1                     What is PFI

The Private Finance Initiative (PFI) has proven very successful in bringing to the public sector not only private sector finance, but also the competition and inherent efficiency that such funding brings. A recent Treasury paper published by Chief Secretary Andrew Smith confirmed the Government’s confidence in the scheme with a significant announcement of a further £20 billion in investments. These will include £8 billion for the modernisation of the London Underground network, an estimated £1 billion to modernise the UK’s Air Traffic Control systems, more than 60 new national education projects, 25 new health initiatives and 12 new transport projects nationally.

Until recently these schemes have been instigated by Central Government through the HM Treasury Taskforce Policy Unit. The most recent projects, however, have opened up a new direction for Public Private Partnerships (PPP) in the UK ¾ projects commissioned and co-ordinated by local authorities.

2                     What is a local authority

Local government in Britain is structured in two contrasting ways. In Scotland, Wales and parts of England, a single tier “all–purpose council” is responsible for all local authority functions (Unitary, Metropolitan or London Borough). The remainder of England has a two-tier system, in which two separate councils divide responsibilities between district and county councils. Essex County Council (ECC) is one of four hundred and ten local authorities in England and Wales.

3                     A130

Lying on the Southeast coast of the UK, Essex is a large and diverse county. Parts are highly urbanised with concentrations of industrial, commercial and housing development. Other parts are more rural in character. Travel patterns are influenced by its proximity to London and the European mainland and also its dispersed settlement pattern. High volumes of freight and passenger traffic pass through the county using the network of roads, railways and airports. The roads near the coast are particularly underdeveloped and have for more many years given rise to intense public demand for improvement.

As part of the UK Government’s transport development strategy many roads in Britain are currently under development or in the planning stages. One key driver to this development strategy is the alleviation of heavy traffic in rural areas particularly through villages. One such PFI scheme is the construction of the A130 bypass, which connects the towns of Chelmsford and Southend.

The 15km bypass is split into two stages and will replace the existing carriageway. The 9km northern section (NS) has passed all statutory processes and is due for completion by autumn 2001.  Work on the southern section (SS), subject to satisfactory completion of statutory approval procedures is due to be completed by early 2004. The northern section will provide an all purpose dual carriageway with the capacity to open a third lane if traffic averages 50,000 vehicles a day in a two calendar month period. The southern section will also be a dual carriageway, including modifications to junctions and existing side roads.

The A130 bypass is intended to tackle the increasing traffic congestion and safety problems, which have turned this into a priority project in the eyes of the UK Government Treasury Taskforce. They aim to provide relief for a number of villages and remove two “accident blackspots” which have claimed many lives recently.

The construction is predominantly on a greenfield site and the programme will use traditional construction methods for the road and associated structures. The slip roads and bridges will follow models that have been successfully built on numerous roads in the UK, including the M40 and the A55, built under PFI schemes by UK Highways plc, a consortium of  Hyder, Laing and Tarmac.

4                     Project

Project Timing and Current Status

Bids invited/tender documentation                                             May 1997

Submission of bids                                                                  September 1997

Best and Final offer                                                                  February 1998

2nd re-opening of offer                                                               April 1999

Appointment of preferred bidder                                                 May 1999

Financial close                                                                        October 1999

Concession agreement signed                                                  May 1999

Application for planning approval                                    

Public enquiry and planning approval procedure                         May 97-May 1999

Planning approval                                                                    

Construction:    NS                                                                  Oct 99-Nov 01  

                        SS                                                                 Dec 00-Feb 03

Commissioning and start of operation                                        May 97-Feb 03

CountyRoute (a consortium comprising Laing and Hyder), Tarmac and Modern Highways (comprising SGE,Kier and Edmund Nuttall) pre-qualified for bidding in September 1997 and were short listed in January 1998 and submitted Best and Final Offers in February 1998. The Government’s road review delayed the award of the concession and the submission of confirmation of Best and Final Offers was put off until April 1999. The reason for this was the change of government in the UK in May 1997 and the consequent spending review in 1998. The A130 was not initially on the review’s agenda but it was later added. During this review, the Modern Highways consortium dropped out of the bidding process due to the uncertainty surrounding the project’s future.

The offer was re-opened for bidding in April 1999 and in May 1999, ECC selected CountyRoute as the Preferred Tenderer for the A130 DBFO Concession subsequent to a competitive tender under the UK Government‘s Private Finance Initiative. Financial Close was achieved on 20 October 1999, five months after CountyRoute had been selected as the Preferred Tenderer.

Traffic Revenue and Tolls

Financing publicly owned assets under the PFI and PPPs requires the use of either concessions or joint venture agreements. The injection of private capital investment and its inherent market characteristics is rewarded with specified rights and obligations, in this case in the form of revenue from tolls. Legal frameworks are evolving to protect bondholders but finance is still the key driver for any project.

The majority of road projects cannot generate enough income to fund the high costs of their construction and development, thus the idea of including existing stretches of road in the project or at least directly replacing existing routes has obvious appeal. It reduces traffic risk because the existing traffic reduces a project’s dependence on forecasts for revenue projections and also provides some cash flow during construction, thereby reducing funding requirements.

Under a real toll mechanism the road user pays a toll to use the road. This may act as an economic deterrent to the road user. Measurement of traffic volumes can be done electronically with gauges or physically at the toll kiosks. Therefore consideration must be made in the project for any decline in traffic revenues brought about by the introduction of a real toll. As a result the project must accommodate the risk of traffic volume and the potential diversion effect of the toll.

