Another day, another National Audit Office report criticising a major government commercial deal. In this case, we go back into ancient history, with the Minister of Defence property deal first put in place in 1996, the year the Spice girls and Peter Andre burst into the popular culture scene. “The Ministry of Defence’s arrangement with Annington Property Limited”, published recently, details a history of wrong assumptions, weak negotiations, ongoing management incompetence, and an outlook for the future that is not very reassuring.
Because the MOD judged in their models that house price inflation would be 1% a year in real terms, the deal has been extraordinarily good for Annington – NAO calculates their rate of return at 13.4% - and bad for the taxpayer, because inflation has actually been on average 3.9% for the UK. Indeed, in many areas where property is situated, property prices have risen four or five fold over the 20 years.
So MOD would be better off by £2.2 - £4.2 billion if it had retained the property rather than flogging it off in 1996 for £1.66 billion. That assumption about house prices was, we would politely suggest, somewhat idiotic, and surely there could have been some gain-share upside built into the contract so MOD shared in benefits if prices rose faster?
The MOD did get a favourable rental deal for the first 25 years though, which had a benefit, but from 2021 a new arrangement needs to be negotiated. The MOD “expects” rents to go down at that point, but (surprise, surprise) Annington expects them to rise, hence the uncertain outlook. And the report suggests that MOD has not yet geared up properly for what will be a very significant and difficult negotiation with Annington over future rental levels, with billions of pounds at stake.
Although MOD sold the estate, it still retained maintenance responsibility, which is somewhat odd. That responsibility has not been well met, as other reports into MOD housing problems have found. As NAO says, “the deal did not generate the improvements in the management of the estate that the families who live in the properties would have hoped for”. MOD has not followed the good practice contract management guidelines recommended by NAO and Cabinet Office either.
There is another fundamental point here that the NAO makes well in its recommendations “to share across government”. Basically, the government and MOD traded long-term value for an immediate cash injection. That highlights the weakness of relying on net present value calculations, which greatly discount future payments. However, as NAO says, these don’t seem so small when you are actually having to make them in the here and now!
“Departments should be required to demonstrate that contracts are affordable in the longer term. The Department surrendered significant future value for an upfront cash receipt. This appears to have happened in part because of net present value calculations, such that it discounted future rent payments and the value of the properties to a trivial amount. However, for the Department now, these rent payments present a considerable challenge. Accounting officers should not rely solely on net present value calculations that provide only one source of information about a project. Guidance should require business cases to set out how contracts will behave under different scenarios”.
That is very wise advice – so are there any examples currently where the government is mortgaging the future for a short-term benefit and committing the taxpayer to costs that one day will seem onerous? How about the Hinkley Point nuclear power deal?