Final Report: Options for the Ferry Services Between Gourock and Dunoon

10. IMPLEMENTATION ISSUES AND NEXT STEPS

10.1 The Base Case

The results of the financial model of future options suggest that the status quo option. or "do nothing" alternative is not an inexpensive or easy option, for the following reasons:

• the existing vessels which run on the route will not last indefinitely, and both CalMac and Western Ferries would like to upgrade their fleets in the medium term;
• there is also a need for refurbishment or complete replacement of the terminals which serve the route;
• however, the tariff revenues generated by the route are insufficient to fund the investment requirements of the two operators;
• therefore, they can be funded, if at all, only through the injection of additional public money into the route. This would be in addition to the portion of CalMac's annual Scottish Office subsidy which is attributable to the company's operating deficit on the Gourock/Dunoon route, which on the basis of CalMac's own management accounts is between £0.85 and £0.45 million per annum, depending on whether the central overhead is taken into account or not;
• in addition to these financial considerations, the regulatory framework applying to the route represents an uneasy compromise between the needs of the travelling public for a reliable service and choice between routes on the one hand, and the desire to ensure that a private operator is not undermined by potential predatory behaviour by a larger public sector competitor on the other hand.

The fundamental problem is that there is currently substantial excess capacity on the route, which would be most cost-effectively served by a single ferry operator.

The financial model suggests that it is cheaper to run a service between McInroy's Point and Hunter's Quay than between Gourock and Dunoon, largely because of the investment required to adapt Dunoon to front-end loading roll-on, roll-off ferries. However, there may be a corresponding public benefit from developing Dunoon Pier in this way, in order to draw visitors through the town. Whether this is the case, and if so, how great the external benefit is, are questions which lie beyond the remit of this study.

10.2 The Implementation of Change

10.2.1 The Cost Reduction Option

Option B presents issues of both technical and financial feasibility which make 'it difficult to assess at this stage against other, more concrete, options. Its implementation issues can be summarised as follows:

• the availability of suitable vessels on the second-hand market;
• the likely union reaction to a perceived reduction in service standards, albeit in line with current terms and conditions for the type of vessel now envisaged;
• whether either suggested option for a new slipway site is feasible;
• the effect on the town of Dunoon if its existing pier is not used and probably not refurbished;
• the outcome of what would effectively be a price war between two similar operators, no longer differentiated by their services.

Each of these is significant and requires investigation before any definitive opinion on this option could be drawn.

10.2.2 The Single Operator Options

A 'single operator/single route' solution represents the most cost-effective method of service delivery in the medium term, resulting in savings to the taxpayer of up to £7 million compared to the status quo over a 15 year period on our calculation. If this is accepted, then the next step in the consideration of future service delivery would involve the development of an implementation plan:

• combining with CMUCC, the Shipping Services Advisory Committee, Argyll and Bute Council, Inverclyde Council and other interested parties to ensure that future services meet their requirements;
• developing a regulatory framework to ensure that a single operator would not exploit a monopoly position, e.g. through some form of service charter or service agreement; and
• agreeing the process by which a single operator would emerge.

We modelled the 'single operator' options: D, E and F. In practice, there may be constraints on the implementation of each of them.

10.2.3 Option D : withdrawal of the Gourock/Dunoon service

Option D might be regarded as a weakening of the Secretary of State's previous commitment to a passenger service between Gourock and Dunoon. Service users would, therefore, need to be consulted before this option could be implemented. It would also, under current ownership arrangements, leave the route in the hands of a private sector operator who would effectively have a monopoly on it.

The possible abuse of such a monopoly position was a cause of concern among route users in the early 1980s, and to provide comfort, enforceable assurances would need to be secured that the service operator would not act in an anti-competitive manner. The question of how this could be done in law rests outside the scope of this study, as does the specification of a detailed service agreement in consultation with service users and other interested parties.

10.2.4 Option E : retention and upgrading of Dunoon

Option E involves upgrading Dunoon Pier to accommodate a ferry service from McInroy's Point (or, under Option F, from Gourock). This is Pot the least cost option - a ferry terminating at Hunter's Quay would involve significantly lower investment in pier infrastructure. This additional cost can only be justified if there is an external public benefit from routing ferries through Dunoon rather than Hunter's Quay. The calculation of the value of such a benefit lies outside the scope of this report.

