Select Committee on Public Accounts Minutes of Evidence

Examination of Witnesses (Questions 60 - 79)



  60. In terms of financial risk management, can I put to you a very simple, basic case? Suppose you have a project which you could complete for £100,000. You know that you can do it. There is no real risk involved in obtaining the objective by spending £100,000. Then you hear that there is some innovative way in which you could attain the same objective which you believe they could get to you for 80,000, say, but you assess that there is only a 50 per cent chance it will be effective and, if it goes wrong, you will have to spend 140,000. If you have a 50/50 risk between 80 and 140, would you accept that the effective cost to the public sector is the average of those two because half the time you will get it for 80 and half the time you will get it for 140? Therefore, the effective cost is more or less the average of 110 and it is not worth it against an absolute certainty of spending 100. Is that how you would assess financial risk?
  (Mrs McDonald) If they both only provided you the same result, you would take a different view than if a more innovative approach gave you some other added value which the innovation itself produced for the project. It might be worth taking the risk as opposed to going for certainty.

  61. All other things being the same, as far as you can see, you get it equally fast and there is no added value out of the extra innovative approach. That is the way you would assess risk?
  (Mrs McDonald) Yes.

  62. I am interested because we had a case with Fazackerly Prison the other day in which they had accepted an extra risk. I forget whether it was a reduction in the price of the contract or whatever. They claimed a reduction in the price of the contract, even though they accepted that they had accepted extra risk. They claimed that the reduction in the price of the contract was a benefit to the public sector of that value and that there was no offsetting value, if you like, in terms of the extra risk. Despite the amount they had got back from the public sector was calculated, it was calculated according to the value of this extra risk. I was trying to put to them that they had not gained anything from the public sector and they were very unwilling to accept this. It seemed to me that, particularly in that organisation, there was a lack of understanding of the financial risk involved.
  (Mrs McDonald) The guidance makes it plain that there are trade offs there. You can weigh up but you have to be looking for the positive added values at each stage. It does not dictate whether you go for price or not. I do not know the particular case.

  63. It is not fair to ask you about that, but it is just the general point. I am delighted that you seem to accept what I would have thought was the normal way of assessing financial risk. Clearly, if you have a potential risk and you know roughly what you assess the chances are, you can give a financial valuation to that. They seemed quite unwilling to accept that, which worried me and I was concerned that perhaps the guidance on this sort of thing was coming from your two organisations, rather than from—
  (Mr Glicksman) The guidance would be the Treasury's Green Book on investment appraisal, which has quite detailed, technical guidance on analysis of investment appraisals. I do not know anything about the case and I would not like to comment.

  64. Can I take you to the question of not taking risks and be a little philosophical—unusual for this Committee, perhaps. Do you think there is any case for saying that, in the public sector, we ought in some senses to be taking rather greater risks than you might ever want to do in the private sector in the sense that, perhaps very much for the reasons you were talking about just now, there may be extra benefits to the public in just trying out innovative solutions. You may find things which are nothing to do with the direct objective which you are aiming at, but which may have some general, public benefit which could be part of your pay-off.
  (Mrs McDonald) You would have to work out what the trade off was between doing that and whether there was some underlying, immediate priority that was a very positive benefit to the public that you could get without taking a risk. You are going to be taking judgments about the trade offs at any particular point time. I do not think you should look at the trade off and just go for the safe option if, by being innovative, you can get added value benefits.

  65. Does the training that the Treasury is now providing for departments in how to manage risk include any advice about how they should try to assess any external benefits which may be nothing to do with their department? For example, you may have a defence project which is to make some piece of armament but, in so doing, there may be a chance that they will invent some new material which may have spin-off benefits to British industry. It may be nothing to do with the Defence Ministry; it may bring back no direct value in financial terms to the Defence Ministry, but it may in general have a benefit to British industry. Is that the sort of thing that you would expect the MoD to take into account and do you tell them they should?
  (Mr Glicksman) Departments are entitled to take into account a wide range of benefits in doing their investment appraisals. I am not sure—I just do not know—whether the Treasury provides training on matters quite as detailed as you have just mentioned but certainly the Office of Government Commerce is trying to develop better systems for procurement and to learn lessons right across Whitehall so that lessons from departments that do things well are disseminated to other government departments. It may be the sort of thing that you are referring to would be part of that process. I do not really know. There are other areas where it is accepted that the public sector is rightly more risk averse than the private sector—for example, in financial management in the risk of fraud and so on—where I think we tend to take a much more risk averse approach for perfectly valid reasons.

