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SUMMARY OF SCOTTISH EXECUTIVE'S CONSIDERATION OF REQUIREMENT TO TENDER

Background

1. During the Parliamentary debate on ferry services on 8 December 2004, the Parliament expressed concerns about the Scottish Executive's (the Executive's) proposals to tender the Clyde and Hebrides ferry services. The then Minister for Transport, Nicol Stephen MSP, agreed to discuss these concerns with the European Commission and, thereafter, to return to Parliament.

2. In parallel with the most recent discussions with the Commission, the Executive has reviewed the requirements of EU law in relation to the Clyde and Hebrides ferry services. The Scottish Parliament Local Government and Transport Committee and others with an interest including MSPs and MEPs, the trades unions representing the Caledonian MacBrayne workforce, and Scottish academics have made a significant contribution to that review and the Executive is grateful for their efforts.

3. The review included re-consideration of the implications of the 2003 decision of the European Court of Justice in the Altmark case which some commentators have suggested resulted in a relaxation of state aid rules and removed the requirement to tender the Clyde and Hebrides ferry services. The Executive also considered proposals for alternatives to tendering, some of which were put forward by other parties.

Policy Objectives

4. The Partnership Agreement "A Partnership for a Better Scotland" ¹ makes it clear that the Executive is committed to continuing to support and invest in lifeline ferry links.

5. The Executive's policy objectives for the Clyde and Hebrides ferry services were set out in the 2000 consultation document Delivering Lifeline Ferry Services ². The Executive seeks to ensure:

• the provision of a suitable standard of transport connection, in terms of quality, frequency and capacity, to island and remote peninsular communities;
• that ferry fares and freight charges are not excessive;
• that ferry services are delivered efficiently; and
• that the necessary level of service is provided for the minimum amount of public subsidy.

Position in EU Member States

6. The Executive recently commissioned consultants Steer Davies Gleave to carry out research on the application of the Maritime Cabotage Regulation in other Member States. The research found that all EU Member States with lifeline ferry services are either already compliant with the European Union Maritime Cabotage Regulation, are in the process of becoming so or are in discussion with the Commission about how to bring their services into line.

7. There is a mix of Public Service Obligation ( PSO) and Public Service Contract ( PSC) arrangements in place across the European Union. In all cases where a Public Service Contract is in place with an individual operator other EU Member States have tendered it or are making plans to do so in the future. This includes Denmark, Estonia, Finland, France, Greece, Ireland, Italy, Malta, Spain and Sweden. This research has been published and is available on the Scottish Executive's website. A summary of the arrangements in EU Member States is attached as Annex E.

Revised Guidelines

8. The flexibility which the Executive lobbied hard for has since been formalised in the revised guidance published by the Commission in December 2003 and January 2004. In particular, the revised guidance now provides for:

• subsidy to be allowed for mainland to mainland routes according to criteria that the two Caledonian MacBrayne mainland to mainland routes meet;
• the creation of a vessel owning company which would own the vessels used in delivering the services and lease them to the ferry operator, with the operator required to use the existing vessels. This would ensure that the Caledonian MacBrayne fleet remains in public ownership, with the purpose-built vessels available for the first and future contracts;
• the bundling of routes, rather than services being tendered on a route by route basis.

Are there Alternatives to Tendering?

9. Following the Parliamentary debate on ferry services on 8 December 2004, the Executive considered proposals for alternatives to tendering, some of which were put forward by other parties. In particular, the Local Government and Transport Committee's consideration of the issues and the interest of others including the STUC and academics has provided valuable input into the alternatives considered by the Executive. The alternatives considered were:

(A) Status Quo

(B) Altmark

(C) New scheme where subsidy is available to all Community shipowners

(D) Clyde and Hebrides service brought 'in-house' by Scottish Ministers

(E) Management Contract

(F) Professor Kay's 5 part proposal which he suggests would meet the Altmark criteria

(G) Meeting the underlying objectives of EU rules - meeting the Spirit of the Treaty.

(H) Proposal that the 1973 Undertaking between the Executive and Caledonian MacBrayne was an 'existing public service contract' as described in Article 4, paragraph 3 of the Maritime Cabotage Regulation and, therefore, pre-date the requirements of the 1992 Maritime Cabotage Regulation.

(I) Effect of July 2005 Commission Decision in relation to Services of General Economic Interest ( SGEIs)

10. A detailed consideration of each of these options is set out at Annex A but a summary is provided below:

(A) The Status Quo

11. The Maritime Cabotage Regulation ³ requires that where a Member State concludes a public service contract or imposes a public service obligation it shall do so on a non-discriminatory basis in respect of all Community shipowners. The current arrangement between the Executive and Caledonian MacBrayne is a public service contract. It was not concluded on a non-discriminatory basis and is, therefore, not compliant with the Regulation.

