Participants in UK PFI projects industry have been eagerly anticipating this Report. The Report comes at a time when all of the UK’s PFI schemes are well into their operational phases. Although the PFI industry has been paying particular attention to contract expiry/handback and net zero initiatives in recent years, the Report is concerned with the increasing trend to disputes, often arising out of aggressive and occasionally draconian contract management. As the Report notes, some of the ‘problems’ are considered to be most acute in the PFI health sector. The concern of the Report authors is the spread of disputes from this sector into the wider PFI industry, which it describes as being at a ‘significant inflexion point’.
Scope and initiation
The authors were invited by the Infrastructure and Projects Authority (IPA) in November 2022 to prepare an independent report to review:
- the status of behaviours, relationships, and disputes across the PFI sector
- proposals for a “Conduct Charter” and PFI Expiry and Handback Resolution Council
- the extent that negative working practices are being adopted across the PFI industry, and the reasons why
The Report is the result of extensive public and private sector consultation. The authors have interviewed more than 160 individuals drawn from approximately 90 organisations representing the public and private sectors. The authors have taken care not to name anyone with a view to encouraging ‘unvarnished’ and frank feedback with no comments to be attributable. They have sought input from both senior executive level and also point of delivery level.
Key points of the Report
In this Guidance in sections 1 to 5 below, we summarise the contents of the Report. The Report has 5 sections - each analyses a topic under the headings of Findings and Recommendations.
The Report notes that relationships in most PFI Projects are reasonable. However, in certain sectors, they have deteriorated. Relationships between the public sector and private sector have been affected by aggressive overinterpretation of the contract, storing up issues only to ‘deluge’ them later, using the contract to gain leverage rather than resolving issues, aggressive personal behaviour, a lack of clarity of objectives, poor reporting, withholding of information, withholding survey results and denying access, variations taking too long, goodwill being used as a bargaining chip, and others.
The Report’s view is that previous codes of conduct on improving behaviours, whether introduced centrally or locally, have had mixed success as they usually only had a short-term impact. The Report does not recommend the introduction of the “Conduct Charter” proposed by DLA Piper but does recommend that greater reliance is placed on ”The Seven Principles of Public Life” (known as the “Nolan” principles), especially the seventh principle, “Leadership”, which provides, “Holders of public office should exhibit these principles in their own behaviour and treat others with respect. They should actively promote and robustly support the principles and challenge poor behaviour wherever it occurs.”
The Nolan principles should apply to both the public and private sectors, and particularly consultants employed by both parties. The intention, primarily, is to challenge poor behaviour, which should be dealt with corporately at a local level.
2. Invest more in contract management
The Report notes a lack of understanding of the difference between self-reporting and self-monitoring.
PFI contracts require the Project SPV to both self-report (eg, issue monthly assessments of deductions etc) and self-monitor (eg, reports on life cycle, maintenance etc). However, Public Authorities have often assumed that these obligations are Project SPV obligations alone. Instead, the Report recommends that Public Authorities should also be self-monitoring the Project SPV’s performance. The Report identifies generic faults with Project SPV self-reporting: eg, lack of detail in reports, issues not being accurately described, selective interpretation of ambiguous Service Requirements and lack of scrutiny of O&M Provider’s reports. A lack of Public Authority monitoring has meant that Project SPV reports may have created a picture of performance better than it actually is. When the Public Authority has investigated, it has found evidence of failures, which has contributed to a deteriorating relationship.
Resourcing issues in both the public and private sectors has contributed to the problem. The Report makes an important distinction between what it characterises as a “financial asset” Project SPV and “industrial asset” Project SPV. A “financial asset” Project SPV is a thinly resourced SPV, heavily dependent on its sub-contractors, which might perform well if a project is running smoothly, but might not be sufficiently resourced to self-report correctly or deal with problems when they arise – “fight first, fix later”.
An “industrial asset” Project SPV is an SPV which is better resourced to take greater ownership of issues at a Project SPV/SPV Owner level, rather than passing the problem down to subcontractors. Public sector resourcing issues can stem from lack of funds or the perception that the contract is self-monitoring, so the public sector doesn’t have to monitor it.
