How should the costs and benefits of PFI schemes be assessed? Is enough information on PFI projects disclosed to allow a proper assessment of their value for money for the taxpayer?
We believe the current HM Treasury approved methodology accurately and fairly assesses the costs and benefits of NHS PFI schemes. The fact that all our approved business cases are publicly available provides adequate transparency for taxpayers to assess their relative value for money.
The methodology for assessing the costs and benefits of a PFI option in delivering a capital investment scheme has always remained much the same. It follows standard economic appraisal techniques which have been adopted into guidance issued by Treasury which all Departments have to follow.
A long list of estate and service options is first developed that could meet the service needs of the procuring authority (in the NHS a Primary Care Trust (PCT), an NHS Trust or a NHS Foundation Trust). A "short list" of the most promising options is then produced by applying a weighting and scoring matrix. Discounted Cash Flow (DCF) analysis, a technique used to assess the relative economic costs of investment options to the public sector as a whole (that is, not to individual NHS organisations) is then applied to the "whole life" costs of the different options (ie capital, property, lifecycle and running costs). Non-quantifiable benefits are assessed on a scoring system to produce a "preferred" option which offers the lowest cost per benefit point, taking into account the relative level of risk associated with each option; and is also affordable. This now becomes the Public Sector Comparator (PSC).
Exactly the same Discounted Cash Flow (DCF) analysis is then applied to the preferred PFI option, identified following a competitive bidding process. In this way the PFI option is only used if it can be clearly demonstrated that it offers value for money when compared to the public capital funded alternative, the PSC. Alongside this the PFI option must also clearly demonstrate that it is affordable to the NHS in terms of the local health economy (ie normally the procuring NHS Trust and its main commissioning PCTs) as well as other stakeholders (eg commissioners of tertiary services).
Since 2004 Treasury guidance also now requires the value for money comparison to apply "optimism bias", the requirement to make an explicit, quantified upward adjustment to counteract the known tendency for the costs of projects to be underestimated (discounting price inflation), particularly in the early stages of developing and costing proposals. The Department's own research found that its capital investment business cases increased by on average between 30-40% between initial Outline Business Case and the final Full Business Case, which for large projects may not be ready until up three or four years later. This is applied equally to the PFI and PSC options.
This economic, value for money and affordability appraisal and the conclusions has be fully set out in successive business cases which have to be approved by the local NHS bodies and by the Department and HM Treasury for larger cases. These business cases have to be made publicly available a month after their approval and distributed to the main stakeholders and public access points (eg local trade unions and public libraries). Trusts are also advised to set up dedicated websites for their schemes as means of informing the public, patients and staff about the progress of the scheme and to place their Business Cases on there as they are made publicly available.
Below are links to the websites for two of the largest PFI schemes being taken forward, the £1 billion Barts and the London NHS Trust and £338 million St Helens and Knowsley Hospitals NHS Trust projects. These were approved at a time when the key value for money test between the PSC and the preferred PFI option was conducted at the Full Business Case (FBC) stage (it is now done at the earlier Outline Business Case (OBC) stage under revised Treasury guidance). The FBCs are on these sites are easily accessible in terms of quickly finding the relevant information (eg in the Barts and London FBC chapters are headed "The PSC", "The Economic Appraisal", "Risk analysis", "Affordability Analysis").
http://www.bartsandthelondon.org.uk/newhospitals/fbc.asp
http://www.sthk.nhs.uk/pages/AboutUs.aspx?iPageId = 3817
Is the risk transfer from the public to private sector in PFI schemes more apparent than real?
As mentioned above, the PSC and the preferred PFI option must reflect not only the "whole life" costs of the project but also the estimated values to the public and private sector of the risks that additional costs may arise once the contract is signed (ie this distinguishes this analysis from the principle of "optimism bias"). These are allocated "optimally" ie: to reflect the respective abilities of the public and private sectors to best manage them. Risks may or may not materialise and the risk analysis must be subjected to sensitivity testing (optimistic, pessimistic and most likely). The types of risk which must be considered (eg failure to build to design, incorrect construction time estimate, unforseen ground/site conditions) and how they should be assessed and costed is set out in Departmental guidance to the NHS.
