What derailed the Transport Department

 
Sir Richard Branson Sir Richard Branson's Virgin fought the Department's decision to award the franchise to First Group

In awarding a contract to run a public service, such as a railway, there is a balance to be struck between making the contract long enough to encourage serious investment and not so long that the forecasts built into bids for the contract become highly speculative.

What the Department for Transport appears to have got chronically wrong in the case of the West Coast Main Line franchise is its assessment of the risk that attaches to projections by bidders of revenues in the latter years of the 15-year franchise.

To put it in terms that we can all understand, if I expect to earn a pound from my work tomorrow, that pound is much more likely to materialise than a pound that I might expect to earn in 2025 (if anyone will still employ me then).

By extension, when First Group and Virgin made their bids to run the line that connects London with Manchester and Glasgow, it would have been reasonable to expect the Department for Transport to put a much greater weight on revenues the companies expect to generate in the first five to ten years than in the latter five years.

However the Department seems to have understated the long-term risks when awarding the contract to First Group.

Or to put it another way, the Department made unrealistic assumptions about the growth of passenger numbers and inflation towards the back end of the franchise period - which had the effect of making First Group's bid seem significantly more attractive, because First Group was massively more optimistic about how passengers and revenues could grow after 2021 than was Virgin.

This error seems to have occurred both when Virgin was eliminated from the bidding contest, and when First Group's bid was reassessed against the Department's own forecasting model for future revenues.

The basic point is that although there are powerful arguments for awarding longer term contracts, so that the successful bidder has an incentive to spend serious money on the best kit, a healthy scepticism needs to be attached to forecasts of the health of the economy and of the relevant public service over a time period as long as three parliaments.

Without such healthy scepticism, the government would tend to demand too little in the way of guaranteed money for taxpayers from bidders who are particularly optimistic about long-term prospects.

UPDATE 16:20 BST

Rarely if ever in the history of private provision of public services has there been such a bungle by Whitehall in the awarding of a highly valuable and important contract.

There appear to have been two giant errors by the Department for Transport in the way it adjudicated on who should receive the 15 year contract to run the West Coast Main Line.

First it unfairly discriminated against the incumbent, Virgin, by attaching far too great a probability to the projections by the rival bidder First Group that its revenues in the later years of the contract would be much bigger than Virgin's.

This mistake was compounded in the department's own internal forecasting model, which also attached too little risk to the possibility that passenger numbers and inflation would be significantly different from what First Group was projecting after 2021.

As a result, the government demanded too little guaranteed money for taxpayers from First Group.

But perhaps all this can be forgiven as an unfortunate technical error. What is perhaps more shocking is that Virgin has been complaining about the flaws in the bidding process for months, and yet the government pressed on with awarding the contract to First Group.

It was only after Virgin demanded a judicial review - after it sued - that the department was forced to acknowledge that it had made an egregious error.

Junior heads may now roll - in that three department officials have been suspended. But some would say that it is incumbent on the permanent secretary, Philip Rutnam, and the previous transport secretary, Justine Greening - reshuffled out only last month - to explain how they came so close to awarding a contract worth around £5bn on such a flawed basis.

 
Robert Peston Article written by Robert Peston Robert Peston Economics editor

End of QE is whimper not bang

As the Fed Reserve ends quantitative easing, those who prophesied that these trillions of dollars of debt purchases would spark uncontrollable inflation have been proved wrong. But QE could still prove toxic.

Read full article

More on This Story

More from Robert

Related Stories

Comments

This entry is now closed for comments

Jump to comments pagination
 
  • rate this
    +22

    Comment number 23.

    Confidence in DoT financial projections??

    Given this episode has exposed the chronic mis-calculations present in the Department of Transport, would it not now be wise to check again those calculations/assumptions before spending £32bn plus on HS2.

  • rate this
    +3

    Comment number 22.

    Many passengers are satisfied with Virgin's management of this rail service. Virgin was second in the bidding for the franchise, why not let Virgin to continue running the line and save the loss of £40,000,000 in another flawed bidding process?

  • rate this
    +1

    Comment number 21.

    The errors in estimates aren't the biggest problem.

    The biggest problem is that there is no competition in rail provision. The competition is for the right to run a monopoly on a given section of track. Rail is not a good candidate for privatisation.

    How can customers ever benefit from this £-chasing farce?

  • rate this
    +1

    Comment number 20.

    Thinking pass the Laurel and Hardy government's another fine mess what about giving East Coast the job of running those lines permanently and then adding First Capital Connect when that franchise runs out 2015 (or before as the SoS has an earlier option to end it). Better still time for the One Nation Party to propose a One Nation railway system and end running trains like a market stall.

  • rate this
    0

    Comment number 19.

    17 Seymour Totti, It's simple, if a private operator can manage better to reduce costs and / or generate more passengers then they make a profit.

