Public sector cuts - recovery of wasted bid costs in cancelled PFI schemes

As part of yesterday’s emergency budget speech, George Osborne said that the coalition government recognised the important role investment in infrastructure played in supporting economic growth and UK competitiveness. Nevertheless, he also said that the government would undertake a fundamental review of all capital spending plans “to ensure they are affordable and to identify the areas of spending that will achieve the greatest economic returns”. It is not inconceivable therefore that public sector savings will result in the downsizing or wholesale cancellation of certain PPP/PFI schemes.

Cuts may affect projects that have not yet reached preferred bidder stage and projects where a preferred bidder has been appointed but financial close has not yet been reached.

When PFI projects are axed for economic or other political reasons, what comeback do bidders have in terms of the payment of their wasted bid costs?

The appointment of a preferred bidder is a very significant milestone in the PFI procurement process. Before the appointment, there is a competition between bidders for selection as preferred bidder, which is a decision made by the appointing authority based upon the offers contained in the bidders’ final tender submissions. In ordinary circumstances, bid costs incurred up until the appointment of the preferred bidder will not be recoverable (unless the bidder can show a breach of process and make a claim under public procurement rules, which is a topic not considered here). This is the case because the Invitation to Tender will generally exclude recovery of bid costs expressly – and if it does not, custom (and legal precedent) will usually preclude recovery.

If a preferred bidder is appointed, it will usually be able to recover its bid costs incurred to the date of appointment, as they will be included within the financial model which governs the payments to be made to it over the life of the project.

It is very unusual (although not unheard of) for PFI projects to be cancelled after the appointment of preferred bidder but before financial close. If and when such a cancellation occurs, different rules as regards the recovery of bid costs come into play.

First and foremost, if a cancellation occurs after preferred bidder stage, the terms of the agreement or agreements entered into by the preferred bidder and the authority at the time of appointment must be scrutinised to see what if any agreements have been reached regarding bid costs. Furthermore, there may be the possibility of claims in restitution or, depending on the particular facts, enforceable contractual obligations.

The other route to recovery of wasted bid costs is through reliance on government policy, that is, the last government’s adoption of the recommendations of the Bates Review in relation to PFI, including the treatment of bidding costs for PFI projects.

Malcolm Bates conducted his review in 1997 at the request of the then new Labour government, and in it he said:

“when a decision is made not to proceed with a project and that decision is not related to the viability of tenders received, contractors’ bidding costs should be refunded”.

Since 1997, some government departments have clarified how the Bates recommendations will be implemented in practice. For example, in February 2007, the Department of Health issued a “Framework for the identification and validation of heads of claim arising from cancelled or re-scoped PFI schemes”. This Framework, amongst other things, identifies what type of costs might be recoverable and what type would not. It also emphasises that any decision to contribute towards bid costs is discretionary and made without acceptance of liability.

The Bates Review is certainly helpful in any claim to recover wasted bid costs incurred after preferred bidder stage, although of course it has not yet been ratified as current policy by the new Coalition government. That said, it is sometimes difficult to know whether the policy will apply. For example, what factors should be used to test whether cancellation is due to the “viability of tenders received”? If the project is not viable, because its scope has increased and it becomes unaffordable, does this make the tender non-viable? If cancellation is directly related to public spending cuts, the policy should surely bite.

The risk of incurring substantial wasted bid costs has always been the considerable downside of private sector participation in PFI procurement. The risk arises naturally due to the competitive process and also because of the possibility of a scheme failing at an early stage.

Nevertheless, as we know, there has been a vibrant market for PFI, not only because of the reasonable returns to be made if a project reaches financial close, but also because of the relationship of trust and reliance that has been built up between the government and private sector participants, which is necessary in view of high bidding costs to enable the PFI market to operate and to be commercially viable.

If significant numbers of PFI schemes are cancelled, whether before or after preferred bidder stage, because of the need for cuts in public spending, without compensation being paid for wasted bid costs, that relationship of trust and reliance between the government and the private sector may be damaged for the long term. This is one of the risks the government should consider when deciding its policy in relation to the payment of wasted bid costs in the event of PFI schemes being cancelled.

In our experience, wasted bid costs can be recovered, if the factual circumstances are right and affected parties are willing to push for their rights.

[A version of this article appeared recently in Building magazine.]