The National Audit Office claimed a PPP equity market might bring benefits to the public sector "…by attracting more investors into the PFI market. As the supply of equity in PFI projects increases this should, assuming efficient markets, drive down the relative cost of equity and bring benefits to the public sector in the pricing of PFI projects. The Treasury has said that it considers there is scope to reduce the returns of around 13-15 per cent which investors expect when PFI projects are bid for" (National Audit Office, 2006 - emphasis added).
Various sources such as a PricewaterhouseCoopers 2002 study, a Royal Institute of Chartered Surveyors 2008 report and NAO research confirm the 13%-15% average rate of return (NAO, 2012). Similarly, sixteen Building Schools for the Future PPP projects had a 13.5% average rate of return at financial close of the project (NAO, 2009).
The NAO acknowledged "...the public sector may often be paying more than is necessary for using equity investment" (NAO, 2012). Primary investors provided the NAO with information on whether the returns they expected to achieve on 118 projects had changed since the contract was awarded. 84 investors reported the return was equal to or exceeded the original forecast. The NAO calculated the rate of return on the sale of equity in 99 projects sold between 2003 and 2011 (NAO, 2012). Investors selling shares early "…have typically earned annualised returns between 15 and 30 per cent. In exceptional cases, returns have been higher (up to 60 per cent) or lower (as low as 5 per cent)" (ibid). However, this report has a number of shortcomings:
Firstly, 64.4% of PPP equity returns were higher than 15% using the contract date to calculate the rate of return (and rose to 91.3% using the cash investment date). Furthermore, over a third were higher than 30%. This evidence was shown only in graphic form (Figure 9, NAO, 2012).
Secondly, the NAO did not assess the impact of PPP equity sales on a sector basis despite having a 99-project sample. Nor did it explain whether the sample was representative or how they had selected the projects.
Thirdly, although the NAO provided only six examples of projects being terminated, it placed undue emphasis on the risks involved, a familiar practice of the PPP sector.
Fourthly, it did not reassess the use of risk to justify the PPP financial model. For example, reduced risk on completion of construction is claimed to be the sole reason why secondary market purchasers "…are often willing to accept a lower rate of return than that originally bid by the primary investor". The report uses one example to highlight this point (Figure 11). The example is an unnamed 28-year project that commenced in 2005.
The NAO fail to point out that shareholders have, and will continue to, benefit from reductions in corporation tax over the contract period; potential reductions in hard and soft FM costs over the remaining contract period as a result of increased efficiency/productivity and/or reduced staffing levels/changes to terms and conditions; additional work and variations; all these financial benefits are captured by the private sector. The identification and pricing of risk transfer was the main mechanism by which projects were 'adjusted' or 'recalibrated' if the financial model indicated the Public Sector Comparator provided better value for money.
Finally, the NAO failed to examine the wider and longer-term implications of PFI equity sales, assess the impact of the increased concentration of PFI assets in infrastructure funds and joint ventures, nor did it investigate the increasing use of tax havens and quantify the potential loss of government tax revenue. A subsequent Public Accounts Committee hearing did not challenge the NAO's methodology or analysis (Public Accounts Committee, 2012).