135. I do think that certainly there is some rigour and some ingenuity in this scheme as revealed in this paper, but I also think there are some flawed judgments, or at least judgments which appear to be flawed in it, and I think we have revealed some of them or hinted at some of them already. I want to return to risk. When you were originally asked about risk you referred to the risk inherent in the building contract. I agree, the risk inherent in the building contract to some extent affects the risk inherent in the financing but the two are conceptually separate. You did not, and have not in fact, indicated any risk involved in the financing part of the competition. It would be hard to say there was any risk since effectively you are exchanging financing for annual payments of several £14 million a year coming from the Treasury, so it is hardly a great risk to any funding institution. The only risk is whether the building contract is produced in line with the original estimates. I want to separate the two sets of risks out. I want first of all to ask about Exchequer Partnerships and the fact they were appointed on a bid which came sometime before it was finally accepted. Why did you not go back out to tender?
(Sir Andrew Turnbull) We had to have a project, because we knew otherwise we would have incurred this wasted payment. The first was time, and time in this case was money-each year which went by we would be doing more and more maintenance. Secondly, we had a bid and we were advised within the framework of that bid we could reopen it, negotiate the changes which we and Ministers wanted. It was not without risk to us if we had re-opened. We could have found the new competition was not actually as favourable as the original one. In the same way, EP had invested a lot of time in understanding the building, what its problems where, how it could be used, so too had the Treasury team, so we knew a lot about this. So we thought the best thing to do was to seek the changes we wanted within the original contract but to have various safeguards, the principal one being what we are talking about today, the fact we were-
Jon Trickett: I am going to come to that in a second. Not only conceptually but in reality, there were two separate sets of competitions, and in fact there were two separate sets of risks really. One is to do with financing and one is to do with the building contract. If we can just stay on the building contract for a second, because it impacts on the way in which the financing competition was run, it may be that you may have taken a risk to go out to tender, that you may have ended up with a higher price, but there is no certainty of that. The rest of Government operates on the basis of open tender, does it not, and years had elapsed, the building industry changes, each contractor in the market has more or less extensive workloads at the time at which they make a bid, and sometimes they go out and find work. I put it to you that you cannot say to me or to this Committee that you got the best price from Exchequer Partnerships for the building contract. You cannot demonstrate that.
Chairman: Can I interrupt for a moment. To be fair to Sir Andrew, we are just dealing with the finance at the moment, we are going to come back to the wider issue.
Jon Trickett: I accept that but the two relate. I do not want to disagree with you, Chairman, but Sir Andrew himself talks about all the risks being inherent in the building contract. Would you mind if we got an answer to that question and then I will move on?
Chairman: Go ahead.
(Sir Andrew Turnbull) This was a judgment we made. You can always say, had we done it the other way it would have been better, but what we know is that that price, when you take account of the movement in market interest rates generally and the specification change we made, is a better price than we had before, and the indications are that we are going to get into this building next summer.
136. Speed was one of the points you made.
(Sir Andrew Turnbull) It may be that it might have gone better the other way. Hindsight will tell you that. We have so far had no reason to regret the judgment we made.
137. I think you have accepted the point I was making and the Chairman wants me to move on. The reason I raised the building contract was it does seem to me it is inextricably linked to the way in which the matter was financed, and the issue of risk boils down it seems to me to due diligence. This paper is quite clear that the contractors and funders actually minimised the risk by the process of due diligence, presumably using professional insurances and various other methods to draw in other professions to say the building contract was properly constructed. Is my understanding right in terms of the due diligence process?
(Sir Andrew Turnbull) I think so, yes.
138. The due diligence process is used by the financiers, the funders, to determine whether or not the building project is a secure thing to lend money against, and you said that the risk which you were offloading from the Treasury was to do with the building contract, but the truth is you offloaded the risk by the process of due diligence and so did the funders; the process of due diligence was used.
(Sir Andrew Turnbull) No, we transferred risk and then the funders had to assess whether the risks they were taking on were ones they were prepared to fund, and EP were an organisation they believed was competent to manage those risks.
139. The fact of the matter is that this contractor here was really the Treasury by any other name. They were doing what you wanted and this document is an advocacy document for the processes you adopted, and this document quite clearly states that the funders utilised the process of due diligence, in other words finding professionals and all their insurances and associated techniques which they used, to determine whether or not to lend money against a building price which the building contractors have established. That being the case, there are several questions which come from that. The first is this: why did the due diligence process not operate at the time of the first tender? The first tender, which was £13 million incorrect, not to the advantage of yourselves, must have used due diligence.
(Sir Andrew Turnbull) Not to the advantage of-
140. To the advantage of their chosen funders.
(Sir Andrew Turnbull) We would be paying to the-
141. Had the due diligence process been done twice then? Had it been done in the original tender and then again by yourselves?
