Public Audit Committee

Meeting date: Thursday, April 21, 2022

Official Report 656KB pdf

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Section 23 Report: “New vessels for the Clyde and Hebrides: Arrangements to deliver vessels 801 and 802”

Welcome back to the second half of this morning’s meeting. Agenda item 3 is our first consideration of the Audit Scotland report into arrangements for the delivery of vessels 801 and 802. I welcome to the meeting the Auditor General for Scotland, Stephen Boyle, who is joined by a team of three people from Audit Scotland: Antony Clark, interim director of performance audit and best value; Angela Canning, audit director; and Gill Miller, audit manager, performance audit and best value.

In addition, I welcome Rhoda Grant, who is an MSP for the Highlands and Islands and who is taking part in the evidence session remotely. Rhoda, if you want to come in at any point, please indicate that by typing R in the chat function and we will do our best to bring you in.

To begin, I invite the Auditor General to make an opening statement. After his statement, members will ask a series of questions. If we do not cover all the ground that we need to this morning, we might need to have a second evidence session on this report with the Auditor General.

Good morning. Under section 23 of the Public Finance and Accountability (Scotland) Act 2000, I bring to the committee my performance audit report on the project to deliver two new ferries for the Clyde and Hebrides. The main headlines surrounding the two vessels are well known—they are significantly late and considerably over budget. My report sets out the reasons for the delays and cost overruns and the remaining challenges in completing the vessels. It highlights a multitude of failings over the past six years.

In particular, my report highlights that Scottish ministers approved the contract award to Ferguson Marine Engineering Ltd in October 2015 without the standard financial guarantees being in place and contrary to the advice of Caledonian Maritime Assets Ltd—CMAL—which is the public body that owns most of the vessels on the network. There is insufficient documentary evidence to explain why those risks were accepted, and I consider that there should have been a proper record of that important decision.

Only two months after the contract was awarded, CMAL identified concerns with the project and, over time, problems, delays and costs escalated. Scottish ministers approved several financial and non-financial interventions to try to get the project back on track, but those had little impact. FMEL entered administration in August 2019, following unresolved financial disputes with CMAL. By that point, the Scottish Government and CMAL had paid FMEL more than £128 million, but the vessels remained far from complete.

In December 2019, the Scottish Government nationalised the shipyard, with the stated intention of helping to get the vessels completed as quickly as possible, protecting jobs and sustaining shipbuilding on the Clyde. Now operated by a public body, Ferguson Marine Port Glasgow, major operational issues at the yard remain unresolved, and remedial work on the vessels, which should have been completed within seven months, continues to be uncovered.

Since my report was published, the new accountable officer of Ferguson Marine Port Glasgow has updated Parliament to report that vessel 801 is now expected to be delivered between March and May 2023, five years later than promised, and that vessel 802 is expected to be delivered between October and December 2023.

The new vessels were intended to create more capacity and improve reliability across the Clyde and Hebrides network. They were also meant to bring social, economic and environmental benefits. That those aims have not yet been achieved, more than six years on, is a source of frustration for island communities, which rely on lifeline ferries.

Therefore, it is imperative that Ferguson Marine Port Glasgow delivers the vessels within the new timescales. Closer collaboration with CMAL is a positive step but, as I set out in my report, several operational and workforce challenges still need to be addressed if the vessels are to be delivered. I make recommendations to help support that. After the vessels are completed, all public sector bodies involved must turn their attention to fully considering what went wrong with the project, learning lessons and, crucially, preventing a repeat of problems in future.

As ever, my colleagues and I will do our utmost to answer the committee’s questions.

Thank you for that concise and clear opening statement.

Good morning, Mr Boyle. Your team has provided a report that, in your words, shows “a multitude of failings”. It is a comprehensive report, even with the lack of available documentary evidence, and has raised an awful lot of concerns and a lot more questions. Once again, the issue of transparency in the Scottish Government has been raised.

The report makes it clear that the project has been riddled with problems and delays over six years. The vessels are four years late and it now looks like they will be five years late. Currently, the cost is two and a half times the original budget. Worryingly, paragraph 105 states:

“The Scottish Government is committed to paying the additional vessel costs, regardless of the final price.”

All of that is at taxpayers’ expense and, seemingly, with no accountability from ministers.

Paragraph 141 states:

“Because engines and equipment were purchased several years in advance, warranties have expired, and any repairs required before vessel 801 enters service could be expensive and time-consuming.”

We now know that there will be delays due to cabling being too short for the vessels and, to add another layer to the saga, once the vessels eventually come into service, there is now talk that they are 40m too long for the harbours that they will serve and that the masters of the boats who have been practising using simulators have been unable to dock them safely.

It seems that the story will continue, the costs will continue to rise and there might well be further delays. That is before we start talking about flawed decision-making processes, a lack of documentary evidence and the Scottish Government ignoring alarm bells that have gone off repeatedly. Therefore, it is understandable that there is a lot of interest in the report.

Exhibit 1 shows that, in August 2015, ministers announced Ferguson Marine Engineering Ltd—FMEL—as the preferred bidder. Will you tell me more about the decision making on that? I believe that there were seven bids from six companies. Who took the decision to award the contract to FMEL, taking into account the fact that the report says that FMEL’s bid was the most expensive?

