Written evidence submitted by The International
Project Finance Association
1. INTRODUCTION
TO IPFA
1.1 The International Project Finance Association
(IPFA) is delighted, on behalf of its members, to prepare and
deliver this submission to the Treasury Committee of The House
of Commons in response to the call for evidence in preparation
for an inquiry on the "Private Finance Initiative".
1.2 IPFA was established in London in 1998 as
a not-for-profit trade organisation and operates as a company
limited by guarantee. IPFA is the only international and independent
association dedicated to promoting and representing the interests
of private sector companies involved in project finance and Public
Private Partnerships (PPPs) throughout the world.
1.3 IPFA currently has in excess of 360 members,
comprising companies and organisations drawn from the full range
of the project finance industry, including project sponsors, contractors,
lawyers, financial advisors, banks, consultants, accountants,
insurers and equity investors. IPFA also provides public sector
members the opportunity to become honorary or observer members.
A large number of multilateral organisations and government agencies
also regularly attend IPFA meetings across the globe.
1.4 We welcome that the Treasury Committee is
calling for evidence on the future of the Private Finance Initiative
(PFI).
1.5 IPFA believes that PPPs/PFIs have played
an important role in the delivery of major infrastructure projects
in the United Kingdom over the past fifteen years and can continue
to do so.
2. EXECUTIVE
SUMMARY
2.1 The Government's recently published plans
for some £200 billion to be invested in the UK economic infrastructure
over the next five years is welcomed.1 Of the £200
billion, around 70% of this will be sourced through private sector
investment, c £140 billion.
2.2 Both the HM Treasury report, "PFI:
Strengthening Long Term Partnerships" and the recent
National Infrastructure Plan 2010 recognises that UK's public
services were suffering from a legacy of under-investment, particularly
when compared to other G7 countries between 1970s and 1990s.
2.3 PFI/PPP projects have delivered a wide range
of public services/assets addressing infrastructure need, coupled
with providing increasing standards of service delivery and quality
against value for money requirements. There are now over 700 PFI/PPP
projects currently in operation in the United Kingdom.2
However, projects involving PFI/PPP techniques represent only
a small number of the procurement routes for the public sector
to adopt to deliver and manage public services. At present, it
is estimated that PFI accounts for only around 10 to 15% of the
total investment in public services.3
2.4 IPFA welcomes recent Government support for
PFI/PPPs as playing an important role in delivering infrastructure.4
Our members consider that political will is a vital component
to achieving delivery of successful infrastructure projects.
2.5 Our members do however acknowledge that recent
press reports have highlighted criticism of the current PFI/PPP
model as burdensome on public resources, inflexible and expensive.
2.6 The IPFA and its members welcome the opportunity
to put forward evidence to the Treasury Committee in order to
contribute to a balanced debate on the future role of PFI/PPP
in delivering long-term infrastructure within the UK. In the current
climate of fiscal constraint, the role and appropriate deployment
of long-term third party private capital to delivering UK's long-term
infrastructure ambitions has never been so vital.
2.7 It is also important to recognise the role
that is being played by the UK PFI/PPP industry and the huge opportunities
open to UK contractors and advisers in the implementation of overseas
PPP bringing real benefits to the wider UK economy—with
over 100 countries currently looking to implement PFI/PPP procurement
techniques (with over 40 nations already having some form of PPP
unit to oversee implementation of PPP policy/procurement).
2.8 In a manner consistent with the Government's
approach to furthering UK competitiveness and the promotion of
UK economic growth through exports, many UK based PFI/PPP contractors
and advisory firms are taking the opportunity to exploit their
PPP expertise and expand their services overseas employing staff
not only in the UK but overseas. UK contractors and advisors face
strong competition from overseas contractors and advisory firms.
The UK's unrivalled experience in PFI/PPP does, however, provide
firms with a competitive advantage in terms of the depth and breadth
of experience.
2.9 A number of our UK based members have indicated
that a number of jurisdictions have been picking up on the recent
criticisms of the UK PFI/PPP model within the mainstream press,
making the task of promoting UK PFI/PPP contracting and advisory
expertise more difficult overseas.
2.10 The IPFA is committed to contribute to a
balanced debate on the future of PFI and assisting in facilitating
opportunities for both the private sector and the public sector
(including sources of private sector capital) to work together
to develop and improve upon the current PFI procurement models
to enable PFI to continue to be considered as a key procurement
model for the delivery of world class long-term infrastructure
in the UK.
