Rail 455: How can the beast created in Network Rail be tamed?

The SRA specifies what needs to be done and the contractors do the work, so, asks CHRISTIAN WOLMAR, is the much-vaunted Network Rail little more than a funding ‘middleman’ with no broader raison d’être?

What is Network Rail for? I am prompted to ask that question by the revelation that it is currently being funded to the tune of £3bn of public money a year and possibly more. I have tried to steer clear of ‘whither the railways?’ in this column because of the risk of boring readers about a question that can seem arcane and irrelevant to the immediate problems facing the industry.

Certainly that is the view of SRA Chairman Richard Bowker who at the RAIL conference last month chided ‘the commentators’ who have used NR’s decision to take the Reading area contract in-house to “further their atrophied agenda of restructuring and renationalisation”.

But, pace Richard Bowker, there is a need for a continued debate for two reasons. One is that none of the senior people in the industry with whom I have talked recently – or indeed any of the more junior people on the ground – believes that the strange public-private hybrid we have stumbled into through a series of mishaps and political interventions is anything but ‘sub-optimal’. They differ radically on where they think the industry should go but agree that the present situation is unsatisfactory and unstable.

The second reason to go on about this just one more time (for now), despite the risk of boring you, dear reader, is that even before the new structure with NR at the centre has had a chance to bed down, the problems with it are becoming all too obvious. Add to that the growing realisation that if there is a recession, subsidy levels for the industry, already at an all-time high, will soar, leading to calls for large-scale closures or cutbacks in services. A restructuring might be the only coherent defence.

There are numerous issues that have not been resolved by the change from the free-for-all that was rail privatisation Mk 1 to the state control and tighter regulation of Mk 2, such as the future role of franchising, how to attract private investment into the railways and issues such as fares and timetables, but probably the most difficult is the role of NR.

So far NR has been presented as a kind of cuddly version of Railtrack, no longer profit-maximising but still, we are assured, in the private sector. Apart from having no owners and not needing to pay out dividends, the old structure of Railtrack has been retained. So, we are told, the decision to take back the Reading contract is not a precursor to a restructuring of the organisation, but merely a way of ensuring that NR has a benchmark against which to compare other costs.

The fundamental difference between Railtrack and NR is the relationship with government, particularly over money. The old model, in theory, was that the Regulator would set the access charges for a five-year period based on the company maintaining the network in a ‘timely, efficient and economic’ way. If Railtrack failed to do so, then the shareholders would suffer because profits, and consequently dividends, would be reduced. In practice, of course, it did not quite work out like that as we know but let’s leave that aside.

The key question is whether the new set-up can deliver a stable financial structure for the industry. The job of trying to create one falls to Tom Winsor, the rail regulator, who must determine what an ‘economic and efficient’ infrastructure operator needs in order to ‘operate, maintain and renew’ the network (not, of course, enhance, about which more below). Under this new structure, Winsor has been sent off to do an interim review (despite the fact that NR originally said there was no need for one) to try to work out what it should really cost a competent organisation to maintain and renew the railway.

Of course last time he produced an access charge review (for 2001-06) he got it wrong, which is why Railtrack went bust, although he was not as badly out as me since I suggested at the time that he had been far too generous – which maybe he had until Hatfield changed the economics of the railway.

For the forthcoming task, Winsor has a team of 140 people and a budget of £13m, not all of which, of course, is devoted to the interim review. Through this team, he is supposed to be able to ascertain broadly what are reasonable costs for NR’s ‘day job’, those myriad routine tasks of checking track, maintaining it, replacing it where necessary, operating and maintaining the signalling system and so on.

Apparently, he is confident that he can do that. I wish him well but reckon it is an impossible job. He might be able to extract some broad parameters, but to attempt to second-guess the whole organisation’s costs seems to me a Sisyphean labour – in other words trying to push a rock up a hill, which keeps rolling back again! Every job on the railway is different and trying to second-guess the real costs is impossible, not least because the contractors will be reluctant to reveal the true position.

