Document Sample
					Research Note for the Finance                                                                 RN 00-76
Committee                                                                               30 August, 2001

                FINANCE INITIATIVE:

   This research note summarises the recent literature on Public Private
   Partnerships and the PFI.

   Public Private Partnerships (PPPs) are a means of using private finance and skills
   to deliver capital investment projects traditionally provided by the public sector.
   These include capital projects such as schools, hospitals, roads, and water
   facilities. Instead of the public sector body directly procuring capital assets and
   subsequently owning, operating and regulating them, PPPs generally involves the
   private sector owning and operating, but the public sector “buying” the service
   from the contractor for a fixed period of time.

   A public body enters into a contract with a private sector consortium to deliver the
   project. Part of the contract specifies that the private consortium must take on a
   considerable degree of the risk associated with the project. Risks include possible
   cost over runs, lower than expected usage, and so forth. The public sector body
   contracts with the private consortium to deliver some or all of the services
   associated with the investment over a number of years.

               providing research and information services to the Scottish Parliament

There are a number of different kinds of PPP, the most common of which has
been the Private Finance Initiative, (PFI). Other forms include joint ventures and
the introduction of private sector ownership into state-owned businesses.

The total capital value of the PFI projects listed in the Scottish Executive's Project
List now exceeds £2.5 billion. Major PPP/PFI projects in Scotland that are now
operational include the Skye Bridge, Kilmarnock Prison, Falkirk Schools, North
Ayrshire College, Hairmyres District General Hospital and Inverness Airport
Terminal. Many major contracts have been signed which will lead to further
projects, such as the New Royal Infirmary of Edinburgh. A series of project
datasheets is produced by the Scottish Executive’s PFI Unit.1

Within Scotland the Scottish Executive’s Private Finance Unit aims to provide
guidance and support to both the public and private sectors on PFI in Scotland.
The Unit provides a first stop source of advice and guidance on PFI in relation to
programmes managed directly by The Scottish Executive, its agencies and
other public bodies, and on the use of PFI. It publishes a journal called PFI
Quarterly. More information is on the Unit’s website.2

Two reviews of public private partnerships have been carried out, at the
Treasury’s request by Sir Malcolm Bates, Chairman of the Pearl Group. The first,
in 1997, was intended to improve the quality of PFI schemes and the efficiency of
procurements and a Treasury Taskforce (TTF) was established to standardise the
procurement procedures, and to provide relevant training for public servants. The
second Bates review reported in 1999. The main recommendations stressed the
importance of strengthening departmental deal making skills, and looking at
possible options for a successor body to the Taskforce. The work of the TTF is
now undertaken by the Office of Government Commerce (OGC)3 and
Partnerships UK (PUK).4

The Treasury has issued many guidelines on PPP and PFI.5 One of the most
important was published in 2000, Public Private Partnerships: The Government’s
Approach.6 This document states the objectives of PPP (in the UK Government’s

•   To deliver significantly improved public services, by contributing to increases in
    the quality and quantity of investment
  Available at:
  HM Treasury (2000), Public Private Partnerships: The Government’s Approach (available at:
               providing research and information services to the Scottish Parliament

•     To release the full potential of public sector assts, including state-owned
      businesses, and hence provide value for the taxpayer and wider benefits for
      the economy
•     To allow stakeholders to receive a fair share of the benefits of PPP (this
      includes customers and users of the service, taxpayers and employees).

The paper claims that PPP allows the potential of the public sector (which brings
dedicated and professional staff, portfolio of business assets, unique source of
data and research, and a range of trusted managers) to be advanced by
contribution from the private sector (which, in turn brings, commercial disciplines
and incentives, a focus on customer requirements, new and innovative
approaches and business and management expertise).

The paper argues that the state alone cannot support the level of public services
considered desirable. For this, the government will cease to be the driving force
behind many public service initiatives, and both use and learn from the expertise
of the private sector. Not least, the government will take advantage of finances
available to the private sector to build public services. It is envisaged that this can
be done to mutual advantage, to deliver quality public services. Financial gains
are sought by private sector backers, with the government remaining variously a
shareholder, client, purchaser or stakeholder.

This paper also assesses past performance of the PFI and considers issues such
as accountability, performance, price regulation, a continuing role for the
government, employee partnership schemes and policy formulation for the future.

Since its introduction, there have been numerous reviews of the success or failure
of PPP and PFI by academics, observers and other relevant parties with an
interest in public sector investment. Professor David Heald, writing from a UK-
wide perspective, has claimed that PFI has been:

         An example of a policy which might have been expected to be controversial but
         which has in fact met with little political opposition. For those who wish to privatize,
         it can be represented as a form of privitization of core government services. For
         those who wish to see more public investment, it can be represented as the only
         practical way of achieving this end … For those seeking new business
         opportunities, it affords new openings for construction groups, financial institutions
         and management consultants. Concern is likely to come from those concerned
         about “honest government accounting”, a group that is neither numerous nor
         politically weighty.7

    Heald, D (1997) Privately Financed Capital in Public Services, The Manchester School Vol LXV No. 5,
                 providing research and information services to the Scottish Parliament

The available literature is considerable. The purpose of this paper, therefore, is to
highlight some of the most recent and important analyses of this form of funding.
The organisations whose views are examined in detail are: the National Audit
Office, the Audit Commission, the House of Commons Treasury Select
Committee, Arthur Andersen/LSE, the Office of Health Economics, the Institute of
Public Policy Research, Health Policy and Health Services Research Unit, the
Centre for Public Services, UNISON and the Association of Direct Labour

National Audit Office (Skye Bridge and M74)
The National Audit Office has produced a number of reports on specific PFI
projects, mainly focusing on the procurement process, project benefits, and value
for money. In 1999, it published a general analysis of value for money in PFI.8 It
was intended to be a guide to good practice for contract managers and a manual
for public sector auditors.

The report attempts to set out how to assess the value for money of PFI deals on
a systematic basis using an analytical framework, covering the key value for
money issues which arise in these projects. The framework, and the NAO’s
accompanying commentary, is intended to provide a comprehensive good
practice guide. It highlights approaches that have been successful as well as
suggesting ways to combat the pitfalls and problems experienced in some of the
early projects.

