PFI projects sliding into chaos

Problems at Nats cast cloud over Government plans to raise £17.5bn for public schemes

Stephen Byers' controversial decision to lend £30m to the beleaguered National Air Traffic Service (Nats) has raised fresh concerns over the Government's love affair with the Private Finance Initiative.

Private companies are thinking twice about bidding for PFI schemes after a string of high-profile failures. Firms are also worried about new rules that could make it difficult to secure project finance.

The Nats debacle, first revealed by The Independent on Sunday in September, has only served to heighten these concerns.

"If the run of bad news continues then it is bound to impact adversely on PFI as a whole," said Richard Tierney, head of public-private partnerships at accountancy firm RSM Robson Rhodes.

The Government hopes to shoehorn in £17.5bn of private money for public projects over the next year, say figures from PricewaterhouseCoopers.

Of the departments, the Ministry of Defence (MoD) is arguably the biggest proponent of the PFI. It is nearing the end of what will be a record £13bn, 27-year project to secure a partner to supply the RAF with a new fleet of tanker aircraft.

But the MoD's handling of smaller projects has caused much concern in the private sector. One example is the £1bn Colchester Garrison scheme to provide accommodation for 3,500 military personnel. Over two years ago, a consortium headed by Sir Robert McAlpine was selected as preferred bidder. Since then the project has been mired in delays. An Army spokeswoman said: "It's critical to get the project just right," adding that contracts could be signed in the autumn.

The experience of Colchester has scared off some potential bidders for a bigger MoD PFI scheme. Known as Project Allenby & Connaught, it is to redevelop 1.6 million sq ft of barrack accom- modation at Aldershot and Salisbury. For the 30-year contract, the MoD hopes to attract £1bn of new investment and bring in £100m a year in operational expenditure. The MoD wants the first buildings to be redeveloped in 2005.

RSM's Mr Tierney said: "The MoD needs to learn from past mistakes. The sheer size and complexity of the Allenby & Connaught deal suggests the timescale is unrealistic."

There are wider concerns over the PFI. This year, Deutsche Bank's European head of project finance, Geoffrey Spence, joined the Treasury on secondment. But he has already been caught up in a row over draft guidelines on PFI projects he helped to compile. One proposal is that two competitions should be held for larger PFI projects – one to select a consortium to run the contract and the other to provide the debt finance. The draft guidelines say "lenders are more likely to offer more competitive terms" if a separate finance contest is run.

A joint contest is held for most PFI schemes, where the banks form part of the bidding consortia. But banks are worried that the system could force lenders to offer competitive rates at the expense of flexibility.

Bill Doughty, deputy head of project finance at Abbey National, said: "Value for money does not always mean the cheapest [loan]. It should be [remembered] that the lowest-costing debt is likely to be the most inflexible – a point to bear in mind when the public sector is so keen to share in the benefit of future refinancing."

Jeff Thornton, head of the public sector finance group at Royal Bank of Scotland, said: "It is vital that the Government listens to the representations of the banks and does not destroy the mechanism built up over many years." Debt will be a consideration this week when the Government and Nats' bankers thrash out details of offering £30m apiece in a new loan facility.

A spokesman for Mr Byers' transport department said: "Loose ends need tidying up." This will include establishing the terms of the loan. "This is a problem not a crisis," said the spokesman. For the sake of the billions earmarked for future transport, hospital, school and defence PFI projects, let's hope he's right.