PFI: a lack of initiative

The government’s move to adopt IFRS from 2009/10 has generated speculation
about the future of the private finance initiative. If the accounting imperative
to structure projects as off-balance sheet PFI schemes disappears, will PFI dry
up? And if it does, does this matter?

Going forward, the case for using PFI will turn on its merits as a
procurement method. So this is a good moment to ask what benefits private
finance has actually brought? In other words, how important is the F in PFI?

PFI has made a difference to the implementation of large, asset-intensive
projects, and the role of private finance within PFI has been a big part of
that.

In particular, the role of debt has exerted beneficial discipline on public
and private sector alike at the front end of projects.

Equity investment has helped the integration, as well as providing an
incentive for sustained good performance and shielding the public sector from a
significant part of the ‘pain’, in the very few cases where projects have
defaulted.

In principle, some benefits of private finance could be brought about by
reforms to project control disciplines and through other non-PFI contractual
mechanisms.

But while it is too early to reach firm conclusions on new initiatives, it is
not easy to see how they could match the disciplines arising from externally
provided finance.

There are ways of improving PFI, some of which will become easier to develop
now that accounting classification is becoming a non-issue.

In particular, there are ways of reducing the costs of externally-provided
senior debt, though these will need to be calibrated so as not to weaken its
disciplinary influence.

At face value the private sector cost of capital is higher than the
government’s cost of debt, so governments are under pressure to push down the
private sector’s cost of finance. Taken to the extreme, this could lead to
attempts to erode altogether the (apparent) cost premium through wider use of
conventional procurement or through government guarantees of private finance.

This would, however, be to forget the hard-learned lessons of the past, and
to revert to thinking that (apparently) cheaper is better.

The challenge for the public sector is to allocate risks optimally and then
run procurement programmes and negotiate individual deals, so the private sector
receives an appropriate but not excessive reward.

Jon Sibson is a partner in the public/private advisory
practice,
PricewaterhouseCoopers
LLP