The Framework focuses on four aspects necessary for a successful project:

Setting clear objectives

Senior managers and procuring departments should determine in advance exactly
what they are looking for from the proposed deal and how it can be expected to deliver
that outcome. They need to select the best project to pursue (only top priority
projects), make the project deliverables clear, determine the best form of partnership
and produce an outline business case.

Applying the proper procurement processes

The process must comply with the relevant law and regulations; and it must also be
designed to maximise the prospect of achieving a deal that is good value for money.

Selecting the best available deal

A department must ensure that the procurement process delivers the best available
deal in the market for the PFI project. Selecting the best deal is dependent upon
ensuring that a good range of solutions was put forward in the first place, evaluating all
elements of the bid, selecting the most economically advantageous bid, and
competently managing differences between the winning bid and the contract.

    National Audit Office (1999), Examining the value for money of deals under the Private Finance Initiative
                  providing research and information services to the Scottish Parliament

Ensuring that the deal makes sense

At any point in the process it may become clear that the market is not going to deliver a
deal on the terms envisaged at the outset. If so, the project may have to be either
dropped entirely or re-tendered on a different basis.

Two NAO reports of specific relevance to Scotland are the reports on the Skye
Bridge and the M74.

The Skye Bridge

An early Scottish example of a capital project funded by PFI is the Skye Bridge,
opened in 1995. The NAO’s report on this was published in 1997.9 The report
claimed that the choice of PFI enabled the then Scottish Office to achieve its
primary objective: the provision of a fixed crossing to Skye well in advance of any
publicly funded bridge alternative. This, it is argued, has provided a number of
benefits to the local community including shorter journey times and greater

The Scottish Office’s overall project costs of some £15 million were higher than
planned, although advisers' fees of almost £2 million were lower than the costs the
Department incurred on other similar projects. The peak requirement for finance
from the Department over the two years of construction was £9 million. However,
the NAO report argues that a conventional procurement would have been more
than £22 million.

The NAO found that, although the Scottish Office was unable to bring competition
to bear in the final stages of the deal, most of the project's constituent costs were
determined competitively or were in line with market rates. The NAO was assured
that the Department selected the best available privately financed deal and
secured value for money. However, the report points out that the Scottish Office
had to rely on negotiation by their preferred bidder not competition to determine
some important financing costs.

Consequently, the NAO made a number of recommendations for departments and
other public bodies responsible for future privately financed projects should:

•     appoint advisers by competition, and set cost targets for advisers fees at the
      earliest opportunity
•     carry out and document a comprehensive risk analysis for each private finance
•     check the financial robustness of bids (and after increased project costs)

    National Audit Office (1997), HC 5 1997/8 The Skye Bridge (

                 providing research and information services to the Scottish Parliament

•      obtain in electronic form the financial model of bidders whose proposals are to
       be the subject of negotiation
•      where bids are conditional on the raising of finance, seek independent
       confirmation that the financing on the proposed terms is likely to be achievable
•      ensure that competitive pressure is brought to bear on the bidders in respect of
       all project costs including financing costs
•      where there is no public sector comparator, a systematic financial comparison
       should be undertaken using realistic alternative options (e.g. doing nothing or
       achieving the same objectives in a different way).

The M74

In April 1997, the Scottish Office signed a contract with Autolink Concessionaires
(M6) plc to upgrade a 28 kilometre section of the A74, and to operate and
maintain the 92 kilometre length of the M74 between Millbank and the border. In
return, the Scottish Office agreed to make payments to Autolink based on the
volume of traffic using the road, subject to a maximum in each year – so called
"shadow tolls".

An NAO investigation10 concluded that there were a number of benefits in the
chosen form of procurement, namely construction of the road in 22 months,
compared with an estimated 36 months for a conventionally financed project.
Although, this early delivery increased the cost of the contract for the Scottish
Office, the NAO concluded that these extra costs were matched by the additional
benefits to road users resulting from advanced completion.

In addition, the use of shadow tolls as the payment mechanism for the road
creates a risk for Autolink (linked to the volume of traffic) may have increased the
cost of the contract. If a different payment mechanism could be developed it
might in future produce a better deal. However, the NAO was satisfied that the
deal would secure value for money.

The NAO was satisfied with most of the process in this case and concluded that
the Scottish Office maintained good communication and feedback with bidders,
and ensured competition throughout the process.11

In terms of specific recommendations, the report suggested:

•      that in future roads contracts, departments should think about how to allow the
       maximum possible scope for innovation on the part of the private sector
       (because Autolink had arranged finance for the deal by involving a bond issue
       to gain access to global capital markets. In the NAO’s view, this will lead to
       lower shadow tolls)

     National Audit Office (1999) HC 356 1998/9 The Private Finance Initiative: The Contract to Complete and
      Operate the A74(M)/M74 in Scotland (
     The Scottish Office also included an unanticipated second round of bidding that maintained “competitive
                  providing research and information services to the Scottish Parliament

•   that departments continue to look at alternatives to shadow tolls for future
    privately operated roads
•   that where competitive tension can only be maintained by including a second
    stage of bidding involving parallel negotiations with two bidders, then
    departments should consider the case for reimbursing some or all of the losing
    bidder’s costs
•   that departments evaluate carefully the additional costs and benefits that
    would arise from having a service provided significantly ahead of schedule
•   that departments should as in this case, invite an independent contractor to
    participate in the development of the public sector comparator.

The Audit Commission
The Audit Commission published its report, Building for the Future: The
Management Procurement under the Private Finance Initiative, in 2001. The
intention was to identify lessons from the experience of PFI schemes in health and
local government.

Specification of desired outcome
Public sector purchasers need a clearly defined vision of expected outcomes and
must communicate that vision to key stakeholders. It emphasised the importance
of specifying long-term service requirement, although acknowledged that this was
often difficult. However, contracts should also be flexible enough to build in
allowances for operating flexibility but the contracts should be clear about how
changes in service initiated by the contractor will be dealt with.

