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INFORMED SOURCES November 2001

Byers blitzes Railtrack

Railway in crisis; refugees flee shambles; heavy collateral financial damage; Government examines our manifesto .

After the Government threw the railway industry into crisis by forcing Railtrack into insolvency on 6 October, there was a strong temptation to paraphrase Pitt the younger and write ‘Roll up that strategic plan; it will not be wanted these 10 years' and go AWOL. But since readers expect this column to cast some light on what is going on and what the implications might be, and since railwaymen and women throughout Railtrack, while seething with rage, are fighting to keep the railway going, duty calls. So on with the rubber gloves; let's start the autopsy.

With the benefit of hindsight, Railtrack's descent into administration began on January 14 when the company's Board reversed the decision, taken only two days previously, to challenge the Rail Regulator's final conclusions on his Periodic Review of track access charges. Railtrack Chief Executive Steven Marshall calls the regulatory review ‘disastrous', which begs the question, why did his board accept it? .

He didn't have to. At the time, Rail Regulator Tom Winsor made the point that he had given Railtrack the right to challenge his decision before the Competition Commission. Naturally, he hoped that they wouldn't use this right.

Control

Because Railtrack is a state subsidised monopoly, the amount Railtrack can charge for track access is set by the Rail Regulator over five year terms known as Control Periods (CP).

Since the first Control Period (CP1) started when Railtrack was floated in April 1996, during 2000 the Regulator had to determine the access charges for CP2 starting in April 2001. Conveniently, the Government's 10 Year Transport Plan published in 2000 covered the lives of CP2 and CP3, although both are now meaningless concepts, as is, quite possibly, the railway part of the Plan.

In July 2000, Winsor published his draft conclusions. Railtrack had asked him for £16.1billion to cover its costs during CP1. The figure for CP1 had been £12.9billion.

Winsor, provisionally, hacked Railtrack's figure back to £14.2billion. The savings were made up of £0.5m added to Railtrack's asset base on which it would earn a return in CP3, another £0.5billion came off Railtrack's ‘pre-efficiency' projections and £0.9bn from further efficiency improvements.

Inefficient

Remember, these figures are pre-Hatfield. Railtrack is seen as a bloated, inefficient ex-state-railway making profits of £1million a day. Clever consultants are telling Tom that there are lots of savings to be made in Railtrack's maintenance and renewal costs.

Winsor calls for cost savings of 4.2% a year throughout CP2. Meanwhile at Railtrack, under ‘Project Destiny' yet more clever consultants have been telling Chief Executive Gerald Corbett, that with a policy of patch and mend, infrastructure assets will last a lot longer before they need to be renewed.

On October 23 (note the date), 2000 Winsor published his final conclusions on access charges. He had listened to Railtrack's pleas for more cash and had allowed £14.9billion for operations, maintenance and renewal. The efficiency savings had been ‘eased' to 3.6% a year.

An important change was the decision by the Government and the Shadow Strategic Rail Authority that £4.7billion would be paid directly to Railtrack as grants, mainly to cover the West Coast Route Modernisation cost over-run. As a result, track access charges to the TOCs under the Review would fall by 11% in 2001/02.

We'll see you right

On 17 November Gerald Corbett resigned and Steve Marshall took over as Chief Executive. This was seen as a good thing, because Gerald was forever arguing with the Regulator about costs and performance and generally getting up Winsor's nose. Mild mannered Marshall was much more emollient than hyper-active Gerald and the Railtrack/ORR frontier went quiet.

Even so, the Railtrack Board was still not happy with the Periodic Review, quite rightly, as it turned out. But then a deal was struck to provide more cash.

Railtrack agreed that the costs of the Hatfield Accident and the subsequent National Recovery Plan and the over run on the West Coast Route Modernisation in CP1, would be ‘fully borne' by its shareholders . In return, around £4billion of direct network grants introduced in the 10 Year Transport Plan and due to be paid over CP2 and CP3 would be brought forward. The Regulator would expedite an interim review to allow £1.5billion of these grants to be paid early, starting in October this year.

Note, the £1.5 billion was not new money. But the Rail Regulator also said that would consider a second Interim Review if/when Railtrack made ‘a compelling case' for more money in 2002. He also told Railtrack to stop hawking its begging bowl round Whitehall . But that was very much the mood of the moment.