3. RESPONSE
The IPFA responds to the call for evidence to each
of the six questions below:
Question 1: What are the strengths and weaknesses
of the different public procurement methods?
Q1.1 IPFA recognises that the use of "Private
Finance" (ie PFI/PPP) is only one part of the overall toolkit
of procurement options open to UK Government. At present, it is
estimated that PFI based procurements accounts for only around
10 to 15% of the total investment in public services.5
Q1.2 For the purposes of responding to Question
1, we have concentrated our responses to the comparison between
PFI/PPP based procurements to those using conventional style public
procurement (ie design and build contracts, with separate maintenance
arrangements).
Q1.3 It is worth noting that there is a lack
of information/data on the performance of conventionally procured
infrastructure;6 in particular, there has been little,
if any, data collected on outcomes of traditional procurement.
However, in the case of PFI/PPP there have been numerous reports
and studies commissioned/written by HM Treasury and the NAO highlighting
the benefits of PFI/PPP projects over traditionally procured projects,7
along with independent studies on their wider benefits.8
We recommend that further work is commissioned to assess the outcomes
of traditional procured projects, so the comparison can be assessed
in a balanced manner.
Q1.4 The key strengths attributed to a PFI/PPP
based procurement method over a conventional style public procurement,
are as follows:
— Ability to transfer
risk—The often cited benefits of PFI/PPP
Projects over a conventional procurement relate to the key risks
transferred to the private sector, in particular, (i) construction
risk; and (ii) completion risk to time and cost. There is an overwhelming
amount of evidence to substantiate that PFI/PPP projects are being
delivered on time and on budget (see below).
— Cost & Time Certainty
(cf. public procured projects)—Certainty
of both cost and time project delivery is a key strength. The
Mott MacDonald Report (below) and various NAO Reports9
(including "Modernising Construction"10)
noted significant deficiencies in the traditional procurement
methodology. The Mott MacDonald Report, "Review of Large
Public Procurement in the UK" published in July 2002
examined 50 projects procured traditionally over a 20 year period
(each with a capital value in excess of £40 million in 2001
prices), all of the projects had been delivered late and over
budget. The 2003 NAO Report on PFI Construction Performance11
found that only 22% of PFI procured projects had exceeded the
cost expected by the public sector on contract award, most of
these cost overruns being due to variations demanded by public
sector sponsors. In contrast, the NAO noted previous surveys show
that over 70% of buildings delivered to the public sector procured
conventionally were over budget. Further, the 2003 NAO Report
found that under PFI only 24% of public building projects had
been delivered late, in contrast to data on traditional procurement
which found that 70% of building projects had been delivered late.
— Quality, maintenance
of assets and focus on whole life costs—A
key feature of PFI/PPP projects is that the whole-life cost of
the project is assessed, including long-term maintenance. A number
of our members have indicated that this rigour ensures that tangible
benefits can be achieved through design and asset quality, incentivised
through the long-term nature of the contracted payments made possible
by the involvement of private sector capital. This perspective
also encourages a focus on service delivery and long-term performance.
For example, repairs and maintenance requirements are planned
at the outset with allocated long-term budgets and consequently
assets and services are maintained at a predetermined level over
the life of the project.
— Long-term partnership—Where
PFI/PPP is suitable and is deployed, it can provide an enduring
partnership between the public and private sector, providing rigour
and long-term asset stewardship. A number of our members suggested
the growth in the use of long-term capital from pension funds,
insurers and long-term infrastructure funds will enhance and align
interests between the public and private sector shifting the focus
from short-term financial returns to long-term asset management
and service delivery.
— Performance—There
is little monitoring of the performance of traditional public
sector procurement projects, particularly over the asset life.
In contrast, there is extensive monitoring of the private sector's
performance during both construction and the operational phase
of a PFI/PPP project. Most PFI/PPP projects include a performance
and payment mechanism to ensure the private sector is incentivised
to perform to a required standard throughout the concession period
(which may be 30 years or more). Extensive monitoring and information
provision obligations are included in such contracts, both
as requirements of debt funders and procuring authorities. The
Attachment to this Submission provides a powerful
illustration of the payment profiles of conventional versus PFI/PPP
contracts.
