Williams – This time it'll be "Great"...

The outcome of the Review has been long-awaited by the industry: press speculation had been that the first version of the report was ready as early as before the 2019 General Election and was being held to be released when the political timing was right. Of course, then Covid-19 hit which forced the government to take direct control of the railways through Emergency Measures Agreements and then Emergency Recovery Measures Agreements. Some of the measures seen in those arrangements almost foretold the conclusions of the Review.

There has been much guesswork about the outcome of the Review. Prior to Covid-19, train operators had been expected to take on ever-increasing levels of risk; there had been reports throughout the press of a number of franchises apparently in financial difficulty. The level of reward had not increased at the same rate as risk. Now might be the right time for “all change”.

The press has leapt upon the publication of the Review and we are already seeing a number of high-profile, headline-grabbing messages emerging. No doubt there will be more in the days to come. A number of themes have clearly emerged – and the need to regain the trust of the passenger seems to underpin many of these.

The Stephenson Harwood rail team has taken a look at what has been published today and we set out below some initial thoughts on some of the interesting points for the future of the industry. The full 116-page White Paper is available here. Stay tuned for a further article from us in a few weeks' time, once the dust has settled from today's announcements. 

The headlines

In a number of areas, the Review’s conclusions mirror some of the high-profile submissions that had been made. We could have written some of this section before today – although the devil will always be in the detail. We think the following areas are particularly interesting:

• Scrapping the Franchise model, instead using a Concession model in the guise of "Passenger Service Contracts" to contract railway passenger operations
• Establishing a new supervisory body to oversee the system ("Great British Railways")
• The potential for the new Passenger Service Contracts to be longer than Franchise Agreements, to support major investment or significant changes
• Fares reform to simplify ticketing and fit modern passenger patterns, including the introduction of flexible season-tickets aimed at part-time commuters
• A further step towards local devolution of some aspects of the railways, with local leaders given greater control over ticketing, timetables and stations (and the possibility of community partnerships bidding for Passenger Service Contracts)
• Two-year "National Rail Contracts" to act as a bridge to reform, post-Covid

The difference between franchises and concessions

Franchises

In pre-Covid, times, the Department for Transport (DfT) awarded franchise agreements to rail operators, following competitive tender processes. Those franchise agreements tended to see operators taking most – if not all – revenue risk. While newer franchises made use of a “Forecast Revenue Mechanism” as a means of sharing revenue risks between DfT and the operator, such franchises are by no means free of revenue risk. That traditional model saw operators taking into account projected revenue in contracted payments to/from the DfT. As a result, with passenger numbers being decimated almost overnight during the pandemic, the government was forced to step in else operators would have failed, which would have forced the government to step in anyway through the Operator of Last Resort.

Concessions

Rail operating concessions are more akin to an ordinary services contract and the Review sees this as the way forward. Operators are paid a fixed fee for operating the rail services, while the contracting authority retains revenue from fares. The operator may also be entitled to further payments for good performance – the intention being that "good performance" is aligned with what passengers want. The Review sees this as the way forward for the railway: placing passengers back at its heart and engendering trust in the railway system.

What this does mean is that the operator is not ordinarily relying on passenger numbers in order to make their anticipated profits. Arguably, contracting authorities (whether the DfT, the new “fat controller” in the guise of GBR, or devolved authorities such as Transport for London (TfL)) are better placed to take revenue risk. This is because passenger numbers are typically linked to macroeconomic conditions and major cultural shifts, which train operators are not well placed to navigate or predict in advance – let alone influence.

The Williams-Shapps Plan has recommended a contracting model including incentives for meeting "demanding standards" for key passenger priorities such as punctuality, passenger satisfaction, and cleanliness. This is reminiscent of the concession model already employed by TfL for its existing rail operating contracts in London – concessions are in place for London Overground, DLR and TfL Rail services. Under this model, fares are set by (and paid to) TfL, and TfL takes a very active role in ensuring that its concessionaires are meeting the specified service levels. GBR is intended to be modelled on TfL – which shows how successful TfL has been in London.

Interestingly, the White Paper proposes that concessions could be let for varying lengths of time. On some parts of the network, the Review indicates that longer contracts could be employed. This would allow operators to more readily make long term investments in improving their services.

Williams has also proposed that some (predominately long-distance) routes will be operated with more commercial freedom in respect of setting fares and taking revenue risk. This is perhaps unsurprising in the sense that long-distance operators have been more likely to be profitable. However, it remains to be seen whether in practice this means a continuation of existing franchises for the long-distance routes, along with premium-based bidding and its attendant problems, which have caused several high-profile collapses in recent years.

Otherwise, Williams’ recommendations appear to amount to the adoption of a full concession model.

Key considerations for operators

In 2018, the Stephenson Harwood Rail Team noted that the risks sought to be transferred to the private sector under rail franchise agreements had continued to increase. The risk balance had tipped, whilst rewards have remained relatively consistent, and have in some cases gone down.

Operators may welcome the move towards concessions, as it removes the major risk component from existing franchises – the possibility that passenger numbers will not meet forecasts. This appears to be the case from the announcement from First Group this morning of its new National Rail Contracts for South Western Railway and TransPennine Express. However, with less risk potentially comes less reward, and Train Operating Companies (TOCs) will have limited exposure to increased profits under the new Passenger Service Contracts.