So on 14 January, the Railtrack Board changed its mind and accepted what would be revealed as an increasingly inadequate income on the basis of the Government, the SRA and the Regulator promising, ‘we'll see you're all right'. Equally, naively, they had also accepted a revised performance regime for CP2 which meant that train operating companies paid Railtrack much less for delays they caused, while Railtrack paid TOCs more at a time when it was piling up delay minutes.

As result, in addition to soaring maintenance and renewal costs, Railtrack was haemorrhaging cash. This has been largely overlooked in all commentary on the collapse, but in accepting a more penal regime showed that Railtrack did not understand the basics of its business.

New broom

When John Robinson joined as Chairman in June this year, the financial situation was already untenable. Robinson, who comes across as an almost stereotypical bluff no nonsense Yorkshire engineer, soon realised that things were worse than he imagined.

Unfortunately, Robinson was an outsider. I have absolutely nothing against outside talent coming into the railways. Indeed some of my favourite informed sources came into the industry from outside.

But FNBs have this terribly dangerous initial six months to a year or so when they think railways are primitive managerially and technically, that operating a railway would be easy if only you brought some bright managers/engineers/off-the-shelf real world technology into this antediluvian industry.

Robinson was particularly exercised by the bureaucracy in his new regulated business. So when in July he went to Government in search of more money he wanted Railtrack to be taken out of the Regulatory regime for three to four years. He wanted to go back to a proto-BR relationship where Railtrack was funded directly by Government, receiving an equity stake in the company in exchange for £3-4billion in additional subsidy.

Fatal error. It had been absolutely clear to anybody who had been listening that Winsor was expecting to be asked for more money and had positively begged Railtrack to seek the expected interim review during 2002.

Under the 1993 Railways Act the Regulator has a duty to ensure that Railtrack has the funds necessary to carry out its business. He also decides how much Railtrack needs. Put bluntly, if Winsor decided that that Railtrack needed another billion or three, Railtrack got the money and the SRA and the Government would have had to cough up.

Winsor's interim review caused great ire at the SRA because it gave Railtrack money to run the daily business that the SRA intended to spend on the 10 year transport plan.

So there was Tom gagging to give Railtrack the money, if only to demonstrate to SRA Chairman Sir Alastair Morton who's the guv'nor in the railway manor. There was Tom giving the broadest of hints that the money would be available. And there was John Robinson scorning the regulatory umbrella and asking the Government for a direct cash injection into what the Treasury was already seeing as a bottomless pit.

See what I mean about FNBs? Because Robinson had taken on responsibility for the negotiations. As Steve Marshall emphasised in his resignation statement, he had not has the chance to explain the situation to Byers personally. Scorning the Byzantine structure of the railway and its finances, inexperienced in political knife fighting, Robinson persuaded Marshall that he and Byers could sort out Railtrack's future mano a mano rather than going in to see the DTLR mob handed.

Mind you, Marshall too, seemed to have misread Winsor's body language. In his resignation statement he said he would leave the industry with regret, adding, ‘Many are surprised to hear that it is full of bright and able people (that's you, dear reader) whose energies and initiative are constricted to intrusive and largely uncontrolled over-regulation'.

Well, yes and no. I appreciate it is unfashionable to give the ORR any credit for anything, but its ‘intrusive regulation' had spotted the deteriorating track quality and increase in broken rails and demanded Railtrack do something about it well before Hatfield.

And bearing in mind that expenditure for CP2 was nearly 30% up on CP1 and expected to increase by another 20% plus if the extra £2.5billion was forthcoming in the expected interim review, as a taxpayer I would want the Regulator who decided that my money should be spent in this way to be very intrusive indeed.

Ford Factor

So why all the extra money – even before Hatfield. The official Railtrack view, as expressed by Steve Marshall, is that there was underspend on infrastructure maintenance and renewal over the last ‘five to ten years' and that the infrastructure was rotten when Railtrack took over from BR in 1994. But I suspect that the underlying problem is the Ford Factor – the 2.5 times increase in the cost of like-for-like work compared with British Rail.

While I based the factor on upgrades and modernisation projects, the same root causes apply to all civil engineering work. Possessions are limited, contractors are wading through contractual treacle, track safety is, rightly, more stringently monitored and so on. Thus while Railtrack is spending more on maintenance and renewal, it is getting less work on the ground for its money.

