By Tony Hazell - CIPFA Senior Associate
Four years ago, HM Treasury published a document on the above subject. It was practical and based on a number of pilot-study projects. It had the undoubted attraction of being based on what had been achieved in practice.
This was followed two years later with the “Code of Conduct” that spelt out procedural and behavioural requirements of all parties involved in the PPP arena. The Code is, however, voluntary. It does describe the need for the public and private sectors to work together in achieving cost reductions. It also notes that sufficient resources will be required to be devoted to such efforts to ensure the success of their outcome.
In a related article last year we posed the question “Is the Code fit for purpose?” We concluded that practical application of its common sense approach meant that it stood a good chance of success.
But what has happened since publication? One year on and we can report a very mixed series of responses to the challenges laid out in these documents in delivering the PFI contribution to balancing the nation’s books
All parties were asked to sign up to the process and outputs and the numbers that have done so have grown steadily over the intervening period.
The public sector responses have included:
- We have a deal and thus how can we challenge it?
- We do not want to upset our private sector partner with whom we will have to continue to do business for a number of years;
- We have raised this with our PFI partner and they are not interested in pursuing such savings;
- The economic pressure on us is real and growing and we need to review all of our supply arrangements whether they be PFI or otherwise.
The private sector responses have equally covered a broad spectrum and have included:
- We are not signatories to the Code of Conduct and will not therefore be playing our part as described therein.
- We are signatories to the Code but we are determined to preserve our investment and that of our sub-contractors.
- We are signatories to the Code and will work with our public sector partners to deliver the maximum achievable savings without destroying the original deal.
Such responses by either side inevitably lead to limited savings being achieved. In the current economic climate this cannot be regarded as acceptable at any level.
So what’s to be done?
The answer to this is complex and depends on the motivation (or lack of it) of the party that is frustrating the delivery of the sought-after savings.
In the case of the public sector, the government has made it abundantly clear that all PFI projects – without exception – will be subject to cost saving reviews. An executive command or softer “encouragement” is needed in order to ensure that this policy is put into practice. There will always be those who are fearful of opening up the “Whitehall versus local autonomy” debate. In the absence of local initiatives it would seem that there may be no alternative but for central government to act and be prepared to bare its teeth in doing so.
Such action will, of necessity, vary according to the constitutional framework under which the public sector party operates. In each case therefore, central diktat will need to be fashioned so as to reflect these arrangements. It will not therefore be simply a case of a spending department issuing a blanket command and then expecting the results to roll in.
Various initiatives such as the Comprehensive Spending Review, combined with successive real-terms reductions in public expenditure, have led to a real reduction in the resources available to support such a move. Intelligent planning and the development of a rolling programme of these un-reviewed or limited-savings PFI projects needs to be undertaken as a matter of urgency.
Despite these concerns, there are steps that should be taken better, to maximise the impact of the limited resources that are available. This would include targeted and structured training.
Other key components include:
- contractual analysis including the interrogation of financial models
- negotiation skills
- risk transfer issue and balance sheet issues
- case studies based on real examples of PFI cost reduction
- project management from initial engagement to actual savings delivery and continuous periodic review post the initial phase.
Private sector reluctance to come to the table in any meaningful way needs to be addressed at the same time. The tools open to the government to tackle this issue need to be considered carefully. There must come a point where it becomes apparent that simple coercion is insufficient to achieve the required outcomes.
Here options range from building a case for significant claims against the project company to negotiating cost reductions against the real threat of the public sector disengaging with any party that fails to engage and deliver. For instance, the government is already suggesting that it will not contract with private sector companies that do not pay the "living wage".
Commercial cases are being built around the continued failure of the private sector to deliver contractual obligations by which they are bound. Successive studies by the National Audit Office and the experience of CIPFA and others have demonstrated that such failures are widespread. Their identification and quantification demands detailed and, at times, forensic investigative management by the public sector and its advisors.
Scarce public sector resources used in this way will often pay for themselves and CIPFA has received feedback in relation to may projects that shows that this to be the case.
The current owners of PFI project companies regularly try to hide behind complex and often opaque ownership structures. It is often stated that no savings can be made as it will impact upon the returns made by final investor, often a pension fund and in many cases a related party. This fails to acknowledge the previous extraction of significant upsides from the project; it is also not the public sector’s role or duty to protect this incestuous circle?
In addition many long-term investors are public sector pension funds - surely they support the objective of savings in return for a marginal reduction in return?
Ultimately, such behaviour is likely to lead to offending companies who find themselves to be blacklisted, but such a move requires political and managerial resolve at UK Plc level to reach this point.
In the authors’ view, many of the steps described in the last few paragraphs are best avoided; they risk alienation of private sector players in many forms of PPP/PFI in the future. The steps described here should be applied with great care, focus and after all other avenues have been exhausted.
Nonetheless, these are real options; private sector players need to demonstrate that they can play their part in delivering against the country’s needs.