Rosco row unhappy legacy from Alexander

Ruth Kelly will not thank her two predecessors, Douglas Alexander and Alistair Darling, for dumping her with the enquiry currently being undertaken by the Competition Commission into the rolling stock market.

This was stimulated by repeated protests by the Department for Transport, which ultimately foots the bill for much of the cost of leasing trains, that the three rolling stock companies (roscos) were overcharging the train operators to the tune of around £100m per year, about 10 per cent of the overall annual payments. Negotiations between the DfT and the companies over the price charged for ex British Rail stock – just over half the trains – the main source of the argument broke down, and the matter was referred to the Office of Rail Regulation which in turn agreed that there was a prima facie case which should be investigated by the Competition Commission.

However, what started as an enquiry purely into rolling stock supply has now widened, as the ORR pointed out that the rigidities in the rolling stock market may have more to do with the structure of the franchising system than with the behaviour of the roscos. That is hardly surprising since the creation of anything like a free market in rolling stock would require a completely different structure for the rail industry and currently there is nothing approaching what Adam Smith would think was a free market.

The roscos were created during the rail privatisation process a decade ago because rolling stock has a far longer life span than the franchises envisaged in the system – 30 – 35 years compared to 7 – 10. They took on the long term maintenance of the stock, as well as the residual risk – i.e. the potential loss from the fact that a new franchisee might want to lease an entirely new set of trains. Surprisingly, given that the rest of the newly privatised industry was controlled by one the two regulators – the Office of Passenger Rail Franchising, later the Strategic Rail Authority, or the Rail Regulator – the rolling stock market was left unregulated and the roscos were passed as competitive when the Rail Regulator did look at the market

However, since the leases have to be approved by government, the risk was essentially a political, not a market, one. For example, the Transpennine Express franchises was allocated three years ago on the basis of new trains, even though the old ones were only halfway through their life span. This shows the extent to which the government, previously through the Strategic Rail Authority but now directly with the Department for Transport, determines the market for rolling stock.

There are other rigidities, too. There are only around 12,400 carriages, divided into some 50 types which broadly can be separated into long distance, regional and suburban. Moreover, there are both overhead line and third rail electric trains, various sizes (loading gauges), and differing internal lay-outs depending on how many people are expected to stand, all of which means there is only a small proportion of the stock that is possible to transfer between franchises.

Moving fleets around the country is an expensive business and trying to coordinate between different franchisees, owned by rival companies with varying contract terms is a logistical nightmare. Therefore most franchisees, who generally have 7 – 10 year deals simply take on existing trains and keep them. Indeed, the rolling stock companies are required, under a code of practice, to offer all bidders for franchises the same terms for taking on the stock so there is no real market at that stage either.

Competition, therefore, is at the margin. There are, for example, a few sets of High Speed Trains which have come off lease and there are other types, such as Sprinters, which can be used in several different parts of the country. However, the notion that there would be a huge pool of surplus stock from which potential franchisees would be able to choose is fanciful and will always be so.

Therefore, why did the Department intervene? Many of the leases were renegotiated in 2004 in a process overseen by the SRA and yet within months of those new contracts being signed, Alistair Darling, was complaining about onerous charges. On the face of it, the rolling stock companies are the only genuine private sector investors in the industry, given that Network Rail is effectively renationalised and the train operators are not expected to invest. It seems odd, therefore, that they should be singled out for such close attention.

The Department argued that the train operators are in a weak position when bargaining against the rolling stock companies because they do not have the choice of buying new trains to replace their fleets. Moreover, the Department complained that the roscos’ charges are not transparent on non-capital costs such as maintenance and that the rate of return they were earning was excessive.

However, all this is in the Department’s control. If it is really exercised over profiteering by the roscos, then the government could simply take back the risk of political uncertainty by dictating what rolling stock should be used where. This is already happening. The West Midlands franchise was allocated recently with the specification for extra rolling stock with the Department determining the manufacturer and the rosco involved.

The government could go further/ There could be considerable savings in leasing charges if the Department for Transport were to allocate stock where it was most needed and assume the risk of the loss of any residual value should circumstances change and fleets scrapped before the end of their expected lives. However, that might put the rolling stock back on the books of the new chancellor, who happens to be the same Alistair Darling who first complained about the prices roscos were charging and who would not want the rolling stock fleet to be suddenly renationalised.

Privately, the roscos argue that this has happened anyway. They point to the detailed degree of control now being exercised by the Department over the allocation of trains and the fact that the new Intercity Express, the replacement for the High Speed Trains will be paid for through a 30 year Public Private Partnership in a contract tightly determined by civil servants and which will bypass the roscos entirely. Effectively, 25 per cent of the total stock will, therefore, be taken out of the roscos’ hands. The roscos reckon this is an expensive way of doing things as both the political and operating risk will be passed on to the private sector which will charge a high rate of return as a result.

The roscos say that the enquiry has damaged the industry. According to one company, ‘with the passenger market so buoyant, if it had not been for the Competition Commission enquiry, we might well have placed a speculative order for DMUs [diesel multiple units].’ The short term aim of reducing leasing charges is unlikely to be achieved and the Department may be faced with recommendations from the Competition Commission when it reports in around a year’s time to change the way franchise are allocated. None of which will be easy for the raw Ms Kelly to handle.