So now we have two Ford Factors. The original FF <subscript p> is 2.5 and applies to projects. The new factor FF<subscript m> is provisionally set at 1.5 but is almost certain to increase as contractors exploit Railtrack's weak position in administration.

Ariel and Rainbow

Railtrack's new financial regime, codename Project Rainbow, saw the company taken out of the Regulatory system for there to four years, accompanied by the injection of an extra £3.5 billion by the Government. At the end of this period, Railtrack would be profitable. You have to be pretty bright to tell a Labour minister ‘give us lots of public money and we'll be raking in profits again'.

Even worse, from a bargaining point of view, the Project Rainbow presentation emphasised the company's weakness. The choice for Government was either nationalisation, adminstration or take Railtrack out of the Regulator's control and give it very large sums of money.

Giving Stephen Byers, Secretary of State for Transport, Local Government and the Regions and his team credit, they had seen this coming, since John Robinson had ignored the Regulator's warning and started hawking his begging bowl round the Department back in July. That month the DTLR had commissioned a city firm to analyse Project Rainbow and plann a counter strike code named Project Ariel.

Warning signs

And there were signs of the coming offensive had I examined the satellite photographs and the SIGINT diligently.

On 17 September Bob Linnard, Director Railways in the DTLR circulated a four page note detailing ‘some changes in the organisation of Railways Directorate principally to reflect a substantial increase in work on the domestic railway since the election'.

‘Some changes'? More like a mobilisation for a major offensive. But I assumed that Linnard was massing his tanks to invade the SRA (watch those military analogies, Ed) and micro-manage the railway. Perhaps that was one aim, but I suspect that Ariel was the real purpose and killing two birds with one stone was a bonus.

There were other signs. At the Labour Party conference on 2 October, Prime Minister Tony Blair, defending the role of the private sector in the public services referred to parts of the privatised railway as a ‘disaster'. There was also the seminar on 19 September, organised by the IPPR think tank, which is close to New Labour, at which the transformation of Railtrack into a ‘not-for-profit trust' was outlined to a small group which included the Transport policy special advisor in the 10 Downing Street Policy Unit and Byers' special advisor.

Black Friday

Project Ariel was based on forcing Railtrack into Administration under Clauses in the 1993 Railways Act originally intended to keep services running if a train operating company went bust. Shortly after the seminar was held accountants Ernst & Young were asked to look at contingency plans for putting Railtrack into Administration in this way. According to a partner. ‘we were told there was the possibility of something happening. And even before that Bankers had been consulted on the subject.

Railtrack's own analysis provided the incentive to strike. If Railtrack was close to running out of money, holding back the revenue grant, which the SRA had promised to use its ‘best endeavours' to provide by October 1 2001 would push the company over the edge. Byers could then put it into administration.

Only one person could foil this cunning plan, the Rail Regulator. He could launch another interim review and cover the funding gap.

So at 16.00 on 6 October Byers met Tom Winsor in Eland House, the DTLR headquarters in Victoria and told the ‘independent regulator', that if he tried to initiative an interim review, the Government would rush through emergency legislation to take away the Regulator's powers.

As Winsor left at 16.45, John Robinson walked alone into the ambush with all the confidence of a man new to the railways and the deviousness of politicians and with a poor impression of Railtrack management. And was duly massacred. Robinson was told that Project Rainbow was dead, that the SRA's cheque was not in the post, that Railtrack was thus technically insolvent and the Government was putting the company into administration under provisions in the Railways Act 1993. Project Ariel was go.

Explaining his dramatic move later, Byers said that the Government could not justify any more additional public money for Railtrack. ‘We provided a substantial package of financial assistance in April, but the company came to me in July asking for additional public subsidy. They subsequently also requested suspension of the regulatory regime'.

According to Byers, Railtrack's costs and performance penalties are expected to exceed the Regulator's October 2000 Periodic Review plus the Government's April rescue package, by more than <\#163>2bn over the next five years.