  66. Finally on your training, this is to do with a subject we were discussing only yesterday in another forum. It is the question whether one can break down projects at all in order to make the risk smaller for each individual part of the project going wrong, something which has been concerning this Committee for some time. I wonder if there is not an argument for doing some training along those lines, with particularly those who are using high IT content in some of their projects. The problem also comes back to the potential transfer of risk because it seems to me, as the Chairman was indicating a moment ago, the risk of total failure of a project is something that the public sector simply cannot stand. The private sector might but if a project totally fails very often the public sector will have to take it back on board and pay for the whole thing all over again. Transferring a risk of total value is almost impossible. That being the case, is there not a strong case for trying to tell the partners they ought to be breaking down that project into smaller chunks to make it easier to transfer the risk to the private sector.
  (Mr Glicksman) Going by memory, one of the recommendations in the government's White Paper on successful IT was indeed that modular approaches should be looked at to avoid some of the problems that have occurred in the past.
  (Mrs McDonald) Certainly on the IT side we have followed that up. The gateway challenge project that the Office of Government Commerce is developing is very much asking those questions up front. They will use that methodology to promote that thinking as well.

Mr Williams

  67. Management goes through its various fashions and shibboleths. I have a feeling this is the current shibboleth. Look at the Home Office case referred to in figure five by my colleague. When you are talking of early release of prisoners, the Home Office does such remarkable things as think about whether they might break their curfew, whether they might reoffend, whether the equipment needed monitoring to make sure it was working and whether the contractors might fail on their delivery. This is just a basic project evaluation, is it not? There are two areas. One is the identification; the other is the communication and implementation. What is common sense to the person drawing the project up is infiltration. The understanding of the person who devises something is not then transferred down to the people who are going to operate it. The bigger the organisation, if that is correct, the less likelihood there is that risk management is going to be effective. Lord Sharman referred to this yesterday in another context. Breaking down into small chunks, as far as that is practicable, is perhaps the optimum way of achieving an effective risk management. Does that make sense or is it a load of rubbish?
  (Mrs McDonald) I think that makes sense. Once you have done the analysis and you are having to decide what you are going to do, you may well be wanting to take very different decisions about what you want to do, about different risk or different elements of risk or different weight you associate to different risks. The point about the Home Office is not just that they thought about it, which one would hope they would have done anyway, but they engaged a much wider range of stakeholders in discussing what the risks were than they might have if they were just traditionally developing a policy. They have done a kind of cross-cutting analysis and tried to power through the thinking in terms of thinking about what the risks were too. They had called in other people's perceptions of what the risks were as well as their own. That is an area where the whole promotion of greater stakeholder engagement in policy development and all the things that go with it is helpful in terms of improving everybody's perception of risk. This area of transfer of risk is something where there is quite a bit more thinking to do. It comes up in the Phillips Report. Quite often, perceptions can be so different that if you are not talking to each other handling smaller issues is probably an easier way to get some kind of consensus of what counts.

  Chairman: Could the witnesses keep the answers shorter?

