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Area Development - Site Selection, Facility Planning and Workforce Development

Governments Get Active With Incentives: Hands-On Participation for Higher Return on Investment

Rather than taking traditional passive roles in incentives negotiation, global governments are becoming hands-on participants, seeking more control and higher returns on investment.

Nov 08
In a world dominated by fiscal uncertainty, stalled credit, and governments anxious to jump-start their faltering economies, well-negotiated and secured business incentives have become crucial to the site selection process. Incentives can, in many cases, help earn a return of between 10 and 30 percent on a particular location investment. That bankable level of return has become increasingly critical in helping companies compile the financing needed to push projects ahead - and governments all over the world are looking to get in on the decision-making processes and the potential profits.

History of Incentives
Business incentives have historically played an important role in the minds of corporate location decision-makers for their ability to significantly increase the return on investment of a particular project. Incentives traditionally were one factor in a comprehensive and complex process of evaluation and review of many criteria that a company would consider in selecting a location. Where incentives proved to be the driving factor was on the highly envied and competitive "short list" of finalist locations. It was here where a targeted and effective package of tax, business, and other incentives - training assistance and joint marketing services or infrastructure assistance, for example - could push one location across the goal line by making it more cost competitive than its operational equals.

The "flat" integrated world economy that has emerged over the last decade and a half further increased the importance of incentives in the decision-making process. The seamless flow of ideas, people, and capital, and the harmonization of trade laws and creation of free-trade economic zones helped in many ways to transition once very independent and unique site selection factors - like labor quality, quality of life, logistics, and business-friendly environments - into commodities. In short, many of the things that made locations different and distinct had faded away to the point that producing a good or service in Shanghai or Dubai had no discernable difference to the end user than if that good or service was produced or rendered in Detroit or New York. This meant that costs - such as labor, taxes, transportation, and real estate - were emerging as the new drivers of location decisions, since an increasing number of locations had proven to be capable of meeting high quality and quick turnaround standards.

In the last decade, this shift towards cost certainty in the site selection process has become even more pronounced. With talent pools seen as nearly equal in much of the developed world, the cost of that talent, the real estate to house it, transportation costs all along the supply chain, and the tax burdens attendant to operations have elevated incentives in the minds of corporate decision-makers as a central component to the equation for their ability to reduce and eliminate the cost drivers. Governments in the United States and around the world have been fairly quick to grasp this shift, with constantly evolving regimes and programs designed to attract and, even more importantly, retain businesses to sustain the tax base and create jobs for constituents.

Government's New Role
The credit crisis will make incentives even more critical to the site selection process. The G-7 governments and many others have moved further away from functioning as market regulators to acting as market participants. Just how active they will be remains to be seen, especially in the United States, long at odds with Europe and Asia's brands of capitalism, which relied heavily on government participation/ownership of key industries, subsidies, or active collaboration.

Today, however, no government seems merely content to sit on the sidelines and coax economic development - or economic survival - through passive, regulatory gestures any longer. Recent developments have set the stage for active governmental involvement in injecting equity to fortify certain companies. Expectations are such that now this assistance, perhaps arguably the largest incentives packages ever offered, will be met not only with sustained or saved economic growth in terms of jobs, capital investment, and tax revenue, but now also a share of the returns as well. Thus, governments are looking to make an additional return from the bailout incentives they have offered, aside from their traditional revenue streams of taxes and jobs, in order to justify the intense political costs of these rescue efforts.

It seems reasonable to infer that in this new age of multibillion-dollar, -euro, and -pound bailouts, government spending and debt will continue to increase. Operating costs, taxes chiefly among them, seem destined to increase significantly in years to come in order to fund an increased level of governmental investment while they await the future returns from the equity. So any other incentives that help corporations lower their operating costs and tax burdens in these jurisdictions - to fuel the growth and drive profits necessary to fund the bailouts - will be absolutely essential to any location decision-making process. As such, incentives are not only going to be driving cost reduction to help firms become more sustainable, but also now will become revenue drivers for governments in helping to encourage more growth in the tax base. Success in this experiment may also be an indicator of even greater future use of newer incentives by governments to encourage economic development.

If this governmental activism - most recently demonstrated in the banking and auto industries - meets with success, then this "stakeholder" incentive doctrine may take root more formally down the food chain of the economies. Perhaps states and major cities in the United States will devise similar "venture capital" or other equity incentive programs to drive their economies and tax bases by assisting their key businesses or nurture new ones. Maybe the use of larger cash grant programs with specific profitability goals will be devised rather than just the capital investment or job creation benchmarks of today.

If anything is certain from the last few months of turmoil, it is that governmental involvement in our economies will become more active than ever, and business incentives will gain more power in their ability to influence both corporate and governmental decision-makers.

Thomas J. Stringer is a director in the New York office of Duff & Phelps, LLC and is a member of the Business Incentives Advisory practice. He has over nine years of experience securing federal, state, and local incentives worth more than $300 million for small, middle market, and Fortune 1000 companies. Visit the company's website at www.duffandphelps.com.

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