(Sir Andrew Turnbull) I think it must have been.
142. That is interesting, is it not?
(Mr Stewart) Can I just clarify what due diligence is?
143. Yes.
(Mr Stewart) Due diligence is a firm of technical advisers, a professional firm, writing a report on behalf of the funders, giving their view of the risks of the project and inherent deliverability. There is no insurance or anything else. There is no risk-taking in that due diligence process, it is just a statement of the factual position.
144. Paragraph 1.16 refers to the insurances and it would be interesting to get a note sometime, if that was possible, Chairman, on what the insurances actually were. Due diligence, nevertheless, is the process the funders used in order to determine whether or not to lend money against particular builders' estimates. That is the truth of the matter. I am interested to discover due diligence was done twice, once erroneously to the advantage of the funders, according to this paper and according to what you have just told me, and a second time resulting in a £13 million less estimate. Am I understanding it right now?
(Sir Andrew Turnbull) What happened between 1996 and the end of 1997, I would have to check up exactly what due diligence process took place.
145. I only have a limited amount of time and I think I have made my point but it would be interesting if you could come up with that.
(Sir Andrew Turnbull) Your question is, was there a previous round of due diligence? Okay.4
146. This due diligence process is a fascinating one. I take the view of Mr Gibb, to my left, but for reasons not to do with my favourable attitude towards capitalism, rather the reverse. If due diligence is good enough for the banks, and it clearly was, and you participated in the selection of the professionals, how is it that the Treasury does not use due diligence processes itself in building contracts which it is letting? Is that not a way actually of giving you some certainty about building contracts in the future, something which the private sector have invented which we might use to our advantage?
(Sir Andrew Turnbull) The experience is over the years a poor one.
147. Have we used due diligence processes like this one?
(Sir Andrew Turnbull) We would probably call it project appraisal at that time, examining the project, examining the risks, we would also be looking at the good standing of the potential contractor. All that was done or is done under a conventional procurement, but nevertheless the history is that this has not been done as well and that the intensity of the process, in my experience, is a lot greater when it is the private sector lending in relation to a particular project, rather than simply lending to HMG. They do not have to do much due diligence when they lend to HMG.
148. I would like, if it is possible, Chairman, to see where we used the same rigorous process of due diligence where it failed in relation to Treasury funding, direct public sector funding, relative to private sector funding. When it comes to public sector comparators, it seems to me that if you were to have provided the money yourselves rather than going to the private sector, the money would have been cheaper.
(Sir Andrew Turnbull) The money would have been cheaper but the assessment of the risk may have been faulty.
149. That precisely boils down to the issue of due diligence. It precisely boils down to the question of due diligence.
(Sir Andrew Turnbull) It was that prospect which lead in the construction of the public sector comparator, drawing on a series of reports from the Efficiency Unit, the Central Unit of Procurement- the history of cost overruns in the public sector-to the inclusion of an allowance for cost overruns.
150. I think you have made your point and I have made mine. I want to move on to a judgment made about bonds as opposed to bank financing. A judgment was made at some point that we were going to go down the route of bonds, and I am not sure if I have understood this paper correctly or not but it seemed as if the bonds were lending over a five year period longer than the banks and therefore the annualised payments were less, and that was a prime motivator for you deciding to go down the bond route. Have I misunderstood that entirely?
(Sir Andrew Turnbull) That was one of the features which made bonds attractive.
151. My memory tells me that is what this paragraph says. How was the balance struck between the aggregate cost in total and the annualised costs? What balance was struck between the two, since borrowing over 35 years probably reduces the annual payments but may increase the aggregate cost of the scheme as a whole?
(Sir Andrew Turnbull) The project itself was for 35 years, which is why it made sense to relate the borrowing to 35 years.
152. I understand that, but the paper says that the annualised costs were reduced by borrowing over a longer period, and that makes sense, since we all know that is how our mortgages work as well. What I want to know from you is, has the aggregate cost increased as a result of the fact we are borrowing it over 35 years rather than 30 years? Is it costing the taxpayer more in the aggregate?
(Sir Andrew Turnbull) It is costing us less.
153. In the aggregate?
(Sir Andrew Turnbull) On a discounted basis.
Jon Trickett: I would be interested in that calculation. No doubt the C&AG, if he is still looking at the scheme, will be looking at that. Thank you, Chairman.
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4 Note by witness: There was no due diligence process between 1996 and July 1997 (when negotiations on the first deal were halted). Although commerical heads of terms had been agreed, arrangements for funding had not and were some way off. It is not until potential funders are engaged that the question of undertaking a due diligence process arises.