3 Opportunities to improve value for
money in the financing of infrastructure projects
17. The public sector has been heavily reliant on
the use of private finance to procure infrastructure projects.
In 2010-11, the total annual charges payable in that year were
£8.6 billion. The future commitment over the next 25 years
amounts to £210 billion in cash terms (Figure 2).[25]
New infrastructure is forecast to cost £40 billion a year
over the next five years, to be funded through a mix of public
and private investment.[26]
Figure 2: Next 25 years' estimated payments under
PFI contracts
figure 2 here
Source: Budget 2010: the economy and public finances
- supplementary material
18. To the extent that private finance is used to
fund future infrastructure investment, it is imperative that the
Treasury develops other financing solutions to reduce reliance
on expensive bank financing. In addition, steps need to be taken
where possible to reduce the high bank financing costs of the
contracts which have been entered into since the credit crisis.
19. The Treasury is considering a wider mix of financing
sources for future projects. The proposed new Green Investment
Bank is an example.[27]
On future contracts there is also a case for engaging with financial
institutions, such as pension funds or life insurance companies,
at an early stage to finance a PFI project for its whole life.
The Newham school project, after a short period of temporary
grant finance, was financed by a life insurance company at an
attractive margin.[28]
Direct grant funding can help to relieve a project from the banks'
high financing charges, even where it is used for only a limited
period of time. A financing competition, like that used on the
Treasury Building project, can also help achieve better financing
rates, if the project is not restricted to a limited choice of
financing sources.[29]
20. In terms of attracting finance from pension funds
and life insurance companies, the regulatory requirements for
the assets that can be held by these financial institutions differ
from those applicable to banks. Some of these regulations, relating
to the classification of financial interests in private finance
projects, act as a barrier to pension funds and life insurance
companies' greater participation in the private finance market.[30]
21. Another concern is the persistence of high finance
costs throughout the entire life of a PFI project. A high cost
of finance applies throughout the operating period, even though
this phase represents a lower risk for lenders than the construction
phase.[31] This means
that the impact of the bank crisis will continue to be felt by
PFI projects over the next 30 years as the high bank financing
costs are locked in for the life of each project. There is a strong
case for unbundling the construction and operating phases, enabling
risk to be priced separately on each of the two key stages of
any deal.[32]
22. As an immediate response to higher finance costs,
the Treasury increased the public sector share of refinancing
savings. This means the public sector would capture more of the
gains if, at a future date, expensive finance can be replaced
by lower cost finance. Banks are willing to refinance their project
loans so that they can recycle their capital.[33]
New contracts previously provided for 50 per cent of such savings
to be shared with the public sector authority. For new contracts
since October 2008, the authority share will be 50 per cent of
gains up to £1 million, 60 per cent between £1 million
and £3 million and 70 per cent of any gain above that.[34]
The Treasury believes that there will still be an incentive for
the private sector investors to refinance despite now being entitled
to a reduced proportion of the refinancing gains.
23. Eventually, the Government may be able to realise
up to £400 million in savings from refinancing projects that
closed in 2009. However, these gains, which depend on market conditions,
are not certain and departments need to be ready to act when conditions
are favourable. The Treasury has introduced new arrangements
since October 2008 whereby the public authority has the contractual
right to request a refinancing, a right which is exercisable once
in any two year period.[35]
24. The Treasury is considering the possibility of
implementing the National Audit Office recommendation of grouping
different PFI projects together to refinance them as a portfolio.[36]
Financial institutions with long-term interests like pension funds
and insurance companies are likely to be attracted to purchasing
debt in a group of similar projects. This would also enhance the
public sector bargaining position, reduce transaction costs for
all parties and increase the potential gains for sharing between
the private and public sectors. The Treasury cannot mandate the
private sector investors of different projects to participate
in a portfolio refinancing. It can, however, increase the likelihood
of these transactions taking place by explaining the benefits
that such transactions can secure for both the investors and the
public sector.[37]
25. In many projects, investors are realising gains
on equity sales of shares in PFI projects as well as through refinancing
debt. These gains sometimes arise on complex portfolio transactions.
Unlike refinancing gains, there is no requirement for gains from
equity sales to be shared with the public sector. If investors
are systematically making gains on share sales as well as from
refinancing, that would suggest they are regularly earning higher
profits than were expected when contracts were signed.[38]
This would in turn indicate the taxpayer is not getting a good
deal from the original contract. The Treasury does not have a
full picture of the situation because it does not monitor the
extent of these gains.
25 Qq179-182 Back
26
Q157 Back
27
Q30, Q100, Q152 Back
28
C&AG's report, Appendix Four, Case B, p4 Back
29
Q84 Back
30
Qq191-192 Back
31
Q109 Back
32
Qq70-72 Back
33
Q76 Back
34
Q73 Back
35
C&AG's report, paragraph 2.12, p25 Back
36
Q175 Back
37
Qq176-178 Back
38
Qq130-134 Back
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