In exhibit 1, we set out the significant chain of events up to the current day. At the start of that exhibit, we note the identification of FMEL as the preferred bidder. I will bring in my colleague Gill Miller to talk the committee through the procurement process but, before I do so, it might be helpful to set out the scope of our work for the report.

We did not review the detail of the procurement and design arrangements of the ferry contract. Based on the considerable evidence that the Rural Economy and Connectivity Committee considered in the previous session of Parliament in its investigation into the design arrangements and procurement circumstances, we took a judgment that our work would be best served by picking up from the point of the identification of FMEL as the preferred bidder through to the present day and some of the circumstances and challenges that have unfolded. Nonetheless, in the report, we give some of the history of the procurement circumstances.

I invite Gill Miller to update the committee on some of the decisions that various parties arrived at and the use of cost quality indicators.

In March 2015, CMAL received seven bids from six shipbuilders. I emphasise that those bids were all anonymised when the evaluation panel considered them over the period March to August. They were evaluated on a 50:50 price quality score, and the panel assessed FMEL’s anonymised bid as achieving the top score overall.

As I said, the decision was made over the period from March to August. We understand that the CMAL board had to review the evaluation panel’s assessment; FMEL had been identified as its leading bidder at that point. However, we are aware that, on 20 August 2015, Transport Scotland submitted a paper to ministers to say that FMEL was the preferred bidder and that the First Minister would be announcing that at a visit to the yard on 31 August 2015.

10:15  

We understand that, at that stage, CMAL and FMEL had still not negotiated the point about the builder’s refund guarantee. Indeed, it was not until after the announcement on 31 August that FMEL stated that it was unable to provide the 100 per cent refund guarantee and that its best offer was a 25 per cent refund guarantee.

Do you know who was on the evaluation panel?

I do not know the exact membership, but I know that CMAL and CalMac were involved.

In September, FMEL confirmed that it was unable to provide a builder’s refund guarantee, which was a mandatory requirement. Did FMEL give a reason why it could not give that guarantee, and why that had not been mentioned in its bid?

The actual procurement process was outwith the scope of the audit, so we do not have the details of FMEL’s bid. However, we know that the pre-qualification exercise made it clear that the provision of a 100 per cent refund guarantee was mandatory. We know that FMEL passed that qualification stage, because it was given the invitation to tender.

The draft contract, which was part of the invitation to tender, made it clear that the builder’s refund guarantee was mandatory. All bidders had the opportunity to provide comments on the draft contract, and FMEL did not do so, thereby implying that it was willing to offer the builder’s refund guarantee.

In September, CMAL advised Transport Scotland of the risks and stated its preference to start the procurement process again. The report states:

“Transport Scotland fully appraised Scottish ministers of the significant financial and procurement risks”.

In October, Transport Scotland advised CMAL that Scottish ministers were aware of the risk and were content for CMAL to award the contract to FMEL. Is there any documentation to show that, and to explain the reasons why the contract still went ahead?

That is undoubtedly one of the key findings in our report, with CMAL highlighting the extent of the risks. As Gill Miller rightly points out, the provision of a 100 per cent guarantee is particularly significant in the context of a shipbuilding contract, because the nature of the contract allows the work to progress, and the risk rests with the shipbuilder. The buyer is insulated by the 100 per cent guarantee. However, in circumstances where that does not occur, as was the case here, risk flows back to the buyer, albeit that in this case there was a 25 per cent offsetting and an additional provision on final payment that offset some of the risk.

Antony Clark might want to comment on the point about transparency. We are in effect saying that Transport Scotland advised ministers of the nature of the risks, allowing for CMAL’s significant concerns and its position that the contract should be retendered, but that ministers took a view that they wished to proceed with the contract, cognisant of those risks.

As we set out in the report, there is no documentary evidence of how those risks were considered or how it was intended that they would be managed during the running of the contract. Transparency is hugely important; it matters that important decisions of this nature are set out and recorded. However, through our audit work, we have not been provided with any evidence that sets out how those risks would be managed.

I will bring in Antony Clark, who will want to say a bit more about how these circumstances normally work.

In such circumstances, one would expect the accountable officer in Transport Scotland to share their thoughts, ideas, risks and concerns, and to make proposals to the Scottish ministers, on which ministers can reflect and make a formal decision. As the Auditor General has indicated, one would expect that to be recorded and documented.

In the circumstances of this audit, we requested the documentary evidence but, as the Auditor General has said, none was forthcoming to us. We are therefore not in a position to offer advice to the committee on what thought processes took place, what advice Transport Scotland gave to ministers, or on what basis the transport minister—as I think it was—determined that they should recommend that the contract should proceed. As the Auditor General has said, that is a significant finding, and I suspect that the committee may wish to take evidence on it in due course.

So there was no documentation at all to show the communication between CMAL, Transport Scotland and the ministers, or who had actually been spoken to. Nothing at all came out when the audit was being done.

We made several requests to the Scottish Government and to Transport Scotland to receive information on that matter—none was forthcoming.

I do not know whether Gill Miller has anything to add.

