Q1 Chair: Welcome. We are a relatively new Committee, with, I think, only two familiar faces to those of you who have appeared before, so we look forward to hearing the evidence you have to give on this really important topic. Can I start the ball rolling? Having read the National Audit Office Report, one of the things that struck me was that the banks stopped lending in 2008 and then when they started again they very much raised their lending rates. At that time the Government was propping up the banks, giving them quite a lot of finance to keep them going and I can’t really understand whether or why there were not much tougher negotiations with the banks to ensure that they kept their loan rates to these PFI projects much lower than they have turned out to be. Did you try? If you did, were you unsuccessful? If you didn’t, why didn’t you?
Andrew Hudson: What we were trying to do through this period in which loan rates, following the global turmoil in financial markets, were rising around the place, was to ensure that the projects that went forward were still value for money and that certainly, I am sure, robust negotiations would take place between the procuring authorities and the banks, but this was in the context of, as I say, rising loan rates right across the board. As the NAO Report brings out on Figure 2 at page 6, while loan margins on PFI projects certainly rose, that was true and was broadly in parallel with loan margins on international projects’ financed loans. So the discussions that were taking place ensured that the margins were below the going rates, so to speak, for international project finance. Our job was also very importantly to ensure that these projects remained value for money for the taxpayer and we took a number of steps to ensure that.
Q2 Chair: We will come to that. I would just really like a straight answer: did the Treasury engage in discussions with the banks to say, "We want to keep these infrastructure projects going because of the macroeconomic impact that they would have, but we do not expect you to charge these much higher loan rates that brought into question the value for money of the projects at that time." Did you engage in tough negotiations, saying to the banks to whom we were lending pots and pots of money, "We expect the PFI projects to have lower loan rates?"
Andrew Hudson: Well, since Andy Rose was most closely involved at the time, I will perhaps ask him to speak from his closer experience.
Andy Rose: There were a number of discussions with the banks at the time about how they were funding themselves, the cost that they were incurring themselves and whether shorter-term lending or a structure known as mini perm lending might have been appropriate. We did not find a consensus among the banks that, to maintain the market of banks that were supplying, there was a viable way of reducing the costs, and this is largely due to the bank’s own funding costs, which went up during that period. As Andrew just suggested, the chart in the NAO report has highlighted that this was a global phenomenon, not PFI-specific.
Q3 Chair: So you did attempt negotiations and you failed?
Andy Rose: We had several discussions with the banks about different structures that might be incorporated to reduce the cost of funding but because what was actually driving this was their own cost of funding, this would have required the banks to lend at a loss. In that respect we were unable to persuade them to lend at a lower rate.
Q4 Chair: It seems to me that at that time PFI projects were probably the most secure projects to which the banks could lend. I cannot even think of Derek Hatton ever refusing to pay any money that was owing on project finance. We were the most secure, and I cannot understand that in that context we found it impossible to secure better loan rates, which would have made these much more viable projects in terms of value for money. I just don't get it. Either we were not tough enough or we were conned. I don't know quite how we ended up with these much, much higher loan rates.
Andy Rose: The nature of the PFI contract is that, while Government are backing the payment, it is a performance-based payment and the borrower in a PFI contract is actually the private sector and these are on the verge of investment-grade rating. So while the payment is sourced from the public sector, it is quite a complex project financing that the private sector is undertaking and these, as I say, are typically structured around or just above investment grade, so it is quite a complex financing and that is why the NAO's comparison to international global project finance is, from our point of view, the correct one.
Q5 Stephen Barclay: Could I just take you away from the general to the specific and turn to Appendix 4 please and the case of the Greater Manchester Waste Disposal Authority, which was the key one, I think, taken forward by TIFU. There it says that one of the key drivers of the deal was not the issue of value for money but the EU Land Directive; the need to reduce waste by 50% on 1995 levels by 2013 and that this scheme was covering 5% of national waste. I'm just trying to understand to what extent you were looking at these objectively as value for money deals, or whether there were other things driving the need to complete.
Andy Rose: I think there are two answers to that, which I will split if I may. One is from TIFU's point of view in particular, TIFU did not have a policy role; TIFU was there to provide liquidity to the market. The policy around VFM for each individual deal is a decision for the authority and supported by the policy team within Treasury, so I think it's wrong to say that VFM was not a driver for all PFI deals-but I will defer in terms of that particular one-because TIFU was very much set up to respond in a commercial manner, rather than establish policy for Treasury.
Andrew Hudson: Charles will be able to help on the policy side.
Charles Lloyd: If I could just add to that; I was Head of Policy at the time. Obviously in the case of the Greater Manchester Waste Disposal Authority deal there was an external imperative to building that facility, and indeed other facilities in the sector, as there is in many PFI deals. That does not mean that we do not look for value for money in the transaction. We know that waste facilities have to be built; there is some choice about the method of procurement and financing for that transaction, and we would apply the same value for money test to a deal which has to be built for EU reasons as we would apply to a deal that has to be built for any other public sector reason.
Q6 Stephen Barclay: Sure. What I am driving at is I am just trying to understand what pressures were driving this, because when, at a previous hearing, we looked at the multi-role tanker aircraft, instead of using the 3.5% discount that was the Treasury guideline in 2004, an out-of-date 6% was used because the MoD just did not have the money for these planes, but there was a military requirement. So there was a defence imperative to get on with this deal. What I am trying to understand with this one is whether there was a legal and regulatory driver that was, in essence, shaping the thinking. Linked to that: what were the sunk costs on this deal at the point where you were deciding whether it was value for money?
Charles Lloyd: Well, to take the first point, there certainly were external drivers, as I think we've discussed, so that is established. I don't know the precise quantum of the sunk costs. On the authority side-that is Greater Manchester Waste Disposal Authority-there will have been quite substantial sunk costs incurred in its advisers and its own resources going into the deal. We can find out what those are and let you know what-
Q7 Stephen Barclay: As a ballpark figure? This is a contract worth £3.8 billion. If it didn't go ahead how much would have been spent in very broad terms?
Charles Lloyd: I would estimate on the public sector side something in the region of £5 million to £10 million would probably have been spent.
Q8 Stephen Barclay: Okay. In terms of jobs, because this was in the North West, so there was probably a political driver-there were a lot of marginal seats up there in 2009/10-this was a project covering 36 recycling facilities across 23 sites. How many jobs would have been linked into this going ahead?
Andy Rose: I believe the authority's press release at the time articulated 5,000 jobs.
Q9 Stephen Barclay: So about 5,000 jobs-
Andy Rose: That is my understanding-
Q10 Stephen Barclay:-in the run up to a general election. Okay. Could I then just come to the figures, because at paragraph 1.7, page 16 of the report, it says, "A review of a sample of Outline Business Cases by Partnerships UK estimated that all cases remained value for money at higher bank rate margins of 3%". However, if we look at this deal the margins start at 3.25% and go up post-year 21 to 4.5%. What I am driving at is when you assessed those as value for money, were you including refinancing within that assessment?
Charles Lloyd: No. We never include the possibility of refinancing gains within value for money assessments, simply because it is speculative; we do not know whether those deals will be refinanced or not.