Examination of Witnesses (Questions 240-259)
DR MARK
BROWN, MR
PETER NORGATE,
MR JOHN
SEGAL AND
DR NIGEL
G HARRIS
12 JULY 2006
Q240 Chairman: Surely that sort of
thing must happen now? I would have thought, if somebody was tendering
for a franchise, they should have done their own research anyway,
irrespective of what the government asks them to do. Presumably
they are investing their money in whether or not they get the
work. Surely they must have some idea of what they are tendering
for or is that an old-fashioned idea?
Dr Harris: The point I was trying
to make was that the bidders will themselves work out what—
Q241 Chairman: This is a very large
amount of money, three to five million. I think what Mrs Ellman
is asking you is about what a bidder does, whether it is something
that is new or unusual or different. Mr Norgate is making the
point that if you are applying for work anyway you would have
to do the basics.
Mr Norgate: I would guess about
a third of the cost is on straight administration which is form
filling. If that could be simplified with bidders accredited for
all franchises for a period of time, because you have certain
status as an operator already, that to me makes a lot of sense.
Then you are only bidding for the specific franchise which is
where the added value should come in. We should be looking for
the thinking from the private sector on the specific franchise
each time and not having to repeat standard information.
Q242 Mrs Ellman: £2 million
is for consultancy fees. Would you say that consultants have an
interest in keeping this going?
Mr Norgate: The answer must be
yes, if we are honest. I am sure we all want to be professional
as well. I would much rather be working on real projects, delivering
real benefits to UK plc than bidding in the franchise process.
Mr Segal: The structure of franchising
means that the franchising bidding process is where much of the
innovation takes place. All the franchise bids I have been involved
in have involved market research, some innovative looking at what
the market looks like, forecasting, innovative ways for trying
to reduce costs. In all the ones I have been involved in, £3
million to £5 million for each year of the ongoing franchise
has been saved by reducing costs or increasing revenue or some
combination of the two. In a sense, it is a very worthwhile investment
because that is when the changes and the ideas are coming in.
Q243 Mrs Ellman: What proportion
of your work is involved in work for franchise bids?
Dr Brown: 1% at most for the division
of my company with 600 staff. These are very big businesses. The
annual turnover of the sort of franchises which are on the market
at the moment is £200 million to £500 million per year
and these will grow over the next 10 years. I do not think we
should be balking at spending several million pounds on helping
organisations to make the right decision to bid or helping the
government to make the right decision to acquire them. These are
very significant parts of the economy. There is one other counter
point I would like to make, to go back to my point about competition
and the importance of maintaining a high level of bidder competition.
There is a concern that high bid costs will act as a deterrent
to new bidders entering the market. Therefore, there is an incentive,
notwithstanding the fact that a good deal of due diligence needs
to be done, to ensure that these costs are not excessive because
they will act as a barrier to entry to new bidders in the market.
It is in the market's interest and the government's interest to
maximise those potential bidders.
Q244 Mrs Ellman: Has the government
got it right between the base contract specifications and the
room for innovation?
Mr Segal: At the moment I think
the government is being too precise and specific in what it demands
and too restrictive on innovation. The timetable is set almost
totally precisely, for example. Clearly, there are some things
the government has to specify. We do not want a particular town
having no trains per day. That has to be specified. Perhaps the
broad level of frequency of service needs to be specified. The
government needs to regulate fares where there is a monopoly position—commuter
fares, for example. There seems to be too much detail which does
restrict innovation, in my view.
Q245 Mrs Ellman: Does everyone agree?
Dr Brown: No. I would take a different
view. I think it is important that there are clear government
objectives, making it clear what each particular franchise is
for and what it expects from that franchise. That is important
in order to extract maximum value from the franchisees. I do not
think the public sector can walk away from its responsibility
to state quite clearly what benefits it wants to derive and what
its strategic objectives are for that franchise. That is the role
of the public sector. It should be prescriptive. Secondly, the
network is at capacity. The railway is probably the most complex
mode of transport that I am aware of. There is not that much room
for innovation in many of these areas unless you start to focus
more on expanding the capacity of the network and perhaps less
on the marginal changes to the franchising system which I could
argue is largely working okay at the moment. Unless there is a
shift of focus onto how we expand the capacity and the infrastructure,
I do not think we have a choice. The public sector has to be prescriptive
because we are too constrained. We do not have the options.
