Highways Agency - Safe roads, Reliable journeys, Informed travellers

Chapter 4 - The process

4.1 Project Approval

Before entering the procurement process a DBFO project has already cleared the following hurdles:

• Identification of the projects - Once the decision was made to progress road schemes using PFI, the Agency put together proposals which would meet the objectives set, and be attractive to bidders. The Agency's proposals were put to Ministers who took the final decision on which schemes to progress as DBFO projects. Tranche 1 was also used as an opportunity to test a range of projects typical of the trunk road network, ranging from bypasses to new four-lane motorways, to find out which types of project were more likely to deliver value for money. All the construction schemes included had to have obtained final statutory approval.
  Conclusions can now start to be formed on the type of DBFO project which can deliver best value for money. The Agency will draw on this knowledge when devising future DBFO projects.
  
  DBFO is likely to be an important procurement option for the Agency in future, and therefore subsequent DBFO projects will be focused on the strategically important lengths of the road network with the greatest need for investment.
  
  
• Affordability - The Agency had to consider the affordability of the potential liabilities in respect of the projects against the overall provision made available by HM Treasury.
  
  
• Business case - No separate business case for the DBFO project as a whole was developed. The Agency relied on a cost/benefit analysis (COBA) which is specific to road schemes and gives economic value to the non-tangible benefits which schemes are designed to deliver, such as reduced journey times, reduced vehicle operating costs and reduction in accidents. Each of the schemes included in the project had successfully passed a COBA analysis as part of the admission criteria to the National Road Programme. Project proposals which include schemes with higher COBA ratios are more attractive as they deliver greater benefits for money spent.

4.2 Timetable

Figure 4.2 shows a Gantt chart of the stages in a typical DBFO project. The chart shows that the average time taken, from placing the Official Journal of the EC (OJEC) notice to contract award, for Tranche 1 and 1A projects was 16 months. The issues involved are complex and these projects were some of the first PFI projects to come to the market. There was a steep learning curve for all involved. This is a substantial period for both the Agency and bidders to commit resources, and the Agency is looking at ways of reducing the time taken by the Agency, bidders and lenders at each stage. Neither side has anything to gain from delay, yet a lot to lose in proceeding to unrealistic timetables. The most likely casualty of reduced time for bid preparation would be innovation by the bidders.

Figure 4.2

The process, prior to the receipt of Best and Final Offers, is best managed by setting a timetable acceptable to both the Agency and bidders. After that stage, negotiation with one preferred bidder cannot be subject to a date for completion as that could prejudice a satisfactory outcome.

If future DBFO projects followed the same template as the projects in Tranche 1 and 1A, the Agency would expect to reduce the procurement time significantly. It is essential to the future success of PFI to reduce both the bidding time and cost for the private sector. However, it is acknowledged that where specific projects introduce significant new ideas, such as contingent schemes, additional time may be required to allow for the private sector to get to grips with the issues involved.

Once the Agency was certain that it would proceed with the DBFO projects, external advisers including lawyers, financial and technical advisers were appointed, following competition.

There was a substantial amount of work to be done to establish the programme prior to inviting prequalification. Perhaps the task of greatest importance initially was to establish market appetite. A market research exercise was carried out by the financial advisers on behalf of the Agency before the projects were advertised, in order to ascertain the private sector's interest in applying PFI to road construction and operation and their attitude to the risks involved.

The model contract - a complex document - was drafted in collaboration with all the relevant areas of the Agency, the Department of Transport and HM Treasury. Although this was a major exercise, the Agency considered it important to lay out, in the Invitation to Tender, the contractual structure around which it was prepared to negotiate - a decision which greatly assisted in later negotiations.

Statutory hurdles had to be identified and remedied, where possible. These included issuing regulations to permit local authority maintenance divisions to act as maintenance sub-contractors.

Grouping the procurement of the projects into tranches has both advantages and disadvantages. The main advantages are the economies of scale for the Agency and the opportunity to compare issues being raised by bidders across the various projects. The main disadvantage is that running four procurements in parallel has strained the Agency's resources. The Agency is attempting to reduce this problem for future tranches by staggering the date for release of tender documents and return of bids. Staggering release should reduce procurement times for each project.

