Jan 5, 2015

Ontario Auditor breaks new ground with review of public private partnerships methodology: BC Auditor says maybe, sometime


Last month Ontario’s Auditor General issued her annual report. One of her targets was Ontario’s use of public private partnerships to build public infrastructure. As the Toronto Star put it, “Auditor General Bonnie Lysyk has taken a wrecking ball to the (Ontario) Liberals’ use of private money to bankroll new hospitals and transit…”

Lysyk’s report found that the use of public private partnerships (P3s) had cost Ontarians $8 billion more than they would have paid if the projects had been financed with traditional public funding.

This isn’t the first time Canada’s provincial auditors have raised questions about public private partnerships.  Auditors General in Nova Scotia, New Brunswick, Quebec, Ontario and here in BC have all raised questions about individual projects. Last October BC’s AG reported the government was paying nearly twice as much to fund P3 projects as it was to fund publicly managed projects.

The December report from Ontario’s Auditor General, however, breaks new ground. For the first time a Canadian Auditor General has questioned the fundamental methodology that justifies public private partnerships.

Naturally, this story was heavily reported in Ontario. It also received coverage in other provinces that use P3s such as Saskatchewan.  Not so here in British Columbia where the story received no coverage at all. That is too bad because while we might try to ignore what happens on the “other side of the Rockies,” this is important for people in BC as well.

In Ontario public private partnerships are generally referred to as Alternative Financing Projects (AFPs). The Ontario AG’s report indicates there are 160 AFP projects with $23.5 billion in liabilities and commitments. In BC, since its inception in 2002, Partnerships BC has participated in more than 40 projects with an investment value of more than $17 billion, of which approximately $7 billion is private sector capital.

While BC with its smaller population has had fewer projects it has still been one of the most aggressive proponents of the use of P3s in Canada.

BC and Ontario use a different methodology to justify using public private partnerships but the two jurisdictions share at least two important features. First, both provinces attempt to impose the P3 model on projects funded by the Province. In BC one of the earliest and clearest examples was the Canada Line where Metro BC was told there would be no money from the province at all for the project unless it was delivered as a P3. In other cases Partnerships BC, the Province’s privatization agency, was imposed as the judge and jury to decide on whether P3s made economic sense with the inevitable result.

In Ontario the Auditor General gives the example of a college with a two part project. Phase one of the project was completed with public procurement, on time and on budget, at a cost of $256 per square foot. At this point the Province intervened and mandated that the second phase must be a P3 project. The Ontario AG says this project is expected to be delivered at $326 per square foot, $70 more per square foot.

The most important shared feature of these projects between Ontario and BC, however, is the emphasis on “risk transfer.”  Risk transfer is the magic bullet that is used to justify spending more money on public private partnerships. The thinking is that the private partner absorbs large amounts of risk that would otherwise be carried by the province and that this justifies additional costs. In the Ontario example, the AG says the government uses calculations that assume there is five times as much risk from public procurement as there is from a public private partnership.

How much risk is actually involved? The Dominion Bond Rating Service published a document in February outlining how it rated the credit worthiness of P3s. It concluded most P3s were “of low to moderate risk.” If this assessment is good enough for P3 investors listening to the DBRS, maybe we should be listening too. As a specific BC example, a Finance Department memo obtained under Freedom of Information looking at the Fort St. John Hospital P3 questioned the return the company was getting for taking on risk.  The Internal Rate of Return (IRR) is the return the company expects to get back on its invested capital.  The government memo said that the IRR the company was demanding in return for accepting “risk” was ridiculous given that:

  • There is no revenue risk in a hospital project
  • Counter-party risk is the province, so as long as the proponent manages the projects minimal equity risk
  • Only political risk, which is relatively low.

The Ontario Auditor General went even further questioning the whole underpinnings of the “risk transfer” justification.  She found that there was absolutely no “empirical data” supporting the valuation of the cost of risks transferred to the private sector by P3s.  The risks to justify the enormously higher costs, she reported, were anecdotal.

Then there is the question as to whether or not projects could be well managed publicly and whether risk could be transferred in a publicly managed project. Astonishingly, the BC model in particular assumes a public project cannot transfer risk.  The Ontario AG found to the contrary that:

Based on our audit work and review of the AFP model, achieving value for money would be possible if contracts for public sector projects had strong provisions to manage risk and provide incentives for contractors to complete projects on time and on budget, and if there was a willingness and ability on the part of the public sector to manage the contractor relationship and enforce provisions when needed.

These findings almost exactly mirror the analysis done of the BC P3 program done by Simon Fraser University Professor Marvin Shaffer five years ago in 2009 where he found:

Bonding and warranty arrangements can be used to ensure cost and performance guarantees are met in more traditionally procured processes – that risks the builders can manage are effectively transferred.

The findings from the Ontario Auditor General and the enormous costs we are paying for public private partnerships cry out for a similar study here in British Columbia of the Partnerships BC methodology on the use of P3s for projects. That methodology, which almost inevitably leads to a P3 result, was called “biased” five years ago by two of BC’s most prominent forensic accountants.

While the BC AG’s Office is late to the game there is some hope we might see something in the future.  On December 8th the new BC Auditor, Carol Bellringer, was asked in the Public Accounts Committee if her office would be willing to look at the P3 methodology, breaking down their costs and benefits.  Bellringer responded she would at least put the idea on the list to be considered.

The AG should make it a higher priority. Metro Vancouver is looking at a referendum that might lead to more than $7 billion in transportation funding. BC’s track record (and that of the federal government) tells us they will tie their participation in these projects to imposing the use of public private partnerships.

Metro needs more transit. It does not need more bloated P3 projects that siphon money out of services to boost the profits of public private partnership companies like SNC Lavalin.

In a later development, last month the BC Ministry of Finance released a study of Partnerships BC’s performance.  This study too ignored the underlying methodology but it did come up with some interesting points.  Later this week I will post a summary of this study here.