Mr Williams

  68. I am awfully sorry. This is one of the difficulties. This is something that demands discursive discussion and, at the same time, the Committee structure does not lend itself to it. It is not discourtesy to you and not disinterest. In a way, you are a victim of the system. You have been deluded into thinking you have joined a system in which sanity and normal business rules can be applied. That is a grave delusion, if I may say so. Your problem is that it is not a business; you are not a business. You are not run by businessmen or people who are thinking even like businessmen. You are run by people and ministers, whichever party is in, who have a completely different set of objectives. The politician is the short termer. He has to get quick results to get promotion. He does not probably think all that much beyond the next two and a half to three years. To get that next promotion, he has to get results in that time. Then he has to bear in mind the election is possibly in four to four and a half years. Chairman, you will remember that when we were dealing with the rail privatisation, there was one mess after another. What was the predominant consideration? Speed. Not the right decision, but getting it done quickly at any cost. That is why I feel sorry for you. I do not mean that in any unpleasant sense; I genuinely do, because you are somehow going to try and impose a rational system where you will be thinking long term and where ministers will start contracts, cancel contracts and alter contracts and so on. Is it not going to be infinitely more difficult ever getting a meaningful comparison between the level of achievement on risk control in the public sector as compared with risk control in the private sector? I do not know who wants to risk their career by answering.
  (Mrs McDonald) I agree with you. I do not think you can draw direct parallels for a variety of reasons. The person to whom the business manager is accountable is fairly clear. It is the shareholder, but in government there are a number of different interests which have to be brought together in some kind of consensus at various points in time. We are trying not to say that everything is going to be perfect because of this, but there are ways in which we think we can approach the way the Civil Service and the public service addresses some of these issues so that it is more aware of what it is doing and, in the advice it gives to ministers, it can give them better advice on what the likely impacts might be. There are always times when things happen very, very quickly, when it is much more difficult to do that. One could say that if you had a culture which is more used to thinking about risk in relation to innovation as well as risk in relation to financial management controls and so on you might tune up the general level of performance so that, even in the short term, immediate hits that ministers look for, you can give a better quality of advice. At the end of the day, somebody is going to take some judgments and some decisions somewhere and your systems, methodologies or cultures will not remove that element in what actually happens.

  69. From your point of view, what a minister should want of you is that you have gone through this process and you give advice based on these systematic analyses. I quoted this before and I remember Tony Crosland, who was a singularly bright man. I remember him saying on one occasion that all governments commit their biggest mistakes in their first six months and spend the rest of their term in office trying to undo them. There is a lot of basic, fundamental sense in that. When you have been in Opposition for some time and you are coming into government, you have not had experience of running things. You have in your mind predetermined views. I see it with this government; I saw it with your government. The biggest disasters that predetermined the economic destruction of our manufacturing industry were made by Howe, nice man that he is, and by Keith Joseph in the first 12 months. You are dealing with politicians who are, in a way, risk blind. The only risk they are aware of is to their own careers. You are trying to educate those who work within the machine to think as if they were working in industry, which is a logical objective, but unfortunately the environment in which you are operating makes it exceedingly difficult ever to achieve it. It is a message of despair. I am not saying it is not worth trying, but I do not want you to be too disillusioned when you fail.
  (Mrs McDonald) Maybe we should think hard about the language we use because I do not think we are trying to make people think that they work in industry in the private sector. We are trying to learn from the private sector what is relevant. There is always that stopping point in that the government cannot walk away. It cannot close its business down in key areas of activity. You are in a very different framework. Things like risk transfer and so on become much more important.

  70. PFI is a case in point. We have had two different stories. It was to avoid things going on the PSBR. A while ago in one meeting, one of the ministers said, "That may have been the case originally but it is all about transferring risk." I told him, "In that case, we are your best allies." If PFI is about risk, it has been a dismal failure. You said that too much risk was transferred in the case of armouries. That we will have to decide when we see them but having scanned through the report the conclusion I came to was it was as stupid putting the armouries in Leeds as it was putting the Dome in the Greenwich Peninsula. Neither could succeed, however they were run, because of the sites that were chosen. These were just flawed policy decisions in the first place.
  (Mrs McDonald) There are discretionary activities that people can choose to do or not in the first place. I was talking about things which government could not walk away from. It is their responsibility, say within regulatory frameworks for health and safety, which are widely accepted as government activities, to lean on and to be responsible for setting standards on. It would be very difficult for government to close down those kinds of activities.
  (Mr Glicksman) What you say is true. A lot of the cases that appear before this Committee, although there may have been a ministerial input at some stage into that process, quite often some of the things that have gone wrong in those projects have gone wrong at the management level. The initiatives that we are taking here to improve risk management ought, we hope, to have some impact on the way in which projects like that are managed.

