Select Committee on Transport Second Report


1  INTRODUCTION


1. The Secretary of State for Transport told this Committee that the collapse in July 2007 of Metronet, one of the two private sector consortia that had signed three 30 year contracts to renovate and modernise sections of the London Underground network, was a "terrible failure".[1] She said:

    Metronet's failure has cost its shareholders significant sums and damaged the reputation of those companies involved. Importantly, Metronet's failure let down Tube travellers, London Underground and taxpayers. […] It remains essential that we continue to improve the Tube and minimise the risk of additional costs falling to the taxpayer or passenger and find a way forward that delivers the best value for money. It is of great importance to us that we fully understand why Metronet failed so that we can learn the appropriate lessons for the future. I am completely committed to doing that and this Committee's hearings and its conclusions will, of course, be important in that process.[2]

2. Like the Secretary of State, we recognise the importance of learning lessons from a Government initiative that has resulted in significant unforeseen costs to the public. We therefore decided to conduct a short inquiry in order to identify the key reasons for Metronet's failure and make recommendations about the future delivery of the vital improvements to the Underground.

Background

3. The Government announced its proposals for modernising the London Underground network by means of Public-Private Partnership (PPP) agreements in 1998. London Underground Limited entered into three separate PPP Agreements between December 2002 and April 2003:

a)  with Tube Lines for the maintenance and renewal of the Jubilee, Piccadilly and Northern Lines;

b)  with Metronet Rail BCV for the maintenance and renewal of the Bakerloo, Central, Victoria and Waterloo & City Lines; and

c)  with Metronet Rail SSL, which is responsible for the maintenance and renewal of the "sub-surface lines": the Circle, District, Hammersmith & City, Metropolitan and East London Lines.[3]

Under the PPP Agreements, which are for 30 years, these private sector infrastructure companies (Infracos) maintain, renew and upgrade discrete parts of London Underground's infrastructure. London Underground remains responsible, in the public sector, for delivering services to customers. The Government estimated at the time that the PPP would realise over £16 billion of investment in the Underground over the first 15 years and that £4 billion would be saved over the same period.

4. The PPP Agreements set out a performance-related incentive and penalty scheme to remunerate the Infracos for the improvements they make to the network. The Infracos have a large degree of flexibility in how they choose to deliver improvements but London Underground also specify a number of achievements that must be met by given target dates, such as station refurbishments, replacement of train fleets and track replacement. The Agreements also contain provisions for a Periodic Review of the contractual obligations and remuneration every 7½ years, the first of which is due in 2010. These reviews are conducted by the PPP Arbiter, an independent office-holder appointed under the Greater London Authority Act 1999.[4] The prices submitted in the bids from the Infracos are only fixed for the first of the four 7½ year periods, in which the Infracos' obligations focus on reliability improvements, station works and initiation of line upgrades, which are long-term projects generally spanning the first and second contract periods.

5. However, the Agreements contain provisions for an Extraordinary Review where an Infraco considers that it is incurring additional costs above the level allowed for in its bid. This effectively allows an Infraco to claim additional remuneration from London Underground where its costs exceed the level that it had originally anticipated. These additional costs are known as "Net Adverse Effects" and are calculated by reference to the additional costs which would be incurred by an Infraco operating in an overall efficient and economic manner and in accordance with Good Industry Practice. Where Net Adverse Effects in a 7½ year Review Period exceed the contractual "Materiality Threshold" (i.e. the limit below which additional costs cannot be claimed by the Infracos) the Arbiter can direct that the Infrastructure Service Charge (ISC) payable by London Underground should be increased. The PPP Agreements also envisage that the Arbiter can be asked to give directions on an interim adjustment to ISC pending completion of the full Extraordinary Review.

Metronet's failure

6. In May 2007 Metronet admitted that it was expecting an overspend of more than £1 billion[5] and in early June it was reported that the company had been refused access to its loan facilities by the banks.[6] On 28 June Metronet BCV made a reference to the PPP Arbiter, triggering an Extraordinary Review, and sought a direction on the interim level of Infrastructure Service Charge (ISC) to be paid by London Underground while the Review was being completed. Metronet claimed for an increase in ISC of £551 million over the twelve-month period from the date of the reference.[7]

7. At the time Metronet Chairman, Graham Pimlott, made the following statement:

    Metronet entered into the Public Private Partnership in good faith. Where we have made mistakes our shareholders have borne the cost. However, the PPP terms are clear—where additional spending is required to meet London Underground's demands, then we are entitled to be paid. It's disappointing that we have been unable to reach a mutually acceptable solution with London Underground, therefore we are now left with no option other than to begin this process of Extraordinary Review.

