Nick Maltby, Head of Projects (Commercial), Bircham Dyson Bell:
It seems we are all (still) looking for new models for PPP. HM Treasury in “Infrastructure Procurement: delivering long term value” (March 2008) stated that it wished to encourage a dialogue around alternative models. Before the General Election in 2010 the Conservatives stated repeatedly that “Labour’s PFI model is flawed and must be replaced,” (George Osborne, Observer, November 2009).
After what seems to have been an interminable wait we finally (1 December 2011) have HM Treasury’s “Reform of the Private Finance Initiative“, which sets out 44 questions as part of a consultation on what the new model should look like.
In this post, I look at what the government is seeking to do and what models exist that may enable it to achieve its goals.
What is the government doing now?
The Treasury is seeking a new model that delivers long term value for money for the taxpayer, more effective use of private sector innovation and skills, reduces cost, improves flexibility and increases transparency. Specifically, the Government’s aim (as set out in paragraphs 1.2 and 6.34) is to balance these objectives in a new approach to the delivery of public facilities that:
- is less expensive and uses private sector innovation to deliver services more cost effectively;
- can access a wider range of financing sources including pension funds;
- strikes a better balance between risk and reward to the private sector;
- has greater flexibility to accommodate changing public service need over time;
- maintains the incentive on the private sector to deliver capital projects to time and to budget;
- delivers an accelerated and cheaper procurement process; and
- gives greater financial transparency at all levels of the project.
Responses are due by 10 February 2012. In the words of Geoffrey Spence, it will not be just a tweaking and renaming. So what are these models, why are they needed and what is their prospect for success?
What PFI has delivered
Before embarking on this journey it should be recalled that PPP has in fact delivered over 900 projects with a combined value of more than £70 billion in little more than a decade. Most of this investment has been in the PFI form It is PFI that has delivered benefits in terms of improved whole life cost risk allocation and management, better integration of design, construction and operational skills and delivery of projects on time and to budget, thanks in part to a greater focus on due diligence by funders. PFI has also benefited from a huge standardisation process without which it is doubtful that complex procurements of this nature could have been delivered at all. However, the current constraints within the lending markets and yet another determination of whether PFI projects are on or off the government’s balance sheet together with routine complaints about the time and cost of procurement, now threaten to undermine this progress and make PFI an easy target for its critics. Politically, it is clear that no party wishes to be associated with PFI so the model needs to change.
Alternatives to PFI?
However, is there any real alternative other than a return to conventional procurement? New models, which are cited in “Infrastructure Procurement: delivering long term value“, include Strategic Infrastructure Partnerships, Public Delivery Organisations, Alliancing, Hybrid PPP and joint ventures. The National Infrastructure Plan 2011 also mentions an extension of the Regulated Asset Base and Concessions. In view of the multiple (and sometimes conflicting) objectives of the new PFI model described above, it is unclear how the new model will be fundamentally different from the old model, particularly if pension funds are to be enticed to the party. If we believe that a new model must be capable of replication across a series of projects and of application by public sector teams and approving bodies and result in the delivery of infrastructure, then none of the alternatives currently constitute a viable new model that is in fact distinct from PFI.
Conventional Procurement
Conventional procurement accounts for 90% of UK infrastructure spending. However, those looking for new models rarely mean we should resort to conventional procurement, although it is underpinned by a series of standard contracts, is well understood across public and private sectors, is easier to procure and has absorbed many of the lessons of PFI (hence its use in the BSF programme).
Strategic Infrastructure Partnerships (SIPs)
SIPs exist at present in the LIFT and Local Education Partnership environment and were evolving wider remits before the Coalition came to power. They are arrangements between the public and private sectors to address a series of infrastructure projects over time. However, they are underpinned either by PFI or conventional procurement as the means of investment and therefore do not represent a new infrastructure model at all (whatever their other merits).
Public Delivery Organisation
Under this approach, a public body procures a public delivery organisation (the integrator) to manage the procurement of underlying assets and services and integrate them to provide a service to the public body. However, like the SIP, it is a procurement model not an infrastructure model and unlike the SIP there are few live examples.