So what will happen when Winsor produces his interim review timed to be published to ensure it can be taken into account for the 2004 spending review? Expenditure by NR is already completely out of control. Instead of spending £3bn a year as required by the interim review, money is pouring out at the staggering rate of £5bn, hence the loss it made of £1.8bn in the past year. (As one insider put it, this was far more than Railtrack ever sought when it came to Stephen Byers with the begging bowl in July 2001, but that is water under the bridge now.)

On the past record, then, NR is handing out money at a much higher rate than the Regulator thinks is reasonable. Apart from the question of what to do about the accumulated backlog of losses (which is covered by a £9bn soft loan from the Government), let’s say Winsor says that spending £20bn over five years is reasonable. NR counters by saying it needs £30bn. What then happens?

In the old days, the shareholders would have supposedly taken the pain, but they have been replaced by hapless stakeholders who have no serious role to play. Nor can the directors be bullied too much. Sure, they are on a performance incentive bonus but that is clearly using a nut to break a sledgehammer and is a ridiculous way of trying to manage down costs in the rail industry. They could be sacked, but that is hardly going to engender confidence in the City for the rail industry.

Or, most drastically, as a Treasury insider explained to me, “the company could be allowed to go bust, even if the railways can’t.” But nor is that realistic. To lose one rail company, Railtrack, could be put down as an accident, but to have two go to the wall would look very much like carelessness. Let’s spell this out: the Government could never allow Network Rail to go bust!

And what’s more, Messrs McAllister, Coucher and Montague at the top of the company know this. So, if they say £30bn, they will get £30bn. Unless you give us this, they say, we cannot guarantee that the railway is safe or keep it all open. Sure, a few bob may be knocked off and some projects scaled back, but NR has Government backing and, in practice, it is in a much stronger position than old BR ever was. NR, it seems, can dodge the regulator and beg money directly off the Treasury, and there is not much that poor old Tom or even Gordon Brown can do about it.

Clearly, Winsor smelt this rat a long time ago. In evidence to the Commons Transport Committee back in November 2001, he pointed out the fact that unlike Railtrack, NR would have no ‘equity buffer’, a pool of capital that would be at risk should the company not be managed ‘economically and efficiently’. He argued that NR would have to build up such a buffer but clearly, if the company is overspending wildly, it is never going to get a chance of building that up.

This begs a lot of questions. The first is what is the point of having a regulator? Winsor would argue that he is an independent arbiter and protects both the taxpayer and the train operators against NR. But not if NR can go behind daddy’s back get its extra pocket money directly from grandpa.

And while on the question of the excess number of players in the industry, it also raises the question of why should NR be separate from its financier, the SRA, especially given that the former is, like Railtrack, really just a contracting middle man. The answer, of course, is that NR is supposedly a private sector organisation and the SRA is in the public sector, so if the two had been merged, it would have been an overt, rather than covert, nationalisation.

The way it is supposed to work is that the SRA specifies and NR delivers the work. But it doesn’t! The contractors do. So why have an extra layer between the two organisations? NR is really only a financing mechanism and an organisation with such a limited function that it will eventually suffer from an existential crisis, as did its predecessor. The biggest question, then, is how can the Government control the beast it has created?

Let’s just throw another thought into the melting pot. The SRA has just signed a deal with NR over how improvements to the network will be delivered. It is called – as Jones Minor at the back will recall from reading this column last year – the Enhancement Facilitation Agreement (which shockingly is not being made public despite the fact it has been made between two organisations funded by the Government). The chosen method of delivering these enhancements is, of course, the special purpose vehicle (SPV) which is supposed to emerge phoenix-like from this mess and deliver an improved railway. Yet the first one is not even being launched until the end of this year, and that is being optimistic. In other words, enhancements are being lost in the treacle of the new railway.

So here’s the last question: how does any of this make sense? But enough of structuralism. Next issue, dear reader, I promise, I will write about trains and services or something like that, rather than these high-fallutin’ theoretical issues that we should leave to our betters. But who are they?