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Winds of change, by Mike Ellsmore

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19 August 2005

Many of Bexley council's school pupils were being educated in huts, with winds raging through broken windows. Then the chance of a £30m PFI refurbishment programme came along. Mike Ellsmore explains how they grabbed the money and ran with it

My first contact with the Private Finance Initiative was a visit to Welling School on a rainy January morning in 2003. I stood in stunned silence as I watched a young teacher attempt to impart the finer points of English grammar in a 'temporary classroom' erected some 20 years earlier. A Siberian blast hurtled through a broken window, blowing the last remnants of a curtain to one side. The floor was covered in chewing gum. What shocked me was that this accommodation was significantly below the standard I had been educated in 40 years earlier.

Bexley Borough Council had just had its outline business case approved for a massive refurbishment of Welling and Bexleyheath, two of its largest schools, with a combined roll of 3,500 pupils. Approval of the business plan gave access to some £30m of PFI credits.

The authority was no PFI novice, having developed several large public-private partnerships. It had a core team to run such projects, which had recently closed a £30m contract to renew the council's three leisure centres – a deal achieved without government subsidy.

But the schools project threw up several different challenges. Two project directors had left and the leadership fell to me. First, it was essential to involve the schools at the very heart of the project, since the teaching staff, the governing body and pupils were the main stakeholders.

At the same time, as this was not a green field development, construction would have to take place while the school went about its day-to-day business. There were also planning implications down the line. Both sites were surrounded by suburban sprawl. Welling in particular was close to a mixture of terraced and semi-detached housing. The area had a number of community safety issues, and the council was trying hard to co-ordinate the various public agencies to make residents feel safer.

We decided early on to make limited use of consultants and to concentrate instead on putting in place a good and well-balanced in-house team. This is essential to the successful delivery of any major project – but all too often in local government teams are put together with little attention to the dynamics of the situation or the personalities of the individuals. We had an excellent in-house legal team, who knew their way around big procurement projects, and an equally good finance team led by two people who had developed their commercial skills. It was essential that my own role focused on strategic project direction and management.

Added to the core team were the two school bursars and two project managers from the directorate of education. The team gelled well from the beginning and had the full support of the heads and chairs of governors who drove the design process.

Delivering big public-private partnership schemes is a bit like embarking on the early Antarctic expeditions. Ernest Shackleton's success in returning his team from the potentially fatal Endurance expedition was due to strong leadership, good team bonding and excellent navigational skills. The procurement process is long and presents major challenges that need to be navigated along the way. Shackleton's expedition went missing for 18 months on ice floes and a PFI negotiation often feels like that. The hope is that the team will reappear on the equivalent of Elephant Island at some point with a successful project.

Having selected a preferred bidder, our first major challenge occurred when the consortium's director appeared at the civic offices to announce that they were pulling out. This meant a hasty renegotiation and redesign with the reserve bidder, Investors in the Community.

IIC provided the key project management and co-ordination role and created a special purpose company for the scheme. Construction was to be undertaken by Skanska, while Caxton FM was to take on the facilities management.

Senior debt was to be provided by Nationwide Building Society and sub-ordinated debt and equity by an IIC fund managed by Mill Group, which involved private and public sector institutional investors and several local authorities.

There were times when the project received near- fatal blows. The planning process proved particularly challenging. Although Bexley was the planning authority, one of the council's strengths is that its planning process is fiercely independent. Developers do not always understand this and there is a perception that, in dealing with a council, planning is a foregone conclusion. Bexleyheath School received planning consent in September 2003, Welling was to follow in October 2003.

We relied on the statutory planning consultation to communicate with residents. This proved to be a mistake. When the consultation letters arrived, a crowd of concerned residents marched to the local MP's surgery. Part of the difficulty was that the planning application was submitted in the name of the consortium. Residents jumped to the conclusion that this was some form of private development that would operate 24 hours a day, seven days a week.

We quickly convened an exhibition of our plans with the design team and the consortium present, followed by a meeting hosted by the local MP. Communication is a simple and underrated device and many of the residents' doubts and concerns evaporated.

However, a small number of residents strongly opposed the inclusion of a floodlit sports pitch, so planning approval was refused and a new application had to be submitted excluding the floodlights. Approval was eventually given in December 2003.

Delay is bad news for PFI projects. Time is money and company boards get jittery with a lack of progress. The council had approved an annual contribution to the scheme of £400,000, effectively plugging the gap between government grant and the annual sum payable to the consortium. However, following the loss of the original preferred bidder, the delay due to planning, the loss of third-party income due to the deletion of the floodlights and new building regulation requirements, the council's contribution rose to £600,000.

The start on site programmed for April 2004 was also looking doubtful. Steel had to be ordered in advance along with temporary classrooms. But, at the time, the People's Republic of China's insatiable demand for steel was pushing up prices. The council took a carefully evaluated risk and entered into an advance works agreement directly with the building firm. This guaranteed the firm costs of up to £1.75m should the PFI deal not be successfully concluded, enabling it to pre-order steel and temporary classrooms. Looking back, this was to prove critical to the success of the scheme as it enabled the work to start immediately after signing.

The deal was eventually signed after long and complex negotiations at ten minutes to midnight on March 31, 2004. Signing in the 2003/04 financial year also gave a useful inflation uplift to the PFI credits.

The key equation in any PPP deal is the balance between risk transfer and cost of capital. Risk should be placed with the organisation best able to tackle it. All too often the public sector adopts a totally risk-averse approach, passing it all to the private sector. Public sector organisations need to take a more balanced approach – it is critically important to understand the risk, assess it and place it appropriately.

One area where the public sector has traditionally failed is in controlling the costs of major infrastructure projects. Delays, design drift and over-optimistic estimates often cause cost overruns. Under PPP schemes, this risk is passed to the private sector along with the responsibility for long-term maintenance, an area where again the public sector has not always faced up to its obligations.

Against the advantages of risk transfer are the higher financing costs of the private sector. The financing cost of the Bexley scheme is about 2% higher than long-term borrowing from the Public Works Loans Board.

Since signing the deal, the pace of construction has been impressive. A new sports hall and teaching block have opened at Welling, both earlier than planned. Bexleyheath will open in September. There is no doubt that the pressures brought by the various members of the consortium bring an added momentum to the project.

Too often we hear that PFI contracts are rigid and changes cannot be made. It was not uncommon to read of PFI schools caught in the Jamie Oliver healthy eating whirlwind complaining that they were unable to change menus because of the 25-year PFI contract. But every PFI contract will set out clearly a change control mechanism. At Bexley, both schools made changes to the design even during construction – and the consortium went along with them. We are also now working on incorporating nurseries and community police teams at both schools. The consortium has remained extremely flexible.

The PFI will undoubtedly continue to attract controversy. Time will tell whether the elongated procurement process and higher financing costs will be worth the undoubted advantages of risk transfer to the private sector. There is no doubt that in Bexley, the PFI approach resulted in a highly focused council team that was supplemented by the drive and skills brought by our private sector partners.

What the PFI has done at Bexley is to right a wrong. Teachers and pupils at Bexleyheath and Welling schools should not have had to work in buildings in such a poor state. While Shackleton might have had to endure Siberian blasts, it is not an environment in which to teach. But good accommodation is only a piece of the jigsaw. Successful schools are ultimately created by teachers, staff and pupils.

Mike Ellsmore is assistant director of finance and PPP project director at Bexley Borough Council

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