(B) Altmark

12. The Altmark judgement states that where sectoral EU rules apply ( e.g. shipping, road, rail and inland waterways) they cannot be avoided by an appeal to the general rules of the Treaty. The Clyde and Hebrides ferry services fall within the scope of the Maritime Cabotage Regulation and the arrangements for the services must, therefore, be considered against the requirements of that Regulation. Further, the Altmark decision looked at whether a subsidy provided an advantage but the Maritime Cabotage Regulation requires that Community shipowners be treated on a non-discriminatory basis. Thus even if it could be shown that the Clyde and Hebrides ferry service met the Altmark criteria this would not mean that they had met the non-discrimination requirement.

(C) Subsidy available to all

13. Under this option Scottish Ministers would set up a scheme whereby any operator would be entitled to apply for subsidy provided that they met some basic conditions relating to financial stability of the company, safety record and so on. This option would meet the non-discrimination requirement of the Maritime Cabotage Regulation and tendering would not be required. However, it would not deliver a number of key policy objectives:

• the arrangement would be a Public Service Obligation rather than a Public Service Contract. As such the operator(s) would be free to withdraw from the service at any time. This option would, therefore, not offer the certainty that a single Public Service Contract offers in terms of delivery of a set service specification.
• it would have to be applied on a route by route basis which would be likely to result in the loss of an integrated set of services, since a range of operators could emerge across the network.
• where 2 or more operators were servicing the same route if one were to withdraw from the route there would, almost certainly, be no TUPE transfer of its staff.
• the scheme could only be applied in relation to defined categories of individual consumers. Thus it could not be used to support freight services.
• the number of operators would be expected to increase, possibly with more than 1 operator on a number of routes. This option would therefore be likely to lead to a significant increase in the subsidy requirement.

(D) Clyde and Hebrides service brought 'in-house'

14. Under this option Scottish Ministers would directly undertake the provision of the ferry services through the Scottish Executive. However, under EU rules it is the effect of the arrangement and not the form it takes that determines compliance with the rules. If the Clyde and Hebrides services were carried out directly by the Executive it would be deemed that Scottish Ministers had placed an obligation on their officials to provide the services. This would bring the arrangement within the scope of the Maritime Cabotage Regulation and the non-discrimination requirement.

(E) Management Contract

15. Under this option Scottish Ministers would tender a 'management contract' for the management of Caledonian MacBrayne rather than the tendering a Public Service Contract for the provision of the CHFS ferry services. However, such an arrangement would not comply with the Maritime Cabotage Regulation. This is because Caledonian MacBrayne would continue to be the operator of the services without the opportunity to provide those services having been made available on a non-discriminatory basis to other community shipowners.

(F) Professor Kay's 5 part proposal

16. Professor Kay's proposal is based on the assumption that the Altmark criteria can be used to satisfy the requirements of the Maritime Cabotage Regulation. However, as set out at paragraph 11 above this is not the case. Even if the Altmark criteria were relevant, Professor Kay's proposal would not avoid tendering. Instead, tendering would occur on a route by route basis and, ultimately, this would lead to the break up of the network, possibly without the protection of TUPE for Caledonian MacBrayne staff.

(G) Meeting the underlying objectives of EU rules - meeting the Spirit of the Treaty

17. It has been suggested that the application of state aid rules to lifeline services such as those in the Clyde and Hebrides is inappropriate and, indeed, conflicts with wider European social goals. However, the Maritime Cabotage Regulation sets out a clear obligation on Member States to conclude Public Service Contracts or impose Public Service Obligations on a non-discriminatory basis in respect of all Community shipowners. The potential costs of complying with that obligation cannot be taken into account in assessing whether or not that obligation applies.

H) Proposal that the 1973 Undertaking and 1995 Undertaking between the Executive and Caledonian MacBrayne comprise an 'existing public service contract' as described in Article 4, paragraph 3 of the Maritime Cabotage Regulation and, therefore, pre-date the requirements of the 1992 Maritime Cabotage Regulation

18. There are a number of key differences between the 1973 and 1995 Undertakings the most important of which is that they are with different companies. The 1973 Undertaking was with David MacBrayne and the 1995 Undertaking is with Caledonian MacBrayne. It is also clear from the Regulation and associated guidance that contracts are intended to be time limited and the 1995 Undertaking is open ended. It is therefore quite clear that the 1995 Undertaking is a new 'contract' arrangement which was agreed after the Regulation came into force in 1992.

