Learning the lessons of Carillion

The collapse of Carillion is only one small part of a larger story of decades of economic mismanagement, writes Jane Lethbridge

February 23, 2018 · 8 min read

The compulsory liquidation of Carillion on 15 January 2018 after several profit warnings should be seen in the wider context of the increased role of the private sector in the delivery of public services.  Contracting out, outsourcing and the Private Finance Initiative are different forms of public-private partnership, where the public sector uses the private sector to build infrastructure or run services.  They were supposed to bring efficiency and innovation to the public sector.  There is growing evidence to show that it does neither and often results in poorer quality services and increased costs for the public sector. The collapse of Carillion is another example of private sector failure.

Looking at how the private sector came to have such a role in the provision of public services helps to identify what is needed in future for a progressive government to re-establish an effective system of public service delivery.  The Private Finance Initiative (PFI) was introduced in 1992 as part of an attempt by the Conservative government to increase investments in public services by accessing capital from the private sector, without explicitly showing increases in public sector borrowingThe Conservative government argued that by creating partnerships with the private sector, they could access capital without its capital borrowing appearing as public sector debt. The private sector, we were told, would take the risk.  

However these partnerships were not cost free for the public sector and the terms of these contracts meant that the public sector will be paying back the costs to the private sector for 20-30 years or more. Payments for a Private Finance Initiative contract consist of two parts: the Unitary Payment equals an Availability and a Service element.  The Availability element funds annual capital charges associated with provision by the company or consortium of financiers and the Service element funds the cost of providing services.  For example, a new build hospital where the Availability element funds the assets and the Service element funds the cost of providing facilities management services. The long-term contracts are inflexible and make renegotiation of terms difficult even when the ways of delivering health care changes.

The consortia of private sector companies which became involved in PFI schemes – particularly, schools, hospitals, roads but also prisons, police and local authority services- created new companies called ‘Special Purpose Vehicles’ (SPV) to build and run these public services.  This is a way of removing the risk from the companies involved. The SPV is often a subsidiary of one of the companies and it then contracts out to another company which runs the services, even subcontracting for other types of service provision.  As Jean Shaoul wrote in her 2008 report, the ownership arrangements are opaque and details of profits generated from the PFI contract difficult to trace.  Even the National Audit Office found it difficult to track their profits.  As the loans that the companies take are long-term, the process of financialisation enables them to sell on their debts or renegotiate deals at lower rates of interest.  These savings are rarely passed on to the public sector.

The experience of PFI reveals many myths which should be more widely understood, for example, that PFIs are cheaper for the public sector.  The Public Sector Comparator (PSC) can estimate what a PFI capital project would cost if the public sector raised the money. If estimates show that the public sector option is cheaper, then the project should be delivered through public procurement but this rarely happened because of the manner in which risk was estimated. found that the public authorities estimated risk for the public and private sector in different ways and often attributed risks to the private sector that the private sector would not realistically have to bear.  The costs of these additional risks were then added to the costs of the Public Sector Comparator (PSC), thus making the PSC cost much higher than the PFI cost.  In the case of Carillion, its liquidation has resulted in the government taking on the risks for the Royal Liverpool and Midland Metropolitan Hospitals. Ultimately the government is always responsible for public infrastructure.

The Queen Elizabeth Hospital, Woolwich was the first PFI hospital to open in 2001.  Since then it has struggled to pay its capital costs, generated annual deficits and in 2012 was the first hospital to be declared an “unsustainable provider” or bankrupt, only a decade after it was opened. Other PFI hospitals have experienced growing deficits which have led to reductions in services and continual financial crises.

This process of moving risk away from the companies should be seen in the context of why these companies are involved in PFI schemes or other arrangements with the public sector.  The primary aim of a company is to make a profit and pay dividends to its shareholders.  This is in contrast to the public sector which uses public resources to deliver for the public interest.  It is useful to ask the question “What have PFI and other public-private partnerships done to the private sector?”  The case of Carillion illustrates how the private sector has responded to the opportunities which the public sector has provided.  Carillion was founded in 1999 following a de-merger from Tarmac.  Carillion included the Tarmac construction building business and Tarmac professional services. After 2000 Carillion expanded into facilities management and made a wide range of acquisitions – rail, infrastructure, energy – as well as international expansion into Canada, the Middle East and the Caribbean.  In October 2013 Carillion bought the facilities management business of John Laing Integrated Management Services, another company which is part of many PFI schemes.

Gradually Carillion became focused on chasing an increasing number of contracts to generate profits.  Any problems associated with a contract, for example, having to shore up a road in Aberdeen or problems of concrete at the Royal Liverpool Hospital, increased the pressure on the company if it was to maintain sufficient dividends for the shareholders. But it was not just the interests of shareholders which Carillion wanted to meet.  Even before its liquidation, Carillion was being investigated by the Financial Conduct Authority about the “timeliness and content of announcements” it made between 7 December 2016 and 10 July 2017.  It left a £900m deficit plus a £580m pension deficit. This has led to an investigation into the global accounting company KPMG auditing its accounts over several years.  Its recent change in corporate accountability to protect the payment of salaries, benefits and bonuses to company directors at a time when the company was issuing profit warnings shows how corrupt Carillion had become.

It is not just a problem of the private sector though.  The way in which the state manages its relations with the private sector needs to change.  Reports that the government continued to give Carillion contracts, including the HS2 project – a huge public infrastructure initiative, even after profit warnings, suggest that the public interest is no longer the driving force of government. Government must recognise that the pursuit of profit by the private sector is not an appropriate, effective or efficient way of delivering public services.

Outsourcing of services to the private sector has caused some fundamental changes in the structure of the state, especially the local state, reducing local authorities and large parts of the civil service to ‘hollowed out’ structures.  Again, the pursuit of profit by the private sector distorts the way in which the state local and national delivers public services, either reducing them to a series of call centres, located away from the local authority and/or cutting basic public provision.

The role of the state in the provision of public services must be re-thought. Public services should be designed, funded, run and evaluated by the public sector with democratic participation.  Public infrastructure should not be dependent on the private sector because capital can be raised more cheaply by government.  Long-term contracts are detrimental to the public sector when the needs of citizens are transformed by demographic and technological changes, for example, the way in which many aspects of health care will be delivered in future will be radically different although the importance of care will remain. As a country, we need to have ways of influencing this process and not be dependent on the private sector pursuing its own profits.

The public sector needs a progressive form of management and administration which should address: how to extract the public sector from its current dependence on the private sector; how to build up the expertise in the public sector to manage these changes and build up public services for the future and; how to make the public sector more democratic and bring public sector workers and citizens together to meet the changing needs of society.

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