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Managing Procurement Risk in the HE Sector

on Monday, 18 March 2019.

We examine the implications of the Faraday judgment and the lessons that can be learned on managing procurement risk.

The appeal case of Faraday Development Limited v West Berkshire Council has been widely reported. The case concerned a complex land development agreement and whether it should have been advertised and tendered in accordance with the Public Contracts Regulations 2016 as a public works contract. As well as setting out further guidance on the stress tests for structuring land arrangements outside the scope of the public procurement rules, the case provides some useful lessons on managing procurement risk that are applicable to university executive officers and HE governing bodies.

The Council awarded the development contract to St Modwen Developments Ltd without following a compliant procurement process. In the High Court it argued that the development agreement was a property transaction with the main aim of income generation rather than the realisation of works, and therefore it was not subject to the rules. It also argued that there was no legally binding obligation on the developer to drawdown plots of land for development, even though there was a significant commercial incentive. It failed in these arguments at the Court of Appeal. The development contract was declared ineffective and the Council was fined.

There is a lot of pressure on universities to offer on-site student accommodation, sport and recreation facilities in order to be able to compete for students. In practice, it may be commercially attractive for universities to enter into development deals with the private sector without following a procurement route.

For example, timing to deliver a development for the start of an academic year may be an issue, or a developer may own land nearby and it may make sense to deal only with that developer to deliver a larger or more financially rewarding scheme. Faraday demonstrates that going round rather than over the procurement hurdle creates a risk that has to be managed very carefully.

The Structure

The Court of Appeal accepted that there might be a number of legitimate reasons for structuring transactions outside the scope of the procurement regulations.

The stress tests that apply in relation to development agreements are well-known and experienced practitioners are familiar with where the boundaries of risk lie. Faraday sheds further light on those nuances to which universities must now have even more regard.

The three-pronged stress tests relate to the amount of control a public body has in relation to specifications, whether there is a legally binding obligation to carry out works and whether the public body stands to gain any economic benefit. The structure put in place by the Council relied upon there being no legally binding obligation on the developer to carry out works. While the Court of Appeal agreed there was no legally binding obligation to carry out works when the development agreement was entered into, it concluded that a contingent obligation to carry out works, crystallised at the time when the developer decided to draw down parcels of land for development.

It seemed to reach this conclusion in part because at the time of drawdown the other two tests were satisfied - the development agreement involved detailed preparatory works and services, and the Council was involved in this process, so by the time the developer exercised its rights of drawdown, the works became binding upon the Council without it taking any further action.

The practical point from a drafting perspective is that the more control a contracting authority is seeking, the more likely it will be seen to be an indirect procurement of works. For universities there is a key difference, commercially, from letting a developer construct a new building over which the university has no influence, to one where, ideally, a university has a say in the design, layout and functionality, all of which can go to the long-term usability of that building. It can be tricky getting this right as Faraday illustrates but understanding the stress points and seeking legal advice on the structure can help universities understand the risks.

The Paper Trail

If there is a challenge, universities can expect detailed scrutiny of their decision making process, as evidenced in the business case, board papers, and procurement strategy documents. The Courts will look at these documents to verify the main purpose of the agreement and the overall nature of the transaction. It is important to check that these documents are accurate and consistent.

The Council failed in its duty of transparency to set out clearly its justification for its decision not to follow the procurement rules. This was particularly the case where it sought unsuccessfully to rely upon a voluntary transparency notice to minimise its exposure to the procurement risk. Under the procurement rules, a contracting authority can reduce the time period in which a complainant can bring a challenge for contract ineffectiveness by publishing a transparency notice which sets out a description of the contract, its objective and the reasons why it is not necessary to follow a procurement process.

The Court of Appeal made clear that the standard expected in relation to the use of transparency notices is high. The Council over simplified the nature of the arrangement by stating that it was a pure land transaction and therefore exempt from the procurement rules, and did not reflect the detailed and complex nature of the development agreement. As such a potential or unsuccessful bidder could not be said to have full knowledge of the relevant facts, to enable it to decide whether or not to bring a challenge.

Transparency notices can be an effective risk management tool but can only be used in limited circumstances. Faraday reinforces that message and shows that whatever statements a university might make about the nature of a transaction, the courts will check to make sure that those statements coincide with the reality of the land or development project.

The Risks

Faraday is a reminder that if a public body chooses not to follow the procurement rules and gets it wrong, the consequences can be severe.

This is the first English case in which the sanction of ineffectiveness has been imposed. The subject matter of the development agreement, a strategically important area of land in Newbury, remains undeveloped, the Council has suffered damage to its reputation, and for the complainant, as yet there is no direct remedy. The parties will have also incurred considerable professional fees in pursuing this significant case. Although the Council was only fined the sum of £1, this should not be seen to create any guidance on the amount of any future fines as it was agreed between the parties to the litigation, to minimise the costs to taxpayers. Other public bodies may not be so fortunate in the future.

Conclusion

While Faraday is most obviously about the applicability of the public procurement rules in a development context, it is much more than that. It is as much about the important exercise of risk management and good governance.

Universities embarking on their development plans should be asking the following questions. Do the public procurement rules apply and should we be following a compliant procurement process? If not, on what basis can we validly justify our actions to demonstrate the project is genuinely a land transaction and have we explored all alternative options to address the risks? The answers to those questions should be continually asked by executive officers, ultimately to the satisfaction of their governing bodies, so that the spectrum of risk is understood by decision-makers and managed appropriately.


For more information, please contact Stephanie Rickard in our Procurement team on 0117 314 5675, or Clive Read in our Commercial Property team on 0121 227 3710.

 

This article first appeared in University Business.

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