(I) Effect of July 2005 Commission Decision in relation to Services of General Economic Interest ( SGEIs)

19. Some commentators have suggested that the European Commission Decision on the application of Article 86(2) of the Treaty to State aid in the form of public sector compensation granted to certain undertakings entrusted with the operation of services of general economic interest, announced on 15 July 2005, exempts ferry services, below a certain threshold, from the requirements of the Maritime Cabotage Regulation. This is not the case. The Decision provides an administrative framework which exempts certain State aids from notification to the European Commission. It does not, however, exempt public authorities from any other requirements in relation to State aids rules nor exempt them from the requirements of sectoral State aid rules. This means that, in relation to the Clyde and Hebrides, and Northern Isles ferry services, the Scottish Executive is still required to comply with the terms of the Maritime State aid rules (the Maritime Cabotage Regulation) and, in particular, the requirement to act in a non-discriminatory way.

Conclusion

20. The status quo is not an option. In the Executive's view the only alternative to tendering which may comply with the EU rules is for subsidy to be provided to all operators on each route. However, as set out at paragraph 12 above, there are a number of unacceptable consequences with this approach - in particular, the exclusion of freight services from the arrangements, the implications for staff terms and conditions and job security, and the likely significant increase in subsidy requirement.

21. Other options which were considered were either not compatible with EU rules or would have still required tendering but on a route by route basis. This would have led to the break up of the network and the loss of the benefits of a cohesive, integrated, single network of routes.

Next Steps

22. If the Clyde and Hebrides ferry services are not brought into line with EU rules and the European Court of Justice were subsequently to find that such an action was in breach of EU rules the consequences could be severe. Following on from such a ruling, the Commission could order the immediate cessation of subsidy to Caledonian MacBrayne and that the Executive recover from Caledonian MacBrayne all subsidy that had been declared to be illegal State aid.

23. Whilst the Commission has taken formal action against some Member States in relation to the Maritime Cabotage Regulation it has preferred to work with Member States to bring their services into line with EU rules rather than to use its draconian powers. Indeed, the Commission has worked with the Scottish Executive over the last 6 years as ways of complying with EU law have been discussed. However, the European Commission has made it clear to the Executive that if action is not taken shortly to bring the Clyde and Hebrides services into line with EU rules then the Commission will initiate formal proceedings. It should be noted that, on 29 June 2005, the UK government received a pre-infraction letter from the European Commission in relation to the Clyde and Hebrides ferry services. If this action were to proceed to a full investigation it could seriously jeopardise these lifeline services.

Staffing and Employment Issues

24. One of the key concerns expressed by commentators has been the implications of tendering for the Caledonian MacBrayne workforce. The Executive attaches importance to the future of the Caledonian MacBrayne workforce and, if tendering goes ahead, would do everything it could, within EU and domestic legislation, to secure the continued employment of those staff and the protection of their terms and conditions and pension rights. As part of the review of the requirement to tender, the Executive also looked at the proposals in relation to staffing. The provisions have been further strengthened to safeguard, as far as possible, the position of the current Caledonian MacBrayne workforce if tendering goes ahead. A detailed summary of the Executive's proposals is set out at Annex C. In particular, the Executive is of the view that TUPE would be likely to apply to the main Clyde and Hebrides bundle. If it was subsequently found that TUPE did not (as a matter of law) apply and the operator achieved cost savings as a result, there would be a compensating reduction in the operator's subsidy. This means that there would be no financial incentive to the operator to challenge TUPE.

25. The TUPE Regulations do not currently apply so as to transfer employees' contract terms in relation to an occupational pension scheme. The Pensions Act 2004 does require that, where there is a transfer of an undertaking to which the TUPE Regulations apply and there is an existing occupational pension scheme to which the previous employer had contributed, then the new employer must deliver a prescribed level of pension provision to transferring employees. However, these provisions do not require that transferring staff have access to an actuarially equivalent pension scheme and entitlements. The Scottish Executive would, however, make it a requirement of the Clyde and Hebrides tender contract that the operator provides an actuarially equivalent pension scheme to transferring staff.

26. Caledonian MacBrayne has also confirmed that, whilst it is the employer, there will be no compulsory redundancies; that pay and conditions for its staff now or in the future will not be worsened and that the company has no intention to introduce a 2 tier workforce. The company has also made clear that it has no plans to move its Headquarters from the current site at Gourock.

Gourock-Dunoon

27. Circumstances on the Gourock-Dunoon route are unique in the Clyde and Hebrides network as there is a long established unsubsidised private sector operator competing on a comparable route. There are currently operating restrictions placed on the Caledonian MacBrayne service on the Gourock-Dunoon route. The Executive announced separate proposals for the Gourock-Dunoon ferry service in December 2004. Under these proposals the Executive would seek to establish if there are ferry operators interested in providing an unsubsidised service from Dunoon Pier to Gourock Pier with no operating or timetable restrictions. Scottish Ministers agreed in February 2005 that these proposals would not be taken forward until the issues around the requirement to tender the main bundle of services had been resolved.

The Scottish Executive
September 2005

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