Dr Harris: Somebody needs to be
prescriptive about the timetable but in my view that is not a
role for the department. Network Rail is responsible for the infrastructure.
It is more appropriate for them to tell a franchisee that a train
should be at 23 minutes past than, in some of the latest franchises,
where it specifies a particular train time. I would be worried
that that could potentially reduce the capacity of the railway
in the future if Network Rail has to go back to try to argue with
the department to have it changed. Specifying that there should
be an hourly train service from A to B on this line is fine but
some of the more recent documents have been much more prescriptive.
Q246 Mrs Ellman: We have had evidence
that Network Rail do exert influence on franchises and are unduly
restrictive and stop developments. Have you any evidence of that?
Dr Harris: Someone else referred
in the past to a pendulum over the last 10 years where, straight
after franchising, people offered all sorts of train services.
When Network Rail came in with costs and performance for their
objectives, they put a stop to that. There are some signs that,
whilst Network Rail might have been a bit negative about things
two or three years ago, they are now also being able to take some
of these business decisions with TOCs and the government. I am
persuaded of the view that we should still keep an eye on the
problem.
Q247 Mrs Ellman: Are there any other
views on Network Rail's influence and whether it is for good or
bad?
Dr Brown: I would agree with Dr
Harris's comments that we are seeing the interfaces between different
parts of the railway on the whole better managed in more of a
spirit of partnering than there has been over the last 10 years
when there was a good deal of conflict between different parts
of the network, perhaps because of the different objectives that
they were set. Whilst Network Rail has the responsibility to manage
costs and performance, they would appear to be embracing the need
to support franchising and, where possible, the implementation
of new services.
Mr Segal: I broadly agree.
Chairman: If you broadly agree, if you
forgive me, we will move on.
Q248 Clive Efford: Mr Segal, you
said that when the government carries out an assessment or the
Office of the Rail Regulator or whoever does an assessment of
the performance of a franchise that any innovation they have done
that is outside the specification within that franchise cannot
be taken into consideration in that performance. Is that true?
Mr Segal: That is not quite what
I said, I hope. You have to put in a bid which is absolutely compliant
with the base specification. You can add some things on top. If
you include them in your bid they will be taken into account.
If you want to change something in the base specification, even
though everybody will say, "Yes, that is a beneficial change",
that cannot be taken into account if it is taking anything away
from that base specification.
Q249 Clive Efford: If there is a
form of innovation that responds to shifts in the market and meets
the passengers' needs more effectively, there is no leeway for
going back and saying, "We need some flexibility"?
Mr Segal: The government may choose
to take that but in terms of the evaluation—is your bid
better than his bid?—they have to go on response which includes
and is perfectly compliant with the base specification.
Q250 Clive Efford: Once the franchise
has been—
Mr Segal: Once the franchise has
been issued and let or agreed that it will go to party X, there
is the opportunity for changes.
Q251 Clive Efford: It is not fixed
for a period of time?
Mr Segal: No.
Q252 Clive Efford: There is that
flexibility there.
Mr Segal: Yes, to agree changes.
Q253 Clive Efford: There is the opportunity
to innovate within this system.
Mr Segal: There is some opportunity,
yes.
Q254 Clive Efford: How detailed should
a franchise contract be? On the issue of who benefits from all
the public money that is invested in our rail system, who should
access it? Should a franchise be specific in the number of turn
up and go tickets that are available at a discount? Would you
agree to a franchise being detailed in that way?