The Department would argue that the principle of risk transfer has worked on PFI. This is evidenced first in terms of more schemes being completed to time and to cost (the great majority of the NHS' PFI schemes have opened on or ahead of schedule) and delivering satisfactory standards of ongoing facilities management services once operational. The National Audit Office (NAO) produced a report in 2003 ("PFI: Construction Performance") which concluded that PFI provides greater price certainty to government departments than conventional procurement, incentivises consortia to deliver on time, and encourages good quality design and construction. (Link: http://www.nao.org.uk/publications/0203/pfi_construction_performance.aspx).
This work was repeated in 2008, by which time the number and scale of PFI schemes had greatly expanded of course, including in the health sector. The findings were still very much the same. To quote: "PFI project completion to time remained broadly the same as projects reported on in 2003."
(Link: http://www.nao.org.uk/publications/0809/pfi_construction.aspx).
To date the NAO have only looked at the detailed construction and operational performance of one NHS PFI scheme, that for Dartford and Gravesham NHS Trust in 2005 ("Darent Valley Hospital: The PFI Contract in Action"; Link: http://www.nao.org.uk/publications/0405/darent_valley_hospital.aspx). This found that the mechanical and engineering element of the construction work was carried out at a loss by the consortium, resulting in their only breaking even on this phase, but that new hospital still opened two months ahead of schedule and at no extra cost to the Trust. It also concluded that, to quote: "Payment deductions for under-performance (of the ongoing facilities management services) have been low, mainly reflecting the good delivery of services". The NAO is currently preparing a report in relation to all operational PFI projects in the NHS and this is expected to be published in early 2010.
There have been some well reported start up problems at a few PFI schemes (eg the new Cumberland Infirmary for North Cumbria Acute Hospitals NHS Trust in 2000), but the Department asserted that these were the sort of teething problems one would expect to see during the commissioning phase of any major new project.
Conversely, poor performance by consortia has been genuinely penalised. Sir Robert McAlpine booked losses of £67 million on delays at the Dudley Hospitals PFI scheme, which opened six months behind schedule. Problems at the Manchester Children's hospital PFI scheme contributed most to a £48 million write-down suffered by Bovis Lend Lease in 2007.
How effective and costly is the monitoring of private sector providers' performance in Private Finance Projects?
DH guidance requires the contractor to set up a Performance Monitoring System (PMS) to monitor performance against the individual service specifications. It also requires the NHS procuring body (eg an NHS Trust) itself to establish its own monitoring arrangements to measure the performance of the contractor, to be done either using the operator's own system or its own (under the contract the Trust always has the right to check how the contractor is operating). Most Trusts set up regular meetings with the contractor at both Board and operational level and have arrangements to audit and monitor the PMS extensively. The contractors' have their own auditing programmes which Trusts' attend as well as carrying out their own inspections.
Many PFI contracts are very large and very intricate with a wide range of facilities management services (building maintenance, cleaning, catering etc) and equipment provision-and the contract price can run to many millions of pounds per annum. In these circumstances, we would expect that significant resources would be required to manage and monitor the contract. Other smaller contracts may not require a similar level of Trust management resource. The Department does not advocate a prescriptive approach to the level of resources required for contract management and monitoring; this is something that Trusts are best placed to know given their individual resources. The Department offers support and advice to Trusts with PFI projects via the Private Finance Unit, which provides, in additional to published guidance, regular meetings and seminars for Trust contract management staff.
As mentioned, the NAO is preparing a report in relation to all operational PFI projects in the NHS, expected to be published in early 2010.
How should public liabilities under PFI schemes be accounted for? Should such liabilities be included in the national debt?
These questions are really for HM Treasury to respond to. Treasury have always been clear in guidance to Departments that it is value for money and not the accounting treatment which is the key determinant of whether a PFI scheme should go ahead. This year's2009 budget Report reiterated the message by making clear Treasury's full support for continuing with PFI schemes across all sectors where they are demonstrably value for money and affordable.
Would public sector investment in the last decade have been lower without PFI?
The Government's policy has always been that the reason for using PFI is to provide extra resources in cases where it is clearly demonstrated in a Full Business Case that the PFI option is:
- affordable to the NHS;
- meets NHS service needs;
- and delivers better value for money to the NHS and the taxpayer when compared to the public capital funded alternative.
Given that 101 major PFI hospital build schemes worth almost £11 billion have signed contracts since 1997 (plus a number of smaller schemes), it is of course true that this has been additional expenditure to the capital resources allocated to the Department by HM Treasury (ie public capital). It is also important to make the point that there has been no displacement calculations made between the two sources of finance and the Department has seen a 7.5% annual average real terms increase in its public capital budget between 1997-98 and 2007-08.
