Q411 Baroness Hamwee: Moving to a different topic now, do you think there should be some form of National Infrastructure Bank?
Mr Stewart: It depends what market you are talking about. If your question is: should there be a National Infrastructure Bank for PFI/PPP projects then I think the answer is no because there is liquidity in the markets. This year 23 deals have closed; one has used the Treasury Infrastructure Finance unit which is the lender of last resort; the other 22 have closed on their own. I think the Treasury Infrastructure Unit is serving its purpose. It is acting as a catalyst for the market; it is there as a lender of last resort. A National Infrastructure Bank implies a lot more than the Treasury Infrastructure Finance Unit. I think if you go to the wider infrastructure market then you are into a different question. The interesting thing in the market at the moment is that people are using the term "infrastructure" rather than PFI/PPP. I do not know if you have seen the Policy Exchange report recently but you are into the whole issue of provision of strategic infrastructure over the next 50 years in this country and you are into the whole climate change agenda and having 20% renewable energy by 2020, you are into long term transport needs, water and waste. I think someone attached a figure the other day of £500 billion for that requirement. Then you have to say where is the funding going to come from? It will undoubtedly come from a combination of private sector sources and public sector sources and you then get into what role are the pension funds going to play in the long term funding of infrastructure and what role is government going to play.
Q412 Baroness Hamwee: I think I should say I surrender!
Mr Dwan: If I could make one more comment on this, I think our view is that an Infrastructure Bank is not required but what is required is an additional choice of funding. One of the things we have learned is that the banks find it incredibly difficult and nigh-on impossible to price long term debt because they do not know what the price of their own debt is going to be over that period and trying to match that to our requirements for 20, 25 maybe even 30 years' money is incredibly difficult. It is common sense that that type of long term arrangement is more suited to different types of institutions and different types of returns, but we have ended up where we are now. No LIFT projects have failed due to lack of funding; the average size of a LIFT project is £10 million to £20 million so it has tended to fall into a pocket that an individual bank could fund. Nevertheless, the banks would be much more comfortable funding the construction period and somebody else pricing and funding the long term risk. We are actually, as an industry, active in creating our own fund to do just that and we hope to make an announcement some time next year. I think any help that could be given to facilitate funds like that coming into the market would be welcome and perhaps any help that is given on how tier one capital is reserved, at the moment, regardless of the risk-because clearly we have a pseudo-government risk here-would be helpful as well in introducing some lower price, long term funding.
Q413 Chairman: The money continues to be available, but is it on terms that are not as good as those that previous schemes have been able to benefit from?
Mr Dwan: If I draw a comparison, a typical LIFT scheme with its blended cost of debt and equity-subordinated debt-is priced somewhere between 7-8% as a blended cost. The finance margin, you have an underlying cost of funding which is the long term swap rate, and long term swap rates have been lower so some of the increased bank pricing has been compensated by a lower long term swap rate, which is what you would expect and that would come down with the current state of the economy. Bank rates for the LIFT market went down as low as 65 basis points-point 65-but are currently now about 200 basis points, but when you take the compensation long term swap rate it is slightly higher but not dramatically higher. The thing which is currently affecting the LIFT market pricing is that we take full RPI risk and obviously RPI at the moment is very low and a number of us are suffering RPI deficiencies because the process drives you down forecasting an RPI return into your financial model, that is not your current return and so there is an ebb and flow taking place in RPI at the moment as well.
Q414 Lord Tugendhat: Do you think the introduction of private finance has actually led to more public procurement and more infrastructure than would otherwise have taken place or not?
Mr Dwan: I think using the programme example-James' term-and using LIFT in particular, private finance has, in addition to the provision of project funding, been more about partnership and bringing skills to the table, developing a relationship and then creating an infrastructure. If you consider in the NHS a large number of the assets had been built before the NHS was even formed let alone currently providing services, primary care has fundamentally changed as a result of the LIFT programme: 260-odd buildings, the high level of investment, properties which now have decent infection control measures and can deliver flexible services, all things that did not exist. It could have been done without private finance but I fail to see how it could have been coordinated and managed and given an impetus without the focus that has been taken by the LIFT company, so for LIFT, I think it has had a very positive impact.
Mr Stewart: My answer would be a definite yes. I was around when this whole initiative started in 1992 and obviously a lot of the original assumptions around PFI were revisited in 1997 and at the setting up of Partnerships UK. What was happening in 1992, 1993 and 1994 was that the government was faced with a massive investment programme. They knew they had to invest but they had no confidence in the current delivery mechanism. People in Treasury and the wider government felt that if this enormous programme-a lot of which has now been delivered-was to be delivered then a different procurement methodology was required and much greater involvement of the private sector was needed, ie if left to public sector bodies doing conventional procurement it would never happen. Whether you agree with it or not, what PFI has given Treasury and other public officials is confidence that if they make a decision to invest that investment will be delivered and as a result more money has been made available for that investment. I think the biggest and best example I can give to you is Building Schools for the Future. Building Schools for the Future is a PPP programme-using it in its widest sense-and I think confidence in the delivery mechanism (which is essentially a PPP delivery mechanism) enabled government to morally commit to a 15 year investment programme in the whole of the secondary schools estate which, at the outset was a £45 billion figure. Do I think that government would have committed to a 15 year programme of £45 billion without that PPP approach? No, I do not think they would. Just to reinforce that, within that programme one of the keys to that programme was a sequential approach so in the past money had been handed out to all local authorities on a fairly even annual basis but what the BSF programme involved was local authorities forming an orderly queue and those of greatest need getting their money first and then those with not such great a need coming at the end of a 15 year programme. I think that confidence is a big thing. I think the whole programme approach has encouraged more investment. I think you also have to come back to the fiscal side of it which is with PFI being applied to the revenue account. Does that mean more investment or not? I do not know. What I would say is that even those projects that go through the revenue account still have to go through an approval process, so it is not as though on the revenue account or off-balance sheet means no outside controls; they are still part of departmental and central government control systems and still get approved in the same way.