Effective project management
Politicians, board members and senior officers must work hard to foster a
constructive, long-term partnership with the private sector provider. Project
management structures must be appropriate to the needs of the purchaser and
must fit into existing decision-making structures. Purchasers must adopt an open
approach to PFI schemes and encourage community involvement at every stage
of the procurement process. The quality of the project manager is crucial to the
success of PFI deals. Purchasers must be realistic about the resources required
to complete PFI deals. Prospective purchasers should test their own ‘fitness’ by
carrying out a full appraisal of client-side strengths and weaknesses.

Holding the contractor to account
The Commission made the following recommendations in relation to the
contracting process (emphasising that experience suggests that this period often
takes longer than a purchaser initially appreciates). The report goes on to state
that a clear purchaser vision of the desired outcomes can assist in reducing the
length of time taken to close deals. Purchasers should also ensure that they could
regularly hold the contractor to account, by establishing a communications
protocol as a condition of a successful bid. Where a contractor is a consortium, a
purchaser should try to assess the “cohesiveness” of this.

            providing research and information services to the Scottish Parliament

Performance management
The report also highlighted the importance of the performance management in
relation to projects funded under PFI. The Audit Commission is keen to ensure
that purchasers do not reject the PFI on the grounds that long-term service
contracts are incompatible with the principles of best value. However, purchasers
must be able to demonstrate that PFI contracts remain competitive through the
regular market testing of services.

Joint projects
The report recognised that joint PFI schemes are likely to remain a difficult option
for health and local authority bodies as they are separate organisations, subject to
separate project approval mechanisms and legal frameworks, and working within
different planning horizons.

Risk management
The paper addressed the question of risk management. The Audit Commission
stressed that in allocating risks, and negotiating contracts, purchasers should be
aware that the relationship between price and risk is affected by the nature of the
market and the approach adopted by individual companies. Purchasers should
compare several bids to obtain the best possible understanding of the
assumptions that are critical to the affordability of individual schemes.

Development and sharing of expertise
The Commission’s report emphasises the importance of ensuring that project
management skills and PFI expertise (once developed) are shared. Purchasers
need to make better use of their own in-house skills and restrict the use of
external advisers to areas where these are clearly lacking.

The report concludes with four “top tips” for making a PFI scheme successful
(developed following discussions with project mangers in the health sector and
local government):

     • Have a clear and consistent vision of desired service outcomes

     • Assemble a good team and resource it properly

     • Use professional advisers effectively

     • Use the accumulated knowledge and experience of other purchasers
        where possible.

            providing research and information services to the Scottish Parliament

House of Commons Treasury Select Committee
In 1999 and 2000, the House of Commons Treasury Select Committee conducted
an Inquiry into PFI.12       Evidence was taken from the Business Services
Association, Majors Contractors Group, CBI, TUC, UNISON, HM Treasury and
various individuals, including Professor Allyson Pollock.

The Committee concluded that the case for PFI has been weakened in recent
years. It argued that that PFI was an attractive option for increasing investment in
the public sector, when reduction of the Public Sector Borrowing Requirement was
a key policy. However, under the new fiscal framework, ongoing investment does
not jeopardise the Chancellor’s “Golden Rule”13 the case for PFI as the main
means of obtaining extra investment has been weakened.

The other recommendations and conclusion of the committee are as follows:

Risk transfer
Risk transfer should be clearly identified, so that commissioning authorities should
set out clearly the risks that are being transferred. In particular, the Committee
was keen to ensure that the private sector does not seek to minimise operational
risk by reducing service specification once the contract has started.

The Public Sector Comparator (PSC)
The PSC should contain a clear statement of the risks that have been quantified
and included in it.

Adequate specification of required outcomes
The commissioning body should state as early as possible in the process the
outputs that are required, in order to avoid the need for too many changes as
negotiations proceed.

The Committee recommended that the NAO undertake research into PFI projects
once they have been implemented to ensure value for money. As part of these
recommendations, the Committee suggested that a central system to collect
information on each PFI project should be established to enable comparative
analysis. In particular, it should be clear which types of projects are most suitable
for PFI, and identify the features that make a project suitable for PFI (e.g. size,
expected life of the asset, types of risk). The Committee also recommended that
the Office of Government Commerce should monitor PFI projects to identify
innovative approaches that could be transferred to publicly funded projects.

   House of Commons Treasury Select Committee (2000) HC 706 Fifth Special Report: The Private Finance
Available at:
   One of the two fiscal rules underpinning the present UK Government’s fiscal policy. On average over the
economic cycle the government will borrow only to invest and not to fund current expenditure. This means that
over the cycle the current budget must not be in deficit.

                providing research and information services to the Scottish Parliament

The Committee stated that there should be no negative effects for staff transferred
as part of a PFI contract. In relation to schools and hospitals (where PFI does not
involve the transfer of clinical staff or teachers), the Committee was expressed
concern that were likely to be differences between the public sector staff in the
institution, and the contractor’s staff (e.g. ancillary staff, cleaners, porters). The
Committee recommended that the NAO should research staffing trends within PFI
contracts to ‘guard against the development of two-tier employment status as
between employees covered by the TUPE regulations and newly-recruited non
TUPE employees’.

The Government should account for the current and capital liabilities of a PFI
project separately and ensure that value for money is recognised as the main
justification for PFI.

In a recommendation aimed at ensuring value for money for the consumer, the
Committee stated:

      The promotion of PFI projects has clearly led to a considerable and welcome
      increase in investment in hospitals. It is important to be able to demonstrate that
      value for money has been achieved; in the short term it is essential to construct
      valid Public Sector Comparators, and these should be supplemented in the
      longer term by comparisons between PFI hospitals and conventionally procured
      hospitals. We recommend also that the National Audit Office studies and reports
      on the issue of whether PFI procurements have resulted in more, fewer or the
      same number of beds as conventional procurements

Arthur Andersen/LSE
In 2001, Arthur Andersen and Enterprise LSE published a review of PFI,
commissioned by the Treasury Taskforce, to examine the value for money
aspects of operational PFI projects.14 Its conclusions were broadly supportive of
PPP and PFI as a procurement mechanism.

