Over and out: How should councils be managing the end of PFI contracts?

Mo Baines, APSE’s Head of Communication and Coordination explores the issues surrounding the end of PFI schemes, and what local councils need to look out for when managing the exit from PFI contracts. Not a new issue…

Back in 2004, as a then newbie Principal Advisor in the APSE Team, I wrote a briefing on proposed amendments to the Private Finance initiative. It opened with this statement:

“APSE amongst other organisations has strongly criticised the Government’s strategy on PFI. Under current rules the structure of PFI funding favours the use of PFI over and above traditional funding routes. This is perhaps best demonstrated by the availability of PFI credits to support the cost of borrowing and the long-term costs of running facilities to a generous level that is not matched under traditional procurement routes.”

That same briefing concluded with welcoming some marginal changes but stated that, “The use of private money over traditional procurement routes is still contentious because of the increased costs of borrowing on the private markets. The Secretary of State Nick Raynsford, indicated to Parliament on 13 July that there will be further announcements to amend PFI. It is hoped that this will relate to the creation of an even playing field on PFI credits and the credit approvals available to local authorities through traditional procurement routes”. However, very little changed. PFI remained attractive to finance markets and facilities management companies for many years after, but a costly, complex and cumbersome contractual process for local councils and other public bodies; PFI for many remained the only game in town. Fast forward 17 years (and many grey hairs later!) I have just finalised a further APSE briefing as many public bodies look to the end of PFI schemes. As we will see, many of the issues, so obviously predicted at the time, have now come back to the fore as the public authorities, ultimately responsible for managing the exit arrangements from PFI schemes, grapple to work through the issues. This has been highlighted by two recent reports.

Groundhog day?

In June 2020 the National Audit Office published its report ‘Managing PFI assets and services as contracts end’. The report, rather than considering the value for money aspects of PFI contracts, instead concentrated on the background to PFI, the contracts due to expire (with a focus on England although PFI contracts are still in operation in the devolved administrations) and the roles and responsibilities of key stakeholders. The NAO report also considered the skills and capabilities of authorities, who are essentially the public bodies responsible for PFI contracts, for the expiry process and how they were preparing for the delivery of contract expiry.

The NAO report was quickly followed in March 2021 by a report of the House of Commons Public Accounts Committee (PAC) ‘Managing the Expiry of PFI contracts’. The PAC reports that PFI was used from the early 1990s to build over 700 public infrastructure assets. These typically included schools, hospitals and roads as well as prisons, waste and street lighting schemes. The PFI deals were structured in such a way that the public sector entered into long-term contracts with a private sector company, usually a special purpose vehicle created to finance the project, through both debt and equity investors. The PFI company would then design and build the asset and, most often in schemes known as DBFO Schemes, also finance and operate the asset.

For the lifetime of the contract, following construction, the private company continues to operate and maintain the assets, together with associated services – which can be between 25–30 years. To fund the debt and meet contract obligations - such as facilities maintenance or services like cleaning - the public sector makes annual payments to the PFI company. These payments also cover interest and provide payments to shareholders by way of dividends.

However, with over 700 PFI contracts, the PAC estimates around 200 of these projects will finish in the next ten years. As these contracts expire those assets, and in many cases services, will transfer back to the public sector. Concerns have now been made about the state of the assets that the public sector will inherit back once contracts end; how to enforce the reinstatement of the assets to the agreed conditions and how to manage the assets and services in the future. Some may indeed question if these assets will be fit for purpose.

A particular area of concern is the use of the lifecycle fund. The lifecycle pot is money built up during the contract to pay for planned, periodic maintenance. However, the NAO found many authorities felt this lifecycle pot was insufficient to cover the costs that it was intended to, and that ongoing monitoring of the assets was hindered by poor data and information. In addition, the money left in the lifecycle pot, at the end of a scheme, can be redistributed to shareholders, thereby creating a perverse incentive to underspend on maintenance and reinstatement. When factoring in the complexities of education-based schemes, where schools have converted to academies but the local authority is responsible for managing the PFI exit, there may be a disconnect between the interests of all of the parties involved.

So what do we know now?

A number of emerging issues therefore are worthy of note: -

• The asset conditions survey is seen as critical to the management of the expiry of the PFI contract. In many cases this is not done or not done early enough to enable effective rectification of the issues. It also raises issues about available skills to conduct, report and act on such surveys.
• A lack of performance information about the asset can hinder negotiations around the expiry of the contract.
• The people with the knowledge and expertise at the start of PFI contracts are often not around at their expiry creating a knowledge gap.
• There is a lack of comprehensive information about the contract details and variations, and in some cases no certainty as to expiry dates or what is on the horizon.
• Decisions need to be considered early on in the process as to how the service continuity element will continue at the expiry of the contract – for example bringing services in-house.
• Authorities are attempting to deal with PFI expiry on top of their existing workloads and in many cases poorly resourced legal, property and services teams. This is particularly acute in authorities where there may be only one PFI in place, leading to a skills and resources gap.

What can we do about it?

Lessons can be drawn from the experiences of local authorities in insourcing outsourced service contracts. In some cases, such as leisure contracts, assets were included within the original outsourced contracts, though not transferred to providers, and insourcing those contracts has often involved an asset conditions survey and significant cost in upgrading and rectifying the asset to enable its continued use or disposal as part of a subsequent asset rationalisation approach.

Lessons on insourcing service contracts can also be drawn from APSE’s recent report ‘Rebuilding Capacity: The case for insourcing public contracts’. This report highlighted the following steps when considering insourcing and could easily be applied to the process for the expiry of service element contracts in PFI schemes:-

• A calendar of review: Knowing what to expect, when to expect it, as well as ensuring sufficient planning time (suggested as ideally two years).
• Performance Information: Gathering of performance data to ensure there is knowledge of successes and failures.
• Consultation: Consultation with key stakeholders so that new service arrangements better reflect current and emerging needs (than those anticipated at the original outsourcing).
• Public policy integration: This approach takes into account newer public policy needs. Whether that is greener environmental considerations or matters such as social value in how the contract will be delivered.
• Capacity, workforce and skills: To look at how barriers to insourcing can be overcome, where a service may sit within a newly insourced provision, how to rebuild and use capacity - such as from a TUPE workforce arrangement or existing council teams - and develop a skills strategy.
• Multi-disciplinary project teams: Bringing together effective teams to manage the process, including finance, legal, HR and operational specialists.

The above is by no means an exhaustive checklist but it is included to highlight the fact that, whilst the expiry of PFI contracts is daunting, local authorities have effectively managed insourcing previously outsourced contracts in recent years. They have done so whilst developing more effective service delivery methods and approaches which have enhanced public policy outcomes for local areas.

So yes the problems are immense, and resources will be needed. The problems were also highly predictable. But it would be churlish to say ‘we told you so’. So instead we are doing what APSE does best and providing a network for members to share their views, plans and experiences so far. 

For more infromation about managing the end of PFI contracts, please download our APSE briefing 'Managing the Expiry of PFI Contracts' here