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State to hold minority stakes in reformed PFI

5 Dec 12 The government has published details of its new approach to the private funding of public infrastructure.

Chancellor George Osborne said that the private finance initiative was now ‘discredited’.

Under the new regime, called PF2, the government will keep a minority stake in projects, likely to be 20%.

“Since we can all see now that the public sector was sharing the risk, we will now ensure we also share in the reward,” Mr Osborne said.

Procurement will also be speeded up, the government says. The competitive tendering phase of PF2 projects, measured from project tender to the appointment of a preferred bidder, will not be allowed to take longer than 18 months unless an exemption from the Treasury chief secretary is agreed.

Acknowledged problems of the old regime included poor value for money,'windfall' profits disproportionate to risks taken on and a lack of transparency on the liabilities created by PFI projects for the taxpayer.

The Treasury document, called A new approach to public private partnerships, also admits that: “It is also evident that, too often, PFI has been used on projects where its application has been unsuitable and has, therefore, failed to deliver value for money. The previous government’s PFI credit regime provided a budgetary incentive to pursue PFI and, thereby, undermined a genuine appraisal of the optimal delivery route. Weaknesses in the budgetary and value for money framework meant that procurement decisions of government departments were sometimes skewed. This lead to PFI being used in sectors and projects where there was insufficient long term certainty on the future requirements of services; or where fast-paced technological changes made it difficult to establish requirements for the long term.”

The government will now require PFI contractors to provide actual and forecast equity return information for publication. Public sector equity in projects should also enable greater project transparency and accountability, it believes.

The Treasury will also publish a running total of taxpayer liabilities.

Under PF2, changes to the risk allocation will be made to improve value for money through the greater retention and management of certain risks by the public sector, such as the risk of additional capital expenditure arising from an unforeseeable general change in law.

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There will also be amendments to the current provisions that set out the arrangements for risk sharing of core required insurances in the operational phase of projects, so as to allow the public sector to take a more appropriate share of risk and reduce the contractor’s need to build up reserves against increases in insurance premiums.

Industry reaction

Jeffrey Adams, group chief executive of London developer and contractor United House, which works with local authorities to provide social housing as well as specialists in private residential development, said: “We have delivered successful PFI social housing projects in Islington, Camden and elsewhere and it has been frustrating that there has been a total lack of agreement on the way forward following the Government’s scrapping of the PFI model. Today’s announcement should provide more of a partnership between the public and private sectors and at least provide clarity so we can crack on and start delivering major projects to plug the gap left by spending cuts.”

Clive Docwra, head of PPP at property and construction consultant McBains Cooper on the rollout of PF2: “This is something the industry has been waiting for and represents a real step-change for the way UK infrastructure projects are procured and managed. We have seen the government take a similar position with success in the past, such as LIFT projects. In turn private investors will benefit from the security provided by government funding, which we should hope will kick-start a series of new projects.”

Nick Prior, head of infrastructure and capital projects at Deloitte, said: “The new PFI model outlined by the chancellor is badly needed both to fund new infrastructure itself and provide support to a struggling construction industry. It is essential that this new model gets as much political advocacy as possible to ensure it is not undermined in the way that the previous PFI model was. Naming it ‘PF2’ may not help distinguish it enough from ‘PFI,’ but there are some significant differences. Removing facilities management contracts from the model – and hopefully ending issues like £400 light bulbs – is an important step. The new model will also facilitate access to sizable, sustainable and long term debt financing which has not been the case for the PFI model for some time. “

He added: “This is a different model for a different time and different financial markets. It is quite possible that the changes proposed, when compared to the old PFI model, may make some projects more expensive, but this reflects the difficult climate we are operating in. While today’s announcement is certainly a step in the right direction, the challenge now is to turn those projects into reality through the new PF2 model or other procurement routes. Government agencies must have budgets allocated to fund those project pipelines. Otherwise, this will be just an academic exercise and not the spark for the much-needed shovels in the ground.”

Craig MacDougall, an associate at Aecom subsidiary P3 Advisory, said: “There are some quite reasonable positions adopted, including equity stakes for UK Plc, and of course streamlined delivery which is good and attractive to all parties involved. The assessment of risk will be interesting as this will help the risk pricing associated with riskier services (i.e. cleaning and catering), as these services typically and understandably draw a risk pricing premium in the early years of a project from FM contractors. Coupled with what appears an interim strategy for PPP projects, via the Temporary Lending Programme (part of UK Guarantees), this should help mobilise and given confidence to a frequently ‘bashed’ marketplace.”

For full details of PF2, see:

http://www.hm-treasury.gov.uk/d/infrastructure_new_approach_to_public_private_parnerships_051212.pdf

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