We had the submission that went to ministers, which set out CMAL’s concerns and the clear risks. It also set out some of the amendments that CMAL had agreed with FMEL to mitigate some of those risks, and some of the assurances that Transport Scotland was putting in place to mitigate CMAL’s concerns. Those assurances were along the lines of CMAL not having to pay back the vessel loan until the vessels were completed and Scottish ministers looking favourably on CMAL’s requests for additional funds if any of those risks came to pass. We saw that documentation. However, as part of it, Transport Scotland had offered to the minister to have a discussion with the CMAL board to discuss its concerns, and we do not know whether that went ahead.

We asked Transport Scotland and the Scottish Government for all documentation relating to the minister’s decision, but we did not receive any. We are therefore not clear whether there were any discussions, and we are not sure what discussions took place to decide what assurances Transport Scotland would give CMAL, so we do not know on what basis ministers decided to accept the risks and proceed with the contract award.

Thank you.

I think that other members want to come in on that point. On the point that Gill Miller made, I direct this first to the Auditor General: why is there no documentary evidence? Is it hidden, is it missing or does it simply not exist?

We can only speculate on that point, convener. As Gill Miller and Antony Clark have set out, through our audit work, we request all relevant documentary evidence from public bodies.

Section 24 of the Public Finance and Accountability (Scotland) Act 2000 gives us rights of access and makes provision for circumstances in which we know of the existence of a document that has not been provided; we can cite that provision—and have done so, on occasion—to secure access. However, if there is no relevant documentation to support a decision, that becomes harder.

We do not entirely know whether this is a case of there being no document to support that important decision, or of our having asked for one and of its not being provided. I suspect that it is the former rather than the latter, but we can only speculate, and it would probably be unhelpful to do so.

Okay, but could there have been a breach of the act?

As I said, through our audit work, we ask for all relevant documentation. Especially given the significance of the issue, which we have highlighted in the report, our understanding, and the position that we have reached, is that there is no documentary evidence to support that decision, which was of such significance. That led us, clearly, to the conclusion that there really ought to have been a level of documentation to give an understanding of why the scale of the risks in the contract, which were so unusual in their extent, was acceptable.

On the point about the builders refund guarantee at the very beginning of the process, my understanding, having read the papers, is that, within a standard shipping model contract, such a guarantee is assumed and embedded as part of the contract agreement—so it was assumed by default that FMEL had consented to provide that 100 per cent guarantee. However, only a month later, it said that it could not do so. Is that potentially a clear case of FMEL misleading the client at the outset of the contract?

As we have touched on, our report picks up at a certain point. We have not reviewed the detail of the tender evaluation and procurement exercise, but we note the significance of the builders refund guarantee in a shipbuilding contract and the extent to which it isolates the buyer from risk.

CMAL’s position—I am sure that it will have the opportunity to restate this for itself—is that, if a buyer does not raise an objection about the builders refund guarantee or any other aspect of the contract, it tacitly accepts the terms and conditions of the contract. It became known shortly after the identification of the preferred bidder that FMEL was not in a position to offer the full 100 per cent builders refund guarantee, which presented the buyer, the Scottish Government and Transport Scotland, with the decision whether to proceed. The position is a tacit acceptance of the terms and conditions unless otherwise stated.

Did you investigate why that guarantee was withdrawn within a month, or did the parties just proceed to make the best of the circumstances in which they found themselves?

There were undoubtedly discussions between FMEL and CMAL in respect of the builders guarantee in order to reach a position. We set out some of the detail of that in the report. Instead of the 100 per cent builders refund guarantee being offered, a 25 per cent guarantee was eventually offered along with some of the other mitigations at which Transport Scotland was able to arrive. However, those do not equate to a 100 per cent builders refund guarantee. Most importantly, the overall substance concerns the scale of the transfer of risk back to the buyer. That is opposed to how we would expect matters to operate with a standard shipbuilding contract, in which the 100 per cent guarantee provides the buyer with surety in the event that circumstances go awry.

Gill Miller might want to say a bit more about how those events unfolded.

As we all know, FMEL was a relatively new company—it was formed in October 2014. CMAL was aware that, as a new company with very little financial history, FMEL might struggle to get a bank to provide it with a 100 per cent guarantee. However, CMAL had assumed that Clyde Blowers Capital, as FMEL’s parent entity, would provide a parent guarantee for FMEL. We have had discussions with CBC, which has said that that was never the case.

As the Auditor General said, the requirement for the full BRG was stated clearly in the contract and FMEL did not make any comments on that contract. Therefore, when CMAL evaluated its bid, there was no indication that FMEL was not going to provide the 100 per cent guarantee.

Craig Hoy has some questions on that matter.

Good morning, Mr Boyle. Normally, when you come before us, you provide reports that give us the complete picture. You put the pieces of the jigsaw together on how much money has been spent and the best value that has been achieved through that. There is generally also an audit trail that underpins that. However, on two lifeline ferries for our island communities, we do not have that. Your report clearly identifies multiple failings, but key pieces of the jigsaw are missing. As the convener said, they have gone missing, they were not produced or they were withheld from you.

My first question is wider than my other ones. When all is told, close to £500 million could end up having been spent, first, by a company that was owned by someone with close links to the party of government—the Scottish National Party—and, latterly, by a company owned by the Government itself. How concerned should the Parliament and the public be that you have been unable to publish a report that tells the full story of how that money has been spent and why?