As DBFO develops, the advantages of grouping are likely to decrease. However, there may still be management reasons for grouping for example, where two or more DBFO projects test out a new concept (such as the A13 and A40 projects which are the first urban, rather than inter-urban, routes).

4.3 Project Management

The Agency used the same reporting and team structures for each of the DBFO projects. Figure 4.3 shows this structure. The nucleus of the project team was from the regional office responsible for the project road. The project director led the negotiation and was responsible for keeping the project on track. Special training in negotiation was given to the project directors and their teams to prepare them for the issues, and negotiating techniques, that they would encounter.

Figure 4.3

The negotiation training proved very effective and the Private Finance Panel recommend that all public sector project teams consider similar training.

The project teams were given a negotiating brief which gave them the authority to negotiate and set out the parameters to agree changes to the model contract terms. Fundamentally unacceptable changes to the model contract were clearly identified in the negotiating brief. If the project teams thought it appropriate to move outside this brief, they referred the decision initially to the central DBFO support team which could, in turn, refer it up the decision chain.

The central DBFO support team developed policy, ensured that a consistent approach was taken to all projects and acted as a sounding board for the project teams.

Cross-fertilisation of ideas between project teams was important. This was achieved by external advisers advising more than one project team and through regular meetings held during the procurement process, which the project directors, external advisers, central DBFO team and representatives of the Department of Transport and Private Finance Panel attended.

The Highways Agency Confirming Committee (HA CC) - a committee of the Agency's board of directors - was set up to give final approval to key decisions such as selection of bidders at prequalification, selection of short-listed bidders, selection of preferred bidder and contract award, and to approve procurement strategy following those decisions. HA CC was also consulted if major changes to the model contract were proposed by the project team.

The Agency reported progress to Ministers throughout the procurement process, and Ministers approved the award of each DBFO contract.

4.4 The Procurement Route

As a public sector body, the Agency has to comply with the EC procurement regime when procuring contracts. The projects were advertised under the Public Works Contracts Regulations 1991 (Regulations) using the negotiated procedure. The projects were classified as works contracts because, although the DBFO contract would be a mixed contract for works and services, on balance the predominant purpose of each DBFO project was to procure the road schemes included in the projects.

Guidance on the use of the negotiated procedure for procuring PFI projects has been developed by the Private Finance Panel in consultation with HM Treasury's Central Unit for Procurement.

4.5 Bidder Selection Procedure

Following publication of a Prior Information Notice, an advert was placed in the OJEC, briefly describing the projects and inviting those interested to apply for a prequalification pack containing more details of the projects, a description of the information required in order to be considered for prequalification and the criteria to be used to make the prequalification decision.

For each project the Agency had responses from, on average, eight interested consortia. It would have been impractical to negotiate in detail with that number of consortia (and few consortia would have wanted to proceed with only a 1-in-8 chance of being successful). In order to reduce the numbers, a prequalification process took place. The Agency took the view that four was the optimum number of bidders to promote a healthy competition and to give those chosen a sufficient chance of success to ensure their commitment to what is a long and expensive procurement exercise.

The Regulations are prescriptive regarding the background information which can be required from candidates and the criteria which can be used for prequalification. The criteria can be described as an evaluation of the technical, financial and economic track record of the bidding consortium (or its constituent members) on similar infrastructure projects involving construction, maintenance, operation and financing responsibilities (including any DBFO contract which they have won). In addition, candidates were judged on their understanding of the issues involved, their expected approach to the project including issues such as design, quality control and safety, and their organisational, managerial and technical ability.

4.6 Invitation to Tender (ITT)

Once the bidders were selected, the Agency issued the tender documents. These included:

• the model contract;
• more detail on the road schemes in each project and any existing road;
• the core requirements for both construction and operation and maintenance phases;
• the payment structure and details of what had to be bid in relation to it;
• the contents list for the standard bid which had to be returned by each bidder;
• areas where variation from the standard bid would be considered; and
• the criteria by which the bids would be evaluated.

The bidders were asked to return their bids by a set date. If there were any queries on the tender documents, clarification was made to all bidders to ensure a level playing field.

4.7 Negotiations & Due Diligence

The period between return of bids and contract award can be divided into four stages as outlined below.

