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5.
PSC Risks
5.1 Once a
PSC is established to secure lifeline ferry services, issues surrounding contractual terms and procurement become imminent.
5.2 The treatment of risks and responsibilities is a central issue in the development of subsidised contracts for tendered services across all forms of transport.
5.3 With the creation of the European Union and the attempt to ensure a level playing field amongst
EU countries, governments procuring public services from private operators and disseminating state aid must ensure that the procurement process is fair, open, and compliant with
EC rules and regulations.
5.4 In this section, we will go over the risks confronting island ferry services, and analyse how they are managed in the surveyed subsidised ferry markets. These risks are, namely:
- Revenue
- Operating Costs
- Service Offer
- Innovation
- Safety
- Regulation
- Tender
5.5 The ways in which the subsidised services are defined, and how the contracts are defined, will consequently affect, mitigate, or re-distribute these risks amongst the government, the operators, and the users.
Revenue Risks
5.6 Revenue Risk is a central issue in the development of subsidised service contracts across all modes of transport. On one hand, the operator can take, as part of their income, revenues generated directly by passengers (farebox revenue), accepting potential fluctuations in this revenue stream, thus bearing revenue risks. On the other hand, they can receive a fixed income from the government in exchange for services provided. The government, in this case, effectively takes on the risks associated with variable revenues from users.
5.7 In cases where the operator bears the revenue risk, the operator has an incentive to maximise revenue generated from passenger demand. However, in a subsidised market where wider economic and social benefits play an important part, the governments usually intervene by controlling the service and fare levels. In this case, where the operator must adhere to a pre-agreed level of service at controlled prices, they would be keen to ensure that competition is minimised, and that protection is available in order to mitigate the revenue risks.
5.8 All of our surveyed administrators relayed that revenue (or demand) remains the biggest risks in the island ferry service market. There are two sources for these risks. First, demand for island ferry services is highly seasonal. Second, market-skimming practices by new entrants can hugely affect the profitability of the operator under contract.
Operating Cost Risks
5.9 Cost fluctuations are considered to be a big risk by the governments surveyed. Due to the long contract duration (5 to 6 years), bidders have to project their operating costs very far in advance. Much can change during that timeframe, especially fuel prices. In response, some countries include clawback clauses, and make provisions for fuel price adjustments in their
PSCs.
5.10 Inclement weather conditions not only lead to non-sailings, but can also increase the operating costs of the shipping company. In 2003, Saaremaa Laevakompanii (in Estonia) reported that the difficult ice conditions in the winter caused the company
EEK 7.6mn (
USD 520,000) in extraordinary expenses. The ice conditions damaged ships, and forced the company to make use of expensive icebreaker services. The ferry operator also had to use more fuel than usual. These costs were eventually covered by the operator's insurance.
5.11 Government subsidies constitute different proportions of the total operating costs of the lifeline services in different countries. In Denmark, the Danish central government covers up to one-third of the costs of ferry traffic to and from Bornholm. In Ireland, financial returns for subsidised ferry operators (profit after interest and tax as percentage of turnover) was between -8% and 27% in 2001/02.
Gross Cost vs. Net Cost Contracts
5.12 As we mentioned before, the situation across the
EU is diverse. Governments take on different stances over the issues relating to revenues and operating costs risks. Overall, there are currently two broad types of
PSCs in the surveyed countries: gross-cost contracts and net-cost contracts.
5.13 In Sicily, the regional government adopts gross-cost contracts, where the operator receives a pre-agreed fixed sum to cover operating costs. Under a gross-cost contract, the operator bears no revenue risk and is thus indifferent to the existence of competing services. These contracts require no protection.
5.14 The majority of the subsidised island ferry contracts, however, are net-cost contracts. In this case, the operator collects, and keeps, the revenue generated by the services, and receives a fixed subsidy from the government. The fixed subsidy is calculated based on forecasted demand, and of the subsequent forecasted operating deficit. Should the actual revenues fall below the projected levels, the operator would suffer a loss in profits. Operators under net-cost contracts with little influence over service schedule and prices would seek protection from competition. Table 5.1 summarises the type of contract adopted, and the protection available to operators, in each of the surveyed countries.