  71. We did the hearing a while ago on the windfall profits that were made out of refinancing in the case of Fazackerly Prison. We had both the Treasury telling departments and Lazards telling their customers that it was none of their business what might happen about whether refinancing took place or not. The risk that the taxpayer would not get a share of any windfall profits was ignored completely on the advice of the Treasury, who told departments they should not think about it, although in the case of the Channel Tunnel DETR had, years back, and ceased to in all their subsequent contracts. Lazards, of all people—of course, they had given advice originally on financing so they probably felt very vulnerable and exposed because the taxpayer lost and did not have a share—said, "It is none of your business whether there is a profit to be made or not." This is not a problem of risk identification that was within your control. You went out to consultants there, did you not, and Lazards gave you bad advice. The Treasury also has given you bad advice.
  (Mr Glicksman) I am afraid I do not know the details of the project.

  Chairman: Teasing apart, Mr Williams has a very interesting point in terms of this question of political impetus. It might be worth giving some thought to whether that has implications for the way letters of direction are sought. If a policy looks perfectly sensible but is being over pressed for whatever reason and that changes the risk, that might have an implication for the way we devise the rules in that situation.

Mr Davidson

  72. Can I ask the extent to which this is just an ever more sophisticated way of saying no to things by magnifying and analysing difficulties? How do you ensure that innovation is encouraged and not discouraged in this process?
  (Mrs McDonald) There is something about the underlying culture which I referred to earlier. I will not repeat that. You can do it in a number of other ways. We have a joint programme which is about innovation. It is looking for projects which take forward new ways of thinking about delivering services, doing things together, which would not have happened without the kind of gearing given by the programme. That provides good practice examples for us. That we have evaluated independently and that is very positive. There are a number of ways in which we can promote what we think is best practice, things like the kind of pilot approach for more innovative developments of policy.

  73. It is demonstrable that this has assisted innovation?
  (Mrs McDonald) Yes.

  74. Can I ask about the emphasis on the quantifiable? One of the things that concerns me about a number of issues is the extent to which the risk, the assessment and how they are measured has all the emphasis on the quantifiable and not so much on the unquantifiable. To what extent does this take account of all that?
  (Mr Glicksman) The guidance on investment appraisal that the Treasury produces specifically draws attention to the need to look at non-quantified items as well. It is always very difficult to add up apples and pears and at the end of the day you have to take a judgment on how much weight you give to the items that you cannot quantify. It is certainly not the intention that we should only concentrate on those items that we can quantify.

  75. Particularly when some of the non-quantifiable items would be giving political gain to the government. Do you feel you are equipped to assess that?
  (Mr Glicksman) Ultimately, the decision lies with ministers.

  76. Yes, but if you are giving them recommendations based on assessment—?
  (Mrs McDonald) The kind of guidance we have put out to people in drawing up the risk frameworks and the more detailed planning the Treasury puts out is about setting out the store and different ways in which you might or might not attribute numerical value. It works both ways. Sometimes, it is very obvious that you would do a cost benefit analysis for an ordinary appraisal; at other times you might try and find methods which enable you to attach value to risk so you can take some comparator when weighing up what options you want to follow. Our guidance is intended to enable people to give a mutual picture of the different benefits and disbenefits of pursuing particular routes.

  77. The concern for me is the extent to which you have a mechanism which does not take account of the sort of issues that are important to politicians. There is therefore a division between the two. You are not working to the same agenda. It is the issue that the Chairman alluded to about process taking over. I am not sure the extent to which this means more forms have to be filled in, more reports have to be written, more assessments have to be made and the whole thing is much more complex than it was before, so that it becomes a game. If you can fill the forms in properly, then you get the grant or the project gets the okay, irrespective of the underlying merits of what is there.
  (Mrs McDonald) We are trying to ensure that what we do is not an add on and that we are promoting better business planning so that it becomes part of what you do to plan your business. We also have, in the statement of internal control, a new framework to go with resource accounting and budgeting. It is not going to be an add on to the existing internal accounting and audit responsibility. We are trying to embed it into where we are moving anyway. Picking up your point about the kind of issues that might be of broader interest to ministers, there is a whole area on growing understanding about public perception of risk. There is quite a lot of academic work which we have not assessed properly. There are things about how you communicate risk and handle the communication. All of these are factors which might play in a decision which is made about the way to proceed in any one particular set of circumstances. On those two, we think we need to do a little more thinking.
  (Mr Glicksman) The point you draw attention to is an important one. I think the NAO report describes this as a risk of a tick box culture. People just feel they have to fill in a few more forms and they have done what is necessary. In the training that we are providing and in our orange book, we are trying to emphasise the importance of embedding it in the management of the organisation, thinking about risk rather than just thinking about filling in forms and having meetings with committees.

