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| Issue No: | 33 |
|---|---|
| Published: | Summer 2006 |
| Article No: | 6 |
| Author: | Stephen Woodward |
| Title: | PP/ PFI in the UK - Is there and alternative? |
Risk and PPP/ PFI are inextricably linked. Risk identification, transfer and management present challenges to all contracting parties involved in PPP/ PFI. Against this background Stephen Woodward of Trett Consulting's recently established PFI division takes stock of PFI procurement in the UK and considers the outcomes for success.
Forthcoming articles will consider PPP/PFI in the USA and in international contracting.
PPP/ PFI is not a panacea. Nevertheless, within the framework of current UK Government policy, it is an important factor in public procurement. HM Treasury's principles of PFI remain constant; the private sector providing a longterm, fixed price, output-based facility with a single point of delivery and responsibility for the facility. The private sector commits capital which is at risk in relation to the performance of the facility being delivered. While the principle is constant the process is evolving.
Given the UK's history of infrastructure under-investment, the argument is put forward that there is no real alternative to PFI for catching up with neglected spending. However, a significant body of opinion searches for an alternative to PFI procurement.
With Departments scrambling for cash and Government initiatives experiencing delays from the inevitable time lag of policy implementation and the overcoming of delivery issues that take time to resolve, health and education projects are now picking up with waste, prisons and housing contributing to the projects in the making.
The short to medium term future is expected to see continued use of PFI procurement as the projects from the implementation of Government policy start to flow. The PFI market continues to evolve around Government Departmental structures as the main buyers of the operational service from completed projects.
Partnerships UK (PUK), formed out of HM Treasury as the Government's guiding hand in implementing major investment and service improvements, is working across the UK and with all parts of the public sector. Its mission is to accelerate the delivery of infrastructure renewal and high quality public services for efficient use of publicly owned assets. This is all set to be achieved through better and stronger partnerships between the public and private sectors.
Key objectives of PUK are expanding the areas for the delivery of public services in the form of new supply markets, commercialisation of public sector assets and businesses and standardisation of processes. Priority is being given to the introduction of a step change in delivery. This is being driven by a major Government initiative in the form of a taskforce to improve the quality of contract management and require public and private sectors to invest more time and resource in positively managing contracts to accommodate the inevitable changes that take place over time.
Achieving Value for Money (VfM)
PUK's 'Report on Operational PFI Projects' is an analysis of operational issues impacting on projects coming from a comprehensive review of the performance of PFI projects during their operational phase. It shows Government interest expanding from pure procurement to encompass the wider spectrum of all aspects of the operational stage. The analysis covers such issues as meeting delivery expectations, whether the contract structure adequately allows for change, the impact of a change in service provider and the continual need for benchmarking exercises.
PUK's report was followed by HM Treasury's policy statement on 'PFI Strengthening Long-Term Partnerships' underlining the Government's commitment to the appropriate use of PFI based on the criteria forming its policy of VfM. Thus, VfM is firmly reinforced as being the key driver of the PFI procurement process.
VfM is seen as coming from longterm focus on whole-life cost, the private sector's risk management expertise, private finance at risk and certainty of specified outputs. Taken together, the report and the policy statement highlight the Government's support for PFI procurement and the improvements it wants to see in the areas of performance in the operational phase, PFI procurement professionalism and a better understanding of flexibility to give VfM. The need for better procurement is identified as being achieved through enhancing skills, increasing frequency of monitoring and ensuring that projects are better prepared before release to the market. Checking on the acceptability of risk transfer early in the process is placed as a key first requirement.
An important conclusion is the call for earlier involvement of the private sector in the procurement process and the importance of risk management through the OGC Gateway Process. This process is based on well-proven techniques that lead to more effective delivery of benefits, together with more predictable costs and outcomes. It is HM Treasury's preferred means of controlling risk for acquisition programmes and procurement projects. Commencing with the business justification stage, the process examines a programme or project at critical stages in its lifecycle, to give assurance that it can progress with the right degree of certainty of success to the next stage. The process concludes with a final stage of benefits evaluation. A particular attribute of the process is its focus on planning and preparation and the way it can be used to help reduce the time taken to take projects to financial close.