The study utilised four approaches: a literature review and survey of NAO reports
into PFI projects; a survey of public sector project managers’ opinions; scrutiny of
Forward Business Cases (FBCs); and recommendations as to the areas on which
project managers should focus so as to obtain value for money in PFI projects

The report’s key findings were as follows:

  Arthur Andersen and Enterprise LSE (2001), Value for Money Drivers in the Private Finance Initiative.
Available at:

               providing research and information services to the Scottish Parliament

          •   from a public sector perspective there are six key drivers of value for
              money in PFI projects: risk transfer, the long term nature of contracts, the
              use of an output-based specification, competition, performance
              measurement and incentives, and private sector management skills
          •   The gap between the cost of private sector capital and public borrowing
              has been narrowing as PFI matures and the public and private sectors
              gain in experience, and is not as high as some of the literature suggests.
          •   The average percentage estimated saving against the Public Sector
              Comparator (PSC) for the sample of projects was 17%. On the basis of
              the public sector’s own figures, the PFI therefore appears to offer
              excellent value for money.
          •   The ongoing use of PSCs will require periodic review to ensure their
              continuing relevance and application as a benchmark
          •   The success of PFI as a procurement method is becoming well
              established and a robust procurement framework has been developed.

It also provided a number of recommendations:

          • Public sector managers should share experiences (e.g. developing output
             specifications to aid future project managers) and should create
             arrangements to provide for the transfer and secondment of staff in the
             public sector with appropriate skills and experience in PFI.

          •   Project performance should be monitored (possibly by establishing a
              central system to collect information on project performance, with
              benchmarking performance against comparable PFI and other projects)

          •   In relation to Public Sector Comparators, the best alternative available to
              the public sector should be used as the comparator. However, in certain
              sectors it may be more valuable to compare a proposed PFI deal with the
              terms of previous PFI deals, or an alternative benchmark based upon
              relevant private sector data.

          •   Departments should issue guidance from on the valuation of risk transfer,
              particularly with regard to construction cost overruns on traditionally
              procured projects.

This report has been criticised.15 Pollock and Vickers question the Andersen
findings that on average a PFI is 17 per cent cheaper than the PSC. They argue
that this calculation is an average of the 29 Full Business cases analysed by
Andersen. However, they claim that more than half the total project savings came
from one project (the Prime Project to transfer the estate of the Department of
Social Security to the private sector). This and two other projects account for 80
per cent of the saving. Pollock and Vickers claim that, once these three projects
are removed, the average saving is 6 per cent.

     Pollock, A. and Vickers, N. (2000), Private Pie in the Sky, Public Finance, April 14-20, pp.22-23
                   providing research and information services to the Scottish Parliament

Pollock and Vickers also challenge the claim that risk transfer valuations account
for 60 per cent of the forecast savings, as the information to make the necessary
calculation was not available for all the projects examined. In their view, the FBCs
are a “poor source of information” about the value for money of projects.

Office of Health Economics
An important study by Jon Sussex was published by the Office of Health
Economics (OHE) in 2001.16 This publication, The Economics of the Private
Finance Initiative in the NHS focuses on the experience of PFI in the UK National
Health Service.

Sussex summarises some benefits of PFI procurement and suggests that the
disciplines of PFI-based procurement have forced NHS managers to ‘concentrate
more on outcomes than inputs, with likely benefits to improving the maintenance
of assets and the minimisation of overruns on constructions cost and time. NHS
managers must think more carefully about desired outcomes, rather than incomes
and must take full account of risks involved in any project. However, NHS
managers now have sufficient experience of PFI procurement to be able to
transfer those developed skills to make unfettered comparisons between the
advantages of traditional versus PPP procurement. His view is that the choice
should be based on analysis and management judgement of the balance of cost
and benefit in each case and not continued pressure on NHS managers to pursue
the PFI.

He challenges the argument that PFI allows for more investment than
conventional Exchequer funding (describing this as a red herring). In his view,
government decision, and not the funding process, is the main determinant of
levels of funding.

He also argues that the claimed net benefits of NHS PFI schemes, in relation to
traditional funded mechanisms, ‘appear to be small. The main estimated net
benefit of those PFI projects in the NHS have been largely due to the 6 per cent
per annum discount rate. If it were reduced to 4 per cent, then this value would

In summary, he argues that, compared to ‘well-managed’ Exchequer financed
procurement, PFI:

         •   May or may not offer design improvements and lower construction costs;
         •   May or may not lead to more cost effective support services
         •   Does not increase the realistic value of surplus assets disposals
         •   May involve higher costs of borrowing, after accounting properly for risk;

     Sussex, J. (2001), The Economics of the Private Finance Initiative in the NHS. London: Office of Health
                 providing research and information services to the Scottish Parliament

         •    Will probably lead to more projects being completed in time; and
         •    Will probably yield better maintained hospitals.

In conclusion he argues that public sector managers should not be forced to adopt
a PPP/PFI solution and makes the following recommendations:

1. “the bias against Exchequer financed investment caused by the existence of a
   separate capped budget for Exchequer funded, but not PFI funded, capital
   expenditure in the NHS is removed. It must be made clear that funds are as readily
   available for worthwhile conventionally financed schemes as they are for PFI projects;
2. the criteria by which capital schemes are approved or rejected by the UK health
   departments and the Treasury are made clear and are published. These criteria
   should be applied equally to conventional and PFI schemes, and the reasoning
   behind the approval or rejection decisions for individual schemes should be published;
3. lower discount rates should be used for comparing equivalent conventionally and PFI
   financed options. I suggest a 4% real annual discount rate rather than the current 6%
   which is too high given that the costs of risks are already identified and added to the
   projects’ costs.”

Institute of Public Policy Research
In recent years, one of the largest analyses of PPP and PFI has been undertaken
by the Commission on Public Private Partnerships, established by the Institute of
Public Policy Research (IPPR). The Commission was launched in September
1999 with a brief to consider when and how PPPs should be used in the
modernisation of public services and the delivery of key public policy objectives.
The IPPR’s view is that, previously, there have been no widely agreed set of
principles used to determine the appropriate use of partnerships between the
public, private and not-for-profit sectors in the delivery of public services. The
Commission’s aim was to produce a set of authoritative guidelines to inform the
use of partnerships in the future.17 The Commission’s stated objectives were to:
“provide an independent, comprehensive, and forward looking analysis of the use
of PPPs; influence the Government's future policy agenda on the use of PPPs;
and stimulate an informed public debate on the use of PPPs.”

