Despite questions over the future of PFI, infrastructure projects will continue to be funded through it, say Tiffany Cloynes and Vincent King. There has been some debate as to the impact of the current economic climate for PFI transactions. The contractual terms for projects which have already been signed should be robust enough to ensure that the new facilities and services are delivered as specified. It's all about risk transfer. Generally, the risk of the costs of borrowing increasing is not borne by the public sector, since these costs are effectively capped at financial close. These and other projects' costs are translated into a unitary charge which only becomes payable once the new facilities are handed over, and the private sector sponsor and funders would be significantly out of pocket should the project be allowed to fail. But what of projects which have not yet been signed? One needs to look at the fundamentals of supply and demand. On the demand side, the need for new schools, hospitals and infrastructure will not diminish simply because of the downturn, as population growth rates are projected to increase. Plus, the Government sees a continuation of public spending in construction projects as being necessary to safeguard jobs in the construction industry and its supply chain. It's not so much a question of whether the Government can afford to continue to get involved in these schemes, but whether it can afford not to. There will need to be some prioritisation of sectors, and there will be winners and losers. For example, the need to cut the amount of waste which goes to landfill should ensure that we continue to see schemes in the waste sector. A prime example is the £3.8bn PFI contract which was completed by the Greater Manchester Waste Disposal Authority (GMWDA) in April this year, which saw investment from the newly-created HM Treasury's infrastructure finance unit, the European Investment Bank (EIB) and a syndicate of commercial banks. The investment from the Treasury was required to achieve financial close as the costs of the project rose. GMWDA also became a lender to the project, providing £35m towards the debt package, as well as a £68m capital contribution. This project is expected to contribute directly to the UK's commitment to achieving 50% recycling/composting and a 65% diversion from landfill by 2020, in accordance with EU requirements. Simon Brooks, EIB vice president responsible for lending activity in the UK, says: ‘The EIB has recognises the value that the PFI structure can bring to major infrastructure projects, and our determination to support the sector is in no way diminished by the current financial conditions.' Education is another key sector. Three projects reached financial close in the first two months of the year alone, including a £50m deal in Tameside. In addition to Building Schools for the Future (BSF), the Government has also recently announced a £4bn academies framework. Tim Byles, chief executive at Partnerships for Schools, the body responsible for delivery of the BSF programme, says: ‘The new framework offers a great opportunity for all sectors of the construction industry, particularly at a time when conditions are undeniably tough.' With more than 127 academies being delivered through BSF currently, with at least 100 more in the pipeline, the new framework will enable contractors and suppliers from across the country to get involved in a scheme which has a predictable flow of work, supported by direct grant government funding. There will also be some prioritisation and rationalisation of individual projects, and larger schemes, in particular, may need to be cut down in scope. At the other end of the scale, we are continuing to see joint procurements and the establishment of framework appointments which realise economies of scale, share best practice, increase standardisation, and cut down on the costs of individual procurements. This is an example of more sophisticated purchasing, and I think we will continue to see ever-more robust contractual terms, the improved identification of requirements, and a move to payments based on outcomes. On the supply side, undoubtedly, there is less liquidity in banking markets which has meant that the cost of debt has increased. In addition to the involvement of the EIB and the infrastructure finance unit, we are increasingly seeing groups of banks share the financing of schemes pre-close, which spreads the risks, although some are concerned that this will have the effect of reducing competition for financing. This has led to the Treasury to seek an enhanced share of any refinancing gains which are achieved post financial close. Individual projects have seen delay while funders' credit committees complete more rigorous due diligence checks. But is there still a willingness to lend? PFI is still seen as a good long-term investment. Ken Anderson, managing director of UBS investment bank and former commercial director at the Department of Health, confirms: ‘PFI projects tend to be very safe, risk free and pension funds like to hold money in them. The final guarantor is the Government, and it doesn't get much better than that.' For companies which are involved in the PFI sector, it is also inevitable that there will be more careful scrutiny of their chances of successfully bidding for individual opportunities, given the significant upfront and ‘at risk' costs of tendering which are involved when public bodies are required to use the competitive dialogue procedure. Just as we will see more sophisticated purchasing by public bodies, we will also see more sophisticated bidding, as everyone involved in the PFI process needs to up their game in the downturn. Tiffany Cloynes and Vincent King are projects and commercial partners from law firm Cobbetts LLP