Table 5.1 Summary of Contract Types in Surveyed Countries
Country | Type of Contract | Protection from Revenue Risks |
|---|
EU Member States |
|---|
Denmark | Government-owned or joint-venture operators |
|---|
Estonia | No information available |
|---|
Finland | Government-operated services |
|---|
France (Corsica) | Net cost | Compensation can be adjusted by up to 4 % in line with the difference between actual revenue and the reference revenue laid down in the contract. |
|---|
Germany | No service is currently defined as a lifeline service |
|---|
Greece | Net cost | Exclusive contracts renewed annually (revenues and costs are forecasted only one year in advance). |
|---|
Ireland | Net cost | No explicit protection mechanism. |
|---|
Italy (Sicily) | Gross cost | |
|---|
Malta | Net cost | Operator can ask for a revision of the tariff structure at anytime during the contractual period |
|---|
The Netherlands | No contract | No protection (naturally protected from competition by unique harbour conditions and high sunk costs of market entry) |
|---|
Portugal | No contract | No protection |
|---|
Spain | Net cost | None (currently). However, the new royal decree will impose
PSOs on operators operating on the Public Services Lines. |
|---|
Sweden | Gross cost | Government guarantees to cover all operating losses |
|---|
United Kingdom (Scotland) | Net cost | Current Northern Isles contract contains a material change clause which provides some opportunity to revise subsidy where total revenue is less than expected. Scottish Executive is considering alternative approaches. |
|---|
Non-
EU |
|---|
Canada (British Columbia) | Net cost | Monopoly (exclusive contract) |
|---|
Japan | Net cost | Exclusive contracts |
|---|
Norway | Net and Gross cost | A variety of contract arrangements are in place and being evaluated. Coastal Voyage is an exclusive contract |
|---|
Service Level, Quality and Fares
5.15 Governments that procure ferry services are confronted with the risk of not getting the services that they desire, at socially optimal prices and quality.
5.16 Contracts can often specify the levels of service during peak and off-peak periods, and control fare fluctuations. In Greece, contracts specify that boats serving lifelines must be less than 35 years of age, and requires that operators have back-up vessels in case of breakdowns. However, Public Service Contracts should not be so onerous in terms of contract structure or setting over-optimistic prices that they drive operators into default.
5.17 Countries we have surveyed are moving towards establishing
PSCs that create incentives for operators to provide good service, and penalise for failures. This is always coupled with monitoring mechanisms to ensure that operators are providing the contracted level of service. This is then linked to the periodic subsidy payments.
5.18 The incentivised gross-cost contract is a solution to ensuring service quality while protecting the contracted operator.
Innovation
5.19 The ways in which contracts and operations are designed determine operators' incentives to innovate in terms of service quality improvements.
5.20 If vessels and infrastructure are owned and operated by the government, private operators have little pressure and/or opportunities to adopt new technology and to introduce a better and possibly more efficient fleet.
5.21 The length of the contract influences operators' incentives to innovate. A contract duration that is too long, or one which bars entry of competition, means the contracted operator can afford to be complacent, thus having little incentive to continually improve service quality. On the other hand, a contract duration that is too short also deters operators from investing in capital equipment, for they cannot recover their investments in such a short timeframe.
Safety
5.22 Safety can be compromised as operators try to manage operating costs, fulfil service requirements, and perform within the confines of the contract.
5.23 In order to maintain the required level of service and to avoid non-sailing penalties, operators may be tempted to operate in inclement weather conditions, thus compromising the health and safety of passengers.
5.24 It is therefore important that incentives built into the contract must not conflict with safety.
5.25 In all countries surveyed, a central government body is in charge of the licensing of ferries. Licenses are granted based on each country's maritime and safety codes. The licensing body is often also the body that regulates and enforces safety standards.
5.26 The government authorities that classify and regulate public service obligation routes differ amongst the countries. In some countries, the national/central government decides and provides the subsidies, whereas in others the decision has been devolved to regional or local authorities. There are also examples where the central government collaborates with local authorities to support lifeline services.
5.27 Most lifeline services are monitored for two reasons. The first is to ensure that services meet safety and regulatory standards. The second is to control quality and to ensure that operators are fulfilling their contract obligations. Monitoring is done either by the agency overseeing
PSOs, or by the maritime licensing/safety authority.