The Commissioned consulted extensively, sending out a consultation document in
June 2000 to 700 organisations, public bodies and experts in the field of PPPs.
The Commission received 68 responses comprising 12 from public bodies, 30
from private firms, 4 from employer representative bodies, 9 from employee
representative bodies, 7 from voluntary sector organisations and 6 from other

     A list of the Commissioners is included at Annex 1
                  providing research and information services to the Scottish Parliament

A number of documents were published during the lifetime of the Commission and
its final report was published in June 2001, Building Better Partnerships.18 This
commends the use of PPPs in the right circumstances and for appropriate
projects. The report reasserts the case for publicly funded universal services (and
claims that overall capital investment is still dominated by traditional forms of
procurement) but that the public sector should remain “open minded” about
entering into partnerships. However, clear criteria should always be established
for assessing whether or not PPPs are the right approach (in the Commission’s
view these should be: social equity, value for money, and accountability).

In summary, reform of public private partnerships is required if the Government is
to succeed in improving the quality of the UK’s publicly funded services. Although
PPPs have been billed as the ‘big idea’ for Labour’s second term, major changes
in policy are needed if PPPs are to help secure improvements in the key areas of
education, health, transport and local government. The report stresses that there
should be no ideological barriers to the use of PPPs in the public services. But it
also stresses that there are many practicable problems to the effective use of
partnerships. Policy must therefore be evidence-based, proceed cautiously and be
based upon the consent of the communities who rely on services. The report
argues that the record to date of PFI in areas such as health and education is
mixed and that hard lessons need to be learnt from the Government’s proposals
for PPPs for London Underground and NATS.

The report is critical of current practice in which PPPs provide “ancillary” rather
than “core” aspects of public services and argues the need for a new approach to
identifying the types of services that can included within PPPs. In the NHS, it
claims, the practice has been to offer PFI funding only to ancillary services, and
not to the core services which are ‘ring-fenced’ for traditional funding. Conversely,
in some sectors (e.g. prisons) the full range of services has been procured via
PFI, including the management and staff.

In summary, the Commission recommends the development of an ethos and
working practice in which flexibility is advanced and where public bodies can
assess on a case-by-case basis the most appropriate form of procurement.

The IPPR’s “key lessons” of PFI

Privately financed public investment should be taken into account in deciding the
‘sustainability’ of the public finances

Government departments should be set an overall capital spending budget that
encompasses both traditionally financed public spending and the capital value of PFI

     Instate of Public Policy Research (2001), Building Better Partnerships: The final Report of the Commission
      on Public Private Partnerships. London: IPPR. A summary text is available on the IPPR website:
                  providing research and information services to the Scottish Parliament

Public authorities need to have a clear policy planning framework that integrates all forms
of investment and service provision.

PFI projects should not go ahead only because a public authority believes there is no

The accounting treatment of a PPP/PFI project should be settled after a decision to go
ahead on value-for-money grounds has been made.

All PPP/PFI proposals need to be subjected to a sensitivity analysis to see whether
different assumptions, for example, about different forms of risk allocation, would
significantly alter the value-for-money assessment.

Consideration should be given to reducing the discount rate used by the Treasury from six
to five per cent.

Government should experiment with a range of procurement models for capital projects. A
new mono-culture of procurement based on the current PFI model should be avoided.

All contracts should have explicit provisions for sharing super-profits arising from re-
financing deals.

Flexibility needs to be built into PPP contracts if they are to promote continuous
improvement and value-for-money over time

Outcome-based contracting should become a regular feature of PPPs

User satisfaction should be used regularly to determine a portion of the payment made to

The Government Offices for the Regions should be provided with a pump-priming fund to
reward joint commissioning by groups of local authorities

Public authorities need to be aware that they are under no duty to select least-cost

Building Better Partnerships emphasised the importance of refining the processes
and mechanisms by which the public sector can work more effectively with the
private and voluntary sectors. In addition the status and career structures of
procurement officers in the public sector needs to be enhanced.

The PPP Commission has been keen to stress that public service providers
should be accountable to communities (including the services they procure from
the private and voluntary sectors). The traditional model of accountability has
operated on the basis that public sector services have been delivered by the
public sector directly. In the Commission’s view, the introduction of PPPs
‘stretches’ this traditional relationship. And policy should ensure that partnerships
have community consent. On this issue, it specified a range of recommendations:

             providing research and information services to the Scottish Parliament

•   The Cabinet Office and the Office of Government Commerce should provide
    joint guidance on how to conduct community consultation in PPP projects.
•   In areas of service delivery which impinge directly on citizen’s everyday lives
    (for example, housing or schools), particular effort should be made to involve
    users substantively in the selection of service providers.
•   Pilots for neighbourhood level ‘community trusts’ should be established which
    allow local people to take a strategic view of the fit between existing public
    sector assets and neighbourhood needs.
•   There should be a moratorium on new funding streams for local partnership
    initiatives for at least three years in order to allow for evaluation of current
•   There should always be clarity about what it is that the private sector is
    expected to contribute to local partnerships. Generally the role of the private
    sector will focus on management and commercial skills rather than the
    provision of funding.
•   Private and voluntary providers must accept that higher standards of disclosure
    and transparency apply in the public service sector than in the rest of the
•   Performance data on services provided through partnerships should always be
    made publicly available.
•   The mandatory framework for disclosing information that currently exists in the
    NHS should be extended to all PFI projects.
•   The National Audit Office should have statutory powers to access information
    on private providers relating to public contracts above a certain size.
•   The responsibility held by different bodies in a partnership should always be
    made explicit in the contract. Public authorities should remain responsible for
    ensuring that citizens will not suffer as a result of contractual deficiencies.
•   The status and areas of competence of decision-making bodies set up within
    PPP contracts (such as ‘partnership boards’) should always be made explicit.
•   Contracts need to set out clearly the actions that public purchasers can take to
    enforce agreed terms – this is particularly relevant when there is more than
    one public body involved in purchasing services.
•   The public body that will be held to account legally and politically for managing
    a contract should always be the body that establishes that contract in the first
•   The application of judicial review to service providers who are not in the public
    sector needs to be clarified. The test for whether public law should be applied
    should be the nature of the function being performed by a public service
    organisation rather than its legal structure.
•   All PPP contracts should clearly set out the grievance procedures through
    which individual citizens have redress.