  78. To what extent is this methodology going to be adaptable to the particular situation? I am thinking in particular in relation to working with communities, which is completely different to working with private industry. You do not have the same coherence of purpose or the same organisation. There is a much greater risk of money going missing and of failure. If there is a rigorous assessment process, it can surely much more likely than not result in projects that might be immensely valuable being turned down because so many things are unquantifiable and the risks are so much higher. If you do not do this, particularly in areas of multiple deprivation, and if you do not take fliers, you are not likely to achieve anything.
  (Mrs McDonald) The approach taken in the neighbourhood renewal strategy which engages local communities in thinking about what their priorities are is being associated with an attempt to develop something which is a local public service agreement, which tries to pull together all the various interests and make them think about what they want to achieve locally and then tie the back-up frameworks to that. It is not something that is set nationally but it can be developed locally using the same kind of approach as we have developed in the main PSAs. That is quite a new development because it brings together local authorities and other agencies as well as the community bodies that might be taking a lead in any particular area.
  (Mr Glicksman) We have taken every opportunity to try and place these risk management initiatives within the context of supporting innovation. The NAO themselves have entitled their report, "Supporting Innovation in the Management of Risk." We are trying to make sure that the message that goes across to departments is that this is part of helping them to innovate successfully. It is not trying to close down or eliminate risk; it is part of managing risks sensibly.

  Mr Davidson: Once this culture has taken place, officials should be able to advise ministers on matters of risk so that, if one minister wants to phone another minister on a passport application, a civil servant will say, "That is a bit risky, Minister".

  Chairman: I do not think you have to answer that question.

Mr Love

  79. Can I go back to the risk averse culture? You have commented on that in answer to a number of questions. When I read through the report and in some of the questions and answers that we have had here this afternoon, you get to some extent the impression that we may be scratching the surface in what you are doing, in terms of changing that culture so that civil servants will take a new view of managing risk. How would you comment on that? Do you think we are getting to the heart of the issue in terms of dealing with risk, rather than monitoring or evaluating?
  (Mrs McDonald) It is very difficult when you just talk about risk as one whole thing, because there are different risks associated with different kinds of activities. I do not think we want people to be much more risky about financial management. We want them to be cautious about financial management. We want them to know what the options are but we do not want them to suddenly lose lots of money because people have suddenly decided it is all right. You can take a risk without knowing what you are doing in some way that you would not have done before. If you are thinking about different ways in which you carry out the business or you handle thinking about policy development and you want to try out something new, there might be much more opportunity therefore you to be much more innovative. What we are trying to do is to say to people, "You should not be put off from thinking because you work within a framework which is in the public sector." There are high levels of accountability. What matters is that you can think about what you are doing, why and what the impacts are going to be and understand where the risks lie. As earlier reports have shown and the report on IT projects showed, that is quite clear. Some of the reason why things went badly wrong was because that kind of analysis was not done enough up front and followed through on a regular basis. The steps we are taking to try and put that in place would help that. Nobody wants people to suddenly say that it does not matter about living within your budget as a result of being more innovative. There is a balance here and, depending on what you are handling, what you want is for people to choose the right kind of approach and be aware that that is what they need to do and relate it to the circumstances they are dealing with.

previous page contents next page

House of Commons home page Parliament home page House of Lords home page search page enquiries index

© Parliamentary copyright 2001
Prepared 31 July 2001