Strategic commercial interventions: business case development principles

2. Summary of existing Business Case guidance

2.1 The Five Case Model

The business case is important “because projects will only deliver their intended outputs and benefits if they are properly scoped, planned and cost justified from the outset. Using the five-case model provides decision makers and stakeholders with a proven framework for structured ‘thinking’ and assurance.”^[1]

It is recommended that business cases for strategic commercial interventions follow the HMT Business case guidance for projects and programmes.^[2] The HMT Green Book Five Case Model[3] is a tool for decision makers, and a framework for considering the use of public resources to be used proportionately to the costs and risks involved. The use of the Five Case Model should take account of the context in which a decision is to be taken. It can be used for the development of:

• Strategic Outline Case (SOC) – sets out the problem, makes the case for change and develops a shortlist of options.
• Outline Business Case (OBC) – builds on the SOC and identifies the solution which offers optimal value for money.
• Full Business Case (FBC) – builds on the FBC and identifies the procurement route and delivery plans for the chosen option.

The five cases, outlined below, are interconnected and therefore should not be developed or viewed in isolation:

• Strategic – What is the rationale for the intervention in the business? How does the intervention align with policy objectives?
• Economic – What is the net value for money to the taxpayer of the options for intervention considered?
• Commercial – Is there a commercially viable plan in place to meet the objectives of the intervention that meets subsidy requirements?
• Financial – Is the intervention financially affordable?
• Management – Is the intervention achievable and deliverable?

Using this framework correctly ensures business cases for strategic commercial interventions:

• follow best practise and are consistent with appraisals of other public interventions across Scotland;
• consider all the necessary aspects; and
• provide a defensible position when subject to challenge and review.

2.2 Strategic Case

The strategic case sets out the rationale for the Scottish Government to intervene in the business. It should set out:

• The current situation with respect to the business including: recent financial performance; staffing; difficulties faced by the business; factors contributing to the difficulties faced; details of a previous intervention or support received.
• The socio-economic profile of the local authority area in which the business operates to gain an understanding of the significance of the business to the local area and the relative strength or fragility of the area. Key indicators to consider include gross value added (GVA), employment, unemployment and skills, and other socio-economic indicators (e.g. Small and mid-sized companies (SMID)).
• The rationale for government intervention in the business. The rationale for intervention usually rests on the presence of market failure^[4] or on distributional or social welfare considerations. In the case of strategic commercial interventions, the rationale may be established by considering the function of the business and what is unique about it, for example, the business might provide: a strategic infrastructure asset; employment in a fragile area; a unique essential service/good to other businesses and consumers.
• The objectives of the intervention and how these fit with wider government policies and objectives including National Strategy for Economic Transformation (NSET) and any local government strategies. Objectives must be SMART (specific, measurable, achievable, relevant and time-bound). Consideration should be given as to whether returning the business to profitability so it can be sold back into private ownership or repay SG loans should be included as an objective. Objectives should be set early on as part of due diligence.
• The options for intervention available to meet the objectives: this should include a ‘do nothing’ option (not intervening in the business) and different forms of intervening to meet the objectives specified including a ‘do minimum’ option. This might include considering different types of financial support (e.g. loan v guarantee) and non-financial support.
• The external constraints that the intervention must work within e.g. legal and subsidy control, political, ethical or technological.

2.3 Economic Case

The economic case sets out the expected social, economic and (where appropriate) environmental costs and benefits of the various options for interventions, quantifying these where possible, to determine which option offers the greatest value for money to the taxpayer and best meets the objectives. It should explicitly set out:

