37.4.1 Project finance can bring a number of benefits for an Authority such as:
• systematic and rigorous techniques for credit analysis are central to project finance, and play an important role in achieving value-for-money risk transfer to the private sector;
• the SPV is bankruptcy-remote, and hence the project can survive the insolvency of the Shareholders. Often SPVs have a higher long-term credit rating than that of many individual construction or facilities-management contractors in the UK market; and
• the cash flows of the SPV can be predominantly based on actual contracts with suppliers and lenders. These figures are then used to model and calculate the Unitary Charge, and this process is subject to due diligence from the Senior Lenders and the Authority. This degree of challenge leads to improved transparency in PFI contract pricing, costs and returns, as central corporate overhead costs (which cannot easily be challenged) are not part-allocated to an individual PFI project.
37.4.2 It is therefore important for the Authority to ensure that the use of corporate finance:
• does not preclude sufficient analysis of the Project, i.e. given the absence of third-party lenders the Authority will have to pay special attention to the due-diligence process;
• does not reduce the financial robustness of the private-sector counterparty to the Contract (i.e. this is no worse than a project finance SPV), which means that the Contractor under the Contract must be highly creditworthy (perhaps demonstrated by a good credit rating) or be guaranteed by a creditworthy group company; and
• does not result in the Authority being inadequately informed about the costs, cash flows and returns of the transaction.
37.4.3 Evaluation of corporate-financed proposals should also take into account:
• the greater simplicity, speed and lower transaction costs of using corporate finance;
• the fixed-price nature of bids, e.g. with no adjustment for interest-rate movements between bid and Financial Close;648
• the relative flexibility of the funding arrangements, especially as to major changes and Authority Voluntary Termination;
• the loss of share in any Refinancing Gains, if an exemption from sharing applies;
• the potential loss of transparency of Sub-Contracting arrangements. However, it should be noted that the Authority should always satisfy itself about the suitability of the proposed Sub-Contracting arrangements regardless of whether project or corporate finance is used;
• any project-specific provisions to protect the Authority's position, such as a requirement for the Contractor or its guarantor to maintain a certain credit rating, the use of escrow accounts to ensure Sub-Contractors are paid, or additional credit enhancement such as performance bonds or standby letters of credit; 649
• the process by which poor performance can be remedied, by replacing Sub-Contractors or otherwise;
• the absence of lenders who may step in and rescue the project should it get into difficulty, so ensuring continued Service provision; and
• the absence of specific liability for the Authority to repay senior debt (or associated breakage costs) on termination (see 37.5.5).
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648 See HMT, Application Note: Interest-rate & Inflation Risks in PFI Contracts, May 2006, especially section 2.3, for further discussion of movements in bid prices before financial close.
649 See Section 35 (Financial Robustness: Contractor Distress) and, for further background, Schedule 7.4 of the Office of Government Commerce's "ICT Services Agreement", version 2.0 issued in September 2006, which also includes provisions designed to improve the position of the Authority should the Contractor encounter financial distress.