As if in need of any more drama, the UK’s PFI market is bracing itself for further criticism ahead of the latest National Audit Office (NAO) report, this one into the Darent Valley Hospital PFI.
The NAO – the body that scrutinises public spending on behalf of Parliament – is poised to release a report into the Kent hospital, which was completed in 2000 under a Government PFI. It will assess the Dartford and Gravesham NHS Trust’s management of the PFI contract, the effect of a recent private sector refinancing and the performance of the private sector partner in providing facility management services at the hospital.
Although not due for publication until mid-February, the report is sending shockwaves throughout the PFI refinancing market, with those in the know anticipating the report to be harshly critical of the private sector refinancing of the project.
PFI lawyers have reported that a number of PPP and PFI projects due for refinancing have stalled in anticipation of the report and ahead of the upcoming general election. And little wonder: PFI refinancings require public sector approval to go ahead, and in the lead-up to an election the Government could do without yet more slating of private sector windfalls arising out of PFI refinancings.
As a result, PFI lawyers on a number of refinancings are holding their breath. “I know of a number of deals that have ground to a halt,” commented one.
The Dartford report is the second to examine the Darent Valley Hospital PFI, which proved a nice little earner for Carillion, the construction and support services group that built and maintains the hospital. The sale of its one-third stake in the hospital to Barclays brought Carillion to the attention of critics, who noted that, including the proceeds from the hospital’s refinancing, Carillion made four times its £4.1m investment in the hospital in six years. All told, it made a net profit on Darent Valley of £11m.
Criticisms aimed at private sector windfalls flowing from PFI refinancings come despite the NAO’s introduction of a 50-50 sharing rule for refinancing gains made on PFI projects closed after November 2002. But this rule does not apply to the sale of equity stakes. For projects negotiated in the earlier days of PFI, a voluntary 30 per cent sharing system applies, and as any refinancing re-quires Treasury approval, it is a voluntary scheme few project sponsors would refuse.
But while the media and Government bemoan the windfalls for the private sector from PFI refinancings, sponsors are complaining about the amount they are expected to put back into the public purse. According to market commentators, the prospect of paying a premium to the public sector is making sponsors shy away. One PFI lawyer said: “I know of a hospital where the trust is urging the sponsor to refinance, but the sponsor keeps saying no. The trust just wants too much money.”
Either way, a number of refinancings continue to stagnate while others are failing to get off the ground. The issue goes to the very heart of PPP/PFI, where public sector involvement ensures that the PFI market is exposed to the vagaries of politics. PFI lawyers in Portugal (see page 7) and Romania have learnt this only too well.
But irrespective of political risk, secondary market transactions and refinancings of PFI contracts have already provided rich pickings for UK lawyers. Industry figures show there are £32bn of projects up and running, and the potential value of existing investments that could be sold on is estimated at more than £6bn. Stakes worth more than £700m are believed to have changed hands since 1999.
Among the firms to cash in are Allen & Overy, Ashurst, Clifford Chance, Freshfields Bruckhaus Deringer, Lovells and Norton Rose. However, the secondary market, while lucrative, is limited, with lawyers circling just a handful of key players. These include Henderson, Innis-free, Isquared (the joint und-ertaking between Barclays Capital and Société Générale) and SMIF, the secondary market fund of Star Capital.
However, because of the politically sensitive nature of many refinancing deals, few ever hit the headlines and
law firms rarely tout their involvement. Questions about refinancings are more often than not met with a polite but firm “no comment”.
The surprise sale of Jarvis’s stake in TubeLines to Spanish-owned services group Amey is a notable exception. The deal was a boon for the embattled Jarvis, for Amey and for their advisers. It was also a bitter blow to Star Capital, whose secondary market fund had been in exclusive negotiations with Jarvis for much of last year.
So confident was Star Capital of securing the deal that, in early December, it even announced to the market that it had agreed with Jarvis to buy the one-third stake in TubeLines for an estimated £100m.
Eversheds advised Jarvis, while Freshfields Bruckhaus Deringer, which acted for Ferrovial on its 2003 acquisition of Amey, advised Amey.
But just before Christmas, Jarvis head Alan Lovell called Amey and Star Capital into discussions, and before anyone knew it Amey had snuck away with another one-third of TubeLines. The deal means US company Bechtel is no longer the most powerful TubeLines stakeholder.
Lovells, the firm that advised TubeLines on its refinancing, installed Chinese walls in order to act for Star Capital on the proposed acquisition. Sources within the firm have indicated, somewhat hopefully, that the Chinese walls remain in place. After all, they say, it’s not over until the fat lady sings.
However, in hindsight, the sale to Amey always looked likely. Even after Amey lost out to Star Capital in the initial bid for TubeLines, Amey’s ready flow of cash, its knowledge of TubeLines and its powerful Spanish parent Ferrovial all made Amey an obvious choice. And, of course, Amey had leverage. Any deal secured by Jarvis required the consent of the other TubeLines stakeholders – Amey and Bechtel. It seems Amey proved a tough customer for its rival. One source close to the deal said: “It seems to me Amey went out of their way to make life difficult for Star Capital.”
The situation illustrates how competitive and lucrative the secondary market has become. Between government and media criticism, savvy sellers and cut-throat buyers, it really is a jungle out there for lawyers and their clients in the PFI world.