UK: The PFI Refinancing Conundrum

The refinancing of PFI Projects continue to be a focus of concern in the PFI sector. On one hand, the benefits to both the public and private sector are clear; on the other, reports such as that released by the National Audit Office last April, highlight concerns with the current mechanisms that apply to refinancings (both specific contractual arrangements (in accordance with PUK/OGC guidance and otherwise) and the voluntary code that applies where there are no contractual arrangements to share refinancing benefit). Most recently, the Select Committee on Public Accounts published their findings in relation to the Norfolk and Norwich University Hospital refinancing which were summarised with the damning sentence:

"We would not expect to see another Accounting Officer appearing before this Committee defending what we believe to be the unacceptable face of capitalism in the consortium’s dealings with the public sector."

Particular criticisms identified by the Select Committee included:

• the extension of the contract term notwithstanding uncertainty regarding the services required from the NHS over the next 30 years and the refinancing increase in debt would be covered by termination payments on Trust voluntary termination both of which reduce the Trust’s ability to terminate if (for example) it wanted to fundamentally change the service specification.

• the significant increases to the internal rate of return for the investors in the project.

• the public sector’s share of the refinancing gains being unacceptably small (in the eyes of the Select Committee) relative to the private sector’s share.

In considering this refinancing, the Trust bore in mind that this project did not contain a contractual arrangement to share in refinancing gains, the voluntary code therefore applied and the share apportioned to the Trust was in accordance with the voluntary code (30%). The position in relation to termination payments is consistent with current indications from various lenders that were they to refinance a project and increase the level of debt, they would expect that these sums would be covered by termination payments in all circumstances where senior debt is paid out in full. Despite adherence to the voluntary code, the Trust and the Department of Health received the stinging rebuke above.

Peter Coates of the PPP Unit (Department of Health) was recently asked at a meeting of the International Project Finance Association where the Department of Health now stood in relation to the refinancing of PFI Projects in light of the Select Committee’s criticisms. He answered that the Treasury’s view of refinancing was very robust in that PFI contracts post July 2002 contain mandatory refinancing provisions and contracts entered into prior to that period that do not address refinancing in their provisions are governed by the voluntary code.

However, he also indicated that whilst the Treasury took this robust view, they were not and would not be the civil servants/Accounting Officers who appeared before the Select Committee and that the Department of Health PPP Unit were currently reflecting on their next steps.

Certainly, the criticism levelled at those appearing in front of the Select Committee has been a cause of the current paralysis in the refinancing market. There are a number of projects in the health sector (and indeed other sectors) where a refinancing option is being actively considered and certainly the Department of Health is not publicly rushing forward to conclude any of these. The National Audit Office has noted that the refinancing market shows little recent activity. It is clear that NHS Trusts with deficits are keen to secure the financial benefits (either upfront or through a reduced Unitary Payment) that a refinancing can offer.

It may well be that the increased public sector share in projects signed post July 2002 (50% rather than the code’s voluntary 30% share) will make it easier to convince future Select Committees that PFI Refinancings represent value for money, but this is a conundrum yet to be resolved.

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to www.law-now.com/law-now/mondaq

The original publication date for this article was 09/06/2006.