PRIVATE FINANCE INITIATIVE / PUBLIC PRIVATE
PARTNERSHIPS
Contents:
Scope
Key Points
Background
Selection
Project Management
Accounting
Further Advice
Scope
1. This section gives guidance on the selection,
management and accounting of projects to be procured by
means of Private Finance Initiative / Public Private
Partnerships (PFI/PPP).
Key Points
2. PFI/PPP should only be pursued where it is likely to
deliver better value for money than conventional
procurement.
3. All proposed major investment projects should be
considered for PFI/PPP but expert advice should be sought
on a case by case basis in order to avoid the undertaking
of unnecessary work on projects which from the outset would
clearly be unsuitable.
4. The procedures which should be followed in a PFI/PPP
procurement are very similar to those for a conventional
major investment project. Applicable guidance in respect of
Value for Money assessment of projects that are procured
under PFI/PPP is available on the
FPU
website.
5. The external auditors should be consulted with regard
to the accounting treatment of relevant projects prior to
issue of the Invitation to Negotiate and during contract
negotiations as appropriate.
Background
6. It is possible in many projects to use private sector
finance and management expertise to provide services and
related assets which would traditionally have been financed
and operated by the public sector. The basic concept is
straightforward: instead of buying a road, building or
other asset and then operating it itself, the public sector
enters into a long-term contract with the private sector to
do so. A unitary payment is made for the services and
assets provided on a regular basis over the life of the
contract. Appropriate risks are transferred to the private
sector where it can manage them best. This reduces public
sector exposure, for example to cost overruns, provides
certainty over future costs and rewards operators who
manage services well. The applicable assets revert back to
the public sector at the end of the contract.
7. Variants on this basic approach are financially
free-standing projects (e.g. toll bridges) where the public
sector enables the project to go ahead but the service
charges are paid directly by those who benefit from the
service, and joint ventures where some public investment is
necessary to enable a project to go ahead or to secure
wider benefits.
8. This approach is complementary to the contracting out
of central and local government services. It is distinct
from privatisation because the public sector retains all
its current responsibilities e.g. the provision of clinical
or educational services. It defines the service standards
required and puts in place contractual arrangements to
ensure they are delivered satisfactorily.
9. By opening up opportunities for private investment,
it may be possible to take projects forward which by
conventional means would have taken much longer, or which
in some cases would not have occurred at all. Most
importantly, it enables private sector financial,
commercial and creative skills to be brought to bear on the
management of projects while the public sector concentrates
on the output it requires in terms of services and
performance. To maximise the scope and incentive for the
private sector to innovate and secure efficiencies, a
public body must specify only the essential outputs of a
project, leaving the private sector to decide how to
provide them. A well managed competition will ensure that
the public sector gets the best price for the service. For
PPPs, value for money will be assessed in accord with VfM
assessment guidance available from Scottish Executive
Financial Partnerships Unit (FPU)
website.
A key element in demonstrating VfM in the PPP procurement
process is the evidence of competition.
Selection
10. PFI/PPP should only be pursued where it is likely to
deliver better value for money than conventional
procurement. It is therefore necessary to make an
indicative assessment at the outset on whether a project is
suitable. This should include an option appraisal in
accordance with the Green Book. The affordability,
commercial viability and value for money potential should
then be further tested during the development of an outline
business case for the project, and this should be submitted
to the FPU for review before the formal commencement of a
competition.
11. All proposed major investment projects, in
particular major capital investment projects, should be
considered for PFI/PPP but expert advice should be sought
on a case by case basis in order to avoid the undertaking
of unnecessary work on projects which from the outset would
clearly be unsuitable. This consideration should be across
investment programmes. That does not mean that all projects
which are subsequently examined for their suitability for
PFI/PPP should be tested on the market. The public sector
should go out to competition only on well thought out
proposals that could offer the prospect of good PFI/PPP
projects. Approval for not pursuing PFI/PPP in relation to
major investment projects should be obtained at an
appropriate level and reasons documented.
