Supplementary memorandum from the PPP
Arbiter (PPP 01a)
INTRODUCTION
1. This submission supplements my initial
submission of 27 September 2007 and my oral evidence given on
17 October. It addresses in particular the information available
to me in 2005 about the performance of Metronet, and explains
further why I consider that some of the subsequent problems could
have been mitigated had I been asked to prepare an Annual Report
on Metronet in 2005.
2. Such a report would have identified:
— the scale of the shortfall in
delivery by Metronet, in particular on the stations and track
programmes;
— the emerging projected overspend,
which by late 2005 already exceeded the Materiality Threshold
for Metronet BCV; and
— weaknesses in financial and
risk management, and in management of the supply chain.
ROUTINE MONITORING
INFORMATION
3. I set out my initial requirements for
routine information from the PPP Parties in January 2004.[5]
These requirements included:
— information to enable me to
gain a high level understanding of the Infracos' actual and forecast
costs and revenues (specifically, the financial models that the
Infracos were required to provide to their lenders);
— additional information to provide
updates of progress on capital works; and
— information regarding the performance
of the Infracos under the PPP performance regime.
In addition, I required the Infracos to provide
me with the monthly reports prepared for their Boards and, in
the case of Metronet, the reports produced for each of the main
supply chain contracts.
4. During 2004-05 the provision of these
items became routine, with information provided to me by the Infracos
and London Underground on a 4-weekly cycle, as reported in the
my 2004-05 Annual Report.[6]
That Report included a high level review of Infraco performance
which demonstrated, for example, that Metronet had not delivered
into service any of the eight stations due to be completed by
31 March 2005. Additional detail was provided in London Underground's
own report,[7]
which concluded that "there has been some progress in the
delivery of renewals but again this is inconsistent and significant
parts of the capital programme are late, particularly for Metronet."
PREPARATION FOR
2005 METRONET REPORT
5. Metronet's PPP Agreements include an
explicit provision for each Infraco to seek a "definitive
statement" as to whether the Infraco has performed its activities
to date "in an overall efficient and economic manner and
in accordance with Good Industry Practice" or not, in each
year apart from the first contract year. If, as originally expected,
the contract had been signed before 31 March 2003, the first report
by the Arbiter would therefore have covered the period to 31 March
2004; in the event, the contract was not signed until 4 April
2003, meaning that the first expected report would cover the period
from Transfer to 31 March 2005.
6. The PPP Agreement does not itself require
Metronet to make a reference for the annual report. However, under
the terms of its agreements with lenders, a waiver is required
if the reference is not made by 30 April in each year.
7. Given the original expectation was for
a report to be produced in 2004, I proposed to Metronet that a
"practice run" should be undertaken in 2004 to allow
procedures and data availability to be tested in preparation for
the 2005 reference. However, I was told by Metronet on 6 April
2004 that the Holdings Board (which principally comprised the
shareholder representatives, then under the chairmanship of John
Weight) had decided not to cooperate with this exercise as it
would be "unhelpful in terms of our longer term objectives
of improving Metronet as a business".
8. Preparations for the 2005 report continued
through 2004, and on 30 March 2005 I wrote to Metronet setting
out my proposed approach. This followed confirmation on 23 February
2005 from the then Chief Financial Officer that, subject to confirmation
at the March 2005 Holdings Board meeting, it was "highly
likely" that the reference would seek directions on Eligible
Costs and Eligible Infrastructure Service Charge in addition to
the definitive statement. Such a reference would therefore have
required me to put a precise figure on the extent to which cost
overruns (and revenue shortfalls) to date had been efficient and
economic.
9. However, on 6 April 2005, I was invited
to meet Tim O'Toole and John Weight and was told that they had
agreed that Metronet should not make a reference at all. John
Weight subsequently confirmed this in writing, attaching a letter
to him from Tim O'Toole dated 4 April which set out London Underground's
view that "the time and effort required of the contract parties
to give [the reference] proper engagement would be better directed
to normalising the relationship between us in terms of provision
of information, AMS/AAMP[8]
development, MPD[9]
submissions and commercial resolution of outstanding issues."
10. Despite John Weight resigning as Executive
Chairman of Metronet within a week of this meeting, the decision
not to make the reference stood. Metronet confirmed to me in May
2005 that it had received the necessary waiver from its lenders.
WORK ACTUALLY
UNDERTAKEN IN
2005
11. In place of the Annual Report reference,
Metronet and London Underground agreed to work together during
2005, with my involvement, to prepare for a reference in 2006.
I wrote to John Weight on 12 April (the day before his resignation),
setting out my view that the agreed work programme should deliver
"all the information required, not only by LUL but also by
myself, to make an effective assessment of economy and efficiency
in line with contractual provisions." My expectation was
therefore that there would be a full "practice run",
reviewing the whole of Metronet's activities and financial information.
12. In the event, the exercise was more
limited than this, and concentrated on agreeing the basis for
identifying variances in financial projections and reviewing some
extracts from the expected 2006 reference submission. Nonetheless,
on the basis of this work which was undertaken jointly with London
Underground, it became clear by November 2005 that the apparent
underspend in the 2005 Annual Asset Management Plan actually represented
an overspend above bid levels when contractual variations were
taken into account. The increase was well above the Materiality
Threshold in the case of Metronet BCV. It was also clear that
there were weaknesses in Metronet's financial and risk management,
and in its management of the supply chain.
13. Had a reference been made for an Annual
Report in 2005, it therefore remains my view that this would have
identified many of the weaknesses that were set out in the 2006
report. In particular, a 2005 report would have made it clear
at an early stage to shareholders and lenders that some of the
costs to date had not been incurred by Metronet in an efficient
and economic manner, and were not therefore recoverable from London
Underground, and that early action was therefore essential if
financial difficulties were to be avoided.
November 2007
5 Routine Provision of Information to the PPP Arbiter:
Initial Requirements, 19 January 2004, at http://www.ppparbiter.org.uk/files/uploads/g-proceduralFrameWork/200621015756-Provision%20of%20Information%20to%20the%20Arbiter%20-%20Initial%20Requirements%20(19-01-04)%20DM6520v1.PDF Back
6
The PPP Arbiter: Annual Report and Accounts 2004-05, 2 August
2005, at http://www.ppparbiter.org.uk/files/uploads/a-annualReports/2006210163231-The%20PPP%20Arbiter's%20Annual%20Report%20&%20Accounts%202004-05%20(02-08-05)%20DM11266v1.PDF Back
7
London Underground and the PPP: the second year 2004/2005: Report
for financial year ending 31 March 2005, 27 July 2005, at http://www.tfl.gov.uk/assets/downloads/LULPPP-Financial-Report-04-05.pdf Back
8
Asset Management Strategy and Annual Asset Management Plan. Back
9
London Underground's Master Projects Database. Back
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