The Treasury updated its 'Value for Money Assessment Guidance' with an emphasis on making a robust assessment of the business case based on detailed evidence and previous data, early option assessments using appraisals undertaken prior to engagement with the market and the fulfilment of the requirement for sufficient resourcing and planning. The aim is to identify and maximise the effectiveness of the factors that will drive the VfM process for a potential project. The requirement is for procurement to be well managed and executed and above all be transparent.
Commercialisation
PUK's mandate of assisting the implementation of Government PFI policy has also seen production of a policy guidance note for Government Departments, 'Wider Markets / Commercialisation Assessment of Potential'. The background to this guidance is the National Audit Office (NAO) recommendation that Government Departments regularly assess the potential for Wider Markets Activity (also referred to as 'Commercialisation'). The NAO identified the need for public bodies to demonstrate, as part of their asset management strategies, that they have rigorously examined their asset stocks to identify Wider Markets Opportunities. The Wider Markets Initiative is set to encourage the public sector to adopt a more entrepreneurial approach to making the most effective and efficient use of public assets by exploiting their commercial potential.
The incentive for public bodies to participate in the Commercialisation process is one of commercial benefit; as long as projects are funded from within existing spending limits or by a private partner with the public body taking responsibility for nsuring that proper procedures are followed to stay within the policy framework and the activity is undertaken to prescribed rules, the income generated can be kept retained by the body. The effects of this policy have the potential to be significant for the generation of income streams for public bodies.
EU and Banking Regulation
There is an expectation that the 'Competitive Dialogue Procedure' for complex projects (a structured negotiating procedure similar to past PFI practice that now has explicit EU rules on post-tender discussion), will create the need for all stakeholder parties, particularly those funding projects, to be more proactive in the market from which opportunities arise.
There is new regulation too in the banking sector where 'The International Convergence of Capital Measurement and Capital Standards - A Revised Framework', known as Basel II or the New Accord has been created to promote greater consistency in the way banks and banking regulators approach risk management. Implementation of Basel II is expected to increase the focus on risk management in relation to projects.
Measuring Value
It is generally accepted that PFI projects are more expensive than in the private sector (on average 30% more than if the Government borrowed the money and did the work in the public sector) and the PFI schemes are being paid for out of budgets that are already under pressure. Consequently the Government is under continual pressure to strictly apply the criteria of VfM against Treasury guidelines as a means of benchmarking PFI schemes to demonstrate that PFI deals give best value. An undertaking has been given that PFI will only be used where the case for VfM can be proven and this is repeatedly restated as Government policy.
Additional controversy is caused by the off-balance sheet nature of many PFI contracts. Currently under UK accounting regulations, the building is not shown on the PFI Company's balance sheet. However the main asset of the PFI Company is shown - that of finance debt, being the long term contractual obligation of the Government to pay for the building. For the Government's accounting, the fact that it pays a single Unitary Charge for both the building and its maintenance is sufficient for the PFI contract to be classified as a revenue item, so neither the building nor the long-term obligation to pay appear on the Government's balance sheet.
The alternative?
Recent policy is a response to the market and has the intention of linking up best practices across the public sector and improving communications and shared knowledge across public bodies. An example of such a programme is the national programme of NHS Local Improvement Finance Trust (LIFT) projects forming the PPP, Partnerships for Health. Opportunities for mixed use are being generated within the LIFT programme where projects cover buildings that are multi use public services such as primary healthcare, library, and local authority general office and police facilities all within the one PFI deal. The new companies delivering programmes of projects within LIFT schemes are now developers and have a mandate under their partnering agreements with the Department of Health to seek out and maximise development opportunities capable of delivering enhanced services for local communities.
While the process is evolving, any alternative to PFI should address what infrastructure is required in terms of output specification, how the chosen facility will perform and be funded under a payment mechanism and how risk will be shared through market acceptable risk transfer.