Editing Private finance initiative (section)

==Mechanics==

===Contracts===
A public sector authority signs a [[contract]] with a private sector [[consortium]], technically known as a [[Special-purpose entity|special-purpose vehicle]] (SPV). This consortium is typically formed for the specific purpose of providing the PFI.<ref name=zheng>{{cite journal |url=https://www.scopus.com/record/display.url?eid=2-s2.0-41049112855&origin=inward&txGid=yXIvJQ7AsPq0YyDQfJmJLCa%3a2|last1=Zheng |first1=J. |last2=Roehrich |first2=J. K. |last3=Lewis |first3=M.A. |year=2008 |title=The dynamics of contractual and relational governance: Evidence from long-term public-private procurement arrangements |journal=Journal of Purchasing and Supply Management |volume=14 |issue=1 |pages=43–54 |doi=10.1016/j.pursup.2008.01.004 |s2cid=207472262 |access-date=30 September 2012}}</ref> It is owned by a number of private sector investors, usually including a construction company and a service provider, and often a bank as well.<ref name=zheng/> The consortium's funding will be used to build the facility and to undertake maintenance and [[Capital (economics)|capital]] replacement during the life-cycle of the contract. Once the contract is operational, the SPV may be used as a [[wikt:conduit|conduit]] for contract amendment discussions between the customer and the facility operator. SPVs often charge fees for this go-between 'service'.<ref name="Pickard 2008"/>

PFI contracts are typically for 25–30 years (depending on the type of project); although contracts less than 20 years or more than 40 years exist, they are considerably less common.<ref name="puk">{{cite web|url=http://www.partnershipsuk.org.uk/|title=homepage|publisher=Partnerships UK}}</ref> During the period of the contract the consortium will provide certain services, which were previously provided by the public sector. The consortium is paid for the work over the course of the contract on a "no service no fee" performance basis.

The public authority will design an "output specification" which is a document setting out what the consortium is expected to achieve. If the consortium fails to meet any of the agreed standards it should lose an element of its payment until standards improve. If standards do not improve after an agreed period, the public sector authority is usually entitled to terminate the contract, compensate the consortium where appropriate, and take ownership of the project.

Termination procedures are highly complex, as most projects are not able to secure private financing without assurances that the debt financing of the project will be repaid in the case of termination. In most termination cases the public sector is required to repay the debt and take ownership of the project. In practice, termination is considered a last resort only.

Whether public interest is at all protected by a particular PFI contract is highly dependent on how well or badly the contract was written and the determination (or not) and capacity of the contracting authority to enforce it. Many steps have been taken over the years to standardise the form of PFI contracts to ensure public interests are better protected.

===Structure of providers===
The typical PFI provider is organized into three parts or [[Legal person|legal entities]]: a [[holding company]] (called "Topco") which is the same as the SPV mentioned above, a capital equipment or infrastructure provision company (called "Capco"), and a services or operating company (called "Opco").  The main contract is between the public sector authority and the Topco.  Requirements then 'flow down' from the Topco to the Capco and Opco via secondary contracts. Further requirements then flow down to [[subcontractor]]s, again with contracts to match. Often the main subcontractors are companies with the same [[shareholders]] as the Topco.

===Method of funding===
Prior to the [[2008 financial crisis]], large PFI projects were funded through the sale of [[bond (finance)|bonds]] and/or [[senior debt]]. Since the crisis, funding by [[senior debt]] has become more common. Smaller PFI projects – the majority by number – have typically always been funded directly by banks in the form of senior debt. Senior debt is generally slightly more expensive than bonds, which the banks would argue is due to their more accurate understanding of the credit-worthiness of PFI deals – they may consider that [[monoline]] providers underestimate the risk, especially during the construction stage, and hence can offer a better price than the banks are willing to.

Refinancing of PFI deals is common. Once construction is complete, the risk profile of a project can be lower, so cheaper debt can be obtained. This refinancing might in the future be done via bonds – the construction stage is financed using bank debt, and then bonds for the much longer period of operation.

The banks who fund PFI projects are repaid by the consortium from the money received from the government during the lifespan of the contract. From the point of view of the private sector, PFI borrowing is considered low risk because public sector authorities are very unlikely to [[Default (finance)|default]]. Indeed, under [[International Monetary Fund|IMF]] rules, national governments are not permitted to go bankrupt (although this is sometimes ignored, as when [[Argentine debt restructuring|Argentina 'restructured' its foreign debt]]). Repayment depends entirely on the ability of the consortium to deliver the services in accordance with the output specified in the contract.

Under guidance issued prior to the reform proposals initiated in December 2011, public sector partners were permitted to contribute up to 30% of the construction costs as a [[financial capital|capital]] contribution, generally handed over at the end of the construction period and subject to appropriate risk transfer and performance regimes being in place. The government indicated in its reform consultation that allowance for higher levels of capital contribution was being considered, noting the some international practice also offered examples of higher levels of capital contribution.<ref>HM Treasury, ''Reform of the Private Finance Initiative'', December 2011, pp. 6-7, cf. HM Treasury, [https://www.gov.uk/government/news/reform-of-the-private-finance-initiative Reform of the Private Finance Initiative], ''Press Release'', published 1 December 2011, accessed 12 June 2024</ref>

===Insurance===
PFI contracts generally allocate risks to the private sector contractor, who takes out appropriate [[insurance]] to cover these risks and includes anticipated insurance costs in its PFI charges. However, it has been recognised that levels of insurance premium are variable following cyclical economic changes, and difficult to predict over the lifetime of a PFI project. PFI terms were amended in 2002 and standardised in 2006 to allow for insurance cost sharing mechanisms, whereby the client and contractor could share the risk of market fluctuation in insurance premium costs.<ref>HM Treasury, ''Reform of the Private Finance Initiative'', December 2011, p 12</ref>