Billions to flow from PFI reform

Treasury hopes new private finance initiative will see pension funds act like banks

The Treasury is preparing to overhaul the hugely controversial private finance initiative, which could see billions of pounds dropped into public sector coffers and pension funds act like banks.

PFI was used by the Labour government to rebuild Britain's schools, hospitals and roads, but was attacked by its many critics as privatisation by stealth. Infrastructure UK, the Treasury body, is currently poring through 150 responses to a consultation that would see what is colloquially known as "PFI mark II" introduced.

But, it is understood that its chief executive, former Alistair Darling adviser Geoffrey Spence, has settled on at least two major changes. These are expected to be sketched out at a conference of public and private sector parties, such as NHS trusts and construction companies, in September.

The Government wants pension funds to finance a large chunk of a £200bn infrastructure programme that ministers hope will kick-start the economy.

However, pension funds have historically been unwilling to put equity into the construction phase of such projects, as it is deemed risky with a very high chance of litigation between client and builder.

Infrastructure UK would look to stimulate this early investment in the next PFI round by allowing pension funds to inject debt as well as equity into the projects. PFI schemes were often 90:10 debt-to-equity, with the banks getting their money back first when the public sector repaid the cost of building and running the property over a 25 to 35-year contract.

By putting up debt, pension funds would see most of their money almost guaranteed to be repaid, making the investment less of a risk. The equity owner can be penalised if the asset misses certain targets, as rudimentary as receptionists failing to answer the phone quickly enough.

An industry source said: "The problem for pension funds has been that the first pound is always repaid, but the last pound – the equity – is the least likely to be repaid. A debt position is a better position to have."

A major criticism of the PFI has been that the public sector has not shared in any of the profit made when the private sector equity holder, often a builder or support services group initially, sell on their stake. The public sector could now take about 50 per cent of the profit from these sales, which in PFIs currently under negotiation alone could be worth £1.5bn to £2bn.