• The likely socio-economic impacts of the ‘do nothing’ option to understand the consequences of not intervening and to establish a baseline against which the options for intervention can be compared. Establishing what would likely happen in the counterfactual “do nothing” option is challenging. Where appropriate, consideration should be given to whether the business’ assets would have alternative uses and what capital expenditure would be required to create alternative uses, if this information is available. Consideration should be given to the likely impact on the local economy in terms of the potential loss of the jobs and gross value added (GVA) supported by the business directly and indirectly through supply chain and re-spending of wages effects (using input-output modelling), including the likelihood that any jobs lost will be absorbed into other parts of the economy.
• The expected socio-economic costs and benefits of each intervention option over the period of investment, quantified where possible and discounted to ‘present value’.^[5] Here, we are considering impacts on those external to the business itself, e.g. the local economy, the users of the business’ assets or services, environment etc.
• The nature of many of the socio-economic benefits of strategic commercial interventions may mean that quantifying them is difficult and it may therefore be necessary to describe them in qualitative, rather than quantitative terms. Forecasted revenues should be set out and discounted to covert future costs into their present value.
• Economic costs should be easier to quantify than the benefits. The main difference between economic and financial costs is that economic costs should: distinguish between operating/running and capital costs where relevant; exclude ‘sunk’ costs; be discounted to covert future costs into their present value; and exclude inflation and tax.
• Risks associated with each option.
• Value for money: usually, a benefit cost ratio (BCR) is calculated to determine the value for money of an intervention. However, given that many of the benefits associated with these types of interventions may be intangible and therefore non-quantifiable, it may not be possible to calculate a BCR. An alternative indicator of value for money is the total economic cost to government of the intervention, sometimes referred to as Cost Effective Analysis (CEA): the sum of the discounted costs (operating and capital) minus the sum of the discounted revenue, excluding any capital receipts. To note that most government interventions (particularly support of distressed assets) are not designed to achieve a positive financial return but instead are anticipated to provide wider socio-economic benefits that can’t be quantified.
• A market assessment should also be undertaken to understand the businesses’ competitors, consumers and other industry stakeholders. The market assessment should enable you to understand the demand for the business’s offerings and the broader market they operate within.
• The preferred option is to choose based on a range of factors including the value for money of the option, the net whole life cost of the public resources involved and the unquantifiable costs and benefits. The overall risk of the option to the public and the public sector should also be considered.

2.4 Commercial Case

The commercial case sets out the strategy and arrangements required to realise the preferred option. It should set out:

• The business plan to meet the objectives of the intervention (which might include returning the business to profitability and commercial viability. This should include financial forecasts of when the business will return to profitability under a number of scenarios to take into account the risks and uncertainties underpinning the forecasts. The forecasted timeframe for divestment should be made clear (if the intention is to return the business to private ownership). It is likely that the business plan will need to be contracted out to obtain the necessary financial and market expertise. The expected rate of return on the investment upon divestment (if the intention is to return the business to private ownership).
• Risk register: an assessment of the risks of the investment, particularly around returning the business to commercial viability, how those risks will be mitigated and by who.
• If/how the intervention meets Subsidy Control requirements. You should contact the Subsidy Control team at the earliest possible opportunity to ensure any intervention is compliant.
• Details of any commercial arrangements – key contracts required.
• Details of any planning and approvals required.
• Details of any procurement exercise.

2.5 Financial Case

The financial case sets out the total net cost to the Scottish Government of the intervention, taking account of all financial costs and benefits that result. It considers affordability – the financial impact on the Scottish Government – whereas the economic case assesses whether the intervention delivers the best value. It should set out:

• Sources and use of funds.
• The total expected financial cost to the SG over the period of the investment, and whether it is affordable.
• Funding arrangements.
• Implications for the SG budget including on the income/expenditure account and on the balance sheet where applicable.
• Financial profile and key accounting measures e.g. cashflow, forecasts for balance sheets (assets and liabilities), working capital etc.
• Contingency for potential cost overruns or unexpected costs arising.
• Any contingent liabilities generated.

2.6 Management Case

The management case sets out the practical arrangements for implementing the intervention with the business – what needs to be done, when and by who. It demonstrates that the preferred option can be delivered successfully. It should explicitly set out:

• The provision and management of resources required to deliver the intervention.
• Governance arrangements including who is responsible for what.
• Arrangements for managing budgets.
• Arrangements for communications and stakeholder engagement.
• Timetable for the intervention including when agreed milestones will be achieved and who is responsible for each action. This should make clear the expected length of time that the SG expects to hold a stake in the business and an exit strategy for divestment, where appropriate.
• An assessment of the risks and plans for risk management of the preferred option (risk register).
• Arrangements for monitoring and evaluation. This should include:
  • plans for regular monitoring and reporting on the financial cost and value of the investment including monitoring the changing nature of the financial risk to which taxpayers are exposed
  • plans for monitoring a set key performance indicators based on the intervention’s SMART objectives to understand if the investment is working as planned. This should include collecting data prior to the intervention to establish a ‘baseline’ from which the impact of the intervention can be assessed
  • plans for economic imp act evaluation (to understand the outcomes and impacts of the investment and if it has met its objectives) and process evaluation (to understand how well the intervention was designed and delivered)
  • resources for undertaking monitoring and evaluation and who will be responsible.

2.7 Ongoing review

This guidance has been drafted with the initial intervention in mind therefore it is focussed on the decision point at that stage in the process. Each project will need to be considered on its own merits, however further decision points may well be required in the life cycle of an intervention. In these instances, it will be good practice to review the original objectives in light of the socio-economic, financial and commercial considerations at that time to ensure value for money is continually being assessed.