George Osborne announced plans to alter the "delivery model" around PFI in a ministerial statement on Tuesday. He said industry stakeholders would be invited to advise the Government on a more cost-effective PFI system in a "call for evidence" next month.
PFI was introduced in the early 1990s as a way of using private sector skills and finance to provide public services. It allows the private sector to obtain finance to design, build and operate a facility for the benefit of the public. In return, the public sector will grant its private sector partner a long-term contract to run the facility and will pay a monthly fee over the life of the project to repay the loan. However, PFI projects have been criticised for being too expensive, with private sector companies due £267 billion in repayments in the next half century, according to a report by the BBC.
"The Government shares some of the commonly identified concerns that PFI contracts can be too costly, inflexible and opaque," Osborne said in a statement. (2-page / 44KB PDF)
"The Government will expect a new delivery model to draw on private sector innovation but at a lower cost to the taxpayer, offering better value for our investment in public services," he said.
A new PFI model should make use of "private sector innovation ... more cost effectively"; ensure a "wider range of financing sources" is available, including through pension fund investment, and provide a "better balance between risk and reward to the private sector," the Chancellor said.
Osborne wants a modified model to be more flexible to changing public service needs and be able to deliver "an accelerated and cheaper procurement process". He said incentives that ensure private sector companies "deliver capital projects to time and to budget and to take performance risk on the delivery of services" need to be retained and that a new model should also provide "greater financial transparency at all levels".
Barry Francis, a public-private partnership (PPP) and infrastructure expert at Pinsent Masons, the law firm behind Out-Law.com, said that any new PFI model had to ensure sufficient incentives for the private sector to invest in public sector infrastructure projects.
"The public sector is short of money and the private sector is not inclined to take large risks in the current financial climate. Public sector needs to take more of the risks to leverage private sector money," Francis said.
"The riskiest and most expensive phase of a build is the construction phase. One of the models that could work is if the public sector financed the build phase of a project, whilst still ensuring the private companies are accountable for honouring the contractual deadlines," he said. "Once the build is completed private sector investors could refinance the public sector’s construction debt to finance the less risky operation of the project, but at a lower rate of interest than they would have been charged to lend if the private sector companies were borrowing to finance the actual build."
"Funding could also be layered where a state entity takes on the riskier bits of a project and is the last to be paid. This may encourage private sector investment if companies were responsible for less risky elements of a project but where they would be the first to be paid,” he said. "We may also see more public/private joint ventures, so called 'institutional PPPs'."
Francis expressed concern at some possible implications of the Chancellor’s plans to make infrastructure funding more flexible to public needs.
"One of the reasons I think PFI has been so successful is that it structures the contract in such a way so that there are adequate funds to ensure the facility is not only built but is funded for its whole life. Public buildings used to be built without adequate funding for lifecycle and maintenance and funding often got diverted to meet operational crises. The result was dilapidated estate which cost a fortune to replace. Care will need to be taken to avoid this unintended consequence of 'flexibility'," Francis said.
The Treasury will lead a "broad based engagement process with interested parties" to formulate a new approach to PFI that achieves the objectives outlined, Osborne said. He said lessons learned from the past would be used to inform future reforms.
"In considering what the future model should be it will be important to learn from the past and make full use of the wealth of experience that exists across the public and private sectors, and internationally," Osborne said.
"Where PFI has been successful – in getting projects delivered to time and to budget, and creating the correct disciplines and incentives on the private sector to effectively manage risk – we will look to retain these benefits. The Government will be launching a call for evidence on the 1 December that aims to capture the learning and lessons of the past 20 years of PFI," he said.
The Government previously abolished PFI credits, which promised businesses grants for taking on PFI projects, and announced plans to save £1.5 billion from PFI contracts already issued in England. In July the Government also published unaudited accounts detailing "an assessment of PFI liabilities," Osborne said.
