APPENDIX 2
Memorandum submitted by Arup
1. The Clerk of the Culture, Media and Sport Select
Committee asked for information from Arup, supplementary to the
evidence given by Mark Bostock, Sam Higginson and Nick Banks on
14 January 2003.
Question: Can you explain the rationale for using
a discounted cashflow approach?
2. Discounting is recommended by the Treasury (see
the Treasury Green Book for more details) as the most appropriate
way to appraise investment in a particular project. The rationale
for using a discount rate approach is something called 'social
time preference' i.e. Government would prefer to have its goods
and services sooner rather than later so that costs and revenue
flows in the distant future are valued less than costs and revenue
flows in the near future. A discount rate of six per cent was
the standard recommended Treasury discount rate when we did our
work (May 2002). This week a new discount rate of 3.5 per cent
in the revised Green Book has been introduced.
Question: Was your work based upon an exempler
Games?
3. Our work was based upon a 'specimen' or 'exempler'
Games for London. As you know, the Arup Summary Report concluded
that there was a considerable potential to improve the financial
profile of the 'specimen' proposal through further development.
Question: Were your costs a 'high' estimate as
they were based upon Sydney outturn prices?
4. Our land and infrastructure cost and revenue projections
were based upon current experience of the costs of construction
of facilities in the UK, supported on land costs and revenues
by the real estate market knowledge of Insignia Richard Ellis.
Our staging cost and revenue estimates drew upon a range of sources
including recent previous bids from European cities such as Paris
for 2008 and the outturn cost and revenues from the Sydney 2000
Olympics. Where appropriate we based our staging cost and revenue
projections upon Sydney. The advantage of using the Sydney cost
and revenue profiles is that they are outturn costs rather than
bid cost and revenue profiles which may be over optimistic. Overall
our costs and revenues were our best professional estimates given
the time (16 weeks in early 2002) and the resources available.
Question: If cost estimates are inflated to 2012
prices must revenues and benefits also be inflated?
5. A consistent methodology and approach to the appraisal
of the project is required. If costs are inflated to 2012 prices,
revenues and benefits must also be inflated.
Question: Are benefits which can't be and/or weren't
captured by (i) your particular study, and (ii) cost/benefit methodologies
in general (needing other appraisal techniques)?
6. There are benefits which it has not been possible
to quantify and incorporate into the analysis. Examples of such
benefits would include the 'feel good factor' a boost to 'image'
of the country, or an increase in sports participation amongst
the general population. It is fair to say that there could also
be potential unquantifable risks for example a badly run Games
could have a negative effect on 'image'. Currently it is not possible
to quantify or monetarise these impacts. We have placed significant
importance on the need to identify the benefits at the outset,
because of their importance in offsetting the financial
deficit that we have concluded will be incurred.
Question: There seems to be some debate over apportionment—the
scope of the Government's term 'public subsidy' which may cover
costs not within the scope of your study (i.e. wider security
for London, accelerating or guaranteeing planned infrastructure
projects to meet the Olympic timetable (bidding as well as staging),
or even customs and immigration in 2012) i.e. there is debate
over the recipe as well as the likely size of the resulting cake.
7. There is not only a debate over the recipe as
well as the size of the cake but also the attribution of costs
and benefits. An example is government agencies claim that additional
capital works will be required at Stratford station. We would
accept this but argue that not all of these costs are necessarily
attributable to the Olympics. If they are included as costs, the
benefit of such provision needs to be incorporated in the revenue/benefit
assessment.
Question: What work Sydney/Athens did or didn't
do and how their process compared to the work undertaken by Arup
and subsequently the Government and PwC?
8. I'm afraid we don't have any information on this.
As far as we are aware no other study of the type we did is available
in the public domain. Certainly, previous recent British efforts
were promoted by cities/local authorities/individuals, without
a full analysis of the overall costs and benefits of going for
a bid/staging.
Summary Question: Why is the Government's estimate
different from Arup's?
9. The first point we must emphasise is that our
commission was a highlevel costbenefit analysis of
a possible 2012 London bid. It was not a formal budget, nor did
it represent a bid document.
10. In the Arup Summary Report, which went into the
public domain in November 2002, we presented the case for a Mill
Meads Olympic Village and an athletics legacy for the stadium.
Most of the Government evaluation has been based upon a Mill Meads
Olympic Village with a football legacy—this means that there
are some small discrepancies amongst the totals (athletics gives
you a better financial result because of the smaller footprint
required for the legacy stadium allowing more post Games development
on adjacent sites). For consistency we have focused upon Mill
Meads with a football legacy in the figures below.
11. The best place to start is where we started which
is to establish the cost and revenues line items in 2002 prices.
- costs in 2002 prices were estimated to be: £2,820
million, revenues: £1,998 million, balance: £822 million;
- if you discount these figures using a 6 per cent
discount rate you get costs £1,808 million, revenues: £1,260
million, balance: £548 million;
- if you inflate these figures you get costs £3,443
million, revenues £2,450 million, balance: £983 million.
12. If you then look at the table submitted in the
DCMS written evidence you will see an Arup base case and a DCMS
case of £3,558 million in costs (we would argue that there
is a small discrepancy in methodology here and it should be £3,443
million).
13. Government has then factored in a number of additional
cost items equivalent to £1,090 million in inflated prices.
They have also included a revenue risk allowance of £400
million. This should give you a result of—£2,483 million.
14. Whichever methodology is adopted a full appraisal
of the project also requires an allowance to be made for wider
quantifiable economic benefits. To produce an initial estimate
in inflated prices we have taken the Arup case tourism assumed
benefits as well as the Arup base case fiscal and employment benefits
and inflated these figures. We have also assumed, a boost to exports
after the Games of £0.5 billion in 2002 prices. Finally we
have assumed that investment in tourism would be zero. Wider benefits
in inflated prices using this initial analysis indicate a figure
of £2.24 billion.
15. An overall position in inflated prices is set
out in the table below (we have assumed a similar level of anticipated
wider benefits in the DCMS case as we have projected in the Arup
case).
Table 1
SUMMARY ARUP AND DCMS FINANCIAL AND ECONOMIC
PROJECTIONS USING INFLATED PRICES
| | Arup £ billion inflated prices
| DCMS £ billion inflated prices
|
Costs
Revenues | 3.44
2.45
| 4.53
2.05 |
Financial balance
Wider benefits | -0.99
2.24
| -2.48
2.24 |
| Economic balance | 1.25
| -0.24 |
Summary Question: Why did Sydney and Athens get
it wrong by 100 per cent and what is the likelihood we won't?
16. We are not able to comment in detail upon the
Sydney and Athens experience from bid to outturn. We stated it
in our report and reiterated during our oral evidence that if
this experience is not to be repeated in London any Olympic Games
will require effective coordination and project management.
We contend that a concordat between the key stakeholders must
be agreed upon before any bid is submitted (ie to cover both bidding
and staging). Our emphasis is a strong project managed delivery,
incorporating private sector skills to deliver this major event
and establishing a legacy thereafter.
20 January 2003
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