Q1.5 We also recognise that PFI/PPP based procurement
methods are not without its critics. Indeed, as the Treasury Committee's
own website states, "...[c]ritics argue that many PFI
projects are inflexible and expensive, or worse, that the PFI
is inherently wasteful of public resources..."
Q1.6 Against this, the potential weaknesses to
the PFI/PPP based procurement method can be cited as follows:
— Inflexibility—Inflexibility
is often cited as a major flaw with PFI/PPP procurements. However,
the evidence suggests the contrary, namely that PFI/PPP contracts
provide sufficient flexibility for the public sector end-users12
and sponsors. PFI/PPP projects that are well-scoped in terms of
design and the scope of services from initial procurement stages
are less likely to require in-built, often expensive flexibility.
— The
National Audit Office (NAO) Report on "Making Changes in
Operational PFI Projects" highlighted that PFI deals provided
sufficient flexibility, ensured changes were handled in a timely
manner, change processes were handled well and PFI changes achieved
better value for money than conventionally outsourced work. The
PFI/PPP contractual model forces public sector procurement teams
to carefully assess their operational needs prior to embarking
on procurement of a long-term PFI/PPP contract - based upon a
"whole life" cost appraisal. This represents, a significant
change in the behaviour by procurement officials, one of the early
objectives of PFI.
— Notwithstanding
this, where there is a need for a change (whether policy, fiscal
or operationally driven), there is in reality little difference
between a PFI/PPP contract and a project procured through a traditional
method. For changes within a PFI/PPP contract, the parties will
have already negotiated and agreed a change procedure for the
parameters, implementation and adoption of change/variations.
There is no equivalent "change" regime within conventional
procurement.
— Expensive—A
recurring theme is that PFI/PPP projects are too expensive. This
has been linked in part to post credit crisis movements in senior
debt pricing. Our members have reiterated that there is a more
important seldom understood linkage between the amount of risk
transferred to the private sector and the overall cost of the
PFI/PPP project. The causal link and analysis between risk transfer
and price needs to be better assessed and understood by the public
sector. The over specification of PFI/PPP projects impacts affordability.
The initial cost of procuring a building through conventional
procurement cannot be easily compared to the whole life cost of
a well maintained PFI/PPP asset over 30 years.
— Complex
and Lengthy Procurement Timetables—PFI/PPP
are often cited as taking too long to procure. This is not entirely
the fault of PFI/PPP, but the procurement processes themselves.
We welcome the recommendations contained in the recent review
of the competitive dialogue procedure undertaken by HMT13
to address this weakness. Our members have suggested procurement
timetables and PFI/PP could also be improved through a combination
of: (i) greater use of public sector initial design work, avoiding
three separate bidders incurring significant upfront design costs;
(ii) adoption of a more centralised procurement agency-led approach,
similar to successful agencies in the Canadian provinces (Infrastructure
Ontario/Partnerships BC), to avoid over fragmentation/inconsistency
of public sector procurement expertise; (iii) greater use of input
specification where the public authority is clear on its requirements;
and (iv) avoidance of over specification, as setting lower service
standards/handback requirements may not impact materially on service
provision.
Question 2: If PFI debt had been on-balance sheet
rather than off-balance sheet would PFI projects have been used
as much? How should PFI deals be accounted for?
Q2.1 Our members believe that the key driver
for the use of PFI/PPP should be the definition and demonstration
of affordable "value for money", rather than whether
or not a particular project is included within the public sector
balance sheet. Our private sector members are largely unaffected
by the ultimate balance sheet treatment of a particular project.
Q2.2 The harmonisation of statistical reporting
and budget treatment for public sector accounts amongst EU Member
States is becoming increasingly important to our members, particularly
for those who transact across the European Union and where the
United Kingdom could be seen to be disadvantaged, if other Member
States were working under a different system to the UK. This also
improves both transparency and comparability of government debt
across the EU.
Q2.3 Ultimately, however, our members do not
believe the public sector balance sheet treatment of a project
should be the determining factor as to whether a PFI/PPP solution
should be adopted.
Question 3: How far can risk really be transferred
from public to the private sector?
Q3.1 On risk transfer, many of our members recalled
the often quoted, "…risk should be borne by the party
most able to price and manage the risk…".
