Recent developments in auditing Public Private Partnerships (PPPs)

1
Recent developments in auditing Public Private
Partnerships (PPPs)

• Richard Wade
• National Audit Office
• EUROSAI
• Prague, November 2006

2
Three main topics

• UK experience to date
• Major audit issues financial performance
• A comprehensive audit approach

3
Desired benefits are unchanged

• Private Finance Initiative (PFI) model should
  offer
• Modern Facilities built with Whole Life Approach
• Delivered to Time and Budget
• Increased Efficiency in Service Provision
• Reduced Cost and/or Better Quality of Service

4
PFI schemes some examples
Bridges Schools
Tramways Hospitals
Roads Prisons
5
UK PPP experience to date

• 670 signed deals, 430 operational
• Over 50 published NAO reports onPPP/PFI since
  1997
• Individual deals and thematic/cross cutting
  reports
• Construction perfomance
• Financial analysis and financing issues
• Operational performance of prisons

6
Traditional procurement cost profile

Capex
Operating Maintenance Costs
t
7
Traditional procurement cost profile
8
Improved delivery to time and budget

• PFI experience Prior record
• (2002 NAO census) (1999 survey)
• Exceeds price (1) 22 73
• Late delivery 24 70
• Over 2 months late 8
• Note (1) Price agreed at contract (changes in
  the PFI case are linked to public sector scope
  changes).

9
What is the accounting issue for the public
sector?

• Should the fixed asset and the associated finance
  be On or Off Balance Sheet?
• Macro considerations public expenditure and
  borrowing statistics
• 
  
  
  
  
  
  
• (e.g. in the UK Maastricht criteria and the
  Sustainable
  
  Investment
  rule)
• Micro considerations - departmental cash and
  capital budgets (affordability)

10
The dangers of Off Balance Sheet Accounting

• Government liabilities are understated
• Payment burdens are shifted onto future
  generations - will the debt repayment be
  manageable?
• Risks associated with the service provision may
  be overlooked
• Value for Money may be compromised

11
Financial Audit based on FRS 5

• Reporting the Substance of Transactions
• The risks inherent in the benefits provided by
  an asset determine which entity has the asset
• Does the (private) Operator or (public) Service
  Purchaser have the highest Net Present Value
  exposure to variations in property profits?

12
FRS 5 two key risks

• Demand risk that demand for the property will
  be greater or less than predicted or expected.
• Where demand risk is significant, it
  will normally give the clearest evidence of who
  should record an asset of the property.
• Residual value risk that the actual value of
  the property at the end of the contract will
  vary.
• Where it is significant, residual value risk
  will normally give clear evidence of who should
  record an asset of the property.

13
Some UK projects and their accounting future
treatment
Central govt Local govt and health Whole of Govt Accounts Private sector
Road improvements On Off On Off
New toll roads Off Off On
Schools Off On Off
Prisons On Off (Scotland) On Off
Gov offices etc which revert to public sector On Off On Off
14
Continuing Financial Audit confusion

• Prisons usually on balance sheet
• Many schools hospitals off balance sheet
• Issue of the disappearing asset - both parties
  claim that the majority of risks are with the
  other party and no one puts the asset on their
  balance sheet.
• Survey of 27 Health and Local government deals
  found 24 on neither the public sector nor the
  special purpose companys balance sheet.

15
Traditional Value for Money audit- applying 4
Pillars Approach
16
Time to update the audit approach

• Published methodology looks at the deal as closed
• There is little published guidance once deals are
  operational
• The value for money assessment can change over
  the contract period

17
A new approach May 2006

• Two dimensional matrix
• Chronological approach based on key stages
• Key performance themes/indicators, supported by
  detailed audit questions
• what you would expect to find if a project
  delivers value for money at every stage

18
Life cycle of PFI deals
STRATEGIC ANALYSIS
TENDERING
MATURE OPERATIONAL
EARLY OPERATIONAL
CONTRACT COMPLETION
ASSET CONSTRUCTION
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Key life cycle themes

• Suitability to business needs
• Whether it is the best alternative
• Whether stakeholders get what they contracted for
• Quality of delivery of project
• Whether it offers optimum mix of scope, cost and
  quality
• Quality of risk management

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ILLUSTRATIVE MATRIX
Strategic analysis Tendering Contract completion Asset construction Early operational Mature operational
Fit with business needs Good OBC Clear deliverables Robust output specification Clear cut contract Delivery to specification Contract being met Service meeting requirement
Appropriate delivery mechanism Results of options analysis Baseline of service performance Review of evaluation Delivery to specification Review of performance Review of performance
Stakeholder support Review of consultation Review of stakeholder buy in Key stakeholder support Stakeholders informed of progress Review of stakeholder satisfaction Analysis of stakeholder benefits
Quality of project management Design of project management Effective team in place Contract management arrangement Problem solving arrangement Post deal evaluation Effective internal controls
Balance of cost, quality and finance Affordable based on market soundings Good quality bids received Analysis of financing terms Changes made are vfm Deal remains affordable Benchmarking of price and quality
Quality of risk management Analysis of scope for risk transfer Risk management procedures Appropriate risk transfer agreed Management of risk Risk transfer sticks Procedures updated
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Example 1 Theme Fit with the business
requirements of the Public Authority

• Has the best form of project to pursue been
  selected?
• Have top level output specifications for the
  required services been drawn up?
• Further test questions such as
• Have clear objectives for the project been set?
• Have the projects wider socio-economic benefits
  been quantified?
• Does the proposed solution clearly meet business
  requirements?

22
Example 2 Theme PFI is the appropriatedelivery
mechanism

• Has the project been assessed as part of a
  suitable investment programme for PFI?
• Has a good outline business case justifying a PFI
  procurement route been produced?
• Are the qualitative reasons for proceeding with
  PFI clearly justified?

23
HOW THE APPROACH CAN BE USED

• As a guide to VFM of individual deals
• At a programme level
• As a traffic light system to highlight main
  risks

24
More recent PFI issues

• Does EU competitive dialogue imply fully funded
  bids with duplication of costs?
• Early UK deals are now reaching the stage of
  periodic market testing for the cost of service
  delivery. What are the issues for auditors?