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INFORMED SOURCES February 2003

Boiling Frogs – now it's £3billion a year subsidy

How do you think all those soaring costs are being paid for? Welcome to my little spreadsheet of horrors

First, some housekeeping. All the costs in the following analysis are at 2001-02 prices. The base data comes from Strategic Rail Authority Annual Reports and from the Rail Regulator's gratifyingly comprehensive web-site.

Normally I would add that any errors or omissions are all my own. However, my confidence in the SRA Annual Reports was shattered during my researches when for one year I found the future subsidies for Midland Main Line totally wrong.

And I mean totally. Not only was the franchise shown as running to 2011-12, but enjoying £10-20million a year subsidy throughout.

So this time mistakes are almost certainly down to me, but not necessarily.

Revelations

Life is what happens while you are trying to get organised. Something I've been meaning to do for some time is get to grips with the financial implications of all the TOCs who have had to be rescued from their over-optimistic franchise bids. With the collapse of Connex South Eastern before Christmas 12 out of the 25 TOCs are on SRA life support.

In the lull between Christmas and the New Year, and with Mrs F's invaluable assistance with keying in the mass of data, I got organised momentarily and produced my rescued TOCs spreadsheet – and discovered that it was not about rescued TOCs at all. That is the beauty of spreadsheets: ordering the cold numbers usually generates interesting revelations.

Not that SRA makes it easy for searchers after truth. In the key table listing franchise payments and premia, previous year sums are given in cash terms for each year – that is not adjusted for inflation. And the subsidies from the Passenger Transport Executives are listed in a separate table. But if you feed all the information into your difference engine the overall picture starts to emerge.

Time was.

Back in 1994, when the Department of Transport published the track access charges for the train operating companies to be, I thought it would be a useful exercise to work out the cost of the privatised railway. The easy bit was filling in the access charges. The hard bit was breaking down British Rail's expenditure and revenue between the 25 TOCs. The really difficult, but ultimately highly profitable, bit was creating a spreadsheet of traction and rolling stock leasing charges. This latter became the GRICER Database which sold well among franchise bidders, financiers and consultants.

All this work indicated that subsidy would double, in 2001-02 prices from £1.26billion in 1993/94 (BR's last year) to £2.44billion. This, of course, didn't allow for all the bits of BR that would be sold off or go into Railtrack.

With the benefit of hindsight my estimate was a bit toppy, but only a bit. The first full year of franchised operation was 1997-98, by which time the early birds were a year into their subsidy profiles and had collectively knocked around £90million off their first year's payments.

Total subsidy in 1997-98 was £1.977billion, so my estimate in the dawn of privatisation had been less than 20% out. Within experimental error and certainly as good as all those TOCs with access to piles of data who got their subsidy profiles wrong..

Anyway, keep that subsidy of near enough £2billion in your minds as we wander even further back to 1982 the year when the foundations were laid for the resurgence of the railways in the second half of the 1980s. BR Chairman Sir Peter Parker said it would prove a turning point in modernising the rail; business – and so it was.

In 1982, labour productivity and train load factors had improved, costs fell. But the year itself was a shocker. The strikes cost £330 million in lost revenue. Subsidy was £1.9 billion, with the same again the following year.

Then, the business led railway, riding its luck on the Thatcher/Lawson economic revival, brought the subsidy down to £867million in 1989/90. After that the boom burst.

In 1991 at one of the regular Monday morning meetings at which Intercity reviewed the revenue figures for the previous week takings were inexplicably down. They were down again the following week and the penny dropped: the next recession had started to hit the railways.

But bear those extremes in mind. At the worst of times, a subsidy of just under £2billion. At the best of times roughly half that amount.

A new regime

Table 1 shows the original subsidy profile negotiated by the Office of Passenger Rail Franchising (OPRAF). One last reminder, we are using 2001-02 prides throughout.

As you can see, subsidy was expected to halve by the time the seven year franchises came up for renewal. It was then expected, by politicians and civil servants, that the falling trend would continue. My chum Michael (don't you believe in private enterprise, Roger) Schabas was moved to forecast that at this rate he could see a day when the railway would be subsidy free.

Table 1

Forecast subsidy payments

OPRAF + PTE

£millions As of March 1997 at 2001/02 prices

Source: Rail Business Intelligence

Table 2

Actual subsidy payments

OPRAF/SRA and PTE.

Source: SRA Annual Reports

Table 2 shows what actually happened. Don't worry about the slight discrepancies in the early years which are probably due to my re-indexing prices and are irrelevant anyway. What you should note is the variation between the predicted subsidy for 2001/02, taken from the 1999/2000 accounts and the actual. I had to take it from that year because in 2000/01 there were gaps in the forward payments because several of the Regional TOCs were being rescued.

CP2 effect

So a slight increase. And this would be expected given that the Rail Regulator's Periodic Review of Railtrack's Track Access Charges came into effect in 2001/02 with the start of the second control Period (CP2)

With the Regulator giving Railtrack more money, track access charges would have to rise, but under Clause 18.1 of their franchise agreements, train operators are ‘held harmless' of any increase in track access charges resulting from a regulatory review.

But when I started this exercise I soon noticed that actual subsidies paid in 2001/02 varied widely compared with the forecast figures dating from before the outcome of the Periodic Review was known.

What the SRA seems to have done is use the CP2 Clause 18.1 adjustments to align individual TOC's access charges with infrastructure condition and spend. The alternative would have been to ‘jam-spread' the CP2 increases pro-rata.

If you don't under stand the Clause 18.1 effect it is potenmtially misleading. For example, the Virgin West Coast ‘subsidy' increased from £57millionb to £190million. Virgin Cross Country went up from £73million to £118.5million. Cue for disgusted of almost everywhere to write ‘Why oh why is the Government handing over even more millions to the Red Empire?'

