think that we (legislators) are going to be back here, replaying and rehashing this, when everybody is retired from the highway department,” Smith said in a 1999 Journal series on the road project, titled “Four Lane Politics.”

Smith, who today chairs the powerful Legislative Finance Committee, said the escalation cap tied to asphalt-related prices wasn’t mentioned in the many legislative discussions about the warranty.

The warranty limits Mesa PDC’s inflation risk at 3.5 percent per year, with the state on the hook for repair costs above that limit. The inflation index is based on asphalt, fuel and other material and labor costs, according to DOT officials.

It doesn’t make sense for the DOT to be footing maintenance costs while the warranty is still in place, Smith said recently, but added that there’s little recourse at this point.

“It seems to me the state better go ahead and swallow the pill that Pete Rahn left,” he said.

A 2004 LFC report concluded the warranty, which included pavement and structures, “probably wasn’t worth” the money. Assuming that Koch invested the money the state paid on the warranty, the company would reap tens of millions of dollars of interest at different rates of return, the LFC reported back then.

However, Rahn, in a recent interview, defended the road project.

“We are getting a very good value for the dollars we are spending because of the warranty that’s in place.”

The state DOT projected back in 1998 that the U.S. 550 warranty would save the state $89 million worth of maintenance on the road.

Under the original plan devised by the Johnson administration, bonds for the U.S. 550 project, including the $62 million warranty, were to be paid off by 2014.

But Richardson’s DOT refinanced the U.S. 550 bond debt, while unveiling a $1.2 billion transportation plan that included the Rail Runner commuter train.

(Journal)

(Journal)

Now the state isn’t projected to pay off the U.S. 550 rebuild until 2024.

Rahn, now chairman of the New Mexico Transportation Commission, which sets policy for the DOT, took some criticism for his role in the U.S. 550 warranty in the last legislative session.

Senate Rules Committee chair Linda Lopez, D-Albuquerque, wrote Gov. Susana Martinez a letter contending there was a “cloud” on Martinez’s appointment of Rahn to the commission in 2011.

Lopez, in the letter, cited the warranty among other issues.

Her letter said she would recommend the committee vote “no” on Rahn’s appointment, but the session ended without such a vote.

Rahn, who works for an out-of-state transportation consulting firm but has a home in Placitas, continues to serve in the unpaid commission role.

Warranty limit

Under the warranty, the DOT was to be responsible for non-pavement maintenance along the roadway, such as mowing, metal barrier repairs, striping and signage.

During negotiations on the liability cap, Rahn said the DOT reviewed the cost of asphalt, looking back at the prior 10 years.

“At no time had the overall cost of asphalt increased more than 3.5 percent a year. The only thing that’s happened, now with what’s gone on with oil prices, which drives asphalt prices, it’s increased more than 3 percent,” Rahn said. At the time, he said, 3.5 percent seemed to “be a very reasonable number.”

But the price of asphalt has since soared.

One year, the state footed nearly half of the overall bill for warranty repairs on the road, which has an average daily traffic of about 5,000 vehicles.

In its pitch for the New Mexico road project, Koch touted a new asphalt technology that would provide longer durability and performance.

With that in mind, Koch originally expected to do only monitoring of the road conditions for almost half the warranty period, with the bulk of warranty expenses occurring in the year 2017, according to a 2007 court case involving federal taxes on the warranty.

Under the warranty, certain minimum acceptable pavement performance criteria has to be met for smoothness, rut depth, cracking, bleeding, raveling, potholes, depressions and shoving.

The roadway gets detailed regular inspections, in which ruts and cracks are measured, filmed on video and chronicled annually in an audit by the state DOT’s office of inspector general.

Pavement cracks on U.S. 550 south of Cuba have been documented as part of the detailed monitoring required under the 20-year performance warranty the state signed more than a decade ago with the contractor, a subsidiary of Koch Industries, Inc., of Kansas. (Dean Hanson/Albuquerque Journal)

Pavement cracks on U.S. 550 south of Cuba have been documented as part of the detailed monitoring required under the 20-year performance warranty the state signed more than a decade ago with the contractor, a subsidiary of Koch Industries, Inc., of Kansas. (Dean Hanson/Albuquerque Journal)

After just a few years, road woes began

Once touted by supporters as the most innovative highway project in the country, U.S. 550 from San Ysidro to Bloomfield has had a rocky track record.

Within a few years of completion in 2001, unexpected heaving and other pavement distress began to occur.

The problems were traced to pre-construction soil preparation, and the contractor, a subsidiary of Koch Industries Inc. of Kansas, picked up the cost of repairs under a separate professional services warranty on the design and construction.

But that warranty expired in 2004 and the distress on the road isn’t over, according to state Department of Transportation records.

An August 2012 geotechnical report noted new pavement cracking, slumping, dips and humps in the pavement that, again, were attributed to soil problems beneath the roadway.

Of seven identified locations, three have been repaired and the others will be remedied this year, the DOT says.

Of the estimated $622,000 in planned repairs, the DOT’s share is expected to be about $226,097, according to DOT records.

Another part of the $62 million warranty covered structures and bridges along the northwest New Mexico road.

That warranty was supposed to continue through April 2012 or when the total repairs hit $4 million. But the monetary cap was reached a year early, in April 2011.

Since then, the DOT has had to pay more than $1.5 million to address the slope failure and soil settlement causing distress to a bridge on U.S. 550 near Cuba, according to state records.

—Colleen Heild
— This article appeared on page A1 of the Albuquerque Journal

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