Mr Segal: It is a question of
the balance between the strategies set by government. The specification
does need to protect individuals and members of the public because
it is government money which is going in there. Also, there does
need to be freedom to respond to market conditions. The example
you give of availability of turn up and go cheap tickets is fine
if there is a large capacity. If on a Friday afternoon the train
is already full and there may be 100 people standing on it, what
is the real benefit of saying, "Yes, but anybody else can
still turn up and buy a ticket" which adds further to the
standing on that train? I am not sure there is a benefit and I
think probably the train operator is best able to manage that
process, although clearly there need to be some constraints to
ensure that there are turn up and go facilities on trains as long
as it is done in a balanced way and not to make any monopoly profits.
Q255 Clive Efford: Does anyone else
agree?
Dr Brown: I broadly agree with
that. The specification as it stands identifies the objectives,
the "why". They normally specify 15 to 25 plans that
are required from franchisees covering issues like man management,
crowding, personnel management, rolling stock maintenance et cetera,
which is the "what" part of the franchise. These requirements
are specified but how these things are delivered is normally left
for franchisees to determine. The approach to pricing and ticketing
and what is the specification of new rolling stock are generally
left for franchisees to determine. There is reasonable leeway
within the specification for innovation. Most of the specification
is timetable related.
Q256 Clive Efford: Who bears the
risk of investing in new rolling stock? Is it train operating
companies, the ROSCOs or is there a grey area of overlap?
Dr Brown: I guess it is a mixture
of all three. The long term residual risk will be borne by the
funders of the rolling stock. The medium term availability and
maintenance risk will be borne by the ROSCO and the short term
risk which is built into the lease, which might be five to 10
years, is borne by the operator. The risk is apportioned over
the various parties who, it is thought, are best able to carry
that risk.
Mr Norgate: You probably saw me
smile when you asked the question because this is exactly what
the department has challenged the ROSCOs about at the moment because
of the high level of profit within the rolling stock industry
as it stands. Implicitly, the residual risks are being put back
into the leasing charges in a way that I do not understand and
I think the risks are borne by the industry rather than the ROSCOs
themselves.
Q257 Clive Efford: We have received
evidence that suggests that risk has not been transferred from
the public sector to the private sector on the railways because
of the fact that it is so essential to the economy. The government
could not ever let the railway collapse. Would you care to comment?
Mr Segal: I essentially agree.
Some risk is borne by the operators but it is a relatively small
amount. They have £10 million to £20 million invested
in this. If it is making £400 million turnover, that is a
hugely small investment and they can walk away from it if necessary.
They lose some credibility but they can walk away. The government
would have to make sure the train services run and it can refranchise
and relet it. The big risk is, if there is a downturn in the economy,
almost all the train operating companies will find great difficulty
on their revenue line and that means the government will end up
bailing it out. As the saying goes, if you owe the bank five pounds
you are in trouble; if you owe the bank five million, the bank
is in trouble. In this case, the government is in trouble because
if it has to relet all the franchises at once it is going to get
lower bids for them. That is an unavoidable risk. The economy
is the government's risk.
Dr Harris: There are also some
upside risks. Some of the franchises have what is described as
a `cap and collar' arrangement where the government tries to limit
this risk but we are aware of situations where train operators
have not made an investment because the economy has done well
for three or four years in a row. They are already at the top
of the band which they can operate in, so they are effectively
being offered a project that can only give them half the return
because the government is creaming them off again. We are aware
of circumstances where things are not happening, investments are
not taking place, because of the opposite.
Chairman: You are making the most effective
case I have ever heard for renationalising the railways.
Q258 Mr Martlew: Can you think of
any way that the franchisees could be made to take more responsibility
for risk? Should they put a bond in?
Mr Segal: They do put a performance
bond in and that does help a bit. Do you want them to take more
risk, because if they do they will price it into their bid and
the base bid will be more expensive. The reason the returns and
the percentage returns are so low is because there is not much
risk.
Q259 Chairman: It is not exactly
minimal, is it? Any railway system that costs five times more
than it did when it was a state run system is not exactly a small
innovation, is it?
Mr Segal: No.
Chairman: I am sure it is fantastically innovative,
brilliant and produces very high standards which somewhere along
the line I have not noticed but nevertheless it costs five times
more than it did when it was that poor old, state committed, held
together with string organisation called British Rail which actually
worried about customers.
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