Equity Investment in privately financed projects - Public Accounts Committee Contents


Conclusions and recommendations


1.  Our past reports on the use of the PFI model have often criticised the value for money case, the inflexibility of the contracts and the costly procurement process. In December 2010, we reported on the increased costs of using private debt finance since the global financial crisis which have made it difficult to sustain a value for money case for using PFI. In that report we also expressed concern on whether investors were systematically realising gains on share sales.[3]

2.  The excessively high returns being made by private investors in PFI projects are further evidence that the previous emphasis on using PFI is inappropriate for the future. For many years most public sector infrastructure projects have been undertaken using the standard PFI model as the funding involved does not count as part of national debt or a public authority's capital budget. This has incentivised authorities to treat a typical 30 year PFI deal (including bundled services) as the only feasible procurement route for a new project and very few conventionally procured projects are now undertaken which could provide comparators. To correct the previous emphasis in using PFI, the Treasury should ensure that all new business cases:

  • demonstrate whether private finance is being used because it is better than a conventional procurement and not because it is the only financing alternative;
  • in cases using private finance, demonstrate that the particular method proposed is optimal; and
  • take account of tax issues in the comparison between PFI and other procurement options, based on actual tax experience in past projects.

3.  The Treasury should also undertake regular reviews to ensure that the standard of business cases is satisfactory and that assumptions, for example on the benefits of risk transfer, are robust and empirically based.

4.  There is restricted access to data and insufficient transparency over the amounts the public sector pays for equity and the returns that investors make. The lack of full transparency on financial performance and returns to investors has hampered proper evaluation. Public confidence in privately financed projects has been eroded by a perception that PFI deals are expensive with high returns to investors. Building public trust is essential to any future procurement model that relies on private finance. Contracts should set out the levels of on-going disclosure required from investors to enable full evaluation of all costs and benefits of privately financed schemes. The Treasury and Cabinet Office must also reconsider how private companies providing public services, whether or not in the form of PFI, can be bound by the provisions of the Freedom of Information Act.

5.  Not all services included in PFI contracts need to be priced at the outset, and some could be the subject of a separate contract. PFI contracts for constructing assets have typically included a range of services, at a contracted price, for periods of around 30 years. Fixing the service provision in this way has limited public authorities' recent attempts to make operational savings. The Treasury should consider separately the procurement process for building the asset from that for providing a service to ensure that operation and maintenance services are based on actual requirements.

6.  The PFI procurement process takes too long, costs too much and restricts the market. The time and cost involved do not serve investors or taxpayers well. The scale of procurement costs constitutes a barrier to market entry for financial investors such as pension funds and smaller contractors. Successful bidders recover their procurement costs in the contract price which means the taxpayer foots the bill. Those negotiating contracts for the public sector too often lack the appropriate commercial and financial skills. The growing emphasis on localism makes this skills problem worse as all too often inexperienced local bodies undertake complex negotiations with experienced private sector counterparts. The Treasury, in consultation with investors, should identify and address the sources of cost and delay in the procurement process. The Treasury should consider whether best value would be secured by greater centralization of the procurement of PFI projects.

7.  Competition in the procurement of privately financed projects is limited and has not been a guarantee of value for money. The financial resources needed to bid for PFI contracts have restricted the number of companies bidding for contracts thereby limiting any competition. As the pricing of equity in PFI contracts appears higher than the risks would justify, there is no assurance that competitive bidding on its own will lead to effective market pricing. The Treasury needs to analyse the working of the private finance market, including the returns for investors, to demonstrate how any new approach will address these current inefficiencies and hence poor value.

8.  There is evidence from the amounts being realised by investors selling shares in PFI projects of excess profits being built into the initial pricing of contracts. The low risks associated with government contracts are not fully reflected in the pricing of PFI contracts. Project cash flow to meet bank requirements also appears to over-compensate investors. The Treasury should instruct departments to require investors to demonstrate that their pricing of equity is appropriate. The Treasury should introduce standard contractual arrangements to recover excess cash left after contractors have met bank requirements; and share in other investor returns above defined levels.



3   Committee of Public Accounts: 9th Report 2010-2011  Back


 
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Prepared 2 May 2012