The Report recommends that:
- SPV Owners adopt an “industrial asset” Project SPV strategy to improve reporting, accountability, goodwill and flexibility, (ii) easily resolvable frustrations are managed out eg, streamlining variations.
- The Public Authority should manage and monitor as a local and not central responsibility.
- Sponsoring central Government Departments should increase centralised resource to assist Public Authorities to establish networks and portfolios to share good practice and minimise disputes.
3. Disputes are using up too much valuable resource
The Report found that PFI disputes referred to adjudication, arbitration or litigation are limited and estimates that less than 10% of PFI projects are in dispute at any time and only 10% of that group have gone to formal dispute resolution. However, the trend of disputes generally is ticking upwards. Disputes are more prevalent in the PFI health sector, and the Report notes that this appears to be the result of more robust contract enforcement.
Disputes are arising as a result of or follow a breakdown of trust and goodwill. The activation of a formal dispute resolution process also often did not produce a satisfactory result: wasted time and effort, a missed opportunity to reset the relationship, even more robust contract management following the dispute, loss of goodwill and going the extra mile when facing the next problem, and disputes take away scarce time and money. Conversely, lack of time and money to pursue a dispute had also led to concessions that should not have been made against a “win at all costs” approach in other disputes.
The public sector has highlighted mediation as a more effective approach to resolving disputes. Two drawbacks were identified for formal dispute resolution processes such as adjudication: one, because of confidentiality constraints, private adjudication is preventing a body of common knowledge being built up where the same issues are being disputed, and two, lack of adjudicators with the necessary expertise.
The Report has three recommendations:
- Support for DLA Piper’s Expiry and Handback Resolution Council. DLA Piper suggested this Council should consist of five leading adjudicators/arbitrators with experience of PFI projects and that a “Chair” should be elected to manage referrals and to advise on structure and format. However, the Report recommends extending the remit of that Council to not just covering expiry and handback disputes, but also general PFI/PPP disputes. Also, that adjudicators should be able to call non-legal experts eg engineers and surveyors. The Council should not be at the expense of mediation and a database of accredited PFI/PPP mediators should be developed. The aims are to: (a) build up a body of “PFI/PPP common law”, (b) improve the quality of decisions, and (c) reduce disputes.
- improve access of information to central Government Departments to enable them to see the types of disputes and their resolution. This will involve a waiver of confidentiality involved in private proceedings to make this information available
- Public Authorities should not engage external advisers on contingent fee arrangements as this may encourage achieving the highest financial settlement, which might not be in the public interest.
4. Clear contract management strategy
A number of disputes have been triggered as a result of an unexpected change e.g change in personnel or a change in approach to contact management. The Report states that there appears to be a lack of clarity in the approach to contract management eg, is enhanced Public Authority monitoring intended to lead to better performance or levying more performance deductions to save cash?
Following the discovery of new information, the Report highlighted some Public Authorities becoming pre-occupied with the PFI Contractor historically ‘getting away with it’. Private sector respondees feedback was that reasons were rarely given for a change in contract management, hence the private sector did not know what problem Public Authority enhanced monitoring was intended to fix. These factors have led to a rise in disputes.
The Report also identifies a failure to analyse what a “win” in a dispute will look like, including a failure to focus on “needs” rather than “wants”. This has led to unsatisfactory dispute resolution. Please see section 3 for a list of these perceived failures.
The Report’s recommendations are:
- To avoid unexpected outcomes in dispute resolution processes, Public Authorities should address poor performance with a strategic goal and a strategy for achieving it. A “good” outcome will clearly define any contract improvement measures. Public Authorities should consider whether their approach is “relational” or “penal”. The Report considers a relational incentivisation approach to be better than a penal one as that is more likely to improve relationships going forward.
- Encourage good behaviour by creating a “reset” environment. Please see section 5 below. The Report recommends that this “reset” approach should become a “cornerstone” to resetting the PFI market.
5. Reset opportunity in the PFI market
The key recommendation of the Report is the proactive use of the ‘re-set approach’, a form of which is currently being seen in the Health sector through the Centre of Best Practice Survey process.