10:30  

There is clearly a frustration on our part that we were not able to review all of what we would consider to be the relevant evidence. As I mentioned to the convener, our judgment is not that evidence has been withheld from us during the course of our audit work but, rather, that an important piece of documentary evidence was not prepared in relation to the judgment that ministers arrived at to accept the unusual scale of risk in the contract, which was contrary to the advice of the public body—CMAL—that oversees the contract.

I am sure that the civil service will want to reflect on how it best documents the process around the making of important decisions that significantly influence not only the use of public money but the provision of extremely important aspects of public services.

Paragraph 27 of your report says that, on 8 October 2015, Transport Scotland advised the Scottish ministers of CMAL’s considerable concerns about awarding the contract to FMEL. We would expect any discussions to have been minuted in the company of civil servants from the Government and, perhaps, Transport Scotland. No doubt, there should have been note takers, but you say that you have no insight into the discussions that took place on that day. However, we find out from the report that, on the day after Transport Scotland advised ministers of CMAL’s concerns, ministers said that they were “content to proceed”. Therefore, there must have been some discussion on that day.

The report implies that ministers were aware of the risks and chose to ignore them when they awarded the contract. Is that correct?

Our understanding is not that there were no communications but that they have not been adequately documented and that CMAL’s position, the extent of the risks, the variation from the standard builders guarantee in the contract and the risk flowing back to the buyers—the public bodies—were part of those discussions.

You would normally expect that, when there is a division between the civil service and ministers, a ministerial direction would be issued. To your knowledge, was that done? If not, do you believe that it would have been far better if such a document had been produced?

The Scottish public finance manual, which sets out the provisions for such circumstances in Scotland, uses the term “written authority” as opposed to “ministerial direction” when setting out the circumstances around a situation in which an accountable officer considers that they would be unable to achieve value for money in respect of the implementation of a policy request from ministers. We do not believe that, in the circumstances that we are discussing, civil servants requested a written authority or a ministerial direction. I would be entering into the territory of speculation if I were to suggest reasons why that was the case. It is clear that, had a civil servant considered that they would not be achieving value for money, they had the option of asking for a written authority, but it remains our understanding that no such request was made.

Earlier, Gill Miller said something about the awarding of the contract and the tender process, which is another missing part of the jigsaw puzzle. I note what you said previously about the scope of your report, but it has been suggested that, although FMEL was the most expensive option and would not be able to give a refund guarantee, there was a view that it could potentially deliver the highest quality and that significant additional points were awarded for quality at some stage in the process. Have you had any sight of the tender scoring, and do you think that it should now be published if it has not been published already?

I invite Gill Miller to answer that question.

We did not look at that. However, we reviewed the information that was given to the former Rural Economy and Connectivity Committee’s inquiry into the procurement of the two vessels, and I understand that CMAL has provided the scores for each of the bids.

There might also be some missing pieces of the jigsaw puzzle in relation to payments and milestones. Having spoken to people in the industry, it appears that it is quite common for contracts for ships to include a schedule for five payments. However, the contracts for 801 and 802 both had 15 scheduled payments. Did you explore why that happened and who agreed to it? Do you think that, alongside the failure to provide a refund guarantee and the plea for accelerated payments, that is further evidence of the financial fragility of FMEL?

I will bring in Gill Miller in a minute to say a bit more about how the use of milestone payments in the contract varied from the industry norm. Mr Hoy mentioned FMEL’s financial circumstances, which are noted at various points in our report, and the additional financial support that was provided to the yard and the variation in the use of milestone payments were matters of public record before our audit work began. In our report, at exhibit 3, we set out the extent of milestone events and payments.

During our audit work, it became clear that the use of milestone payments in the contract did not necessarily relate directly to quality or progress. That is the industry norm for shipbuilding contracts, but it is perhaps at odds with other large public sector infrastructure contracts.

I am sure that Gill Miller will want to say a bit more to add to the committee’s understanding.

Mr Hoy is correct in saying that, typically, the payment schedule is five equal payments of 20 per cent. However, it is not unusual for the buyer and the shipbuilder to agree to a payment schedule that best suits the project. It is our understanding that, during discussions in the period between FMEL being announced as the preferred bidder and the contract being awarded in October, seven iterations of the milestone payment schedule were suggested by FMEL, to ease its cashflow issues during the project. We discussed the matter with CMAL, which said that how the funding was distributed and when was not a concern because, ultimately, more than the £97 million would not be paid.

I have a question about the Scottish Government’s loan payments. It appears that the accelerated payments and loans were a significant cause for concern in relation to FMEL’s cashflow. Through the first loan, the Scottish Government, in effect, secretly loaned the company up to £15 million, and, latterly, a further £30 million was given to keep the company afloat, in positive cashflow terms, so that it could continue to service another part of the Government’s work. There was almost a sort of Ponzi scheme at the heart of this.

The Government claimed that the original £15 million loan was commercially confidential, but that reasoning was dropped when the further £30 million loan was made available. Do you have any understanding of why the Government changed its tune in relation to the commercial confidentiality of the loans?

