A government-owned private finance initiative company is collecting rental from the Federal Lands Commissioner for land that the latter had always used for free. But why? In the first part of this series, KiniBiz explores a strange lease-and-sublease arrangement that made this happen.
Last August, the Federal Lands Commissioner (FLC) paid RM1.13 billion in rent for using some 186 land parcels across Malaysia. Come next February, it would have to pay another RM1.12 billion, continuing a biannual rent-payment cycle that would only end in 2027 after more than RM29 billion is paid.
But the FLC had been using the same land parcels without any sort of rent before 2013. So why is it paying rent now and to whom?
The answer points to a strangely convoluted deal pushed through by the government following the establishment of Pembinaan PFI Sdn Bhd, a special-purpose vehicle wholly owned by the Ministry of Finance (MOF).
PFI is an acronym for ‘private finance initiative’, a concept which drives public infrastructure developments via privately sourced capital. This concept was announced in the 9th Malaysia Plan (9MP), which allocates national budgets for all economic sectors for the 2006-2010 period, to finance selected development projects.
To kickstart the initiative, the Employees Provident Fund (EPF) provided a loan of RM20 billion as seed funding for Pembinaan PFI. Previous news reports place the allocation of the amount to be RM9.5 billion for the education sector, RM1.6 billion for housing, RM878 million for healthcare and RM634 million for transportation.
Companies Commission Malaysia (CCM) records of Pembinaan PFI show that EPF has a charge on the company amounting to RM20 billion. The charge was created on Aug 22, 2007.
However PFI is not a new concept, having appeared in Australia in the late 1980s and making its debut in the United Kingdom early the following decade.
In the UK’s footsteps
It was in the United Kingdom, however, that PFI found much controversy.
A PFI is essentially a concessional procurement method — the public sector contracts a private contractor to build and operate public infrastructure such as roads and hospitals via privately sourced capital and according to public sector specifications.
In exchange the contractor, who also invests in routine maintenance over the concession lifespan, then receives payments from the government throughout the concession period, which normally range from 25 to 30 years. A common condition of this arrangement is that contractors must meet a minimum threshold of work quality and service delivery in order to be paid.
The concept was premised on the notion that the public sector is inefficient in terms of management and that the private sector can do better in terms of performance and delivery.
In 2003, the United Kingdom National Audit Office estimated that 73% of government procurement using traditional methods were delivered over budget and 70% was late. As a comparison, six years later, the audit office reported that of PFI construction projects between 2003 and 2008, 69% were delivered on time and 65% met the contracted delivery price.
Shifting the cost to private capital also alleviates the burden on the government’s limited funds while allowing crucial public infrastructure projects to proceed. In addition, the risk in terms of construction cost overruns and delay costs is borne by the private sector.
Beginning in 1992 under John Major’s premiership, over the years the United Kingdom saw PFIs take flight to become among the largest infrastructure sectors in the nation. There are now more than 700 ongoing PFI contracts reportedly worth roughly £55 billion (RM288 billion) in total capital value in the United Kingdom, but the concept had been controversial from the start.
A common criticism is that PFI methods are expensive. In 2011, the United Kingdom National Audit Office found that using PFI methods had “significantly” increased financing costs for public investments in comparison to what the government would have incurred by borrowing itself.
Other criticism include questions on whether PFI contractors received overly generous terms, raising questions of patronage.
There were also other issues such as how specifications of projects were distorted in favour of the contractors’ profitability — examples include the demolition of two hospitals in Coventry followed by a replacement hospital worth £410 million (RM2.15 billion), a stark contrast to when the two hospitals were originally slated for £30 million (RM157 million) in upgrades and refurbishment by the public sector.
In the 2011 report the United Kingdom Parliamentary Treasury Select Committee called for PFI commitments to be brought onto the government’s balance sheet and not be used to sidestep departmental budget limits.
The call came as total future liabilities from PFI, including future repayment commitments over 50 years, came to a staggering £267 billion (RM1.4 trillion) in 2010, according to news reports.
“PFI means getting something now and paying later. Any Whitehall department could be excused for becoming addicted to that,” said the Committee chairman Andrew Tyrie in 2011. “We can’t carry on as we are, expecting the next generation of taxpayers to pick up the tab.”
It was with this background that the Malaysian government established its special purpose vehicle for PFI construction works in 2006 called Pembinaan PFI.
Government gets RM20 bil upfront
On Aug 21, 2007, the government and the FLC signed a Principal Agreement which stipulated that Putrajaya will get the FLC to lease 186 parcels of government land — held in FLC’s name — to Pembinaan PFI.