If an independent assessment concluded that the volume of the external benefit was sufficient, on reasonable assumptions, to outweigh the extra costs associated with a Dunoon option, the next issue would be how such an option could, in practice, be implemented. There is no way that Western Ferries, as a private sector operator, could be forced to close the McInroy's Point/Hunter's Quay service. It would do so only by agreement. The question is whether, and under what conditions, such agreement would be forthcoming, and what premium would be fair and reasonable for the purchase of Western Ferries' route rights and assets.

One potential method by which such a solution could be implemented is through a Public/ Private Partnership (PPP) service agreement.

The PPP makes a distinction between the public sector as a client responsible for commissioning a service, and the private sector concessionaire responsible for its delivery. The Inverclyde-Cowal ferry service could be procured under the PPP by. means of an explicit Service Agreement which would set minimum standards for service safety, regularity and quality, and might also regulate the tariffs charged to passengers together with procedures for their adjustment.13 A private sector concessionaire would then be selected following a competitive tender and given responsibility for service design, financing, investment and operation.

A possible framework for such a Service Agreement is set out in Figure 10. 1 overleaf.

Figure 10.1 DELIVERY OF FERRY SERVICES ON THE GOUROCK/ DUNOON ROUTE A POSSIBLE PFI MODEL

Source: Deloitte and Touche

Figure 10. 1 shows that the existing service providers would vest their route rights and assets into a client organisation14 in return for a payment which would reflect their value. The client organisation would then package these rights and assets into a tender for the overall right to operate the route over a period of perhaps 20 - 30 years. The period would have to be of sufficient duration to enable any concessionaire to recoup their investment costs on upgrading the vessels and pier infrastructure necessary to meet their service obligations.

If this method of providing ferry services were selected, then it would only be implemented if the two existing service operators agreed to rest their route rights in a client organisation. Whether, and in what terms, they would be prepared to contemplate this are questions which lie outside the scope of this study.

10.2.5 Option F : closure of McInroy's Point/Hunter's Quay

Option F could be achieved by two methods:

• agreement by Western Ferries to withdraw its service from McInroy's Point/Hunter's Quay. Western Ferries has given no indication whatsoever that it is contemplating withdrawal, and given that its service is currently operating profitably and, on our calculations, has a Net Present Value in excess of £7 million, there is no obvious reason why it should;
• a process of free competition which would lead to the Western Ferries' service becoming loss-making. In principle, this could follow a decision to liberalise the CalMac service by removing the constraints which currently apply to it so that it could compete with Western Ferries on equal terms. However, the existing restrictions on CalMac's services could be ended only on condition that CalMac sets up a separate ring-fenced unsubsidised operating subsidiary or spin off the route to a privately owned successor, e.g. through a MEBO. This subsidiary would have its own capital structure and assets, pay a full commercial fee for any services provided by Head Office, and take responsibility for funding any new vessels required to service the route on a fully self-financing basis, in order to ensure that a level playing field existed with any private operator.

The alternative, of allowing CalMac to win a competitive battle against Western Ferries by pumping in route subsidies so that CalMac could undercut Western Ferries, would be unfair, costly and economically inefficient.

The question is whether CalMac could compete with Western Ferries on these terms. If it could, the likely consequence of complete liberalisation would be an intense competitive war between the two operators to gain dominance on the route. Our route analysis suggests that the market is not big enough to support two operators, so eventually one of them would be driven out or become insolvent.

10.3 Conclusions

We were not required to arrive at a single recommended option, and have not done so. However, the logic of the analysis is clear - namely, that the towns of Gourock and Dunoon could be linked most cost-effectively by a single operator, and the costs of the status quo are likely to increase as new investment to sustain it becomes unavoidable. However, a single service will lose the benefits of consumer choice and competition.

For this reason, there may be merit in further examining the more radical option presented by CalMac. as Option B from both the technical and commercial aspects. It should also be noted that none of the options are able to meet the refurbishment of Dunoon Pier to the scale envisaged by Argyll & Bute Council and that work remains to be done on the economic impact on the town of Dunoon of the pier no longer being used by CalMac.