Health Policy and Health Services Research Unit

The IPPR report has been criticised by the Health Policy and Health Services
Research Unit of University College London (headed by Professor Allyson

             providing research and information services to the Scottish Parliament

Pollock). This is a group of academic and practitioner commentators who are
highly sceptical of PFI and PPPs, and favour traditional forms of procurement.

In July 2001, they made a number of criticisms of the IPPR arguments.19 They
challenge the IPPR assumption that PFI/PPP forms a modest share of public
sector capital expenditure and are critical of the Commission’s recommendation
that PFI/PPP should be extended into new forms of procurement. They also
challenge the IPPR view that competitive pressures between project bidders will
ensure value for money. In their view, the relative small number of bidders leaves
contractors in a potentially powerful position. They are critical that the IPPR
simply “buys into” the argument that the private sector has superior managerial
skills, thus ensuring greater efficiency and economy.

They question the IPPR’s emphasis on value for money and argue that schemes
may be pruned to make them affordable (e.g. land sales in relation to hospitals).

They criticise the manner in which the IPPR Commission has dealt with issues of
accountability and transparency, stating that the Commission has dealt with these
issues in an abstract way, rather than using empirical evidence to examine cases
and problems, making only general recommendations.

Specifically in relation to the health service, it argues that PFI has led to escalating
costs and resultant service closures and that the NHS will be “downsized”
because using capital budgets will be used to create subsidies to the private
sector, and requiring input from monies that should be spent on clinical care. In
their view, international experience suggests that PFI has led to user charges and
private insurance.

The authors are critical that the IPPR Commission does not make the case for
traditional forms of public sector delivery of service. In their view, the IPPR Report
wrongly seeks to reduce the difference between the public and private sectors in
the delivery of key public services, which they claim will reduce the cost, quality
and efficiency of those services.

They are also critical of the process adopted by the IPPR Commission and claim
that it was secret and unaccountable. They argue that the Commission members
are not neutral and that many of them have direct links into key government
departments and some PFI areas of service.

Critiques in the British Medical Journal

Professor Pollock and her colleagues have also produced a number of articles,
critical of PFI for the British Medical Journal (BMJ).

  Pollock, A. Jean Shaoul, David Rowland, Stewart Player (2001) A response to the IPPR's Commission on
Public Private Partnerships (available on website at:
               providing research and information services to the Scottish Parliament

One article uses case studies of hospital programmes to highlight potential
problems of PFI and concludes that PFI will lead to bed reductions, as the private
plans have failed to fully consider the impact of closure of smaller hospitals and
the amalgamation of services in large new PFI funded sites.20

A series of four papers published in 1999 further developed the critique. The first
argued that PFI, far from being a new source of funding for NHS infrastructure, is a
financing mechanism that greatly increases the cost to the taxpayer of NHS capital
development.21 The second paper showed that the justification for the higher
costs of the private finance initiative the transfer of risk to the private sector was
not borne out by the evidence.22 The third paper argued that the impact of the
higher costs at local level on the revenue budgets of NHS trusts and health
authorities, distorts planning decisions and to reduce planned staffing and service
levels.23 The fourth article raises questions about the direction of government
policy towards the NHS. The authors argue that government commitments to
increase clinical staffing levels and reverse the decline in bed capacity sit uneasily
with PFI which, in their view, leads to a reduction in available money.24

Worcester Royal Infirmary

Members of Professor Pollock’s team have also criticised the Worcester Royal
Infirmary PFI.25 They argue that following the 'reconfiguration' of hospitals in
Worcestershire and the 'sacrificing' of the Kidderminster Hospital to pay for
escalating costs of the Royal Infirmary, there has been a resultant fall in the
capacity of hospitals in the region. The report describes the attempt to cure the
deficit, through PFI, as “ill-advised” and one which will “decrease the availability of
NHS care”. These conclusions were reached on an actuarial basis, by analysing
the finances of the Health Authority, and then by doing so in relation to service
plans. The arguments are further developed by the same team in an article for
Public Finance, in which they argue that alternative provision has not been made
for the patients who will be displaced when Kidderminster's inpatient beds are

   Pollock, A. et. al. (1997) What happens when the private sector plans hospital services for the NHS: three
    case studies under the private finance initiative, British Medical Journal, 314: 1266, 26 April
   Gaffney D, Pollock AM, Price D, Shaoul J. NHS capital expenditure and the private finance initiative
expansion or contraction? BMJ 1999; 319: 48-51

   Gaffney D, Pollock AM, Price D, Shaoul J. PFI in the NHS: is there an economic case? BMJ 1999; 319: 116-
   Pollock AM, Dunnigan M, Gaffney D, Price D, Shaoul J. Planning the new NHS: downsizing for the 21st
century. BMJ 1999; 319: 179-184
   Gaffney, G, Pollock, A., Price, D. Shaoul, J. The politics of the private finance initiative and the new NHS
    BMJ 1999, 319: 249-253
   Pollock, A. Price, D. & Dunnigan, M. (2000) Deficits Before Patients. Health Policy and Health Services
    Research Unit, University College: London
   Pollock, A., Price, D & Dunnigan, M. (2000) The real cost of PFI in Worcester Public Finance, 14-20 July
                providing research and information services to the Scottish Parliament

Centre for Public Services
The Centre for Public Services is an independent, left of centre organisation,
working closely with local authorities and other public bodies, trade unions and
community organisations. It has a stated commitment to public service and to the
public sector. It has recently released a briefing paper entitled Private Finance
Initiative and Public Private Partnerships: What future for public services?27 The
paper is inherently critical of PPP and PFI and its stated purpose is ‘provide the
key arguments for those campaigning against the privatisation of public services’.
It criticises the Government use of PFI/PPPs and argues that PFI/PPP projects
bring no additional investment to the public sector, as they still have to be funded
by taxpayers. The Report suggests 25 “reasons” for its opposition to PFI/PPP.