Alliancing
“An alliancing approach involves two or more parties who share risks and rewards to enable the successful delivery of joint objectives“, (Infrastructure Procurement: delivering long term value). Unlike most other PPP models, risk is generally retained by the public sector. At the time of publication, HMT could cite no examples of this approach.
Hybrid PPP
Hybrid PPP is less a distinct model than a willingness to move away from the rigour of SoPC4 and the previously narrow Treasury approach to PFI risk transfer. Hybrid PPP is a model, which shares the characteristics of some of the other approaches but where there are some new features, for example new sources of funding. With many PFI projects coming on to the government’s balance sheet this might be considered an attractive approach, particularly if it can successfully distance itself from classic PFI. Elements could include:
- shorter contract terms;
- milestone payments;
- less equity;
- government guarantees;
- new sources of finance including unwrapped bonds and pension funds; and
- a move away from “no service, no fee”.
Of all the models, Hybrid PPP would appear to offer the greatest potential for development into a varied menu of infrastructure choices. Indeed, what Osborne is now offering appears to be simply a type of hybrid PPP. However, let us be under no illusion. The structure will only work if there is either a public sector income stream or the asset is free standing and affordable based on user charges (like toll roads or bridges).
Joint Ventures
Joint ventures cover a multitude of relationships. There is of course nothing new about such joint ventures. However, the fate of the Wider Markets Initiativewould seem to indicate that this is unlikely to be a panacea. Local Asset Backed Vehicles (LABVs) are particularly in vogue but it seems unlikely that this model will be applicable everywhere.
Regulated Asset Base
The utilities and rail sectors, unlike social infrastructure, have been generally financed by means of a regulated asset base (RAB). The RAB for a specific utility comprises all assets at the point of privatisation together with all capital expenditure since then which is protected by a duty on the relevant regulator to finance the functions of the business including the RAB through adjustments to user charges. There has been a lot of pressure over the last few years to extend the RAB model beyond the utilities and rail sector, given it enables development at a lower cost of capital. However, the National Infrastructure Plan 2011now rules this out even for the strategic roads network where it appears to be something of a no-brainer (if it was done in a cost-neutral manner). The Cook Report, “A fresh start for the Strategic Road Network“, published in November 2011, while pointing to a more detached relationship between the Highways Agency and the Department for Transport, is consistent with this position and shies away from radical conclusions as far as funding is concerned. Dieter Helm, the leading advocate of the RAB concept, will be disappointed.
Concessions
The National Infrastructure Plan 2011 states that the Government will actively explore the use of concession models such as the concession to run High Speed 1 which was sold recently. However, for concessions to work they either need a revenue stream from users or a government underwritten revenue stream like PFI. The government is looking at a concession for the A14 which is likely to look rather similar to the M6 Toll Road, which of course has a PFI structure.
What can we conclude from this?
The truth is that the only potential new model beyond conventional procurement, PFI and joint ventures is Hybrid PPP. While the previous government was reluctant to go there, it may be that this is where George Osborne is now heading through his PFI Review – although to read into this the end of PFI as Ministers and civil servants are widely stating seems to over egg the potential of the new model as its DNA is likely to resemble that of its predecessor. After 18 months of contemplation it was to be hoped that the Coalition Government would turn to PPP now as a way of jump starting growth (given that no payments would be due until the next Parliament) but it seems we will have to wait a little longer while they strive to get the details right. It will be interesting to observe in early 2012 what the new model looks like and whether it will be used for the Priority School Building Programme, the first major PFI programme to be launched by the Coalition.
The emergence of Hybrid models is certainly to be welcomed and it is to be hoped that the private sector engage fully with the PFI Review to create a model that, unlike classic PFI, might stand the test of time and get the economy moving. Answers on a post card to PPP Policy team, Room 2/S1, HM Treasury, 1 Horse Guards Road London, SW1A 2HQ or by email to PFIevidence@hmtreasury.gsi.gov.uk.