Q3.2 Whilst the extent of risk transfer between
the public and private sector differs from project to project,
there are a few key parameters.
Q3.3 In broad terms, risks that are capable of
being priced, managed and controllable (and in some instances
insurable) by the private sector are suitable to be transferred
on an affordable value for money basis.
Q3.4 There has been a track record of significant
risk transfer to the private sector with PFI/PPP projects. However,
there has been little, if any, work undertaken on risk identification
and analysis in traditional procurement, as the public sector
retains most, if not all, of the major risks associated with a
traditional procurement.
Q3.5 As PFI/PPP models evolve, our members have
indicated that the public sector has sought to push the boundaries
of risk transfer, seeking to transfer risks that have previously
been retained by the public sector. This approach has two consequences.
First, the transfer of risk is accompanied by an increase in price
to reflect the risk transferred. Second, the timetable to procure
the project is extended to enable the private sector and their
funders to assess the new risk to be transferred. Once this new
risk has been transferred across a number of projects the market
can adapt, but the private sector needs time to adapt, assess
and price any new risks being transferred - this can impact both
price and the extend the procurement timetable.
Q3.6 A number of our members have pointed out
that this risk transfer is not illusory. There have been a limited
number of high profile events at both a corporate (ie Jarvis,
Ballast) and project level (ie Royal Armouries Museum in Leeds,
Defence Animal Centre PPP, Cornwall Schools, the National Physical
Laboratory at Teddington and Croydon Tramlink) in the PFI industry
where the private sector finance has been used to absorb significant
risks and financial exposure to save the projects from performance
failure. It is questionable whether this would have happened in
a conventional procurement.
Question 4: Are there any particular kinds of
risk which are particularly appropriate for transfer through PFI
deals or particular projects suited for PFI?
Q4.1 Construction risk has been very successfully
transferred to the private sector, with a number of PFI/PPP projects
that have been delivered late, where the private sector has absorbed
the financial consequences of late delivery, technical failure
and cost overruns. In all such cases the costs and related losses
would have been borne by the public sector in traditional procurements.
Q4.2 Our members indicated there are some risks
that are difficult from a value for money or bankability perspective
to pass to the private sector within a PFI/PPP contract; for example,
(i) IT/ICT and related technology risks; (ii) complex interface
issues (ie many arose in the London Underground Contracts); (iv)
property value risks; (v) services requiring material and frequent
changes; and (vi) risks associated with assets that are likely
to require frequent changes; (vii) volume/demand risk; and (viii)
protracted construction periods (ie HS2) where support may be
needed from Government to optimise risk transfer.
Question 5: What state guarantees are explicit
or implicit in PFI deals?
Q5.1 The vast majority of PFI/PPP deals are contracted
by public sector bodies whose payment and performance obligations
are underwritten, usually by statute or contractual covenant,
by UK Central Government.
Q5.2 It has been critical, in terms of credit
analysis and bankability of projects, that the payment obligations
(in particular obligations to pay unitary payments or compensation
on termination) are viewed and can be analysed as ultimately deriving
from UK Central Government whether through statute or direct contractual
covenants in the relevant project contracts.
Q5.3 There have been exceptions to this approach,
in the case of NHS Foundation Trusts, there is no such underpinning
or support from Central Government captured in statute or covenant.
In order to achieve a bankable PFI/PPP project opposite an NHS
Foundation Trust counterparty, the Secretary of State for Health
has provided a deed of safeguard on a project-by-project basis
which provides comfort to the private sector sponsor and its funders
that in the case of failure of the NHS Foundation Trust, the Secretary
of State for Health will effectively step-in. The importance of
a deed of safeguard to the bankability of a 20-30 year PFI/PPP
deal cannot be underestimated, without this, it is unlikely senior
debt beyond 5-7 years would be available.
Q5.4 Even where bankability and a credit analysis
can be traced to a Central Government's covenant to pay through
statute or contract, it is important to note that there has been
no underwriting of performance. In circumstances where a private
sector contractor has failed to perform, there are mechanisms
to deduct payments or on termination, retender the project, which
places both the sponsor's equity and senior funders' debt at risk.
Question 6: In what circumstances are PFI deals
suitable for delivery of services?
