NHS PFI contractors making up to 20% profit; 6 proven steps to reduce your ongoing lifecycle costs
Byon October 24, 2017
In the words of Colin Leys, co-chair of the independent think tank, The Centre for Health and Public Interest (CHPI):
“This money was designated by parliament to pay for patient care, not to pay dividends to a small number of investors.”
Last month, CHPI completed a report called ‘P.F.I. – Profiting From Infirmaries’. After analysing accounting data from the Treasury and Companies House, CHPI was able to determine that some private sector organisations were receiving profits of between 20% and 30% from their NHS PFI contracts.
With such “leakage of taxpayer funds out of the NHS” as Mr Leys is reported to have put it, what can such public sector institutions do to reduce their ongoing lifecycle costs and improve service levels when locked into a long-term PFI contract?
A quick and costly history of PFI
Introduced by John Major’s government and greatly expanded by Tony Blair’s Labour government of the late ’90s and early 2000s, Private Finance Initiative (PFI) contracts are perceived to have become a controversial system of financing for helping public sector institutions to construct the buildings and facilities they need.
The idea is that the public sector used the help of private sector contractor borrowing (often involving long-term running of maintenance contracts), with those contractors footing the bill at the outset. This ‘loan’ is then paid off over a period of time (an average of 31 years according to CHPI) with the public sector (AKA the taxpayer) saddled with what is often a rather large interest rate over that time. PFI’s critics, including Jeremy Corbyn, are reported to believe PFI deals to be unsustainable even without austerity. He states: “They were too expensive, too inflexible and built on excessive optimism.”
With the public sector starting to move into its tenth anniversary of forced thriftiness and with the NHS being one of the clearest examples of critical services under such strain, the CHPI report is bound to be a political minefield for the government. The question though is which government should be worried about this.
Yes, it was a Conservative government that introduced the policy, and it is the current Conservative government that will have to take the flak from this report. However, in a statement, reported on the Chartered Institute of Procurement & Supply (CIPS) website, Philip Dunne, Minister of State at Department of Health, said: “Of the 125 PFI contracts reviewed in this report, 118 were negotiated by the last Labour government.”
Profits of £831m flow from NHS to private sector coffers
The CHPI report calculated that the average profit the private sector was making from its NHS contracts was 8%, in 13 cases this was above 20%, and in one case noted on an article on the CIPC website, it was said to be 31%. The figure highlighted by the report for profits flowing from the NHS to a small number of private organisations over the last six years is £831m, a figure that some speculate might double over the next five years. That’s almost a billion pounds more of taxpayer’s money to be consumed as PFI contract profits by 2022.
Who profits from these contracts?
The controversy of PFI contracts, their profitability and the CHPI report is magnified by the report’s claim that “just eight companies own or have equity stakes in 92% of all the companies holding PFI contracts with the NHS”. These include:
- InfraRed Capital Partners
- John Laing
- Aberdeen Asset Management
If the above report is correct, then this really is a small club. The problem with small clubs is that by their very nature they can stifle competition, leaving the NHS effectively in a difficult challenge to drive better value in the future.
In fact, according to the CHPI report: “evidence from the NAO showed that in 33% of PFI projects examined between 2004-2006 there were only two viable bidders, mostly due to other bidders pulling out, or to lack of interest”. This could impact on benchmarking of value for money and “a small number of players wielding excessive market power over smaller public sector authorities which are tendering for and managing PFI contracts, with the potential for these companies to dictate commercial and contractual terms”.”
The CHPI report concludes with a number of recommendations, options it suggests the government should revisit to address the issues it highlights with PFI contracts:
- use public sector loans to buy out PFI contracts,
- tax PFI companies to recoup some of the excess profits which have been made,
- cap the amount of profit which can be made by any private company which has an exclusive public sector contract with the NHS,
- share with the NHS trust concerned the profits made from sales of equity stakes in PFI contracts,
- mandate greater transparency of equity sales to prevent the unnoticed consolidation of market power by a few investors, and
- renegotiate the existing contracts to reduce the amount that the NHS pays.
6 steps to reduce ongoing lifecycle costs on PFI contracts
The ‘build now, pay later’ structure that PFI is based on does have some benefits, but the economy has changed significantly since the 1990s when PFI was first proposed. With austerity rolling on and on, the public sector is, quite rightly, increasingly finding the often excessive profits being made off the National Health Service difficult to stomach.
