Examination of Witnesses (Questions 40
- 59)
WEDNESDAY 27 FEBRUARY 2002
MR JAMES
NEAL, MR
DOUGALD MIDDLETON,
MR NICK
JOYCE AND
MR MARTIN
BLAIKLOCK
40. And could that be blocked by anybody?
(Mr Middleton) I do not know the answer to that question.
My understanding of the contracts is it should be a matter of
fact.
41. Assuming that the contracts are a matter
of fact, as part of your report, did you look at the situation
of what would happen if one of the contracting companies went
bust during the life of the contract?
(Mr Middleton) It was outside our remit.
42. The costs of the public sector option are
expressed with a range to reflect uncertainty, which I think is
generally agreed upon. However, in your Memoranda of Evidence,
you state: "The comparison of a PSC with a wide range in
values with a single point estimate of a PPP is difficult."
When you say difficult, are you saying there is uncertainty over
the costs of the PPP over 30 years and that this has not been
shown?
(Mr Middleton) Yes, exactly that point.
43. In noting that it is difficult, do you not
think it should be better to estimate the variation of PPP costs
objectively, and that there should be a wider factor in the equation.
(Mr Middleton) The rationale which we were given by
London Underground for it being a single point, was that if the
PPP costs changed, there would be a balancing change in the public
sector comparator. If you assume that mirroring of changes is
correct, then there is a logic to having a single point PPP estimate.
We questioned that logic, and I think what we have said in our
report is that we do not fully buy into that, but actually making
estimates of what the variation to the PPP price might have been
would have been a hugely subjective exercise. We recommended that
the decision makers treat this, again, as an intangible issue
rather than a financial issue when they were making the decision.
So yes, we did recommend more clarity around that point.
44. One last question: would you say that the
impact of the seven and a half year reviews and any extraordinary
reviews are critical to the actual PPP costs?
(Mr Middleton) Yes, we do agree with that. Again,
we made recommendations around ensuring that the bids from PPP
contractors, at the outset and subsequent to any reviews, are
actually treated as a starting point for making a case for an
extraordinary review, or making a case for changing the price
at the periodic review.
Mrs Ellman
45. To Ernst & Young, you say in your report
that the ability of the PPP is: to deliver value for money and
risk transfer—depends on the robustness of the contract
structure; the ability to operate the contract effectively; and
the cooperation of all partners. Would you put those three characteristics
under the heading of the subjective analysis that you told us
at the beginning was part of your report?
(Mr Middleton) Yes.
46. If you are agreed, then, that those parts
are subjective analysis, rather than objectively proven, how sure
are you in your final judgment?
(Mr Middleton) Again, it was a bit outside our brief
to make a final judgment on that point.
47. How sure are you that your conclusions are
right, that these key elements are purely subjective?
(Mr Middleton) What we sought to do was to satisfy
ourselves, and not being lawyers, we sought to satisfy ourselves
in commercial terms that the key issues had been identified and
dealt with within the contracts. What you have in this PPP, which
is unprecedented in any PFI or PPP project is the period of shadow
running, where the contracts have been in place with the internal
Infracos for in excess of 18 months now, and have been constantly
refined and updated to ensure that they do work. That, as we said
in our report, should give some comfort that the contracts are
reasonably robust. In the real world, when there is a commercial
test of those contracts, they remain unproven. As with any contract
and any contractual relationship, unless the counterparties are
willing participants to that contract, then yes, there is opportunity
for the contracts not to work as effectively and for value for
money to be impacted upon by that.
48. But in such a key area, which really goes
to the heart of all the judgments, are you really equating 18
months' shadow running with 30 years of a real contract in real,
commercial circumstances?
(Mr Middleton) No, we are not, and we did not say
so in our report. We recognise the difference.
49. Does that mean that your conclusions in
your report are not very robust when we relate that to 30 years
running of unprecedented contracts?
(Mr Middleton) Not at all. All we said in our report
is, you have had 18 months of shadow running, the contracts have
been refined, most of the commercial issues appear to have been
covered off—actually, it is one of those situations where
you will not be able to answer the question you are posing until
the contracts have been tested and practised.
50. But what does that say for the strength
of your report? You have identified these three key areas in the
operational contract; you have told me that it is subjective judgment;
you have now confirmed it would not be possible to assess that
properly, apart from waiting 30 years to see what happens: what
implication does that have on the conclusions of your report?
(Mr Middleton) I think in terms of our report we were
very, very clear. We set out very clearly that these contracts
were untested commercially. That is absolutely the same position
anyone is in when they enter into any contract. I think that is
fact and practice. The situation here, you have had 18 months
of shadow running, which is unprecedented, in our experience,
in any PPP, PFI, or actually most commercial situations—I
cannot think of many commercial situations where you have had
the 18 months of shadow running before a contract is actually
signed.
