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Evaluation of Private Finance Initiative Contracts

Info: 3318 words (13 pages) Essay
Published: 23rd Mar 2021 in Finance

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Introduction:

A strong and controversial effort to reform the finance system of major investment programs is the Private Finance Effort (PFI). Private Finance Initiative permits the use of the private sector to up-front money, the public sector has a means to create and then maintain a resource that ensures that it pays a Unitarian payment by the public sector. As the name suggests, a single charge (made monthly) is one transaction that includes the cost of constructing, repairing and running the property for the entire contract period. Imagine this as a home mortgage, maintenance costs, benefits and home maintenance, all of them wrapped together in one account. If your kitchen or dining area does not have exposure to lighting due to a lack of operation, you are responsible for paying upfront for that part of the house.

Initially launched by a Conservative Government in 1992, the PFI extended considerably in 19972010 by the Labor Government. At the end of 2011, the PFI program operates more than 700 hospitals, universities, prisons and other programs in the public sector. This promotes private investors, such as such as new schools, clinics, social housing, defense contracts, jails and road expansion to finance the development, funding and public infrastructure management.

Major private sector ventures of existing infrastructure are built, for example the state will use money for about 25-30 years on a long-term basis. Under the PFI, major projects like new infrastructure are designed through the private sector.

Intended Purpose:

To Improve publicprivate collaborations between both the Central and Local Governments.

Strengths of PFI:

Extra investment: extra capital will facilitate new ventures that offer Social and economic strengths. The Private finance initiative offers funding from private sector to initiatives that may be impossible to afford by through lending and taxation on government projects. Health or education support projects can boost competitive capacities, increase economic development and can therefore be supported by future income produced by the projects.

Efficiency: conviction that in running investment projects the private sector is stronger and that overall cost efficiencies are reached than the public sector.

Delivery: The private industry will not be charged until the commodity is shipped. Nearly all fixed price agreements are emerging PFI ventures which have financial implications to contractors, in case he failed to deliver on time. PFI companies are paying tax which could in turn render infrastructure ultimately easier for the State.

Competitive effectiveness: Introducing strong technology and design into projects best positions the private sector. The tendering method for PFI ventures sets the stage for competitiveness.

Weaknesses of PFI:

Debt rates: The costs of private sector lending have risen since 2007, with PFI funding usually varying from 3-4% compared to government indebtedness. Many estimates suggest that it costs the British government to cover £ 1 billion in PFI liabilities similar to a direct public debt of £ 1,7 billion. Long service agreements may be challenging / It's hard to change – particularly when project management seems to be incorrect.

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Inflexibility, poor value for money: There have been many instances of faulty ventures, such as deals with private companies, which are constructing and running as a PFI in hospitals to provide car parking, maintenance and other facilities. The facilities cannot last longer than the agreement and will require high replacement costs or maintenance costs.             

Threat: The public sector (government) is the main threat for a company. The management of private financing contracts is complex and there is no certainty that a project can be assessed by the private sector more cost-effectively than the government sector.             

Management: heavy spending on consultants and attorneys and contract expenses. The British Architects Royal Institute estimated Private finance initiative hospital project cost is over £ 11 million.

Addiction: States will become reliant on PFI – "the only option left" instead of using tax funding for key ventures. The PFI contributed to public debt, which generated several opportunities for the private industry

The newspapers is full of examples of the wasteful expenditure included in the government procured contracts for works performed by PFIs – for instance, the Civil service leases laptops for £ 120 a month, outrage at increasing parking charges in several local hospitals, the over-budget for road and bridge schemes (the extension scheme of M25 costs £ 1 billion more than anticipated.

The kennels at the Melton Mowbray Protection Animal Centre, which pay more per night than London Hilton. One of the best known examples. The Olympic Delivery Agency, which manages the London 2012 Olympic Games, is a good example of the latest PFI campaign.

Management Structure:

Authority: The PFI is being implemented by the NHS trust, local authorities or government departments. You want the construction and repair of a hospital / school / road and certain facilities.

The Constructor: the business constructing the property.

Service Provider: One or more organizations that provide hard (maintenance) and soft facilities for the duration of the contract (cleaning, catering, pottering).

Special purpose vehicle:  a private company formed to manage and execute the venture, and which is commonly used in all situations. In addition, investors are private sector actors that participate in the PFI bidding process. The supplier, the service provider and an agency of financial or advanced PFI can be concerned. Such securities are often then offered to other companies in the secondary market. The post will shortly be the secondary market, how it works and its consequences.