    We have advised London Underground over the last 18 months that their insistence on the present high specification for the stations upgrade programme, is rendering the programme unaffordable and will result in a great deal of further overspend.

    About half of the £992 million we are seeking relates to additional economic and efficient projected costs beyond the beginning of July 2008. London Underground can still save money through such measures as de-scoping.

    Metronet's shareholders remain fully supportive—and we are confident of a large recovery from London Underground.[8]

8. On 16 July the PPP Arbiter provisionally concluded that the interim level of ISC, based on what would be appropriate for an Infraco performing in an efficient and economic manner, should in fact be increased by £121 million.[9] The Metronet Infracos went into Administration on 18 July 2007.

9. On 21 September 2007, the Arbiter published the results of his initial analysis of Metronet BCV's request for an increase in ISC for the first 7½ years of the contract.[10] While Metronet BCV claimed for an additional £992 million, the Arbiter's view was that the appropriate figure for an efficient company would be in the range £140-470 million. The Arbiter had also reviewed the financial model for Metronet SSL, which shows an underlying increase in costs of some £1.1 billion, and considered that the potential scale of the increase in efficient and economic costs recoverable by Metronet SSL likely to be in the range £230-600 million.

Transport for London's bid for Metronet

10. After Metronet entered administration the Mayor of London signalled his aspiration for Transport for London to take over Metronet and restructure its contracts for maintaining and renewing the network.[11] The Mayor wanted to bring the maintenance element of the contracts back into the public sector, and let individual contracts for the upgrade and major investment work.

11. On 25 October Transport for London announced that it had lodged a formal bid to take control of Metronet[12] and on 6 November the PPP Administrator confirmed that Transport for London's bid was the only one that had been received for Metronet.[13] The people and assets of the two Metronet companies will now be transferred into two Transport for London nominee companies to be managed on a stand-alone basis while the long-term structure is agreed. The Administrator confirmed to us that he was working towards transferring the Metronet Infracos into the control of Transport for London by around the middle of January 2008.[14] The Arbiter had proposed a timetable for completing the Extraordinary Review process, with the publication of draft directions on efficient costs scheduled for 12 November 2007. However, the reference requesting an Extraordinary Review was withdrawn by the PPP Administrator on 31 October.[15]

Longer-term delivery of the upgrades

12. Meanwhile, discussions are ongoing between the Government, the Mayor of London and Transport for London as to the appropriate way to undertake the maintenance and modernisation of the Underground in the long-term. Although the Secretary of State told us that long-term management of the work would be the responsibility primarily of the Mayor of London and Transport for London, she indicated that the Mayor had agreed to work closely with the Government to determine the appropriate "vehicle" to deliver the upgrades in an attempt to secure the best value for money in the future.[16] She was "completely open-minded" about the outcome of those discussions and said that she was "not in the business of imposing anything on anyone". She said that there was an argument in principle for asking the private sector "to deliver in the most innovative manner it can" but acknowledged that this might not represent the best value-for-money option.[17]


1   Q 388 Back

2   Q 318 Back

3   The sub-surface lines are those originally built using the cut-and-cover method. See Wolmar C, The Subterranean Railway (London, 2004), p. 4. Back

4   Ibid., pp 225-237 Back

5   "Tube contractor pins hopes on review as overshoot hits £1bn", The Guardian, 23 May 2007 Back

6   "Metronet in cash plea", The Sunday Times, 3 June 2007 Back

7   See "Arbiter's draft directions on Interim Infrastructure Service Charge ("ISC") for Metronet BCV", Office of the PPP Arbiter press release 03/07, 16 July 2007.

 Back

8   "Metronet Rail BCV launches PPP Extraordinary Review", Metronet press release, 29 June 2007 Back

9   "Arbiter's draft directions on Interim Infrastructure Service Charge ("ISC") for Metronet BCV", Office of the PPP Arbiter press release 03/07, 16 July 2007 Back

10   PPP Arbiter, Reference for Directions from Metronet Rail BCV Ltd; Directions on Form and structure of Extraordinary Review and Net Adverse Effects and Infrastructure Service Charge at Extraordinary Review; Initial thoughts, 21 September 2007 Back

11   For example, at Mayor's Question Time on 12 September 2007. Back

12   "Transport for London bids for control of Metronet", Transport for London press release, 25 October 2007 Back

13   "PPP Administrator Ernst and Young confirms Transport for London as only bidder for Metronet", Transport for London press release, 6 November 2007 Back

14   Q 282 Back

15   "Metronet Rail BCV Ltd withdraws its reference for Extraordinary Review", Office of the PPP Arbiter press release, 31 October 2007 Back

16   Q 349 Back

17   Qq 349-355 Back


 
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Prepared 25 January 2008