That issue was subject to consideration by the predecessor committee following receipt of my predecessor’s section 22 reports on the Scottish Government. If memory serves me correctly, when a loan is given on a commercial basis, as was the case in these circumstances, the Government does not have an obligation to immediately inform the Scottish Parliament. Bringing to the Parliament’s attention the £30 million loan, alongside details of the £15 million loan that had been made earlier, was a matter for the Government. We have set out our views on that and have said that there is a need for transparency in such circumstances.

In more general terms, that links to a theme that I know the committee is interested in: how financial interventions in private companies are made, the supporting framework, the exit strategy, the financial terms and so on. None of that detracts from the fact that, when interventions of such scale are made—particularly in these circumstances—there ought to be as much transparency as possible.

I have a quick final question. It appears that a significant number of those in FMEL’s senior management were covered by non-disclosure agreements when they left. In your view, when significant sums of public money are involved, is it acceptable for such agreements to be in place? Has that hampered your audit work in any respects?

In gathering evidence to support our report, we spoke to a wide range of people who were involved in the project, including current and former officials. However, we were not able to speak to all of FMEL’s former directors, because of the non-disclosure agreement and the circumstances of the contract rather than because of the individuals’ willingness. Under those circumstances, it fell to the willingness of FMEL’s administrators to give assurance that there would be no follow-through should somebody be seen to breach the terms of that agreement.

I do not think that it hampered our evidence gathering or the conclusions that we reached. We set out clearly the events that followed. However, Mr Hoy, there are many differing views about the events that took place at Ferguson Marine and the progress of the vessels. A number of times in the report, we note that there is no consensus between the former owners of FMEL, CMAL and Transport Scotland on why the events unfolded. When we undertake audit work, we look to speak to as many people as possible, but we were not able to speak to one of the individuals who wished to participate in the audit work.

I will briefly bring in Gill Miller. I am sure that she will want to say a bit more about that.

For the audit, we reviewed an extensive amount of evidence that covered a number of events over six years. We went through substantial evidence—a lot of documentation—and spoke to a lot of people.

As public sector auditors, we were focused on the roles of the public sector organisations that were involved, their arrangements for setting up and managing the contract and how they responded when it went wrong. It was right that we focused our evidence on those matters. However, as the Auditor General said, there were conflicting views about what had gone wrong and it was important for us to understand FMEL’s view of events.

FMEL’s former management submitted a lot of information to the former Rural Economy and Connectivity Committee’s inquiry into the project, and we reviewed all of that. We also spoke to one of FMEL’s former chief executives and one of its former directors. Two of FMPG’s current directors also worked at FMEL, and we spoke to them about their experiences pre and post nationalisation. We also spoke to the workforce representatives at FMPG who formerly worked for FMEL. In the round, we were able to get a good understanding of FMEL’s point of view.

Auditor General, I will take you back to the question that Craig Hoy put to you on written authority and ministerial direction. It is central to the debate about transparency, accountability and when decisions were made.

When I review the correspondence from 8 October and 9 October, I discern that written authority might have been at work. The email from Transport Scotland that reflects CMAL’s concerns about the risks associated with the contract says:

“The Board would wish the Minister to be appraised of these risks and to acknowledge to the Board that he fully understood the potential risk of assigning a contract to FMEL under these circumstances. The Board feel it is their absolute duty to point out the risk to their shareholder and in that respect would expect approval, should”

the Scottish Government

“wish this project to proceed, and to receive direction to that effect”.

The expression “direction” is explicitly used in that correspondence.

The next day, the reply is submitted. That letter to Erik Østergaard from the director of aviation, maritime, freight and canals at Transport Scotland, dated 9 October, says:

“The Scottish Ministers, both in their capacity as CMAL’s sole shareholder and more generally, also confirm that CMAL is authorised”—

Transport Scotland uses the word “authorised”—

“to enter into the Contracts and any associated documentation.”

Paragraph 10 of the letter says:

“I confirm that the Scottish Ministers”—

plural—

“have considered and approved the contents of this letter.”

It looks very much as though there was written authorisation and ministerial direction, but it does not appear to have been recorded, as is required under the legislation. Do you have any comment on that?

10:45  

That is a fair assessment. The substance of the discussions was consistent with what I understand to be ministerial direction or written authority, but the application of that was inconsistent with the requirements of the Scottish public finance manual. One of those requirements is that the Auditor General for Scotland should be informed in writing if there is an event that is identified as a request for written authority. No such information came to the office of the Auditor General for Scotland during those discussions. Although there was an exchange of correspondence and a clear setting out of views, we did not see that translate into the formality—the record keeping—that we would say is clearly consistent with a request for written authority.

Again, if there was written authorisation or ministerial direction and it was not recorded with you or the clerk of this committee, which is one of the requirements of the act, that could also represent a breach of the Public Finance and Accountability (Scotland) Act 2000.

We are probably pushing up against some of the boundaries of our analysis and perhaps into the realms of legal judgment on whether the events that took place are consistent with the act. I am clear that no Government officials have identified that written authority was requested from ministers and approved as such, and, on that basis, we have not been able to say that that happened, and we are clear in our judgment that there was no formal written authority.

The committee will have to consider how we can best seek to get to the bottom of that.

We are limited for time and I am conscious that Colin Beattie has a series of questions that he wants to put, so I invite him to do so now.

The ferries issues first came about as a result of the Rural Economy and Connectivity Committee’s report of 9 December 2020, in which it asked you to carry out your investigation. I presume that that is what triggered your investigation at that time. Is that correct?