This estimate excluded both the additional costs following Hatfield and the overruns on current major projects. Byers claimed that the cost of the West Coast Route Modernisation ‘may now exceed £7bn'. The official potential figure is £8.2billion

Collapse of stout party

But Robinson seems to have folded. He could have called a press conference there and then. He could have asked the Regulator for an interim review, calling the Government's bluff – legislation to neuter Winsor would take time. He could have resigned with the entire Railtrack board leaving the rail Network without a Railway Safety Case. Instead Railtrack seemed to accept its fate. Until Steve Marshall took control.

Mea Culpa. I had categorised Steve as an expert bean counter, but no ball of fire. Wrong call. Still waters run deep and deep down Marshall who, like the rest of us lifers, had been won over by the railway, was very angry at the way his company had been treated.

On Sunday 8 October my fax chattered out a ‘personal statement from Steve Marshall' and I realised that I had misjudged the man. He announced that that morning he had tendered his resignation and described the government's treatment ‘of my company and its shareholders' as ‘shoddy and unacceptable'.

In a bitter attack on Byers and the Government Marshall said that ‘commitments, whether financial or otherwise are made to be kept not broken'. He added, ‘Mr Byers will learn that 40 year old rails are broadly neutral on the public private partnership debate. Either way they need hard cash to replace them and soon. The needs of the rail network are huge and will not go away. It is a pity I have never had the opportunity to put it to him personally'

There were also a swipe at Tom Winsor, who constrained the energies and initiatives of ‘the bright and able people' in the railway industry by ‘intrusive and largely uncontrolled regulation'.

Claiming that ‘real progress' was being made in recent months, including the ‘accelerating' roll out of the Train Protection & Warning System, Marshall observed, ‘It's an odd time for the state rug to be pulled from under us'.

Crass

It didn't help that Byers then fingered John Robinson.

Also out of the fax machine that Sunday was Byers statement on the Railtrack affair. Outlining his plans to turn Railtrack into a not-for-profit trust he said "I hope that John Robinson will become Chairman of the proposed new network operator. He has the Government's full confidence. He only recently joined Railtrack and has worked hard to tackle the huge problems the company faces. I believe John Robinson can make an important contribution to rebuilding the industry.

So, having humiliated the Railtrack Chairman and forced his company into insolvency, Byers still thought that Robinson would be willing to work for a demonstrable two faced load of weasels. After all, he had ‘only recently joined Railtrack' so the financial mess was not his fault.

Robinson was already compromised. He had, allegedly, been offered the job at the fateful meeting and mentioned this on his return to Railtrack House. Had he thrown the offer back in Byers' teeth we would have cheered. That he said nothing and that the Government was so confident that he would accept the offer that they gave him a saccharine ‘hello' in a press release inevitable raised the suspicion that perhaps he had been squared by the DLTR.

Whatever, it was not until late on Monday 9 October that Robinson responded. And his response was, compared with big Steve's fiery blast, luke-warm.

‘While I appreciate the Government's offer of trust chairmanship I could not contemplate accepting such a role should it bring me into conflict with my first priority, which is achieving maximum value for shareholders of Railtrack Group. It is now apparent that I am not able to concentrate wholly on that priority without clarifying my intentions. Consequently I have confirmed to Government that under the circumstances created by their treatment of Railtrack Group shareholders I am unable to accept their offer'.

Now I may be missing some heavy irony here, or the lawyers may have crawled all over the draft, but that ‘should it bring me into conflict' reminds me of Emperor Hirohito's comment after Hiroshima and Nagasaki that the war had not necessarily turned out to Japan 's advantage.

Significantly, from then on it was Marshall who took the lead in meetings, read out the press statements and appeared on the Frost Programme, if anything, getting even more robust and eloquent in his denunciation of Government's action.

What happens next?

As with everything else in this industry, Railtrack is not that simple. The infrastructure operator with the licence that Byers put into administration is Railtrack PLC, but the company listed on the stock exchange is Railtrack Group. Railtrack Group owns, among other things, the right to acquire and operate phase 1 of the Channel Tunnel Rail Link , having helped rescue the project when the original funding scheme collapsed.

So the fiduciary duty of the Railtrack board is to shareholders and as we went to press it looked as if Group, would get the £370million the banks had frozen and would keep the right to buy and operate Phase 1 of the Channel Tunnel Rail Link, estimated to be work £400m. Other assets bring the value to around £2.30 a share. Marshall is fighting for £3.60 and nothing less.

Continues.........