The introduction of PFI/PPP leads to a reconfiguration of public services, affecting all staff
and services and which creates artificial division between core and support services

PFI/PPPs are often more expensive than publicly financed projects (partly because the
government can borrow at lower rates of interest than the private sector)

Escalating costs are a common feature of PFI/PPPs

Value for Money is far less in comparison to the Public Sector Comparator than claimed

PFI projects commit future governments to revenue payments for 25-35 years (where
governments may have to raise taxes or impose charges for services which are currently

Because PFI/PPP projects combine the cost of building new facilities with the cost of
running them (all of which is paid from the revenue budget) this means that revenue
budgets may be increased to cope with the additional expenditure. This may lead to cuts
in other services.

PFI is subsidised by government (local government PFI/PPPs receive revenue support
subsidy in the same way as if they were publicly financed projects, while the NHS
effectively subsidises PFI/PPP schemes through three mechanisms - capital charges
(paying the same for a reduced asset base), the capital support scheme and diverting
block capital funding to PFI/PPP schemes).

High transaction costs because each party has legal, financial, management and other
advisers and consultant’s fees.

Public sector comparator flawed. The difference between the public sector and PFI costs
may be marginal and could be reversed with a small alteration to the financial estimates.

             providing research and information services to the Scottish Parliament

The development process leads to selling land and assets, i.e. gaining control of surplus
land and buildings such as school playing fields, vacant land, empty hospital buildings for
property development.

PPP/PFI will transform the funding of capital expenditure, as the State becomes
increasingly reliant (or “captive”) on such funding. If public sector capital spending is cut
as, say, a result of an economic crisis, reliance on PFI/PPPs will be further embedded.

Changing nature of risk. Risk is now a commercial product, where it is identified, priced
and responsibility legally attributed. Each project identifies the type of risk to be
transferred to the private sector, and the price to be re-charged to the public sector.

Lack of democratic accountability. Companies and private non-profit organisations are
generally accountable only to shareholders and directors respectively. Partnership often
involves a dilution and merging of public, private and voluntary interests.

The performance of the major computing PFI/PPPs has been less than successful and
there is evidence of project delays, cost overruns, service failures and a failure to transfer

Public sector lose control over assets and services. While these should revert to public
ownership at the end of the contract in 25-35 years, public sector capital spending may
have almost vanished and public bodies may not have the capacity or political
commitment to assume operational and managerial responsibility for facilities. In these
circumstances, another PFI/PPP seems almost inevitable facilities or will be sold at
residual value to the private sector.

Private sector dictating social and public needs (e.g. Glasgow council decided to refurbish
26 secondary schools and build two new schools under a £1.2billion PFI project).

Two tier workforce will transform the labour process

Detrimental impact on in-house services.

While, in theory, PFI/PPP projects should be subjected to Best Value appraisal, in
practice, Best Value service reviews are running in parallel with the procurement process
and are, in effect, being used as part of the procurement process to prepare output

PFI consortia are refinancing deals to substantially increase their profits. Consortia
frequently refinance projects, which enable them to borrow at lower interest rates once
facilities are built and many of the risks have been eliminated.

PFI/PPP has accelerated construction industry expansion into facilities management.

     Centre for Public Services (2001) Private Finance Initiative and Public Private Partnerships: What future for
                   providing research and information services to the Scottish Parliament

There has been an erosion, or redefinition, of the 'public interest', with a general political
consensus about the role of private capital in the economy.

PFI/PPP imposes a new and more complex procurement process in the public sector.

The distinctiveness of the public sector is eroded to ease transferability between public
and private sectors and the former is reshaped into a residual role.

A new age of corruption and sleaze seems inevitable with a plethora of partnerships, joint
ventures and non-accountable quasi-public organisations responsible for large sums of
public and private money.

A number of organisations have criticised PPP and PFI because of the
implications for staff. For example, the Audit Commission, while generally
supportive of PFI, stated that the “huge uncertainties” generated by PFI schemes
mean that the support of staff and trade unions is vital.

The IPPR’s Commission also reported on staffing issues:

Purchasers should always be allowed to make issues such as health and safety, equality,
and training a feature of PPP contracts if they so wish. There should be a greater
willingness to select providers with good track records on employment issues

Revised TUPE regulations should be implemented by autumn 2001

The evidence base on the impact of PPPs on the workforce needs to be improved

If the evidence demonstrates that PPPs have an adverse impact on the pay and
conditions of new employees then there should be moves to strengthen the regulatory
framework through a voluntary code and/or legislation


The public sector union, UNISON is strongly opposed to the use of PFI/PPP in
Scottish local government, largely because of fears of a detrimental impact on
public sector employees. UNISON Scotland’s website argues that it is a more
expensive way of procuring capital projects, that it “skews” priorities in local

   public services? (available at:

               providing research and information services to the Scottish Parliament

government expenditure, and that it has a detrimental impact on local government
workers jobs, pay and conditions of service (resulting in the privatisation of local
government services).

UNISON Scotland has published a number of documents relating to PFI and PPP.
In general the organisation is hostile to the initiative. In 2001, it commissioned the
Health Services and Health Policy Research Unit at University College London to
produce a report. This drew on the procurement documents for a number of PFI
schemes in progress in local government and on government policy and

One of the projects discussed was the scheme proposed by Glasgow City Council
for the building of 11 new secondary schools and one new primary school,
extensions to seven secondary schools and the refurbishment of 17 secondary
schools. The report argues that Glasgow City Council underestimated the unitary
charge for its schools scheme, when it carried out a feasibility study in 1998. The
authors claim that the estimated cost of the scheme in year 3 rose from £27m to
nearly £43m by the time the council completed its Final business Case.