The real toll approach is not the only solution for implementing road projects; road schemes can use shadow toll systems as an alternative. Under a shadow tolling system the road user does not pay a toll at a kiosk. Instead there is a different method of finance: the host agency (Central Government or local authority), pays the concessionaire tolls on the basis of traffic forecasts and actual volume of road users. These are often calculated by using a band structure that defines the level of vehicle mileage travelled on the toll road. Shadow toll schemes allow the development of road networks that may have high political validity but low financial viability, and also allow toll schemes to operate in countries (such as the UK) where direct tolls are not a valid option.

The British public has a psychological aversion to visible tolls, with the possible exception of bridge tolls. Instead of road tolls like our European counterparts we pay a road tax levy that regressive in its nature gets around this pre-occupation much like we would drive around toll  roads if they were introduced in the UK. In France, for instance you need only pay a toll if you could use an alternative road.

There are several advantages of shadow toll schemes including the transfer to the concessionaire of traffic volume/forecast risk (but not toll diversion risk) and also the absence of toll kiosks and the reduction in equity requirements.

The structure of shadow tolls was to a certain extent ‘re-invented’ in this project with a departure from standard revenue streams. Traditionally the whole revenue stream is derived from volumes of traffic using the road, not the ‘availability’ of the route. The A130 road scheme is different because 40 per cent of revenue is linked to availability and 60 per cent to the ensuing traffic levels. The ‘availability’ segment is dependent on the road being open for use. If, for example, a lane is not available due to ill repair, then a certain proportion of the revenue is withheld.

Another key feature of this project is that it is funded directly from the local authority balance sheet and not, as in previous PFI road schemes from the Treasury’s coffers (although seventy-five per cent of local authority funding is provided by Central Government).

In order to gain approval, a local authority PFI transaction such as the A130 must undergo a number of assessments for Central Government revenue support. The local authority will need to demonstrate that there are clear advantages in using private finance compared to conventional funding. The project review group (PRG), chaired by the Treasury Taskforce, vets all local authority PFI projects that will receive revenue support before they can go into procurement. The PRG considers criteria such as affordability, output specification, risk-allocation, bankability and commitment by developers.

The PRG issues an endorsement letter for the project which indicates their satisfaction that the project meets their published criteria and is considered to be sufficiently advanced to enter procurement and reach financial close without reasonable delay. The effect of the endorsement letter is to confirm the allocation of a PFI Credit from Central Government to the local authority, including confirmation of support from the relevant government department, for example the Department of the Environment, Transport and the Regions (DETR). Procurement then commences with notice in the Official Journal of the European Communities (OJEC).

An approximate value for the eventual PFI credit is then agreed between the local authority and the relevant government department. Any subsequent requests for increases in the value of the credit will be considered on their merits and will be subject to the availability of PFI credits and agreement of the PRG.

The next formal stage is the issuing of the Promissory Note by the relevant government department once the contract values are more certain and the level of PFI credit required can be based on actual tendered costs. The Promissory Note for the A130 project confirms that the DETR will grant revenue support to ECC specifically for the A130 project in addition to its usual annual capital entitlement. The amount of the PFI credit is included in the note.

Central Government support, for PFI projects, is primarily provided by way of annual Revenue Support Grant payments from the relevant department (DETR in the case of the A130). The payments commence once the service being procured comes ‘on-line’. In turn CountyRoute is reliant on a payment covenant from the local authority, ECC, to undertake the A130 road project. Its revenue is calculated by reference to shadow tolls and the availability of the road.

5                     Project Structure

A consortium of Hyder and Laing group, who jointly make up CountyRoute, are lead developers and sponsors for the project and have the concession for the 30-year period of the DBFO contract awarded by Essex County Council,for whom PricewaterhouseCoopers provided advisory services. The arrangers, Barclays Capital, Dai-ichi Kangyo Bank Limited and Dresdner Kleinwort Benson appointed Allen & Overy as legal advisers and Symonds to provide technical advice.

7                     Conclusions

The implications of CountyRoute’s A130 project for future PFI schemes are far reaching. Not only does it highlight the fact that PFI projects are no longer the bastion of Central Government, but also decentralisation has led to increased regional autonomy and expansion of opportunities for the private sector to work in conjunction with the public sector.

In this bypass project Laing and Hyder opted to work independently of Tarmac, who makes up the third partner in UK Highways, the group that carried out projects for the M40 and A55 roads discussed earlier. On this occasion Tarmac actually put up an independent bid against Laing and Hyder in spite of the fact that they have already secured plans to work together as UK Highways again, for example in the Newport bypass project.

The local residents welcomed the project that was set to tackle the very real and increasing safety issues that the A130 encapsulated. With any scheme of this nature there will be varying degrees of protest but the previous experiences of the A34 Newbury bypass and the M3 at Twyford Down were invaluable. The precision of design, implementation and planning in general made sure, allied to a degree of luck, that the project is on schedule. Coincidentally when the majority of the protesters were evicted from their tunnels and ‘twigloos’ the press was awash with the Stanstead hostage crisis which stole the limelight from the less extreme protesters.

Landowners were considered at every level and consulted unlike previous public sector projects such as school building.

Another distinct feature of this project is that compulsory purchase orders are under the jurisdiction of the private company and not as in the past under the remit of the local authority or central government. Negotiation of these purchase orders can, and in this case are, continuing throughout the construction life cycle.

Other bidders pulled out when the Government reviewed its transport policy but Hyder/Laing continued its involvement in the interim period standing firm in its support of ECC. When the project resumed it was not a case of continuing from where they left off. The delays meant there were changes in personnel and direction and unity became diluted. Required to back track as some issues had been forgotten and questions needed to be re-asked and re-invented.

This privately financed project marks a breakthrough in PFI with local government at the helm. A workable infrastructure solution has been achieved through innovative finance techniques that will combat not only the volumes of traffic but provide an environmentally friendly answer to the questions asked of road safety in Essex.IJ