1.23 One of the challenges of long-term PFI and PF2 contracts is the need to price costs far into the future. Lenders will want to ensure that future costs are not underestimated to ensure that they get their money back. The Department of Health, in a paper on PFI prepared for HM Treasury in 2012, noted that "there is an inbuilt incentive to price cautiously for lifecycle risk, requiring the build up of significant reserves. This may not necessarily result in optimum value for money for the public sector, although data illustrating out-turn costs for lifecycle is scarce".24 It also reported that bidders were currently pricing the cost of insurance at a 20% premium to the market price in order to provide protection against future price rises.25 To mitigate this, HM Treasury introduced insurance gain-share arrangements in the standard PFI contract (paragraphs 2.12-2.13). There are also other risks, for example potential tax increases, that investors may factor into the prices they bid at the outset. These risks may not materialise and in some cases subsequent changes, such as reductions in corporation tax rates, have increased rather than reduced investor returns.26
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24 Department of Health, Private Finance Unit, Review of PFI, 2012, paragraph J1, page 18.
25 The Department of Health Private Finance Unit provided a paper to HM Treasury following the call for evidence on PFI in November 2011; however it was not published along with other submissions as it was not a formal submission of evidence.
26 The UK corporation tax rate has fallen since 2007-08 (when it was 30%). In 2016-17 it was 20%.