Glasgow City Council schools project
- estimated charges for accommodation under schools' PFI scheme

Year                                           1                2            3
                                           £,000            £,000        £,000

Feasibility study                         24,045        26,513       27,015
FBC                                       36,700        38,000       42,700

Source: Glasgow City Council: Capital Investment Strategy
p.60; FBC p.35 (excluding information technology costs)

The report is principally concerned with accounting techniques. The report
expresses concerns at the implications of off-sheet finance (private finance loans
generally do not appear as Government borrowing). However, the report
describes this as an ‘”accounting illusion” as the taxpayer still has to meet the bill.
The report states that the transfer of services and staff appears to be motivated by
the pursuit of off-balance sheet accounting rather than the search for genuine
value for money. This demands dividing public services into “core” and “non-core”
functions which will reconfigure public services and transfer an increasing number
of public sector staff yo the private sector.

Association of Direct Labour Organisations

The Association of Direct Labour Organisations (ADLO) commissioned the Centre
for Public Services to research a report on PFI. This was published in 1999.28
This expressed concern at the lack of government guidance on employment and
equalities issues in government guidance on the PFI process. The report claims

     Centre for Public Services (1999) The Employment Impact of the Private Finance Initiative. Manchester:
                    providing research and information services to the Scottish Parliament

that the continued promotion of PFI in local government may lead to the continued
transfer of staff to private contracts and the sale or closure of DSOs.

     As presently organised and structured, PFI projects represent a fundamental
     cultural change regarding the future role of local government and the further
     marginalisation of employment and equalities.

The report highlights the difference between core (teachers) and non-core staff
(e.g. school clerks, school means) and draws the parallel with similar boundaries
between clinical and non-clinical services in the NHS.

The report projected that there would be a large increase in PFI projects over a
ten year period. It estimated that over 30,000 jobs in the UK would be lost over
the ten year period.

It expressed concern at what it refers to as “loopholes” in the TUPE regulations
that may be exploited:

     •   pay cuts for staff from day one of a PFI scheme becoming operational
     •   limited protection for temporary and casual staff
     •   failure to pay annual pay increases
     •   no guarantee of trade union recognition
     •   the effect on when an employee can join a pension scheme
     •   the possibility that promotion will be conditional on changing to new
         terms and conditions

The report also highlights concerns relating to equalities issues and argues that
the gender impact of PFI will disproportionately effect women workers, in terms of
both job transfers and job losses.

It also argues that PFI projects are usually officer-led, with little input from the
elected councillors. It recommends that councillors receive better training on the
PFI process and its implications.

In summary, the analysis is that:

Reform of the PFI process should be undertaken to ensure employment and equalities
are considered at each stage of the process

DSOs should be allowed greater involvement in service delivery in PFI projects in order to
maintain good employment standards and provide a benchmark for private contractors

There should be expansion of public sector capital spending programmes and a
relaxation of regulations to allow local authorities to expand traditional publicly funded

             providing research and information services to the Scottish Parliament

Health Services and Health Policy Research Unit

As part of its rebuttal of the IPPR Commission, the Health Services and Health
Policy Research Unit at University College London claimed that staff numbers
would fall in the new Royal Infirmary of Edinburgh.29 It claims that the scheme will
be partly funded by sale of land and assets, partly funded by reductions in bed
capacity (33%) and finally through £13m of cost savings in clinical staff costs
within the trust. Therefore, it argues, when the new hospital opens, the projected
staff budget will be 23% less than in 1996, and there will be almost 25% fewer
staff, a greater proportion of whom will be untrained and unskilled.

Staff numbers (whole time equivalents) and cash expenditure on staff at
Edinburgh Royal Infirmary in 1996 and under PFI plans
              Whole time equivalent staff                         Staff costs

Staff          No in 1996 No projected          % Change            1996 (£m)    Projected (£m) % Change

Medical               544               499                -8.2             28               25        -17
Nursing              2144              1844                 -14             40               29      -27.5
Clinical sup          899               886                -1.4           16.5               15          9
Administrat           802               556               -30.6             12                8        -33
Ancillary*            502               312                 -38     Not stated       Not stated Not stated

Total**              4891              4000               -18.2          96.5               77         19

* Some ancilliary staff will transfer to PFI contractor
** Does not include ancillilary staff
Source: Health Policy & Health Services Research Unit, UCL (2001) Briefing Note No 3.


This literature review has highlighted a range of issues relating to PFI and PPP:

          G    The quantity of public sector investment
          G    The quality of services delivered
          G    The relative costs to the taxpayer
          G    Implications for staff
          G    The procurement framework
          G    Accounting issues
          G    Democratic accountability
          G    Where is PPP and PFI most appropriate?
          G    Should these forms of procurement be used at all?

  Health Policy & Health Services Research Unit, UCL (2001) Briefing Note No 3. Response to the report of
the IPPR’s Commission on Public Private Partnerships.

                    providing research and information services to the Scottish Parliament

Research Notes are compiled for the benefit of Members of Parliament and their personal staff.
Authors are available to discuss the contents of these papers with Members and their staff but
cannot advise members of the general public.

ANNEX 1: IPPR                   COMMISSION                ON       PUBLIC             PRIVATE

Martin Taylor (Chair)

Kate Barker (Chief Economic Advisor, Confederation of British Industry)
Bill Callaghan (Chair, Health & Safety Commission)
David Denison (Industry Consultant, International Computers Ltd)
Sarah Ebanja (Director, Local Govt and Europe Division, Govt Office for London)
Ruth Kelly MP, Bolton West
Julian Le Grand (Richard Titmuss Professor of Social Policy at the London School
of Economics and the Centre for the Analysis of Social Exclusion)
Chris Nicholson, Partner (KPMG)
Claire Perry (Project Director, Modernising Self Regulation for Nurses and
Midwives, UKCC)
Amanda Root (Senior Research Officer, Local Government Centre)
Victor Smart (Editor, Planning Magazine)
Gerry Stoker (Professor of Political Science, University of Strathclyde)
Matthew Taylor (Director, Institute for Public Policy Research)
Lady Winifred Tumim OBE (Chair, National Council of Voluntary Organisations)

Secretariat to the Commission

Gavin Kelly (Secretary to the Commission)
Peter Robinson, Paul Thompson, Rachel Lissauer, Ella Joseph

             providing research and information services to the Scottish Parliament


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