Select Committee on Transport, Local Government and the Regions Minutes of Evidence


Examination of Witness (Questions 341-372)

WEDNESDAY 28 NOVEMBER 2001

MR MIKE KERR

Chairman

  341. Good afternoon. I do apologise for keeping you waiting. I am afraid, when we are enjoying ourselves time passes very quickly. Can I welcome you and ask you to tell us who you are?
  (Mr Kerr) Yes. I am Michael Kerr. I am a partner in the firm of Deloitte & Touche, and I had assignment responsibility for completing the report on the value for money assessment, on behalf of Transport for London.

  342. Did you have any comments you wanted to make on your report, Mr Kerr, before you started?
  (Mr Kerr) I think I would like just to ensure that the status of our involvement in the project is clear. We are neither supporters nor detractors from the LUL PPP project, but we were asked to undertake a specific piece of work to assist the input of Transport for London in their statutory right on consultation on the evaluation of the bids. We were asked to do two things; that was to comment on whether or not, at that stage, value for money was proven, and to comment on whether proceeding at that stage to the appointment of preferred bidders was safe. And those are the two things that we have looked at in as much detail as we were allowed at that time.

  343. Yes. You do say, there is no evidence that the assessment of the bids will be able to establish whether the PPP will deliver value for money?
  (Mr Kerr) Yes.

  344. Do you think that is the case?
  (Mr Kerr) Yes. We came to a very clear conclusion that there were two bases of assessment of value for money, as you are probably aware, one was looking at a 30-year period; in the case of the 30-year period, comparing the public sector comparator for 30 years with bids for 30 years. First of all, of course, there were the normal uncertainties in a 30-year public sector comparator, which Mr Colman has alluded to, but, much more particularly, we did not have any kind of contractual commitments to measure against that from the bidders; the only contractual commitment they were going to give was for the first seven and a half years, and the costs thereafter were to be actually renegotiated, through the review procedure, in circumstances where LUL, or its successor, would be dealing with, effectively, a monopoly supplier. And we felt that, looking at the 30-year comparison, there was no basis for being satisfied that value for money was proven. With regard to the seven and a half year analysis, there was no seven and a half year public sector comparator; we tested this with London Underground, we tested this with PricewaterhouseCoopers; ultimately, they produced for us a schedule which purported to be a public sector comparator for seven and a half years, but in later discussions, and, in fact, discussions which were subsequent to the production of our report, they confirmed that that was not a valid comparison.

  345. Not a valid comparison?
  (Mr Kerr) That is correct.

  346. And you were not convinced by their figures anyway?
  (Mr Kerr) We were not. We agreed with them that it was not a valid comparison.

  Chairman: I see.

Mr Stevenson

  347. I was going to ask another question, but I will ask a follow-on to that. Why, in your judgement, did they produce it for you in the first place?
  (Mr Kerr) In fairness, it was probably to try to be helpful. We were seeking some guidance as to how a seven and a half year comparison might be made; it was clear, from the papers we had seen produced to the London Transport Board, that they had not seen a seven and a half year comparison at that stage. The people at PricewaterhouseCoopers, with whom we had very short meetings, explained to us that they had, nevertheless, carried out an estimate of this, and we then pressed them and reviewed their estimate, we were not persuaded by it, and in due course they confirmed to us that they did not believe it was a valid comparison either.

  348. You describe, in your Executive Summary, in the report, the public sector comparator as being judgmental, volatile, or statistically simplistic. Have you discussed these findings with PricewaterhouseCoopers?
  (Mr Kerr) Sadly, PricewaterhouseCoopers were not available for us to discuss our conclusions at that stage; that was partly, I am sure, due to time constraints.

  349. Have those time constraints been overcome?
  (Mr Kerr) They have not sought to discuss those comments with us since, but as, again, you may be aware, they have published on the London Underground website a line-by-line commentary on our report, and part of their commentary relates to that.

  350. Yes, they have been critical of some aspects of your report?
  (Mr Kerr) Yes, I think that would be a fair interpretation.

  351. But they are not prepared to discuss it with you; is that fair?
  (Mr Kerr) We have not requested, since the production of our report, a meeting with PricewaterhouseCoopers to discuss that conclusion, and they have not requested a meeting with us to discuss it.

  352. The Department, the Government Department of Transport?
  (Mr Kerr) Neither have they.

  353. Have you made any requests to them to discuss it?
  (Mr Kerr) We are not really in a position to do that, because we do not have any particular position in this inquiry.

