recent developments in auditing public private partnerships (ppps)

HELPING THE NATION SPEND WISELY

Recent developments in auditing Public Private Partnerships (PPPs)

Richard WadeNational Audit Office

EUROSAI Prague, November 2006


Three main topics

UK experience to date

Major audit issues – financial &

performance

A comprehensive audit approach


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


PFI schemes – some examples

Bridges

Schools

Tramways Hospitals

Roads Prisons


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


Traditional procurement cost profileTraditional procurement cost profile

£

t

Capex

Operating & Maintenance Costs

This is what is supposed to happen


This is what can happen

Traditional procurement cost profileTraditional procurement cost profile

t

£

Capex

Operating & Maintenance Costs

Cost & time overruns


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).


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’)


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


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?

INTOSAI Privatisation Working Group September 2006

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”.


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 OnSchools Off On OffPrisons On Off

(Scotland)On Off

Gov offices etc which revert to public sector

On Off On Off


Continuing Financial Audit confusion Prisons usually on balance sheet Many schools & hospitals off balance

sheetIssue 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 company’s balance sheet.


Traditional Value for Money audit- applying ‘4 Pillars Approach’

MAKE THIS PROJECT

A GOOD DEAL

MAKE THIS PROJECT

A GOOD DEAL

Make the project objectives clear

(top management)

Make the project objectives clear

(top management)

Apply the proper processes(project

management)

Apply the proper processes(project

management)

Select the bestavailable deal(bid quality)

Select the bestavailable deal(bid quality)

Challenge:ensure the deal

makes sense(top review)

Challenge:ensure the deal

makes sense(top review)


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


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”


Life cycle of PFI deals

STRATEGIC ANALYSIS

TENDERING

EARLYOPERATIONAL

ASSET CONSTRUCTION

CONTRACT COMPLETION

MATUREOPERATIONAL


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


ILLUSTRATIVE MATRIX

Strategic analysis

Tendering Contract completion

Asset constructio

n

Early operational

Mature operational

Fit with business

needs

Good OBCClear

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


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 project’s wider socio-economic benefits

been quantified? Does the proposed solution clearly meet business

requirements?


Example 2: Theme ‘PFI is the appropriate’delivery 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?


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


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?

recent developments in auditing public private partnerships (ppps)

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