Bid clarification - The first one/two month(s) following bid return were spent by the Agency and advisers reviewing the technical solutions, ensuring that the core requirements were satisfied and, where necessary, obtaining clarification of the bids.

This review was made easier by the technical appraisal procedure followed during the preparation of the bids. Bidders were required at prescribed times to deliver information on their technical solution and to identify departures from the illustrative requirements. This procedure was designed to prevent bidders delivering a technical solution which would have been fundamentally unacceptable.

Simultaneously with the technical review, the financial advisers reviewed the financial model, proposed shadow tolls and financial package, and the legal advisers reviewed contract qualifications and other commercial aspects of the bids.

Variant bids were received. They were addressed shortly after response to the tender documents by bidders. It was decided quickly whether they were viable alternatives and worth pursuing. The most interesting variant bid related to the use of bond financing described at 2.8.

First negotiation - The initial negotiation focused on risk allocation and whether the expected NPV of the payment stream was likely to be lower than the public sector comparator. This commercial negotiation was designed to ensure that the bidders delivered proposals offering value for money. Once both parties understood each other's position on risk allocation, a re-bid was sought which formed the basis for selecting a shortlist of two or, if bids could not be meaningfully separated, three bidders.

Now that policy has developed and risk allocation is better understood and accepted, the Agency intends to save time by shortlisting without a requirement for a second re-bid.

Second negotiation - There then followed a second round of negotiation. This was an intensive phase, including significant legal input. By this stage the bidders had delivered a detailed mark-up of the model DBFO contract which formed the basis of negotiation. Following this second period of negotiation, the shortlisted bidders were asked to return their Best and Final Offer (BAFO). The BAFOs were evaluated by the Agency and the provisional preferred bidder (PPB) was selected. The runner-up was asked to keep its BAFO on the table in the event that negotiations could not be concluded with the PPB.

The Agency required all BAFOs to be backed by funders because debt funding was necessary to meet the majority of project costs. The level of commitment required from funders at BAFO stage was not detailed. Full commitment at this stage would be impractical. Firstly, funders would not want to carry out due diligence when the success of their borrower was far from certain. Secondly, full commitment has a price. To save bidding costs, only the PPB was required to secure committed funding.

It is necessary for the Agency to conclude negotiations on key contractual provisions and price before BAFO, while bidders are still subject to competitive pressure.

Negotiations with PPB - After selection, negotiations proceeded with the PPB and its funders to finalise the terms of the DBFO contract and the Direct Agreement between the Agency and the funders. The Agency did not negotiate on principles during this stage. It bore in mind the necessity of holding the BAFO terms and making no substantial concessions which might have undermined the reasons for selecting the PPB. It remained open to the Agency to return to the bidder which was runner-up at BAFO, if agreement could not be reached with the PPB. The Agency was prepared to exercise that right if negotiations with the PPB started to deteriorate significantly from the terms of the BAFO which was the basis of the PPB's selection.

At this stage the PPB had to obtain committed funding and to finalise any specified contractual issues with the Agency before it could be considered preferred bidder. When all terms were agreed and the Agency was satisfied with the background contractual arrangements, such as the sub-contracts to be put in place, financial close could take place.

Negotiations with the PPB are the most detailed and lengthy part of the negotiations. The purpose of the final stage should be to finalise minor details, within the context of the terms of the PPB's BAFO. The Agency's view is that in time, as the bidders and funders become more familiar with the terms of the model DBFO contract and Direct Agreement, it is likely that less negotiation will be necessary. The Agency is currently reviewing the model DBFO contract in light of negotiations on Tranches 1 and 1A. The fundamental structure of the model contract will not change, but changes will be made to reflect a more flexible approach to issues such as change of control and the requirement for a specified date for completion.

4.8 Communications

The Agency has an obligation to keep the public informed about developments relating to the road network, which includes providing information on the progress of road schemes. This responsibility continues throughout the procurement process. Once the contract is awarded, the primary responsibility for dealing with enquiries from the media and the public passes to DBFO Co.

The first DBFO contracts were silent on responsibility for communications, although in some cases there were informal arrangements for handling media issues. In future, DBFO Co will be required to formalise these arrangements by developing a liaison procedure for dealing with publicity.