3.69 It has been common for authorities to share the risk of capital costs of general changes of law coming into effect during the operational phase of a project (please refer to section 14.7.1 of SoPC4). Generally, a relatively small share12 of such capital costs is for the account of the PFI provider with the remainder being for the public sector.
3.70 Authorities may wish to re-evaluate the VfM of requiring the PFI provider to share in these costs.
3.71 The financial benefit of the public sector taking back the PFI provider's risk share will differ depending on the project's financial structure. PFI providers have generally managed this risk using either a committed bank facility or a cash reserve. The facility or reserve may be for less than 100% of the PFI provider's exposure under the contract13.
3.72 Where the project employs a facility, the ongoing commitment fees on the facility could be avoided and would come out of the unitary charge accordingly. Authorities should appreciate that there may be benefit to the lenders of removing these facilities, particularly where the facilities are priced below current market values.
3.73 For projects employing a reserve, authorities should receive14 the entire balance of funds in the reserve as consideration for taking back the PFI provider's share of the risk. The consent of lenders is likely to be required.
3.74 Authorities should be aware that by taking back change in law risk they are taking back an equity risk, including whether the value of the released reserve is sufficient for the additional risk assumed.
3.75 As a general comment, any related accounting, tax and financial modelling issues (and associated costs) would need to be considered by both the public and private sectors. An authority considering amending these arrangements should contact their departmental PFU.
3.76 The project agreement will need to be amended for the authority to take back the PFI provider's share of change in law risk. The removal of any commitment fees or release of any reserves results from the authority agreeing to take back a risk (subject to VfM). As such, the project agreement amendment will also need to specify that this is excluded from the definition of Refinancing and the full value flows to the authority.
3.77 Authorities can also choose to remove the PFI provider's general change in law risk share of capital costs on projects going forward. Derogation approval from HM Treasury / Infrastructure UK will not be required.
3.78 The potential for change in law risk to be taken back has been considered as part of the Queen's Hospital pilot. Preliminary discussions have been held with the financing parties (the bond trustee, guarantor, EIB and the rating agencies) to get their indicative feedback. Further consideration will now be given to the merits of taking this forward, which will need to take into account the risk that would be taken back by the Trust, relative to the balance of the risk reserve that could be released to the Trust, together with the expected costs of implementation.
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12 This share is often based on a sliding scale with total private sector exposure of around 3% of the project's capital cost.
13 Including cases where certain senior lenders did not require facilities or reserves.
14 For some projects an alternative may be to use the funds to reduce the ongoing unitary charge by prepaying senior debt. In making the choice, Authorities should consider carefully whether this represents value for money in light of swap break costs / spens, the avoided cost of funds relative to the Green Book discount rate, lending document provisions relating to the application of prepayments and any other relevant considerations.