12. It is generally accepted that PFI/PPP
is better suited to projects with an overall cost of more
than £20m. Projects with prospective capital values of
between £10m to £20m should be reviewed on a case by case
basis. Projects should be prepared on the basis of clear
output specifications and robust business cases and should
be deliverable under standardised contractual
structures.
Project Management
13. The procedures which should be followed in a PFI/PPP
procurement are very similar to those for a conventional
major investment project - see the section on
Major Investment. They include project identification and definition on
the basis of an option appraisal, outline business case and
competitive tendering - usually under the EC procurement
regulations' negotiated procedures. The differences are in
the nature of the work undertaken at each stage, notably
the need to focus on specification of outputs, and in the
project management activity after a contract is signed. The
client is likely to be less engaged in monitoring the
progress of the construction of any asset concerned, but
will take a close interest in overall progress towards the
delivery of defined service outputs. Whereas in a
conventional capital procurement the client organisation
will need to put in place a team to manage an asset once it
has been constructed, in a private financed scheme it will
need an "intelligent customer" capability to manage the
contract for the services which are provided by the project
operator.
Accounting
14. The accounting treatment of PFI/PPP projects is
currently assessed under the Amendment to Financial
Reporting Standard 5 "Reporting the Substance of
Transactions: Private Finance Initiative and Similar
Contracts". Guidance to the public sector on the
application of FRS 5 is given in Technical Note No 1
(revised) "How to Account for PFI Transactions". The
Technical Note is mandatory for all bodies preparing their
accounts in accordance with the Government Financial
Reporting Manual. Copies are available from the FPU or
accessible via the Unit's web page. The guidance sets out
how to determine whether the assets in the project fall on
or off the public sector purchaser's balance sheet. The
Technical Note also sets out recommended steps to take at
various stages of a PFI/PPP procurement, including
involvement of external auditors, in order to ensure no
late "surprises" in the proposed accounting treatment of
PFI/PPP projects.
15. Normally, with appropriate transfer of risk to the
private sector, a PFI/PPP project would be expected to fall
"off balance sheet". In such cases, the unitary charge,
which is paid to the private sector provider annually, will
fall as a revenue charge in each year of the PFI/PPP
contract. Thus apart from set-up costs (which would
normally be accounted for as incurred) the project payments
would require budgetary cover starting from the year in
which it becomes operational. Disclosure would also be
required of future commitments under the PFI/PPP contract.
Where a property is judged to be "on balance sheet" (ie an
asset of the purchaser) the fair value of the property
should be recorded in the balance sheet when the asset
comes into use and depreciated over its useful economic
life. A liability to pay for it would also be recognised
and reduced as payments for the property are made. The
balance of the payments (the service element) should be
recorded as an operating cost. Budgetary cover would be
required for the capital and operating elements.
16. The external auditors should be consulted prior to
issue of the Invitation to Negotiate (ITN) and during
contract negotiations as appropriate. Guidance on the
extent of consultation is set out in paragraphs 2.1 and 2.2
of "How to Account for PFI Transactions".
17. A preliminary opinion from an auditor before or
during the course of the procurement would probably be
suitably caveated e.g. stating that it was subject to any
alteration or discovery of fact or circumstances of the
transaction as it is negotiated through to completion, or
in subsequent audit of financial statements. Giving such
advice should not compromise the auditor's final audit
opinion, as the auditor would be expected to reach the same
conclusion with the same set of facts and circumstances. It
is for the client organisation to judge if there is a
material change of fact or circumstances sufficient to seek
an update of advice already received.
Further Advice
18. Advice on the suitability of projects for the
PFI/PPP approach and on the procedures to be followed
should be sought from the FPU. The FPU can supply a range
of detailed guidance documents. Those managing projects may
also wish to draw on advice from the Scottish Procurement
Directorate, Trunk Road Design and Construction Division,
the Health Department's Private Finance and Capital Unit,
Property Advice Division, Planning Division, Construction
Advice and Policy Division, Analytical Services Division
and legal and accountancy specialists.
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Page Published/ Updated: June 2005