The Rural Economy and Connectivity Committee’s report references its request for Audit Scotland to undertake further work. As the committee will be aware, I am independent and am not directed by any particular committee of the Scottish Parliament in forming our work programme, so, although we are cognisant of the work of the committee, as I mentioned to Mr Coffey a few minutes ago, our interest in ferries and the use of public finance and loans had been consistent for a number of years. Fundamentally, it is an issue of public interest and public expenditure. In drawing together all those sources, we felt that it was appropriate for us to undertake further work, hence today’s report.

That is in line with your letter to the committee. I assume that you would have reviewed the report as part of your audit process. Is that correct?

Yes, of course.

Some very strong statements are made in the report, most particularly in paragraph 160, which says that

“there is strong evidence that the contractor deliberately proceeded to construct specific sections of the vessel either out of sequence or not according to the proper specification purely as a means of triggering milestone payments on the contract.”

Evidence is given in paragraph 157 that work was carried out

“either incorrectly or out of sequence purely in order to trigger payments against the contract”.

Interestingly, too, paragraph 158 cites evidence that

“invoices presented were rejected on the basis they related to other projects”.

Given the committee’s evidence, it seems clear that it had great concerns about the contractor.

Paragraph 153 also highlights evidence that CMAL’s lawyers “advised” that it

“had to make the payments”—[Official Report, Rural Economy and Connectivity Committee, 11 March 2020; c 50.]

that were called for, because that was in the contract and it did not want to break the contract. Moreover, on subcontractors, paragraph 154 cites the statement that

“Ferguson’s deliberately slowed down some of that subcontracting.”—[Official Report, Rural Economy and Connectivity Committee, 5 February 2020; c 11.]

Maybe I have missed something, but I do not see anything in your report that addresses that issue directly. After all, this is very serious indeed. If the Rural Economy and Connectivity Committee’s conclusion is correct, the question, then, is: what action needs to be taken?

You have just referenced some very significant sections of the Rural Economy and Connectivity Committee’s report that highlight work being undertaken out of sequence, allegations that the process for triggering payments was not done correctly, invoices relating to other projects and so forth. As I mentioned at the start of the session, we took a view on the scope of our work, as we do with any audit, and decided that our work would be best served by picking up what happened after the Rural Economy and Connectivity Committee’s report and looking at the circumstances after FMEL’s identification as preferred bidder instead of repeating much of that committee’s extensive evidence gathering on the nature of the procurement, the design, the contract and so on.

Clearly, we are not shipbuilding experts, and I would note that, in arriving at our judgment about the scope of our work, we saw that there were conflicting expert views on the best way of operating this contract. Indeed, these were independent experts who were disagreeing, and we therefore arrived at the judgment that it would be better to look at how public money was used after the identification of the preferred bidder.

None of that detracts from what you have highlighted; clearly significant events happened during the course of the contract. However, we reasonably judged—and this is consistent with the Rural Economy and Connectivity Committee’s position—that there was a significant disagreement between FMEL and CMAL about the running of the contract. Mediation and arbitration were explored with the parties and eventually, as we have set out in our report, CMAL and the Government recommended that FMEL pursue the matter through the Court of Session. FMEL took this view that that was not possible and, as we know, subsequently entered into administration.

But the Rural Economy and Connectivity Committee’s conclusions have serious implications and surely need to be addressed. If there has been such contractor failure, it has contributed massively to the costs and delays in the project.

In finalising the report, we have recommended a fuller review of what happened. It feels too glib to use phrases such as “lessons learned”, given the circumstances surrounding the contract for a project that is now many years late and two-and-a-half times the original budget, and we need a fuller review to establish how such things ought to be delivered in future. We have not done that in its entirety in this report, given the work of the Rural Economy and Connectivity Committee and the fact that the project is still being undertaken, but we share the substance of your concern that there must be a fuller review. We are pleased that CMAL has acknowledged some of our recommendations on the adequacy of the contract and the need for milestone payments to be reviewed to ensure that they are more closely aligned with quality and progress, but I am also quite sure that more reviews will follow the consideration of our report.

In effect, your report has not addressed the impact of contractor failure—I do not see that in your report. The Rural Economy and Connectivity Committee certainly raised the flag, so I would have thought that it would have been a priority to look at that issue. It is our public money that has been paid out to the company and, according to the evidence that has been given to this committee, it has not been paid out in the manner that it should have been. It has been paid out by CMAL, on the advice of its lawyers, according to the contract.

I will bring in Antony Clark in a moment. I am not sure that I agree entirely with your assessment that our report does not identify concerns or problems relating to the running of the contract or the work of the contractor. I point to the reference in our report to the scale of operational failures in the yard when the turnaround director entered his role and the extent of the issues. In her questions, the deputy convener mentioned the management of assets, warranties and so on, and further information about the quality of cabling and so on has been uncovered very recently. There have been, to use the words of the former turnaround director, “significant operational failures” at the yard, and there is no doubt that those will have contributed to the late running of the contract.

In our report, we say that there are many accountabilities and many reasons why we are in the circumstances that we are in today. The performance of the contractor is one of those reasons.

I will bring in Antony Clark to make a further comment.