The Service contractors are the banks or bondholders who provide most of the funding to build the property.

The Manager:  often senior employees or member firms are hired by the SPC. Nevertheless, the SPC is often operated by a specialist PFI leadership organization, or one of the private sector members.

The below is a condensed example aimed at demonstrating contractual arrangements in traditional PFI between parties. A number of contractual relationship between the parties in operation.

 

Project Agreement (PA): that is the main PFI agreement. This determines what it is going to build, how it is to function, and which threats the authority maintains or transfers to the SPC. It also controls partnerships between both sides, including if things go bad or if the parties are unable to negotiate or the client or the other side wishes to change the agreement. The PA usually takes 20 to 30 years to complete.

Contract Agreement: The contract between the SPV and the contractor is designed to determine what to build, where and for what cost.

Facilities Management Agreement: The agreement signed by the SPV and the company to manage and run the property is the contract. During the whole of the agreement, hard services typically run for the term (PA period), while for soft services benchmarking or market testing may be done, generally every five years, for the price of these services.

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Credit agreement: The loan agreement is also named the service deal. Loan agreement (CA) In order to build the resource and fund the residual front expense required in order to collect profits in the public sector, SPC is taking up lots of money (typically 90% of the value). The contract outlines the time the cash has to be reimbursed and what happens if things go wrong. All PFI capital are funded by securities of private or government placement.

Risk Categories and their transference in Private Finance Initiative Contracts:

The design of a hazard checklist (or catalogue) is one form for threat recognition. Therefore some sort of project risk categorization is required if the participants of PFI projects are to have a clear understanding of the danger. A framework for meta classification focused on three rates of PFI plan risk factors.

These three risk categories include:

  1. Major risks or macro risks
  2. Intermediate risks or meso risks
  3. Minor risks or micro risks

The PFI Risk macro scale covers threats that are externally to the project itself, that is to say, globally. This category reflects on the threats and the environmental hazards at regional or industrial scale. Risks at this stage are often linked to political and legal factors, financial, social and weather conditions. Such threats are ultimately triggered by events that occur beyond the project's program boundaries.

The mesolevel of risk from PFI involves threats that occur in an organic manner, i.e. threat incidents and their consequences within the project's process boundaries. Those reflect the issue with the application of PFI, including projects demand and use as a whole.

Inherent gaps in project administration between public and private sectors, PFI risks reflect the micro-level risks in the stakeholder’s partnership that are created during the procurement process. These are endogenous threats, but they vary from meso-risks because they apply to individuals instead of ventures. The principal reason why this class of threat was introduced is that the social responsibility usually lies within the public sector, while the benefits are generated by the private sector. Constructor and service contractors are most likely to carry these risks.

Risk Allocation in PFI Contracts:

 

Upon the understanding and specification of the threat assignment both sides (private and government sectors) in the contract may join the contract management hazard treatment process. To promote this result, it is important to understand the interpretation of hazard assignments and the distribution priorities of the government and private sectors (with experience in PFI). In addition, it includes defining common threats to PFI programs (and risk groups). This process gives private companies a powerful incentive to take steps to prevent any adverse impact on PFI programs, thereby enhancing public services.

Popularity of PFI Contracts in UK:

Initiatives in private equity first took place in the UK in 1992 and became common in the wake of 1997. We finance major projects in the public sphere such as universities, jails, clinics and facilities. Private companies are employed to invest, administer and complete projects rather than financing such ventures from taxes.

PFI contracts usually last between 25 and 30 years, depending on the project type. Nonetheless, it is not rare that companies are under 20 or even more than 40 years of contracts. During the contract period previously provided by the public sector, the company delivers those facilities. During the deal, the company will be paid for the work on a "no operation, no charge" basis.

Industries recover their capital by long-term repayments plus government interest. The state does not therefore have to set up a large amount of money to finance a major project at once.

 Why PFI contracts are seen as major drain of money?

In the United Kingdom in the 2000s, a PFI controversy showed that the government spent far more on these ventures than it was worth to support the companies that run them and to the disadvantage of the people. However, PFIs are being blamed for being an accounting device to reduce the public sector lending presence.

The economic loss was motivated by £ 375 m, which included the development of Central Midland and Royal Liverpool University Hospital under three public-private collaboration agreements. Everything is now under major delays, and the delivery of Healthcare care in Liverpool and Birmingham under further pressure.