This one-off exercise would typically involve: (i) a systematic review of asset/services, (ii) a rectification plan, and (iii) a degree of relief from deductions to allow programmed rectification to take place. This is a “renaissance” approach, to produce a shift in relative performance (not perfection). It is not intended to be a remedy for seriously failing projects where performance relief deductions may not be appropriate, and issues may need to be worked through on a case-by-case basis. The approach is voluntary.
The bullet points below highlight the key features of any “reset” approach:
- Project SPVs and their supply chain incentivised to identify and declare every issue they know about, in order to benefit from ‘amnesty’.
- Survey commissioned to identify issues - joint appointment & jointly agreed scope, paid for by the private sector.
- Consistency in “reset” approach, supported by frameworks/portfolio approach to make as efficient as possible.
- Survey to be used to prepare schedule of action.
- Any Health & Safety issues to be prioritised.
- Period of relief provided - agreeing to suspend deductions for a period of a timetabled action plan to allow the Project SPV to purposefully schedule and addresses issues, but the payment mechanism would continue to operate as normal for day-to-day issues.
- Timetable has to be meaningful and cannot be elongated in order to allow all supply chain claims to be worked through post survey. SPV Owners to agree approach with their supply chain in advance.
- Fast track dispute resolution for issues where views differ.
- Active management arrangements by SPV Owners going forward to be part of review.
- On a project specific basis:
- variations to incorporate elements of energy efficiency/decarbonisation
- variations to address issues where over specification of service has been identified
- speeding up variations, and (iv) agreeing contract expiry/handback process
- consistent approach agreed centrally by IPA and Government Departments with SPV Owners
- Local ownership - corporate leadership to agree to adopt approach, have a shared view of the end point, and work with Nolan principles in implementation and in operational approach thereafter.
- Ensure “Liaison Committees”, or equivalent, are operating effectively to monitor progress, to be regular minuted meetings, tracking actions and responsive to any escalation of issues.
- SPV Owners to consider benefits of inviting Public Authority officials to sit on the Project SPV’s board of directors, or offer observer status at board meetings.
Each PFI Project will have its own specific features and relationships that necessitate a bespoke approach but in general we would support many of the Report’s recommendations, in particular the “reset” provisions and Disputes Resolution Council to cover all PFI type disputes.
The IPA’s Guidance “Preparing for PFI Contract Expiry” produced in February 2022 recommended a relationship “clean slate” to deal with the issues that will result from the expiry/handback of PFI contracts. Without an improvement in relationships, the expiry/handback process will be considerably harder to manage as the scope for disputes will increase given the scale and complexity of the issues which will emerge. But an improvement in relationships at this stage is also necessary for its own sake.
Our thoughts on the Report:
- Examples of good relationships and positive contract management behaviours could have been summarised, perhaps in an appendix, for readers to refer to. Perhaps this could form the basis for a set of recommendations or code for the IPA to issue.
- Will Nolan work? All parties should already be policing their own behaviour. Whilst to be supported at a high level, we would query whether the Nolan principles were written with contract management in mind.
- Very little mention is made of senior funder community. The Report will need to involve senior funder and SPV Owner buy-in as the Project SPV’s room for manoeuvre in disputes is often limited, where shareholder and funder consent is required. Subcontractors also of course have their own views.
- Converting “financial asset” Project SPVs to “industrial asset” Project SPVs will require expenditure by SPV Owners, producing a reduced return on their investment, which they might be reluctant to do. The parties may have accepted a “financial asset” Project SPV for affordability reasons as part of the original project economics. Though the Report’s point is noted that “industrial asset” Project SPVs are not necessarily altruistic and should result in better project performance.
- Variations have often been thorny and protracted, particularly obtaining consents over which neither the Project SPV nor Public Authorities have much control. There is no easy solution.
- The competition for talent will be fierce, especially as the expiry process hots up. The market as it currently stands does not contain the necessary skill sets to deal with current day-to-day issues on complex PFI projects. Recruitment of talent into the market must be priority, especially as the expiry process will require a whole new PFI industry to manage it.
How can we help?
If you would like any help with the issues raised in this Guidance, or your PFI otherwise needs a health check, we offer a wider range of services to help you get the best out of your PFI project. These include running awareness workshops, payment mechanism reviews, cost saving and efficiency variations, termination exit plans, refinancing, insurance risk sharing, expiry and handback and many more.