The government is contractually obliged to see these 20 or 30-year (or even longer), contracts through, and paying our PFI contracts is likely to be highly expensive for the public purse. So we have put together the six most effective ways to keep your PFI costs down for the lifetime of your relationship:
STEP #1: Financial Monitoring
All costs need to continue to be scrutinised, monitored, identified and validated, and a strict plan needs to be in place for ensuring that all payments are made on time to avoid unnecessary penalties being incurred.
STEP #2: Penalties and Deductions
In the step above we talked of avoiding payment penalties for late payments; the penalties and deductions in this section are, however, for a client’s benefit. Accurate, effective and recorded policing is needed of availability and performance levels your PFI partners are achieving for you while running or maintaining your building or facility. If repairs are delayed or do not happen, or service is lacking, then you may well be entitled to a deduction from your payments for that service. Fail to identify them as they occur will mean you are missing opportunities for cost savings to be made, fail to evidence the issues for which you’ll be claiming a deduction and you may leave yourself open for your deductions to be disputed. Effective policing of poor performance will also send out a message to your PFI partners that the wrong kind of behaviours will have financial consequences for them.
STEP #3: Contract Variation Value Assessments
With the average PFI contract lasting over 30 years, there are likely to be times throughout this period when changes to your agreement will be necessary – to follow end-user demand, technological advancement, lower risk, reduce costs or improve value. Your agreement is likely to determine the costs involved in most contract variation circumstances, but it is vital that all costs are assessed, reviewed and validated to identify any opportunities for lowering them, including benchmarking them against those other providers would charge for the same task. This will require clear evidence, but contract variation costs can be exorbitant so it is important to analyse any and all of them.
STEP #4: Keep an Eye on Indexation
Indexation is the mechanism in your PFI contract that allows for certain costs to increase in line with inflation, costs that include wages, supplies and services. The calculations are often complex and, therefore, there is room for your supplier to make errors that could cost you a small fortune over the years should they go unnoticed. Monitoring your suppliers’ invoices to ensure that they use the correct index, base values and current values, that indexing has only been applied to the variable element and not the unitary charge, that the correct formula was applied, there has been no double counting, and that there has been no confusion with the base, current and out-turn prices.
STEP #5: Benchmarking and Market Testing as Renegotiation Tools
Benchmarking and market testing are included in PFI contracts to ensure that clients always pay a reasonable market price for the products and services they receive from their PFI partner. Therefore, it is important to monitor both market rates and your PFI partner’s fees to maintain your knowledge of the value you are receiving. Where you identify, and can evidence, that you are being charged too much, this should be brought to your PFI partner’s attention and can be used as a means for renegotiation. Split costs into meaningful parts as it is possible that portions of your PFI partner’s charges will be reasonable whereas others could be higher than market rates, therefore necessitating a renegotiation of only part of your agreement.
STEP #6: Regularly Analyse Your PFI Contract for Inefficiencies
While inflexible in many areas, your PFI contract is likely to offer a degree of tolerance for changes, over time, on things like technological improvements, changing end-user requirements and accepted practices, all of which offer opportunities not only for renegotiation or change, but also significant cost savings.
You should also ensure that trust and collaboration are top of list in your regular meetings with your private sector counterparts. It is vital that as much knowledge is gathered in these sessions as possible to identify issues and opportunities. But it is also important that the right people are present to develop and foster relationships so you can call upon your counterparts outside of these meetings to track progress, milestones achieved, issues predicted, and any potential for innovative solutions that could save time or money.
Your monitoring of the market will reveal these opportunities over time, your knowledge of your contract will offer up opportunities for change, and the trusted relationships you have formed with you PFI partners will provide the opportunity to present your case to a more collaborative audience.
PFI contracts can be costly, lengthy, and unpopular in public opinion, and the spotlight that the report from CHPI shines on the increasing scale of those costs involved is not likely to make their public profile any more palatable. So, while it’s important to be aware of the size of the mountain you must climb, there are ways in which these significant costs can be, to a certain degree, tamed.
Through keeping a watchful eye on both invoicing and progress, late payment penalties, deductions you may be entitled to, knowing your rights and your agreement, reviewing change costs and indexation adaptations, monitoring the market and the value you are receiving and chasing every opportunity to keep costs down, you may find your PFI contract all the more manageable.