Examination of Witnesses (Questions 140
WEDNESDAY 27 FEBRUARY 2002
140. It did not. So the Government suggested
that. Thank you very much, Mr Appleton, that is extremely helpful.
Could I ask why it was that London Underground included the social
cost benefit element in their plans when such element is outwith
the Treasury guidelines, in other words, you included something
that is not included in the Treasury guidelines? Why did you do
(Mr Appleton) I will let Mr Callaghan answer that
in a moment. Let me just say, we always use social benefit, that
is how we plan all our investments and historically have always
done it like that.
(Mr Callaghan) Very little to add. The objective we
have had since my involvement in the underground which is getting
on for 13 years, and my background is originally in the planning
of investment projects for the underground, we have always taken
the view that the responsibility of a public organisation like
ours, which relies very heavily on taxpayers' money is to buy
the maximum benefit for the community as a whole. We have a way
of calculating that, and that is a social benefit way of doing
it. Through the PPP, a great deal of taxpayers' money is going
to be invested in the underground, and it seems to us appropriate
that in comparing alternative ways of spending that money, we
should do it on exactly the same basis, which is a social benefit
basis. Added to which, just as a matter of making the relationship
work, all the people who have commented, all the commentators
on so-called partnering type contracts say that a key element
of making a success is that the incentives on each side should
be aligned, so we have put a tremendous amount of effort in designing
this contract into setting up a situation in which the private
sector is rewarded when it does things which are good for customers
and is penalised when it does things which are bad for customers,
which is what our motivation is to.
141. So you say this is your normal practice,
although you confirm it is outwith Treasury guidelines. But Ernst
& Young have said in their report they are not aware of any
previous PPPor PFI projects where such adjustments have ever been
(Mr Callaghan) Let me say, first of all, they also
said that what we have done is sensible guidance to decision makers
in their report.
142. I think they said the figures were robust.
That is not quite the same thing.
(Mr Callaghan) They said specifically, I believe,
in relation to this particular point about using social benefit,
that it was a sensible way of proceeding.
143. Do you know what the rate of return the
banks are requiring out of all this?
(Mr Callaghan) Yes, we do.
144. What is it?
(Mr Poulter) Are you asking for the interest rate
on the bank's loans?
145. Rate of return. I, simply, as a lay person,
(Mr Poulter) It is around 1.5 per cent over LIBOR.
146. I do not know what that tells me.
(Mr Poulter) LIBOR is currently 4 per cent, and if
you want to fix it over a long period, it is slightly higher than
147. I see.
(Mr Poulter) If you choose to hedge the debt over
a long period, then it is. That is a matter partly for them.
148. My final question is to Mr Poulter, as
it happens. Would you confirm that PricewaterhouseCoopers are
auditors to Bechtel Incorportated (Tube Lines), to Halcrow (Tube
Lines), to WS Atkins plc (Metronet), and to RWE, the parent company
of Thames Water (Metronet)?
(Mr Poulter) I can certainly confirm three of the
four, the second I am not sure about.
149. Would you find out and let us know, please?
(Mr Poulter) Certainly.
Mr Stevenson: Thank you.
150. Is it true that the PPP will save £2
billion over the 15 years?
(Mr Callaghan) The only way in which you can describe
a saving is by comparing what it is actually going to cost the
PPP to do PPP with what it would cost to do in the public sector.
As our report says, and almost everybody who comments on this
says, there are many ways of doing that calculation because it
is a matter of judgment. But yes, our view is that it will make
substantial savings over what it would cost to do in the public
151. But you do not give a different answer,
and yet you have spent £128 million of what I presume is
public money trying to analyse whether or not this is best value?
(Mr Appleton) Not just to do the analysis. That is
the bill to develop the PPP over four years.
152. It is still a valid question. Is it going
to save £2 billion. Surely somewhere in your £128 million,
someone gave you a little inkling for your £128 million?
(Mr Callaghan) I am happy to answer your question
which is on all the analysis we have done, which is set out extremely
comprehensively in our report. It suggests that, not only is it
the right thing to do on what are called the wider factors, policy
factors, it is also going to save money, on any reasonable assessment,
on what it would cost to do the same job in the public sector.