I was going to highlight the points that the Auditor General has already made about the deficiencies in the management of the shipyard—before and, to an extent, after nationalisation—that were highlighted in the turnaround director’s report.

I will draw out another point. In our report, there is a clear reference to the weaknesses in the contract arrangements. The absence of a builders refund guarantee created a real risk to the Scottish Government and others in relation to the use of public money. From paragraph 33 onwards, we highlight the deficiencies in the contract relating to setting out CMAL’s and FMEL’s responsibilities for managing the project. It is clear that milestones were not clearly defined and were not linked to quality standards. Mr Beattie has acknowledged the fact that CMAL took legal advice and found that it was obliged to make the payments, even if there were concerns about aspects of the ships’ quality and delivery.

There just seems to be such a big and fundamental gap in the overall picture. I am relying on the good work of the Rural Economy and Connectivity Committee, but I do not see where its work on the issue has been built on in Audit Scotland’s report in order to bring out that critical part of the picture. We can all argue about the contract—a huge amount of documentation has been online for some time in connection to that—but how will we address the issue of the failure of the contractor? That question mark is still sitting there.

In response to the Rural Economy and Connectivity Committee’s report, the Minister for Energy, Connectivity and the Islands highlighted that he felt that even that report did not reflect in full the

“contribution of the contractor’s non-performance, contract management and financial management, described in independent evidence”.

Why are we being so precious about this? If there is evidence that points to non-performance by the contractor that has contributed to charges on the public purse, and that applications for funding have not been made in the correct way, that should all be brought out and highlighted.

11:00  

We recognise that the work of the contractor is part of the story and how we got to where we are today, and that is set out clearly in the Rural Economy and Connectivity Committee’s report. As we touched on already, building on the work of the Rural Economy and Connectivity Committee, we arrived at a judgment on where our work was best focused, having recognised that there are many differing views about the circumstances that we are in today.

I repeat a point that Antony Clark has made: public sector contracts can fail, and the Ferguson shipbuilding situation is not the first example of that. When a contract is used properly, it provides insulation to a public body to end the contract should it so wish. The unique circumstances with this contract are that the transfer of risk element of a typical shipbuilding contract was not applied properly; therefore, the risk came back to the public sector body rather than resting with the shipbuilder as it typically would. We sought to reference those points, among others.

On the work of the contractor, I am sure that that will be subject to further consideration, and we make that recommendation. I apologise for repeating myself, but we recognise that that is part of the story. We reference in particular the judgment that was arrived at by the turnaround director about the extent of operational challenges and failures in the shipyards once they were subject to review.

We have talked a lot about the contract and we can argue about its different aspects. However, contracts are only really there for when things go wrong, so that there is something to refer to. In this situation—again, I refer to the Rural Economy and Connectivity Committee report—it is alleged that the company did not act in the proper way in order to receive the correct payments.

As I say, contracts are there for when things go wrong, but, generally speaking, we do not expect things to go wrong. Generally speaking, delivery is made, there is good will and parties work together, but that has not taken place. There are a lot of questions around that, and the questions will get bigger and bigger. If you carry out an investigation to ensure that the contractor’s apparent failures are highlighted or explained—who knows, they might be explainable—that is where the big questions are.

You made a number of points, which I will try to address. We agree that contracts are there to be enforced in good times and in bad. They provide the provider and the purchaser with safeguards. The application of traditional shipbuilding contracts—the industry standards—is not, as we have mentioned already, what we expect to see in a public sector context. Nonetheless, those are the industry standards. The absence of the 100 per cent builders refund guarantee meant that the risk grew for the public sector body and, when the circumstances went awry, the risk and additional payments flew to the Scottish public sector.

Gill Miller might want to come in again on the payment schedule and the fact that it was not aligned to the quality of the work, which is clearly a significant part of the story. As we have set out in the report, CMAL has already responded to the recommendation that the payment schedule and work quality be much more closely connected in the future.

Before Gill Miller is brought in, I note that we will reflect on what further work we can undertake to add. We will not arrive at a judgment on that today, Mr Beattie. We will reflect after any further evidence sessions and, in particular, CMAL and other public bodies undertake a full review of the lessons they have learned from the events that took place, which is the recommendation on which we end the report.

My simple question to you is: where did all the money that was paid in go? What was it spent on? It was not in the yard when the yard was nationalised.

There is a combination of things. Gill Miller might want to cover both these points and some of the detail, and set out the analysis of the £240 million. We included the amounts paid to the contractor and the loans that the Scottish Government provided to it, some of which it was able to recover through the administration process and the valuation of the assets that were in the yard at the time of nationalisation. However, it is clear that the scale of money that was invested did not bear any resemblance to what was initially anticipated would be delivered for such a size of public sector investment. Gill, are you able to cover those points?

Yes. On Mr Beattie’s point about contractor failure, I want to make it clear that what we could say about Ferguson Marine was very limited, because it was a private sector organisation. Although we spoke to it and reviewed a lot of documentation, we could not report any issues that we found with its spending and decision making, for example. We could report what CMAL was reporting to Transport Scotland and the programme steering group. I think that we have said in several places that it started to highlight that there were issues with FMEL’s performance as early as December 2015, which was only two months after the contract was awarded. We were not able to say whether we found those, because Ferguson Marine no longer existed, so we could not go in and see for ourselves and, as I have said, we did not have the remit to make those judgments about a private sector organisation.