Public-private alliances have also been criticized as allowing businesses to rack up revenue against poor quality infrastructure, whereas government agencies and NHS trusts are saddling with paralyzing debt repayments.

Major Failures of PFI:

Since reporting its debts in July last year, Carillion's failure became almost expected. Around £ 375 m contributed to three collaborations among government and private sectors. Royal University Hospital in Glasgow and the Birmingham Central Midland Hospital which are currently experiencing significant delays. The other venture was turned over to Carillion's private sector investors, the Aberdeen bypass road project.

A damning report showed that schools across the country established under the surge of PFI contracts launched in 2001 could be catastrophic safety vulnerabilities. The inquiry was launched when tons, which culminated in audits of other schools constructed under PFI and non-PFIfunding, reached the abandoned playground on Oxgangs Primary School in Edinburgh. "The fact that the fall of the gable wall at Oxgangs School caused no damage or fatality to children was timely and fortunate," concluded the study.

For the London riders, PFI deals were a constant cause of suffering. The federal auditing service estimated Metronet to have cost taxPayers close to £ 410 m in June 2009, which was the main contractor in the £ 30bn plan for improving the London Underground. As a consequence, substantial upgrades have been postponed. A 30-year PFI deal was terminated by London Underground in 2012. This charged £ 160 million for quitting the deal, but was still hoping to save £ 225 million.

What needs to be done in PFI contract to promote and implementation of UN Sustainability goals?

PFIs are an important tool for promoting sustainable development that is internationally recognized. To order to promote worldwide sustainable development, the United Nations was one of the most important international organizations to use and enhance PFIs for sustainable development through UN sustainable goals and with the 2030 sustainable development plan. In 2017 the United Nations Digital Commission for Europe released a Room Paper on PFIs in the sense of the UN Sustainability goals.

This paragraph is intended to define a model criterion that would describe what parameters would be introduced to determine the PFI-related policies for sustainable development to measure policy trends for sustainable development. This mechanism is relevant because, although the position of the PFI for sustainable development in the existing literature has been explained, it is still difficult to identify when and how the policies related to the PFIs may relate to sustainable development due to lack of a clear set of parameters.

The idea of sustainability is transformed into environmental sustainability, social sustainability and financial sustainability. Such three conservation priorities are translated into two dimensions. The sustainable development aspect of PFI applies to whether the regulations aligned with PFI promote the use of PFIs for ecological and sustainable development. The sustainable PFI aspect relates to whether PFI-related policies encourage PFI's use of green solutions in ecological, social and financial terms.

Two requirements are included in the PFI aspects of sustainable development, which analyze whether the policies aligned with PFIs promote the use of PFIs for:

  • Ecological facilities and resources related to natural environment conservation programs and services.
  • Community resources and amenities relevant to family programs that are aimed at improving local quality of life and healthcare, such as universities, hospitals and health care.

Practices of PFIs are moving from the traditional economic field in different countries to the development of environmental and social infrastructure and services. As an alternative to environmental protection and poverty eradication, PFI has been advocated for the European Union and the USA, for instance. As a component of its social services including nutrition, employment, social care, rehabilitation and corrections, Australia is one of the most advanced countries in implementing PFIs. In Canada, the Department of Finance has initiated a 10-year social infrastructure development plan that includes affordable housing, early learning and education, educational, leisure and healthy public health facilities.

Therefore, a fundamental change in the definition of PFIs as policy instead of a practical economic instrument is advocated in terms of defining sustainable development as the core value of PFIs. A greater sustainability standard should be elevated as the main indicator for PFI performance under such a governance system. This suggests that all policies relevant to PFIs should set environmental social and financial stability as the principal aim of PFIs, with government support, departmental alignment and public accountability as the emphasis of the associated PFIs.

References:

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  • HM, Treasury. Private opportunity, public benefit: progressing the private finance initiative, London: The Stationery Office; 1995.
  • Association of Chartered Certified Accountants. “ Evaluating the operation of PFI in Roads and Hospitals.” ACCA Research report No. 84. London: Association of Chartered Certified Accountants, 2004.
  • NAO. Examining the value for money of deals under the private finance initiative. London: National Audit Office; 1999.
  • NHS. Public private partnerships in national health service: the private financial service: good practice. London: The Stationery Office; 1999.
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