As the umbrella term for redesigning service delivery in the public sector, transformation can cover a host of legal issues

The Scottish public sector is facing unprecedented financial issues. Budget cuts in the order of £billions are expected over the next few years. Add to that changes in demographics and increasing demand for services such as social care, and you have a massive challenge. Although a lot is uncertain about the public sector landscape of the future, one thing is certain: it cannot stay the same. Transformation of services will be a key element of Scottish public sector strategy for the foreseeable future.

Transformation is about change: changing the way that services are delivered, whether customer-facing services such as social care or “back office” services such as HR/payroll and accounting functions. Although transformation tends to be discussed in the context of saving money, it is important to remember that it is also about service improvement, i.e. finding better ways to deliver services to the public.

While transformation is not confined to local government in Scotland, Scottish local authorities have been engaged in the most radical transformation activities. There are three main categories of transformation structure: (1) wholly internal reorganisation of local authority functions, for example moving finance or HR into a centralised shared service centre; (2) setting up separate wholly-owned vehicles for service delivery; and (3) delivery of services by a partner – either a public sector partner (e.g. through shared services) or a private sector partner (e.g. through a strategic partnership). As internal reorganisation has fewer legal issues than transformation involving external vehicles or joint venture partners, the focus of this article is on transformation with an external/arms’-length focus.

A number of legal issues arise: setting up the arms’-length vehicle; procurement and vires issues; and issues connected with service delivery by the arms’-length vehicle.

Setting up the arms’-length vehicle

It is essential to sort out structural issues at the start and pick the correct vehicle. Local authorities have commonly used limited liability partnerships (LLPs) for service delivery by arms’-length vehicles. LLPs are tax-neutral (unlike companies, which have to pay corporation tax in their own right), and so allow the local authority to remain exempt from paying tax on any income generated. LLPs also have the advantage of limited liability, which reduces the overall risk of the venture.

However, some services are more suited to other structures, the obvious example of this being cultural services, where charitable trust vehicles tend to be used. Charitable status brings significant non-domestic rates savings as well as tax benefits, provided the activity to be carried out meets the Office of the Scottish Charity Regulator’s “charity test”. As with any charity set-up, it is important to consider carefully the range of services to be carried out by the vehicle, to assess whether all would meet the charity test or whether a trading subsidiary is also necessary.

Procurement and vires

The chosen structure must fit with procurement rules. Where a local authority-owned vehicle is used, the procurement rules are more straightforward: the “Teckal” test – which is very familiar to local authority solicitors – should be met. However if an external party is involved, a procurement process is likely to be necessary. Where local authorities are sharing services, i.e. one local authority is delivering services on behalf of others, then it can be possible to structure this to sit outside of procurement rules, but this will depend on the circumstances. Where a private sector partner is involved, a procurement process is inevitable.

The choice of process will depend on what you are trying to achieve – for example, where the solution is not fully formed and would benefit from discussion with bidders, the competitive dialogue procedure is likely to be the most appropriate. Based on our experience of advising on scope of appointments and services, it is important to make sure that the initial scope of the appointment (and the OJEU notice) is sufficiently wide to cover all of the services which the local authority wants to include (now and in future). Otherwise broadening the scope of services in future can be problematic.

What about services that the local authority is providing back to an arms’-length vehicle – do procurement rules apply? Often the new vehicle requires support in areas such as HR/payroll, legal or accounting, at least for a transitional period. Although the Teckal rules have not specifically considered this point, arguably the principle of Teckal should also apply in reverse: if the local authority does not have to advertise in order to engage a wholly owned arms’-length vehicle then surely the vehicle does not have to advertise to contract with the local authority for services?

Vires is not something we need to tell local authority lawyers about. As local authority lawyers know, vires has been the subject of fierce debate in England & Wales, particularly around the scope of the power of wellbeing. In Scotland, the power of wellbeing has been used by several Scottish local authorities as justification for transformation projects without successful challenge to date.

Service delivery issues

Normally a management “board” will be created for the arms’-length vehicle, usually comprising a mixture of senior business representatives and elected members. Involving elected members in the vehicle’s management helps to address any perception of “democratic deficit”, i.e. the suggestion that moving the services into an arms’-length vehicle makes the local authority less accountable to the public. Such involvement does, however, raise questions around conflict of interest. These become more acute if the vehicle is a limited company, since the new Companies Act has more stringent provisions around conflict of interest.

Local authority solicitors already know well how tricky it can be for elected members to balance potentially conflicting needs of the arms’-length vehicle against those of their constituents, and it is easy to guess where the strongest “pull” tends to be. Training the management team on issues such as identifying and addressing conflicts of interest and maintaining confidentiality is important. Our experience is that addressing these issues in training and devising clear policies and procedures is best.

Services contracts between the local authority and the vehicle are important. If the vehicle is wholly owned by the local authority, arguably the authority is contracting with itself, but written contracts provide appropriate discipline in terms of the agreed service levels and the charges, which offers budget certainty. With public/private partnerships a robust set of contracts is essential – both sides will want to ensure that the rights and obligations (and charges) are clear.

One of the key issues in any transformation activity is the impact on employees. Transformational change inevitably raises concerns among employees, with fears of job losses. This is particularly the case in shared services projects, where it is likely that services will be partially relocated, inevitably impacting on at least one of the local authorities concerned. Local authority solicitors know that the key to a successful employee strategy in any transformation project is communication – early and frequent. Engaging with trade unions and employee representatives as soon as possible builds trust and creates an open dialogue around transformational plans.

Transformation projects often involve some employees transferring out of the local authority under the Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE). Some projects involve seconding employees. Structure the secondment arrangement carefully – if challenged, employment tribunals look at the reality of the arrangement rather than what the parties call it, and the consequences of getting it wrong can be costly. Employment arrangements must comply with the Scottish Government’s protocols around avoiding a “two-tier” workforce, and any new vehicle must offer terms and conditions to new employees which are equivalent to those of the former local authority employees (including broadly equivalent pension benefits).

Key to securing employee “buy in” for transformation is to ensure appropriate provision for future pension entitlement. Where employees are transferring to an arms’-length vehicle, the vehicle will usually apply for “admitted body” status in the local government pension scheme. This entitles the vehicle to participate as a member of the pension scheme and make contributions to the scheme, and the employees to continue as members of the scheme.

New models

Public sector transformation is an essential component of the strategy to address budget challenges. Local authorities have been at the forefront of this and while these projects are challenging, much has been achieved already. Our experience of working on transformation throughout the UK is that there are many models and innovative structures that Scotland could “borrow” from elsewhere. Having worked on several local asset-backed vehicles in England & Wales and shared services projects for DEFRA and the Home Office, it is clear that there are innovative structures that can easily be imported into Scotland, with appropriate modifications. One recent example is the Scottish Government’s Scottish Futures Trust “hub” initiative for funding new building and infrastructure projects in the public sector, where we worked on adapting the LIFT model used in England & Wales to develop an appropriate model for Scotland.

  • Yvonne Dunn is a partner in Pinsent Masons’ Outsourcing, Technology and Commercial group

Solicitor sent to clean up SPT

An in-house solicitor has taken over as chairman of Strathclyde Partnership Transport, the largest transport authority in Scotland, after the former chairman resigned in a row over expenses.

Jonathan Findlay, a Labour councillor on Glasgow City Council and a solicitor with East Dunbartonshire Council, has been urged by council leader Steven Purcell “to take a firm grip of SPT and get to the bottom of everything that is going on there”.

His appointment was confirmed by the SPT board on 26 February.

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