We have made the point very clearly that CMAL consistently reported issues with the contractor, but it is very clear that FMEL completely disagrees and that it has a different point of view. It firmly believes that CMAL was responsible for the delays to the project.

We mentioned the out-of-sequence working in the report. FMEL admitted in evidence to the Rural Economy and Connectivity Committee that it engaged in out-of-sequence working to try to keep the project moving and that that was due to delays with CMAL approving the designs. We have spoken to independent shipbuilders, which have said that out-of-sequence working is not necessarily an issue and that that can take place to keep the project moving and to make for more efficient working. However, CMAL reported that FMEL’s approach in out-of-sequence working was an issue and caused problems with the project.

On the £14.5 million that was mentioned and the invoices that were submitted that were not related to the project, ministers had made an agreement with FMEL for CMAL to accelerate the £14.5 million before the CMAL board had made that decision. Ministers had agreed with FMEL that that would take place, and CMAL agreed to it only subject to very tight controls. FMEL had to submit all the invoices related to the project, and CMAL would review them and ensure that all the money that it was accelerating to FMEL was being spent on the suppliers, equipment for the vessels and so on. Our understanding is that some invoices were submitted by FMEL that were not directly linked, but CMAL refused them, so none of the £14.5 million was given to FMEL to spend on anything else.

We asked several times where the money went. CMAL paid out £83.25 million. However, as we set out in exhibit 6 in the report, a significant amount of work was outstanding. In a typical project with a 100 per cent refund guarantee, that guarantee provides a significant financial incentive for the builder to build a quality product. Because that guarantee was not in place, there was not the same level of incentive, and that placed more importance on there being a very clear link between the payments that CMAL was making and the quality of the build. As we have said, there was not that link.

CMAL was legally required to make the payments, but the fact that the milestones were not clearly defined was what caused the issues to arise. The money was being paid out, but the vessels were not being constructed as we would have expected.

With regard to the £45 million loan from the Scottish Government, the first loan of £15 million, which was made specifically on the basis of vessel progress, was very quickly drawn down by FMEL—the other £30 million was drawn down within two months—because it had a substantial number of outstanding invoices, employers threatening to withhold equipment and materials and subcontractors threatening to walk off site. That money was very quickly drawn down, but it made very little difference to the project.

As for the second loan of £30 million, although PricewaterhouseCoopers was providing the Scottish Government with reports on FMEL spending, they did not go into detail on where the money went, so we were unable to trace exactly how that money was spent and what progress was made on the vessels as a result. However, we were told that suppliers and the workforce were paid, which stopped legal action against FMEL and allowed progress to continue on the vessels.

Just—

We are really running short of time, Mr Beattie.

Okay. I have lots more questions, but I am happy to—

Well, we all have lots more questions, which I think demonstrates the need for at least another evidence-taking session on this matter. I know that there are committee members who want to come back in, myself included; however, as I mentioned at the start of the session, Rhoda Grant is joining us remotely, and I invite her, in these last couple of minutes, to put her questions to the team.

Thank you, convener—I appreciate that. I know that others have a lot more questions, so I will keep my questions quite short.

I am just seeking some clarification. Having listened to the discussion, I think that it is clear that communication between CMAL and Transport Scotland was documented. It was Transport Scotland that came back to CMAL with ministerial decisions, but is there any paperwork on Transport Scotland’s discussions with ministers to show how it put these things to ministers and which ministers responded?

I will ask Gill Miller to talk you through the chain of events.

There is no documentation on any of the discussions that were had or the assurances that Transport Scotland agreed with ministers and put in place to allow CMAL’s board to approve the contract. We asked for all documentation in relation to ministerial decisions, but we did not get any.

So, there is no documentation on ministers’ decisions and how they were carried out.

I understand that this particular decision was taken within a day. Is that normal? How would you expect a decision of such magnitude to be taken within Government?

I am not sure that we are able to give you a precise or reasonable comparator for this decision. Some decisions will be taken at pace, and others will be more considered, depending, I am sure, on the availability of ministerial diaries and so forth. However, as we have sought to set out clearly in the report, decisions of significance that involve risks coming back to the public sector ought to be documented for public record.

That, and the level at which such decisions are taken. At what level would you expect a decision of such magnitude to be taken?

It varies. What we sought to do in exhibit 2 of the report was to set out the range of accountabilities and responsibilities and to show that, in the awarding of the ferries contract, those rested with ministers. We would expect that to be documented, but the circumstances in this case were unusual, in that the contracting body CMAL identified additional risk outside of the standard terms and conditions of the contract—for example, the builders guarantee issue that we have already discussed this morning. Given that context, the acceptance of those risks and how they would be managed needed to be well documented.

Thank you.

As we are literally out of time, I draw the evidence session to a close. I thank the Auditor General, Antony Clark, Angela Canning and Gill Miller for joining us this morning, and I invite them to return at the earliest opportunity.

I also thank them for their evidence. We have a whole load more questions that we need to ask and we need to consider what our next steps might be, but I must thank the witnesses for their openness and willingness to answer our questions this morning.

With that, we move into private session.

11:15 Meeting continued in private until 11:46.