Bt of course, it isn't; or rather it is, but they are passed straight on to the black tower.

Equally some TOCs got less. Great Western went down from £36.6milliobn to £27.5million. GNER went from a subsidy of £2million to a premium of £29million.

Overall subsidy for the InterCity group of TOCs increased by £124.5million. In contrast, London & South East TOCs saw their subsidies fall by £88million, presumably before the need to upgrade the Southern Region power supply emerged.

Doing the same analysis for the Regional TOCs is complicated by the fact that they are either being renegotiated or run under management contracts. I calculate Regional subsidies went up by £96million in 2002/02.

Overall CP2 added around £33 illion to payments to passenger TOCS some of which, of course, was offset by declining subsidies/increasing premia.

Grants

At which point you may be wondering about the relevance of the headline. Another £30million subsidy isn't the end of the world.

But Schedule 18.1 is only part of the story. When Rail Regulator Tom Winsor determined the new track access charges for CP2, the SRA wanted to minimise the effects on TOCs. As a result, proportion of the extra funding in CP2 is paid as an annual grant directly to Railtrack and now Network Rail.

These grants are specified in Appendix D of the Periodic Review.

While the Periodic Review was going on Tom (busy-busy) Winsor was reviewing rail freight and its finances. His conclusions emerged only after the Periodic Review was completed. The key decision was to halve freight access charges.

Obviously Railtrack/Network Rail had to be compensated for this lost revenue. This required another grant.

Also around this time, Railtrack was feeling the post Hatfield pinch and the May 2001 election was coming. As part of a clearing-the-decks deal the Deputy Prime Minister John Prescott agreed in April 2001 to bring forward £1.47 billion of Government funding from CP3 (2005-11) to be drip fed during CP2. Yet another grant was needed.

Both the freight compensation and the CP3 grants were wrapped up in the April 2001 agreement and detailed in an appendix. Schedule 1 to Appendix II covered the freight and Schedule 2 the brought forward cash.

Table 3

SRA Grants to Railtrack/Network Rail

£million

*minimum figure

Table 3 shows these grants for the years 2001/02-2003/04.

Note that in the case Appendix II Schedule 1, the freight compensation was fixed for the first two years of CP2, but from 2003-04 will be calculated using a formula which takes into account the difference between the freight income allowed for in the Periodic Review and the actual income under the new charges. But a minimum of £100million will be paid in 2003-04.

Schedule 2 payments are Retail Price Index linked, but given the uncertainty over future franchise payments as renegotiation and replacement gets underway, it is not worth getting into such fine detail.

On top of these payments, there was also £24million of freight track access grants paid in 2001/02. I have assumed that these will continue.

Table 4

Total grants and subsidies

£million

*Informed Sources estimate. Includes additional payments to Rescued TOCs

Rising support

This number crunching is summarised in Table 4 and the headline comes into focus. In 2001/2002, when grants are taken into account, the railway got a total subsidy of nearly £1.8billion and will get just over £2.1billion in the current year to 31 March.

In other words, the official figures for last year show that subsidies are back to 1998/99 in terms of subsidy. My estimates for 2002/03 show that the railway will not only get more money than the first full year of franchising, but more even than BR's two direst years ever.

And, as this column is wont to remark, it is even worse than that.

Look at Table 3 where the grants for 2003/04 are a shade under £1.9billion pounds. With franchises ending, under SRA management or being re-negotiated and restructured, too much data is missing for the subsidy to be calculated. But let's give SRA Chairman Richard Bowker the benefit of the doubt and assume he cuts 10% off this years TOC subsidies.

Even if he does that, total support from central and local railways plus grants will be £3billion – 50% more than the most BR ever needed and more than three times BR's requirement at the peak of an economic boom. The boiling frogs are coming home to roost – or whatever frogs do collectively.

Good or bad?

At this point it is very easy for the brain to go into a dichotomy feedback loop. The underlying tone of the above, both pre and post privatisation has been that railway subsidy is, if not a bad thing, at least something to be minimised in the public interest.

But hang on a minute. If you believe in an improving modern railway, surely the more you pay, the better the railway you get? The parsimony of the Treasury and the Department of Transport meant that BR was always treading the thin line between cheap and cheerful and cheap and nasty.

And (skip this paragraph Mr Bowker) if the giants of the 1980s BR team had stayed in charge of a business led national railway through the recession and into the economic boom now ending, then InterCity would be making a thumping profit and Network SouthEast at least breaking even.

Alternatively, think what would have happened if Green, Prideaux et all had been given an extra billion a year to play with.

So you could argue that the Treasury's increasing largesse is a positive aspect of privatisation. And certainly Transport Secretary Alistair Darling, who is even more forthright in his condemnation of BR than Richard Bowker (‘BR was crap', according to Informed Sources) is having trouble with the dichotomy loop too.

Here is all this public money being poured into the railway and performance is not getting better. Interestingly, the same issues surround increased funding with other public services.

What's the answer? Well, it isn't cutting 10 or 20 percent off TOC subsidies. If Richard Bowker really means that we are all in for a grim time.

Someone has to get a grip of Network Rail. Fortunately, while the SRA is lukewarm on this column's analyses (see the box), the Office of the Rail Regulator is seriously interested and I have provided all my background data to the ORR Interim Review team which I have dubbed the Boiling Frog Task Force.

In a sane world Tom Winsor's Interim Review should see Network Rail getting progressively less funding, not more, as its efficiency increases. Has Tom got the cojones to do that? Will Richard undo the good work if he does?

Continues.........

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