It also says in our report, and as we have been advised by the
National Audit Office, it is unwise to assume that it is possible
to calculate a single estimate of what it would cost in the public
sector. Therefore, we have not done it, we have shown all our
estimates as a range. Therefore, the answer to "Is it different
by some given number", is not a question that we can answer
because you can only look at it in terms of the range.
153. But if I take, what is a quote from the
House of Commons, from the Department, of 7 February, the benefits
of proceeding with the tube modernisation contracts are considerable:
"Over the first 15 years of the contract, London Underground
will save £2 billion compared with traditional public funding."
Where did that figure come from? Was it not from you?
(Mr Callaghan) It is one of the figures that you could
draw out of the analysis that we have done.
154. But surely, this is extremely disturbing,
because one of the ways this was sold by Government was on the
basis that it was going to be far better value for money than
any of the equivalents that were being considered, including the
bonds(?). But yet, you are now saying that you cannot put definite
figures on it, it is only estimations. Therefore, knowing anything
about estimates, it is possible that that figure will be just
a surreal figure, and that indeed it could be quite wrong. There
are arguments around, are there not, that suggest that over the
30 years, this is going to be more expensive than some of the
(Mr Callaghan) If you look at our analysis, and what
I can do is refer you to the analysis because it is quite clear
from that analysis, we show our estimate of what it would cost
to deliver the performance delivered by the PPP in the public
sector as a range. In the great majority of cases, the private
sector, the PPP costs come out at the bottom of, or below the
bottom of, that range. And from that point of view, provided that
you know that it is cheaper than any plausible estimate of what
it would cost to do in the public sector, you can say with confidence
that it is going to be better value for money than doing it in
the public sector. What our report says, and what a number of
other reports have is there are many possible calculations of
that sort, and on all the calculations we have done, what I have
said remains true.
155. The worrying aspect is that these reports,
and having worked with consultants over a great number of years,
you say the parameters: they go and do the work and then report
to you, and the problem I have in this respect is that the parameters
were set too close together, and that there was not, as terms
of reference, the ability of any of the consultants to be able
to go and look at the alternatives in a meaningful way because
they were restricted to suggest, as most people do when they have
consultants, that the best and the only way forward was to go
for the PPP.
(Mr Callaghan) I reject that completely.
156. What is interesting to me, Mr Callaghan,
and I am a very simple person, is since you really cannot control
what happens after seven and a half years, and since you have
not got a termination clause in this particular contract, which
is extremely unusual for public sector contractsin fact,
I think it is probably unique, how on earth can you estimate accurately
the prices after the seven and a half years?
(Mr Callaghan) You used two words there, Chairman,
one is "estimate" and the other one is "accurately".
You can estimate it and we have estimated it. Everybody acknowledges
that it is very difficult to estimate with precision in 30 years'
time. That is as true of what it will cost to deliver this work
in the public sector as it is about what it is going to cost to
deliver this work in the private sector. So doing the calculation
is a matter of judgment which is something that we have acknowledged
all along. The fact that it is a matter of judgment, and the fact
that there is this seven and a half year review process makes
it less straightforward to do, but does not make the analysis
by any means impossible
157. So why have you not got, in this contract,
a way of getting out of it? There is no termination clause; why
(Mr Callaghan) It is not quite true to say there is
no termination clause. Whatand I forget who I was answering,
it might have been Dr Pugh on this subjectwe can terminate
this contract if the private sector does not perform it satisfactorily.
If they do perform it satisfactorily, there is no reason for us
to terminate it, so there is no right of termination when the
private sector are doing well.
158. How much will it actually cost to manage
(Mr Godier) This question was asked at the last hearing
and we did provide a note subsequent to the last hearing about
the costs of contract management
159. You did not provide that to Ernst &
Young, did you, so that was not part of their study?
(Mr Godier) It was covered in both Ernst & Young
and a number of other commentators in the sense that in the public
sector, there would be costs of administering contracts, indeed
far more contracts, because we would be doing all of the work
with individual piecemeal contracts in the way we have done in
the past. So it is not the question of all the contract management
costs apply when we have the whole of the works of the underground
supplied by two people, and then there would be none if we did
it in the public sector. There would be costs either way. We provided
an estimate of about £600,000 per year for managing the contract