In due course, operators will need to analyse the DfT’s proposed new contracts in detail, in order to determine whether (and how) to bid for the new "Passenger Service Contract" concessions, after the current round of post-Covid "National Rail Contracts" (NRCs) expire. A series of further NRCs were announced by the DfT alongside the end of franchising last autumn, so we should expect other TOCs and owning groups to be considering this new model.

Welcome, Sir Topham Hatt of Great British Railways

In Thomas the Tank Engine, Sir Topham Hatt controls the railway on the Isle of Sodor. He directs the often-mischievous engines and – with a background in engineering – is also responsible for the railway network and the challenges it faces. He is known as the “Fat Controller”, offering a guiding mind for the railway on the Isle of Sodor and having responsibilities both for the track and the operation of trains.

In the Williams-Shapps Plan, the creation of a similar role for the railway network has been proposed. Great Britain’s new “Fat Controller”, called "Great British Railways" will be responsible for both "Track" and "Train":

• Track: Subsuming Network Rail's responsibility for the rail network, stations, depots and other infrastructure, running and planning the network; and
• Train: Receiving fare revenue, setting fares and timetables, and running competitions for (and then managing) the new Passenger Service Contracts.

Andrew Haines, current Chief Executive of Network Rail, and Sir Peter Hendy, its current Chair, are reported to be lined up for the headline "Fat Controller" roles.

Williams and Shapps are committing to a "modern, improved experience" for both freight customers and passengers, with coherent leadership and strategic direction. GBR will absorb Network Rail, as well as many functions from the industry-run Rail Delivery Group, and the DfT.

Clearly anticipating scepticism from industry and the public, the White Paper says that the new body must be "a new organisation, with a new culture and customer focus, definitely not just a bigger version of Network Rail". GBR, we're told, will have "a clear remit to reform the can't-do culture and inflated costs that exist across the sector" and will recruit broadly, including people from other customer-focused sectors. It will take on responsibilities currently delivered by the DfT and the Rail Delivery Group. Time will tell whether this leads to meaningful change.

What’s the issue?

Rail privatisation saw the break-up of British Rail into a multitude of companies: infrastructure providers, train operators, rolling stock companies, consultants. The principle of separation of track from train to encourage competition was enshrined in the UK in the Railways Act 1993, although this is a principle subsequently adopted and fleshed out within European legislation. Having created this separation, each company – having its own commercial interests – is then brought back together through a mix of contracts, licensing and regulation.

In theory, this should work. Indeed, it has kept the railway going for more than 25 years, to varying degrees of success. The structure drives particular behaviours including management in accordance with the contract and, rightly, prioritising a company’s own commercial interests. To the public, this sometimes looks like the industry having an argument with itself – for example, train operators may blame Network Rail on social media for delays and cancellations. To the ordinary passenger, this should not matter: if their service home from work does not run on time, it is time with their family being sacrificed and it should not matter who is “actually” at fault. It is “the railway’s” fault. Disputes between Network Rail and train operators over the intricacies of delay attribution and “Schedule 8” do not matter when a social engagement or putting the kids to bed is missed.

It is a difficult dilemma to solve and perhaps one where Keith Williams is ideally placed to comment as Chairman of the John Lewis “Partnership”. How do you reconcile a “one industry” approach on the one hand with private commercial enterprise and innovation on the other? How do you incentivise the right behaviours across the whole industry? How do you ensure the industry – and particular individuals – are held accountable? This is clearly a driving factor in the Williams-Shapps Plan, with simplification and the alignment of incentives being core principles.

What next?

Like a much-extended dramatic pause as the latest evictee from a reality television show such as the Great British Bake Off is about to be announced, the industry has been waiting for the outcome of the Williams Review for some time. The General Election, Brexit, cabinet reshuffle, Covid-19 and waiting for the “right” political moment has all led to its delay. It looks like franchising in its current form is the latest to be voted out.

A number of issues have been flagged in the Review as needing to be addressed. Reform of the fares system appears to be a priority: not only making it easier to understand – both for the industry and passengers alike – but also more obviously offering better value for money. Making sure decisions are made closer to where they have impact is also a key factor for the future, with greater influence at a local level in the decisions made. At the same time as bringing operations closer to the people, a need has been identified to bring the industry closer together at the very top: offering a “guiding mind” in the form of GBR.

Combined with this, it has been evident for some time that the current franchising proposition simply does not work. Too much risk has been expected to be taken on by the private sector. The pandemic changed that. Instead of expanding the market for franchises –a recommendation of a previous rail review – the market has instead become smaller, the level of risk and high profile failures no doubt contributing. Previous competitions have seen just two or three bidders; indeed one competition saw all other bidders excluded except the winner. This clearly needs to change and the one of the outcomes of the Williams-Shapps Plan is to expand the market.

So with all of these good ideas now out there, what needs to be done to implement the Review’s vision? The DfT will establish a "Rail Transformation Programme" to deliver on the Review, as well as an advisory group chaired by Keith Williams. Andrew Haines of Network Rail has been tasked with developing plans for interim arrangements. Meanwhile, many of the commitments made in the Plan will clearly require legislation, and will take time to implement.

In a few weeks' time, after the dust has settled, we will offer our detailed thoughts about what the next steps might be and what you should be thinking about.