c The contract provides for a value-for-money review after 15 years and then annually. The purpose of the review is to ensure that over the life of the project exceptionally high profits realised by Modus are shared with MOD. If Modus' rate of return is more than 130 per cent of the target post tax real project internal rate of return, 7.05 per cent, the excess is shared 50/50 with MOD. Modus' financial model predicted that it would not achieve the target return until year 26 of the project. Project returns can vary, however, from initial expectations. In particular, refinancing can significantly increase shareholder returns. In our report on the refinancing of Fazakerley prison, shareholder returns initially projected to be 13 per cent had risen to 39 per cent within four years of the letting of the contract as a result of a refinancing. MOD does not have a specific contractual right to share refinancing gains and would have to wait until year 15 to share additional gains under the contractual value-for-money mechanism. MOD sought a specific arrangement to share refinancing gains but this was resisted by Modus. At the time, Treasury guidance said that sharing of refinancing gains was only applicable in limited circumstances. MOD does, however, have the right to approve certain changes to Modus' financing2 and this would allow it a further opportunity to discuss how refinancing gains will be treated with Modus.
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2 Refinancings which increase MOD's termination liabilities, increase certain of Modus' financial costs and ratios, or affect Modus' ability to discharge its obligations under the PFI contract.