It is also the case that PFI has allowed a highly ambitious building programme to be completed at a pace that would have not been achievable using traditional public capital funded routes. This is down to two factors. Firstly, local health economies were accountable for the procurements, not a central unit. This empowered the communities.
Secondly, the PFI affordability test depended on the revenue affordability of the subsequent payments to the private sector. This took control from Treasury capital funding, which was subject to change according to overall government needs, and gave it to local communities as the scale of long term revenue funding was more transparent to them, giving them greater confidence to commit.
What impact has the financial crisis had on new Private Finance projects?
The availability of finance has reduced as the larger schemes can no longer rely on the wrapped bond market; some banks have reduced their activity in the UK PFI sector. Whilst underlying interest rates have fallen, bank margins have gone up, which should theoretically result in a broadly neutral cost of finance when compared to pre-crunch costs.
In the health sector, the effects of this remain largely untested. There has been only one NHS PFI scheme in the market in the last 18 months, and this won't reach financial close until early next year. However, in taking this scheme forward we are aware of considerable volatility in the market, which affects pricing and thus affordability. We will be carefully monitoring the funding competition for the scheme which has just started following the appointment of the preferred bidder.
Is there an optimal mix between conventional public procurement and Private Finance for public sector investment? What is the long run role for private finance in the delivery of public sector infrastructure?
As mentioned, the PFI option is only used in cases where it is clearly demonstrated in a Full Business Case that it is affordable, meets NHS service needs and delivers value for money. This year's 2009 Budget Report reiterated HM Treasury's full support for continuing with PFI schemes across all sectors where they are demonstrably value for money and affordable.
However, as also discussed the PFI model is not suited for all the NHS' capital investment requirements; since 2003 the Department has not undertaken any IM&T or sub £20 million PFI schemes, following the conclusions of "PFI-meeting the investment challenge". It is also undoubtedly the case that NHS bodies will look even more closely at the affordability of taking forward major revenue funded investment schemes as budgets tighten in future years.
Running in parallel with the above is the fact that the demands from the NHS are also changing as NHS Trusts look to maintain more flexibility with smaller, phased or refurbishment projects in their estate planning. This is so they can react and adapt quickly to changing healthcare patterns and demands, all a logical and correct response to this Government's health reforms such Payments by Results, choice (eg NHS and Independent Sector Treatment Centres), the movement of more services into primary care and community settings and the requirement for more diagnostic facilities.
Are there alternative models to PFI which might prove more effective?
PFI was never put forward as a solution for primary care, where asset ownership is much more mixed, with premises being a mix of owned by the PCT, leased, owned by GPs or leased or rented by GPs. It was recognised that an alternative model needed to be developed which was more flexible (ie could deliver a string of new, small, differing facilities as required over the years in a locality as opposed to just one new hospital); and also simpler in terms of payment mechanism and contract structure.
In response the Department developed and launched a new Public Private Partnership, the NHS Local Improvement Finance Trust (LIFT) initiative, in 2000. The Department entered a national joint venture with Partnerships UK (PUK) to establish Partnerships for Health (PfH) to deliver LIFT. The Department subsequently bought out the PUK stake in PfH in 2006, making PfH 100% owned by the Department. PfH was subsequently renamed Community Health Partnerships (CHP). However, it continues as a distinct entity with the same role as before.
CHP delivers LIFT, on behalf of the Department, in partnership with local health economies through the establishment of local LIFT Companies (LIFTCos). Each LIFTCo is a joint venture and a limited company with the local NHS, CHP and the private sector partner all as shareholders owning and maintaining the building and leasing the premises to Primary Care Trusts (PCTs), GPs, Local Authority Social Services, dentists, pharmacists, etc. Shareholding of each LIFT is 60% private sector, 20% PCT and 20% CHP.
This establishes a long term partnership between stakeholders, where after initial contract signature setting up the LIFTCo the private sector is actively involved through the LIFT Board in terms of planning and agreeing more facilities in future years as demands require.
The Department believes this alternative PPP model has been highly successful in modernising the primary care estate (over 240 LIFT facilities have opened or are under construction with a capital value of nearly £2.0bn). Now patients expect to find as many of the services they need as possible in one place we would highlight some excellent examples of innovation in the way health, social care and the community services have been drawn together by the joint use of buildings which actively seek to co-locate services. Links are provided below to two such examples:
http://www.communityhealthpartnerships.co.uk/index.php?id=184&ob=2
Department of Health
November 2009