Mr Pokora: My view is that, without question, there has been far more investment and far more hospitals and health centres built over the last five to 10 years. As someone who has a background in healthcare I know just how difficult it was to try to get any form of money that would allow me to invest in services, to change the way clinical care was given to improve that care because, at the end of the day, services come first but buildings get in the way of good, high quality care. The last five to 10 years have seen a significant increased investment and my colleagues up and down the country-my past colleagues I should say now-have been able to deliver the kind of clinical services that frankly were only dreamed about before.
Chairman: You are all entirely clear but we have had it suggested to us that a lot of this investment would have happened anyway, so it is not quite as clear cut for us as it is for you.
Q415 Lord Moonie: You have talked about innovation in the third phase, can you give us any examples of innovation in the third phase? You do not have to do it tonight if you want to go away and have a think about it.
Mr Stewart: I think there is a real challenge at the moment. We were talking about flexibility in these contracts earlier but we are facing a situation where revenue budgets are going to get cut and public authorities who have a PFI contract will be looking at those contracts alongside other parts of their budget and what cannot happen is that other parts of an authority's budget get cut and the PFI contract gets left alone. Therefore these PFI/PPP contracts are going to come under strain and both the public sector and the private sector are going to have to innovate within the context of those contracts to create efficiency savings in those contracts as any other part of the budget. That will put a pressure on the relationships, on the contractual mechanisms and the partnership between public and private sectors. Those people who innovate in that circumstance will do the best.
Q416 Lord Moonie: An example that was not a PFI was Railtrack who decided they did not have to repaint the Forth Bridge. It saved them a lot of money in the short term.
Mr Dwan: I can give you a couple of operational innovations to introduce the concept. As an industry I think LIFT is quite unusual in that we group together to share best practice and to debate how we can further improve what we have already offered. As an industry, for example, we have just created our own insurance policy for the property phase which is reducing premiums by 10% per annum and that is all passed straight back to the NHS. We reckon that is around £4 million. In addition to that, we have a green energy initiative where, even though we are not obligated to, we are seeking to get to a carbon neutral position across the estate and provide, to a degree, renewable energy sources. So you can bring innovation in the operational period and it does not necessarily have to cost anything.
Q417 Lord Moonie: Just using that specific example, would that not be an easier example to implement if your constructor was involved in it from the outset?
Mr Dwan: If you go back to what I said about LIFT, we instruct the contractor to make sure that we have the plug in points and the appropriate specifications. The contractor would tend to go for best price and fastest deliver so that is where LIFTCo has to play its part and say, "No, I want a long term return for a long term interest here so I will instruct you accordingly".
Q418 Lord Moonie: Do you believe that private finance is more applicable to some public services than others? In particular, as a sub-question, is there any scope for increasing provision or adding provision of certain services to PFIs, hospitals for example?
Mr Dwan: This is something that the individual members have individual views on but as a point of principle we are very comfortable providing services which are non-clinical. As soon as we step over, as a partner, into providing clinical services we are into a whole different ball game. Those services can include anything from green energy to estate management to financial advice. to property legal advice-a whole range of different things-which allows the NHS to concentrate on delivering clinical services to the best quality and at the most appropriate time. I think to that extent we are very comfortable about expanding the range of services that enhance our ultimate offer.
Mr Stewart: The fact that the question contains the words "private finance" implies that this applies to public services that have a capital investment element because those services that do not have a capital investment do not need private finance. I think the answer is absolutely yes. We have found that PFI works for some types of projects and does not work for some others. You were talking earlier about size of projects and I agree with the previous answer. The issue I think is much more about complexity rather than size. For instance I went to see the Connaught project about 12 months ago which is a very, very substantial garrison project in Salisbury, a £1.2 billion project so very, very significant. However, technically it is relatively simple because what happens is that units flow off a manufacturing production line in a modular form and just get put together almost like a Lego block. Technically it is simple and therefore the size of the project is not overwhelming. When you get to a very large hospital project or you get to a very large transport project, it is complexity and risk that challenges the whole process. Where you have large and complex projects we have learned that PFI/PPPs are very difficult. I think we learned a long time ago, for example, that ITC projects do not work because of the pace of technology change and so a different procurement methodology was thought up. I think we learned that one-off, small projects do not work because the fixed costs of doing those kinds of projects are too high whereas a small project as part of a programme is okay. Those are just three examples.
Lord Moonie: Just to add as a footnote to that, you should have seen the Colchester project when we discovered there were Roman remains under some of the bits we were trying to build on. I was responsible for setting that up.
Chairman: Thank you very much indeed for your evidence. Congratulations on the work of your two organisations which we know are doing very good work.