5.28 The following table summarises the licensing and ferry service regulating bodies in each of the surveyed countries.
Table 5.2 License and Safety Regulators in Surveyed Countries
Country | Licensing/ Safety Regulator | PSO Regulator |
|---|
Denmark | The Danish Coastal Authority | The National Rail Authority (Trafikstyrelsen) |
|---|
Estonia | Estonian Maritime Administration | Ministry if Economic Affairs and Communications
Estonian Maritime Administration |
|---|
Finland | Finnish Maritime Administration | Passenger Transport Unit
Ministry of Transport and Communications |
|---|
France (Corsica) | | l'Office des Transport de la Corse (Corsican Transport Office) |
|---|
Germany (Schleswig Holstein) | See Berufsgenossenschaft | Kreisordnungsbehörde |
|---|
Greece | Ministry of Merchant Marine (
YEN) | Ministry of Merchant Marine (
YEN) |
|---|
Ireland | Marine Survey Office | Department of Community, Rural and Gaeltacht Affairs |
|---|
Italy | Ministry of Infrastructure and Transport | Regional authorities (
e.g., Regione Sicilia) |
|---|
Malta | The Malta Maritime Authority | Ministry of Communications |
|---|
The Netherlands | Ministerie van Verkeer en Waterstaat | Ministerie van Verkeer en Waterstaat |
|---|
Portugal | National Council for Ports and Sea Transport (
CNPTM) | Regional Government of Azores and the Regional Government of Madeira |
|---|
Spain | General Directorate of Merchant Navy | General Directorate of Merchant Navy |
|---|
Sweden | Sjofartsverket (Swedish Maritime Administration) | Rikstrafiken (National Public Transport Agency) |
|---|
United Kingdom (Scotland) | The Maritime and Coastguard Agency | The Scottish Executive Transport Division 4: Maritime State Aids Unit |
|---|
Regulatory Risks
5.29 European Union rules seek to level playing fields, but can in effect compromise local objectives in maximising economic benefits.
5.30 In addition,
EU countries have to abide by European laws regarding tendering and contracting procedures. Countries whose domestic island ferry cabotage rules and contracting procedures are in violation of Council Regulation
EEC 2577/92 are warned and can be brought to court.
5.31 The following table summarises formal action taken by the Commission against member states since the Legislation came into effect in 1992.
Table 5.3 Infringements of
EEC 3577/92
Country | Reference | Content | Resolution |
|---|
Spain | | In December 1998, the European Commission opened an investigation into state financing made available to the publicly-owned Spanish company Compania Trasmediteerranea S.A. (Transmed) to exploit ferry services between the Spanish mainland and various islands. | Following the investigation Spain was required to re-tender the ferry services. |
|---|
Spain | C-205/99 | Royal Decree No 1466 was inconsistent with Community law, in particular Articles 1, 2 and 4 of Council Regulation (
EEC) No 3577/92 | Spain changed from an "authorisation" system to a "notification" system. Royal Decree is being re-written to comply with Community law. |
|---|
Portugal | | An infringement procedure was started against Portuguese decree-law No 194/98 of 10 July 1998 on maritime cabotage.
The Commission sent a reasoned opinion to the Portuguese authorities inviting them to amend the text to bring it into line with Council Regulation (
EEC) No 3577/92. | Portuguese authorities have committed themselves to revising the text in question. The Commission decided not to submit the matter to the Court of Justice. |
|---|
France | IP/02/1226 | The European Commission initiated a formal investigation procedure into the proposed restructuring aid to Société Nationale Corse-Méditerranée (
SNCM), examining the restructuring plan to check whether the aid proposed is compatible with European state-aid rules, notably to assess any distortion of competition and to ensure that the plan can restore the company to long-term health and viability. | In July 2003, the
EC delivered the judgement that the restructuring aid was legitimate, on the grounds that it would prevent
SNCM's competitor from monopolising the market. |
|---|
Greece | IP/04/159 | The Greek legislation of 2000 did not appropriately reflect the
EU basic principle according to which public service obligations can be imposed on ship-owners performing island cabotage in the event of market failure to provide adequate services. Moreover, some of its provisions are also in breach of
EU legislation, such as the requirement that all the non-Greek members of the crew should hold a certificate proving their knowledge of the Greek language. | The Commission informed the Greek authorities about these issues in 2001, when the national legislation was enacted. Now that the period of the temporary exemption has expired, the Commission has taken further action.
The Commission sent a letter of formal notice to Greece on 3 February 2004. |
|---|
Italy | | In 1999, the European Commission opened a State aid investigation against Italian ferry company Gruppo Tirrenia di Navigazione with regard to subsidies paid by the Italian authorities to the six companies of the ferry group Gruppo Tirrenia di Navigazione. The Commission has serious doubts as to the way in which the
PSOs have been entrusted to Tirrenia and other companies in the group. It appeared that it was not the State itself which set the
PSO requirements but the companies, even though the format must be approved by the State. | The investigation never materialised into a law suit. |
|---|
Tendering Risks
5.32 Tendering risks refer to when the tendering process does not yield a desired level of competition or results. These risks would result in a tendering exercise with a lack of bidding interests, a set-up where playing fields are not level, or where the winning bidder cannot carry out the contract.
5.33 Tendering risks are a function of regulations and the definition of the tendering terms.
5.34 Bearing such risks in mind, the tendering of public service contracts must not be so onerous that competitive bids are not received. The transfer of risks should be balanced and managed in order that a tendered service is possible.
5.35 Access to required capital equipment, such as vessels, harbour facilities, and marketing/distribution channels, are prerequisites for private operators to compete and operate in the subsidised ferry market.
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