Q6.1 PFI/PPP projects have delivered a huge range
of assets and services to the public sector. Services are generally
categorised as "hard" and "soft" services,
with "hard" services being linked to the maintenance
of the fabric of the building or asset. In contrast, "soft"
services those non-core services which are usually ancillary to
the core government services (ie delivering clinical services
or teaching) such as catering, cleaning etc.
Q6.2 In circumstances where the private sector
are delivering new build assets within a PFI/PPP project there
are strong arguments for including the provision of "hard"
services within the project scope. Where the private sector have
been responsible for design and building the asset, it is likely
to be best placed to ensure the fabric of the building or asset
is maintained through their understanding of the building design,
materials, supply chain, lifecycle assumptions and access to warranties
etc.
Q6.3 The case for the inclusion of "soft"
non-core services is not so clear for long-term PFI/PPP projects
and where these "soft" services are included many are
subject to regular market assessment through benchmarking and
market testing to ensure value for money is maintained during
the life of the project concession and to mitigate potential changes
in service requirements.
Q6.4 The case for inclusion of core services
appears even weaker within a PFI/PPP project and where Government
is minded to involve the private sector in the delivery of core
or front line services, this may be better undertaken through
an outsourcing model, which is better equipped to manage significant
policy or operational changes.
Q6.5 Ultimately, the inclusion of any services
with PFI/PPP is likely to succeed in circumstances where the public
sector's service requirements are well scoped, required for a
long period of time and are unlikely to materially change over
the project term (or market test period).
Whilst we have sought and received feedback from
a large number of our members, this submission does not necessarily
represent the views of all of the IPFA's membership.
April 2011
Attachment
CONTRASTING PUBLIC SECTOR PAYMENT PROFILES
OF CONVENTIONAL AND PPP/PFI PROCUREMENT MODELS
(Source—PWC—Delivering the PPP Promise—A
review of PPP issues and activity, 2005
http://www.pwc.com/gx/en/government-infrastructure/pdf/promisereport.pdf
)
REFERENCES
1 HM Treasury/Infrastructure
UK—"National Infrastructure Plan 2010"
(see http://www.hm-treasury.gov.uk/ppp_national_infrastructure_plan.htm
)
2 Partnerships
UK, Projects Database
(see http://www.partnershipsuk.org.uk/puk-projects-database-search.aspx)
3 See endnote
6, below.
4 HM Treasury,
Public Private Partnerships—Technical Update 2010 (see
http://www.hm-treasury.gov.uk/d/ppp_technical_update.pdf)
5 See endnote
6, below.
6 Refer to, paragraph
2.25 of "PFI: Strengthening long-term partnerships",
HM Treasury, March 2006
(http://www.hm-treasury.gov.uk/d/bud06_pfi_618.pdf).
Please also refer to HM Treasury, "PFI: Meeting the Investment
Challenge", published July 2003
(http://www.nao.org.uk/publications/0708/making_changes_operational_pfi.aspx)
and
"Infrastructure Procurement: delivering long-term value",
HM Treasury, March 2008
(http://www.hm-treasury.gov.uk/d/bud08_procurement_533.pdf).
7 Since 1997,
the NAO have published over 60 reports of investigations into
PFI and PPP deals. Please refer to the National Audit Office (NAO)
website site, section on "Private Finance"
(http://www.nao.org.uk/areas_of_specialist_expertise/private_finance/recommendations.aspx)
8 However, please
refer to "PFI in school building—does it influence
educational outcomes?" KPMG's Infrastructure Spotlight Report,
2009 Edition
(http://www.kpmg.com/SiteCollectionDocuments/PFI-in-school-building.pdf)
9 Please refer
to the NAO Report on "PFI: Construction Performance",
published 5 February 2003
(http://www.nao.org.uk/publications/0203/pfi_construction_performance.aspx)
10 Please refer
to the NAO Report on "Modernising Construction" published
11 January 2001
(http://www.nao.org.uk/news/0001/0001187.aspx)
11 NAO Report
on "PFI: Construction Performance", published 5 February
2003
(http://www.nao.org.uk/publications/0203/pfi_construction_performance.aspx)
12 NAO Report
on "Making Changes in Operational PFI Projects", published
17 January 2008
(http://www.nao.org.uk/publications/0708/making_changes_operational_pfi.aspx)
13 See "HM
Treasury Review of Competitive Dialogue", November 2010
(http://www.hm-treasury.gov.uk/d/ppp_competitive_dialogue.pdf)
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