51. You do keep emphasising, as other witnesses
have, this whole contractual structure is unique. Are you really
saying that nobody should use your report to conclude that the
PPP is value for money?
(Mr Middleton) Again, if I could be clear, our report
and our commission was not to answer the question you have just
posed. What I would say is that this issue, as a wider issue,
is highlighted in our report.
52. Your report should not be used to establish
that the PPP, as put forward, is value for money?
(Mr Middleton) Our report was to reach conclusions
on the overall methodology which was adopted by London Underground
in developing the value for money analysis.
53. So your report is not about judging whether
the PPP will deliver value for money, compared with other alternatives
which you told us at the beginning you were not asked to look
at?
(Mr Middleton) That is right. Our report was solely
to look at the value for money analysis and the comparisons between
the public sector comparator developed by London Underground and
the PPP bids.
54. But it could not be used to assess the real
life situation continuing for 30 years?
(Mr Middleton) I am in danger of repeating myself,
but we looked at the commercial—
Chairman
55. Mr Middleton, I think we are in some difficulty.
First of all, you start off by saying, "These are the four
areas which have an element of subjective judgment". We are
not seeking to make things difficult for you, we are just trying
to work out exactly where the problems lie.
In simple terms, you looked at the "robustness",
that is the word that has been used "of the methodology".
So you are not drawing conclusions yourself, you are not putting
in your own particular views, although you have put in, if I may
say so, a number of subjective judgments, or accepted other people's
subjective judgements. I do not say that judgmentally; you have
said that yourself. What we want to know is how narrow was your
interpretation of your role? Are you saying, in effect: "We
looked at whether their figures stood up". Is that what you
are saying to us? "Given these areas of subjective input,
we looked at whether their figures could be regarded as robust"?
Not illuminative, not worth money, not to clear, just robust?
(Mr Middleton) Yes, and we looked more widely at the
contracts and we raised the issue about the contracts and the
robustness of the contracts as an intangible issue, and we set
that out very clearly in our report, so the decision makers have
to be aware of the issues being raised.
Mrs Ellman
56. Thank you. Mr Blaiklock, would you like
to comment on the significance of these uncertainties and how—
(Mr Blaiklock) I think that any bid evaluation should
primarily be focused on factual information, in other words, actual
facts and objective data and objective results. That is the first
starting point. Then you have a number of obviously subjective
features that may be added. One has to agree those and everybody
has their own opinion. In this particular case, on an objective
basis, from what I have seen, then the two options are very much
probably in the balance. It is only when you start looking at
the subjective assumptions that the balance swings in favour of
the PPP. On the other hand, I would also argue that the PPP option
has had a number of costs which have not necessarily been included,
and, therefore, if it had been a really thorough analysis, on
an objective basis—
Chairman
57. Give us a list of one or two—
(Mr Blaiklock) I think the overall contractual structure
is very complicated. The finance depends upon a concession agreement
which is 3000 pages long, and there are three of them, and they
are presumably interlocking. Normally, for any form of project
financing or PFI type deal, you may get a concession agreement,
or the equivalent document, which may be 200 or 300 pages long.
When you are dealing with something which is into the thousands,
then there is no one person who can actually have their finger
on the pulse of everything in that document. Therefore, I can
see long periods of argument: how do you actually control it;
how do you actually manage it; how do you actually judge performance?
It sounds to me, from what I have seen, you are into unchartered
territory. I appreciate there has been 18 months of run-in period
with a shadow contract, but these are contracts which have not
yet been banked. The banks are still looking at this wadge of
paper, and they will have their own terms and conditions which
they wish to impose. We do not know those yet, and it could be
some weeks, or even months, before that happens. So I take with
a slight pinch of salt the comment that they have been running
for 18 months on a shadow basis.
Andrew Bennett
58. Are you saying that would have a cost which
should have been included?
(Mr Blaiklock) We talked earlier about the cost of
disruption at year seven and half, should things not run as we
expect, but also the cost of managing this deal. I recall, at
a previous session you had, you asked the question of London Underground
what provision had been made with regard to estimating the costs
for managing this particular contract, and the answer came, as
I understood it, that there had not been provision made. If you
have a document which is 3000 pages long, upon which banks are
relying for their security, then you are having to make lawyers
and bankers out of people whose best skill is running trains on
time for the travelling public, and building new projects.
Mrs Ellman
59. Mr Blaiklock, what you seem to be saying
is the subjective factors have been used to go in favour of the
PPP; the objective factors go against the PPP. What status would
you give this report informing a judgment on whether PPP is value
for money in a 30 year real life situation?
(Mr Blaiklock) To be fair to Ernst & Young, as
I understand it, they were being asked to evaluate another consultant
or, I am not quite sure whether it is a London Underground report
or a Price Waterhouse report, but let us say it is London Underground's
evaluation of the proposals put to it. They are being asked to
judge on that evaluation process, not, as I understand it, the
decision per se.
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