  354. I see. You also say that the statistical analysis, at least, some of the statistical analysis, is arbitrary and could be misinterpreted by the reader. Would you like just to expand on that, slightly, Mr Kerr?
  (Mr Kerr) Yes; and some of this is rather complex, but if I give you a couple of examples.

  355. Keep it as simple as possible, please?
  (Mr Kerr) In a number of instances, the public sector comparator has been adjusted; let me just find the notes which will help me with this. So, initially, the process was that London Underground, assisted by their consultants, Ove Arup, in this case, made estimates of the future costs of certain aspects of the investment, so if we take capital expenditure as being one of those; they then looked at things like how much uncertainty there might be associated with those costs, those estimates of costs. When they did that, they said, `well, what is our expectation of how far out this cost will be,' then they said, `just how far out could it be,' and then `how little out could it be,' so you had, first of all, an expectation of how poor the estimate would be, then something which was a greater mis-estimate, and something which was a lesser mis-estimate. And the difference between the lesser estimate and the greater estimate was in each case a different divergence. What was then undertaken was a very simple form of statistical analysis, which was to assume that between the outliers, which were different points away from the central position, there was a particular form of probability distribution, so that if you took something which was 80 per cent higher than the central case there was a very specific probability that the mis-estimate would lie at that point. They used what is called the triangular distribution; we have seen nothing whatsoever which would suggest that a triangular distribution would be a proper representation of the statistical probability of the outlier being there. That is the first thing. The second thing is that, as a result of doing that, a mean value of the mis-estimate is calculated, and that mean value is not the same as the most likely value, which is, in fact, greater than that. Now the reader of the report is only able to see the mean value, and therefore assumes, in my view, unless he has more information available to him, that the mis-estimate will be greater than the experts who had judged the mis-estimate believed it would be.

  356. On a table of one to ten, where would you rank the seriousness of that situation you have just described?
  (Mr Kerr) I think it is important to understand the value of the adjustments we are talking about; we are looking here at a public sector comparator which had a net present value of around about, I am sorry, I do not believe I am able to disclose that in public, but this is a proportion of more than 10 per cent of the value of the public sector comparator.

  357. My last question is about the robustness of your report, because you do say, in your covering letter to Transport for London, "In the circumstances, you should not rely on our work and our report as being comprehensive, as we may not have become aware of all the facts or information that you regard as relevant." Now that seems to me to be a pretty heavy qualification about the robustness of your report?
  (Mr Kerr) And, indeed, we were very disappointed to have to make that qualification, but the circumstances were that we had great difficulty in getting the information that we required.

  358. Yes, but you see the point I am getting at; whether you were able to get the information you required or not, that is a fact as far as you are concerned. It is probably a rhetorical question, this, but just how robust is your report to people like ourselves, lay people, in this field? There is a heavy qualification there that effectively says, `be careful when you're reading this, because we really can't substantiate what we are saying'?
  (Mr Kerr) There are aspects of the report, I will give one of them, which relate, for instance, to things like the potential for double counting, in looking at how far out the estimates could be. I believe that our report is not fully robust in that kind of area because we have not had access to all of the detailed papers, nor have we been able to interview the people who have made the estimates. In other areas, and the first two parts of this discussion are relevant to that, I think our report is extremely robust. I do not believe that we would need to see further papers to be satisfied that there was not, at the time that we undertook our review, a valid basis for confirming that there was value for money.

Chairman

  359. But then you are not saying that that in any way means that you resile from your assessment of the methodology that you laid out before, all the sort of Groucho Marx theory of assessment that you have told us about?
  (Mr Kerr) That is correct.

Miss McIntosh

  360. Just one question. You probably heard one witness who gave us evidence, Mr Kiley, say there was an omission of public policy; in the eventuality that one of the contracting companies was to go bust during the life of the contract, it would have serious repercussions not just for Transport for London but for the Government as well. Have you formed a view on that omission and what the potential implications for the whole structure could be?
  (Mr Kerr) The first thing is that that was not something which was the subject of our detailed review, but in the course of the work that I undertake on a day-to-day basis, which is largely advising Government Departments on PPP contracts, I would say it is outside of my experience, for there not to be a contractual provision for dealing with a failure by a contractor. And I am not sure that Mr Kiley was correctly interpreted when he made that comment. I believe he was describing a comparison with a provision in the Railways Act for, effectively, voluntary termination by the public sector of the contract, which does not exist in the LUL contract.

