Department for Education’s draft project agreement suggests contractors face reduced income from PFI contracts

state of play

The government has given its first clear indication of how it will take the private finance initiative forward after publishing a draft project agreement for its £2bn private finance schools programme this week, which details significant changes to the existing PFI model.

The industry has been awaiting an announcement on the future of PFI since the government placed the programme under review last year. The outcome of that review, initially expected before summer, is now expected to be unveiled alongside the Autumn Statement next month.

However, this week the Department for Education (DfE) published a draft project agreement (attached right) for the private finance element of its Priority Schools Building Programme (PSBP) – which is broadly based on the previous government’s Building Schools for the Future model – with the addition of some key changes.

In what could be the most significant change, the project agreement states that HM Treasury is “considering equity gain share mechanisms”, which would see the contractor sharing part of the profit it makes when it sells on its shares in a PFI asset with the public authority.

Jon Hart, a partner at Pinsent Masons, said at this stage there was little detail on the exact equity gain share mechanism the government would adopt, but the move followed the private finance model in Scotland, where such mechanisms have been in place for around three years, and in Ireland where they have been a feature of all PPP contracts for around ten years.

Under the new model, main contractors will no longer provide soft facilities management services, reducing the income they can expect to derive from the contracts over their lifetime. But they will also no longer be expected to carry the risk for changes to laws, such as building regulations, that under the current model sees them picking up a share of the cost with the local authority.

Despite the changes, Hart said the new project agreement was still mainly based on the last government’s Building Schools for the Future model. “There are two ways of looking at that: you could say they promised to provide something radically different, but have come up with something fundamentally the same,” he said.

“Or you could say, ‘At least we don’t now have to reinvent the wheel and can get on with it.’”

However, the DfE has yet to reveal the details of the payment mechanism for the private finance contracts, which will ultimately set out exactly how the balance of risk and reward is shared between the contractor and the public authority. “Until we see the detail of that we are still pretty much in the dark,” one contractor said.

Details on the private finance model emerged as Wates and Bam Construction were shortlisted for the first £36m batch of schools to be built under the £400m directly-funded part of the PSBP.

The two contractors have been chosen from the long list of 12 bidders for the first batch of six schools in the Midlands, which comprises six schools.