Finance: Relaxing rules to attract investors: Will the health and education sectors follow the example of British Rail and carry out joint ventures with private financiers? Paul Gosling reports

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The next few weeks are likely to see a sequence of announcements by Government departments relaxing the rules on private investment in the public services. The success of British Rail in using prime-site property as its stake in joint ventures with private financiers could be copied in both the health and education sectors.

The Royal Brompton Hospital in London will today announce its partner in an innovative arrangement to provide a new clinic. A private sector developer will build the clinic, and run some of the services, at what the hospital describes as 'little or no cost'. In return, the partner will be given redundant sites for profitable redevelopment.

The Royal Brompton's arrangement has been put together under advice from Hambros Bank. Denis Cross, an executive director of Hambros, confirms that other public bodies will be announcing similar schemes. 'There are a lot of public enterprises that have a commercial rationale inside them, which are attractive to private sector financing,' he says.

'There is enormous possible scope in trust hospitals. The first deals may clear a path for others. There are a number of parallels with British Rail and the success of some of their deals. I think the NHS has some of the same strengths and weaknesses.'

It is now almost two years since the then chancellor Norman Lamont announced his private finance initiative, and many financiers have become frustrated at the subsequent slow progress. The Treasury has been criticised for its reluctance to sanction the rates of return required by the private sector, and for its insistence that private finance must be associated with risk-taking.

Sir Alistair Morton, co-chairman of Eurotunnel - the biggest public works project ever to be privately financed - was a year ago appointed chairman of the Treasury's private finance panel. He has called for the Treasury to be more flexible in its approach.

Sir Alistair believes that the private finance initiative could pull in huge sums of money - over pounds 2.5bn over the next two and a half years. Indeed, Sir Alistair is probably underestimating the figure, as Scotland alone is expecting to raise pounds 1.9bn on schemes currently under way or proposed.

'This is the 1990s sequel to the 1980s saga of privatisation,' Sir Alistair said recently. It has the advantage of being less politically contentious, and is as popular in the higher reaches of the Labour Party as it is with the Government.

It has so far proved easiest to attract private capital for infrastructure schemes, such as new bridges and roads, and for service purchases, ranging from bus companies to residential homes. Raising private finance for other public services has hit regulatory impediments.

For the initiative to be as successful as envisaged by Sir Alistair, various departments will have to bring forward changes in legislation. This goes against the grain with the Department of Environment in particular, where there is residual distrust towards local authorities entering into arrangements with the private sector. The sale of major assets, such as town halls, and their leasing back in order to avoid capital expenditure controls while increasing revenue spending, will not be forgotten in a hurry by the DoE.

But the controls that are currently in place are bizarre, says Martin Pilgrim, under-secretary at the Association of Metropolitan Authorities. 'Leasing causes difficulties,' he explains. 'Under the present interpretation of capital regulations, electric central heating that is leased doesn't score against the capital allocation. If you install gas central heating then it does. Each transaction, the DoE says, has to be judged on its merits.

'One criteria is value for money, another is that the private sector must be involved in risk,' says Mr Pilgrim. 'But what risk is there in installing electric rather than gas central heating? It is very obscure.'

In June, the then environment minister Sir George Young invited local authorities to make representations about the difficulties caused by current private finance controls. It is expected that John Gummer, Secretary of State for the Environment, will announce at the end of the month proposals which will facilitate new joint ventures.

Roger Taylor, formerly chief executive of Birmingham council and now a director with consultants Newchurch & Co, says that local authorities have greater freedom than many of them think to raise capital privately, even under existing regulations. 'There is no question it can be done without changing the legislation,' he says.

'The greatest challenge is how to satisfy the needs of a lot of tenants living in sub-standard accommodation. There needs to be a really sensitive look at developing public and private sector partnerships without privatising housing stocks, but using new funds that might be analogous with housing associations or self-determined housing trusts, which could be a lifeline to thousands of tenants.'

Mr Taylor believes that Manchester's light rapid-transit scheme provides another example that can be copied. The private developers have paid for the project, and in return take all income from it for 15 years. After that, income reverts to the Greater Manchester Passenger Transport Executive, which has ownership of the system.

It is grant-maintained schools that provide some of the most exciting possibilities for private finance. The Department for Education is expected to announce that these schools will be allowed to enter into partnerships with the private sector. Swimming pools and sports halls can then be built with private capital on school land, with the private sector taking on development and management costs in return for commercial income from the public.

Sir Robert Balchin, chairman of the Grant Maintained Schools Foundation, says: 'Commercial organisations, including bankers, are willing to assist with this type of development once the rules have been changed to allow this to happen. We have a number of schools ready with entirely feasible projects which involve private finance. I am delighted that the Government is giving this top priority.'

(Photograph omitted)

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