The UK’s PPP market – is PFI dead? - In-house Update April 2011
Public Private Partnerships – what are they?
In the UK, the term Public Private Partnerships (PPP) has been used for well over a decade to describe the broad range of relationships between private and public sectors. In 1992, John Major’s Conservative government introduced the Private Finance Initiative (PFI), the first systematic programme encouraging PPP.
PFI is non-recourse or limited recourse financing involving long term debt in the form of loans raised by the private sector (Sponsors) from banks* (Lenders); and equity provided by Sponsors in order to fund the design, construction, operation and maintenance of public sector assets. Typically the concession period is 25-30 years, at the end of which the asset reverts to the public sector (Authority) in a specified condition.
PFI projects have been let following a detailed, competitive procurement process. Historically PFI has been a successful method of procurement, delivering on budget and on time, whilst keeping the asset off the public sector’s balance sheet.
So, what is all the fuss about?
Since coming into power in May 2010, the Coalition Government has issued its Emergency Budget, the Comprehensive Spending Review some six months ago, followed reasonably promptly by the National Infrastructure Plan.
Despite apparently being on its last legs, PFI is not looking in bad shape. The Government is committed to investing in infrastructure and, given the state of the public purse, is seeking more private sector investment, including increased lending by banks, and despite continued criticism of PFI, no clear alternative has yet emerged.
With time marching on will we see a real alternative to PFI or will the PFI model that has been used so successfully in the UK for the last 15 years remain central to the public procurement process? Thanks to the PFI model we have seen £65 billion of infrastructure built in the UK alone and the UK has witnessed the expansion of the PFI model overseas to continental Europe, Africa, the Middle East, Asia and the Americas where it continues to be adopted with real success. The Government has confirmed that some £200 billion of investment in infrastructure is planned over the next five years across various sectors.
Despite the success of this model of procurement, PFI bashing has been a hot topic in both political circles and the media in recent months. Why has the media gone to town in criticising this form of procurement? Why have various sections of Government and the Opposition alike jumped on the PFI bashing bandwagon?
The biggest and perhaps the most frequent misunderstanding is that PFI is about buying an asset and the state paying 10, 20 or even 70 times the original capital value of the asset over a period of 25 or 30 years. What in fact happens is that the model allows the public sector to procure much needed infrastructure and services, be it in health, education, transport, defence or waste whilst transferring the risk of procuring finance.
HM Treasury is undertaking a review of some operational PFI projects in order to ascertain how these projects can be more operationally efficient, both from a cost as well as service provision perspective so as to achieve better value for money and hence efficiency and savings for the public sector.
What are the alternatives?
Industry is considering a number of different funding structures and there is a lot of debate around what would be appropriate, some examples of which include the Regulated Asset Base (RAB) model, the Tax Increment Financing (TIF), and the HUB model, to name a few:-
- The RAB model has been successfully used in the regulated utilities sectors, such as airports, energy and social housing. The Government suggested in its National Infrastructure Plan that it would like to extend the use of the RAB model into other sectors. It is important to note however that the RAB model involves investment in a regulated asset via long-term borrowing with the regulated company receiving a return from such investment by passing on the risk to customers. It works by raising money from an income generating asset. It is therefore not clear how this model would work in sectors where there is no current income stream.
- TIF has been a popular form of funding in the United States for decades. The Scottish Executive recently approved Scotland’s first scheme and is considering a number of others. In the UK context, TIF can offer a solution for regeneration projects which depend on the delivery of a piece of infrastructure for which funding cannot be obtained from other, public or private, sources. TIF allows more upfront money to be raised by committing incremental business rates which essentially means that the public sector raises the funds for the project which are then repaid using business tax revenues generated by the new or improved piece of infrastructure.
- The HUB initiative is being led by the Scottish Futures Trust on behalf of the Scottish Government. It essentially involves public sector bodies across a ‘hub’ territory working in partnership with each other and with a private sector delivery partner in joint venture.
Is PFI dead?
The Chancellor George Osborne is not a fan of PFI and he is under pressure from certain quarters to cancel PFI deals. However, both the Comprehensive Spending Review and the National Infrastructure Plan clearly envisage some form of PPP going forward and it looks likely that PFI (or PFI Mark II) is here to stay, at least until the think tanks come up with workable alternatives.
It is certain that the debate “to PFI or not to PFI” will continue for some time to come. It is also certain that society needs continued development of infrastructure to stimulate the flagging economy. Despite the bashing and the alternatives – PFI may be here to stay, albeit in a slightly tweaked form but watch this space.
*The market also saw bond financed deals funded by monolines. The bond market has been dead for about three years but is thought to have a role going forward.