  361. It may be helpful if I just put the form of words that I put to him, which was the answer that he was responding to that question. I asked him what, in his view, would be the likely scenario with the potential loss to either Transport for London or the taxpayer, should one of the contracting companies go bust during the life of the contract, and it was in response to that question that he gave the answer. So are you saying that there is no wish, that there is a structure (—inaudible—and design in there ?) for one of the contractors going bust, or not?
  (Mr Kerr) The situation I believe to be the case, but I have to confess I am not an expert on whether it is the case, is that there is no provision for termination at will by the public sector of this contract, unlike the position with Railtrack; but I expect that there will be a position whereby, in the event that one of the contractors fails financially, there will be termination provisions which provide for a certain amount of compensation to be paid, one way or the other.

  362. And who do you think will pay that compensation?
  (Mr Kerr) In most PPP contracts, the expectation is that there will be compensation payable to the contractor, because the assets have been paid for by the contractor and will become the property of the public sector; but I cannot claim to be an expert on this contract.

Mr O'Brien

  363. As you are aware, the people of London, and the people of London will be with me on it, are crying out for the system to be modernised, to be renewed in many instances, and that there is an urgency about this. How do you see this coming about, in view of your report, that the PPP is not successful and that the LUL without additional powers will not be successful; how do you see the way forward with the modernisation, improvement of London Underground?
  (Mr Kerr) I think my insights into that will simply be as a member of the public, rather than in any capacity of the work that I have undertaken for Transport for London.

  364. So is it PPP, or do we need to take on board the London Underground Limited and give more powers? Mr Kiley was saying that they would prefer more powers to carry out their responsibilities; as a member of the public, as you say, which would you favour?
  (Mr Kerr) As a member of the public, I would favour either a—

  365. We are the politicians, Mr Kerr, we are asking questions?
  (Mr Kerr) I will give you a straight answer to the question, which is that I believe that it would be better to have either a public sector solution to this, with proper management, in the way that Mr Kiley described, or some form of privatisation; and I have not heard any proposals for a form of privatisation which I think would be successful.

  366. The Public Private Partnership is something that has been tested and tried, in other areas; why do you think it would not work in London?
  (Mr Kerr) I think there are very major differences between this Public Private Partnership and the PFI market generally. The previous witnesses described one or two of those, but the one which, for me, is very frightening is the hybrid nature of this one, where there is split responsibility for the success of the new network between the public sector and the private sector.

  367. We were told by the people from the National Audit Office that they would not be spending any more money annually on this than they do on some of the other schemes that are in being; and so if that is the scenario then do you not think that this would gel like some of the other schemes that are in the PPP sector, where there is a 17.5 per cent savings and improvement to the service, for the benefit of the customer?
  (Mr Kerr) The major benefits, in my view, that have accrued from the Private Finance Initiative programme generally, have been through the benefit of very severe competition and very strong contractual provisions. My real concern about this one, in that respect, in terms of providing value for money, is that the contractual provisions only last for seven and a half years, and at that stage I do not believe that there is a basis for effective competition to ensure that, for the remaining period of 22Ö years, value for money would be achieved.

Chris Grayling

  368. Two quick questions. One is, do you think that the current situation in the bidding process and the time-frame that it has taken is affecting value for money?
  (Mr Kerr) Yes. I think that, despite assertions to the contrary, it is too early to have gone to a position where there is a single bidder, no further competition. I think there is an awful lot which still has to be agreed in the contractual matrix, and that seeking to agree that without competition is inevitably going to prejudice value for money.

  369. Can I also ask you, what work did you do, when you were going through the preparation of this report, on assessing the quality of information available about the assets, and therefore the ability actually to take a real judgement on what it is actually going to cost?
  (Mr Kerr) I am afraid that did not form part of the scope of our engagement, so we did no work on that.

Dr Pugh

  370. Very quickly. In December 1999, the Deputy Prime Minister said that the Underground PPP would save £4.5 billion; that is not a claim that has been repeated. Do you consider you have therefore won the argument on this?
  (Mr Kerr) We are not seeking to win any particular argument on this. The figures that I have seen have not suggested a value for money difference of that order.

  371. You recognise the figure though?
  (Mr Kerr) From press reports, but not from the numbers that I have seen in the course of our engagement.

  372. So where did the figure come from?
  (Mr Kerr) I am afraid I am not privy to that.

  Dr Pugh: A fertile imagination.

  Chairman: Mr Kerr, thank you very much, you have been very helpful, and I think it is very useful evidence. Thank you.





 
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