The FLC is the registered holder of the land parcels on behalf of the government. In return for getting FLC to lease the land to it, Pembinaan PFI would pay RM20 billion, which came from EPF as seed funding, to the government for the lease of the land parcels.
As part of the Principal Agreement, however, the government would also get the FLC to sublease the 186 land parcels back from Pembinaan PFI and pay rental amounting to RM29.18 billion over 15 years, with payment scheduled twice a year from 2013 to 2027.
This rental payment would then be used to repay the EPF’s loan on a twice-yearly basis.
When contacted EPF declined to comment on its loan to Pembinaan PFI, citing confidentiality obligations. However the pension fund reiterated that it is allowed to grant loans to corporate and government entities as provisioned under Section 26 of the EPF Act 1991, although the Act also requires the EPF to obtain the finance ministry’s go-ahead before extending such facilities.
“The EPF has a contractual obligation not to disclose any information relating to any facility and the borrower to third parties not related to the transaction,” said EPF in an emailed response to KiniBiz.
“In processing every loan request, the EPF will carry out a comprehensive due-diligence analysis which will encompass a review on the historical and projected cash flow of the potential borrower, the proposed repayment structure, the strength of the collateral, risk horizon of the borrower as well as the returns offered must be comparable to the market rates,” said EPF further. “An independent credit risk assessment will also be carried out on each proposal.”
However a source with knowledge of the arrangement told KiniBiz that the EPF provided the seed funding at “competitive market interest rates”, adding that the loan structure is tied to the 186 land parcels because the loan extended by the EPF was an Islamic facility, which requires underlying assets for repayment.
To summarise, the net effect of the entire transaction is that the government ends up with RM20 billion in cash from Pembinaan PFI, which the company first obtained from the EPF as seed funding.
In exchange, the government would get the FLC to repay a total of RM29.18 billion over 15 years in the form of rental by subleasing back the land parcels in question from Pembinaan PFI.
This creates a revenue stream for Pembinaan PFI to repay the initial EPF funding, which in reality is paid back by the government in a roundabout manner.
Pembinaan PFI can raise the rent
The mechanics of the lease-sublease exercise gives some leeway for Pembinaan PFI to increase the amount of rental that the FLC needs to pay.
After the signing of the principal agreement, a further sub-lease agreement dated Aug 15, 2012, was signed between Pembinaan PFI and the FLC as per the government’s obligation to get the FLC to sublease back the land parcels.
The FLC’s signee was the commissioner himself, Azemi Kasim, while Pembinaan PFI’s signee was director Rahim Abu Bakar, who also heads the MOF’s budget management division.
According to the sublease agreement sighted by KiniBiz, the FLC will, for the duration of the sub-lease period, pay a total sum of RM29.18 billion in two rental payments yearly for 15 years, scheduled every Feb 15 and Aug 15.
If the FLC misses a payment deadline, an interest rate of 8% per annum would apply on the outstanding amount until it is paid.
In addition to the late payment penalty, sub-clause 2(c) of the sublease agreement gives PFI the right to review the sublease rent from time to time in order to increase rent in case a state authority imposes or increases quit rent or any other charges for any of the land parcels.
Moreover, sub-clause 2(d) gives PFI the right to “review the sublease rent based on prevailing market value for every five years from the date of this sublease”. This places the next date of a possible sublease rent revision in 2017.
Kinibiz queries to the Federal Lands Commissioner office via email were unanswered.
When contacted through phone, Federal Lands Commissioner Azemi told KiniBiz that the rental payments are covered by extra funding from the finance ministry, which means the FLC is not paying out of pocket.
However Azemi declined to comment further, citing confidentiality obligations in the sub-lease arrangement.
In any case, this means that the government, after committing itself to pay RM29.18 billion over 15 years in exchange for getting RM20 billion upfront from Pembinaan PFI, may end up paying more than that amount if Pembinaan PFI ever revises the rental rates payable by the government through the FLC.
That said, any decision from Pembinaan PFI to revise the rental rates payable by the FLC would have to come from the finance ministry, which wholly owns it. In other words the government would only pay Pembinaan PFI more than the RM9.18 billion stipulated if it wants to.
The net effect of the lease-sublease arrangement is a left-pocket, right-pocket transaction whereby one government agency pays another government agency rent — the funds comes from the government and goes back the the government. In turn, the government gets an injection amounting to RM20 billion from the EPF to use for financing PFI projects.
This defeats the concept of PFI in the first place as the funding does not come from the private sector but through the government which effectively borrowed the money from the EPF. This assumes of course that the RM20 billion raised will go back to funding PFI projects.