    The big failure of privatisation is that railways were supposed to continue fading away as under BR but private companies started increasing passenger numbers instead

  • rate this
    +7

    Comment number 18.

    It's all in the Treasury Green Book
    "Project appraisers have the tendency to be over optimistic. Explicit adjustments should therefore be made to the estimates of a project's costs, benefits and duration, which should be based on data from past or similar projects, and adjusted for the unique characteristics of the project. in hand". Obviously, the process and governance were not robust.

  • rate this
    -4

    Comment number 17.

    How is someone running a rail service and making a profit for the shareholders cheaper than someone not taking out a profit.
    The £40m cost of the bids would be passed on to the passengers through higher fares eventually, so this process is hardly best value for the public?
    Let's see one party add "Re-Nationalisation" to their manifesto and find out what the public thinks at the next election.

  • rate this
    +31

    Comment number 16.

    First Group can (and already has at least once before) walk out of an agreement like this with no significant penalties after the initial period but before the period of higher payments starts.

    Incredibly, a bidder that has already renegued on such a contract is was considered again for a similar contract.

    Interestingly, First seems to employ many well paid ex-government and ex-TFL types.

  • rate this
    +3

    Comment number 15.

    "Excessively optimistic" A bit like the banks then?
    Government looking the other way and being caught with a cold? A bit like the banks then? "unrealistically optimistic" A bit like the banks then?

    Is there anyone, anyone at all, emanating from the Palace of Westminster, who can be trusted with public funds?

  • rate this
    +4

    Comment number 14.

    Thank heaven for that. I use this line regularly and have seen Virgin steadily, step by step, improve the service and make it a viable alternative to driving. Not so on franchises already operated by First who are comparatively unappealing. Anyone who uses both organisations will be heaving a sigh of relief for themselves and for the enthusiastic people who make Virgin what it is!

  • rate this
    +2

    Comment number 13.

    This incompetent govt's PR machine is in full flow by the reactions you are generating - they seem to be parroting that its all the fault of the Civil Servants. How convenient?
    Not a single govt Minister was at fault of course. This is the theme that comes out of No10 - blame it all on the plebs and be there to take the glory when things go well (as in the Olympics photo opportunities).

  • rate this
    +15

    Comment number 12.

    A government minister exposes wrongdoing and / or incompetence in his own department and opposition politicians say he should get a grip? What hypocrisy! They should be congratulating him on an outbreak of honesty so rare in today's politics. How much more have these same officials messed up?

  • rate this
    +2

    Comment number 11.

    Is there not a more fundamental issue about the wisdom of seeking to quantify the unquantifiable? You give one example of this, but there are thousands that come up daily in government contracting where they seek to impose a pseudo-scientific veneer or what is essentially a subjective process. This seems to protect commissioners at the expense of the public.

  • rate this
    +10

    Comment number 10.

    Well, if the franchisee was made to honour their wild guesses it wouldn't be a problem. But they're not for two reasons:

    a) They put in weasel words, so almost any world events mean they're not bound
    b) If they've made enough profit in the first 10 years, they can hand in the keys early with a relatively small penalty, escaping most of the payment to the Treasury

    Government carries all the risk.

  • rate this
    +1

    Comment number 9.

    Civil servants and risk management have never made a great combination. One of the problems is that civil servants get moved around too frequently from job to job and organisational understanding and memory disappear. Too much civil service filing is chronological rather than creating issues based files to retain institutional knowledge.

  • rate this
    +2

    Comment number 8.

    What derailed the Transport Department?

    Putting short term greed before customer service?

  • rate this
    +2

    Comment number 7.

    The system simply does not work and never will. The time scales required are too long for this kind of planning. The pre BR Grouping didn't work either. When people say that if Civil Servants can't get this right then why should we think they could get BR right. Simply put the people who ran be had trains for blood and track for arteries.

  • rate this
    +9

    Comment number 6.

    So First Group were excessively optimistic and so won the contract?

    Sounds a bit like a few other private business forecasts that proved to be bunk but were accepted because that's what government wanted to hear.

    Opened up markets don't promote efficiency. They promote lying and cheating for the profit.

    Who's most to blame? Lying executives, or conniving officials?

  • rate this
    +4

    Comment number 5.

    Suspect this is officials not grasping the basics of a long term model rather than Govt policy. There should be plenty of expertise in government as they have been reviewing and amending the PFI /PPP model for 20 years now. Looks like lessons learnt panel has not been working whatever colour govt is in. What were the officials at PUK or Treasury doing - cream of long term finance modellers??.

  • rate this
    +4

    Comment number 4.

    The Department made unrealistic assumptions:

    It seems a lot of Whitehall's departments suffer from this complaint ?

    Are we now going to revisit other major contracts to see what errors could have possibly been made , or was this just an aberration.

    HS2 should certainly be looked at more closely before committing huge amounts to the project .

 

Page 17 of 18

 

Features

BBC © 2014 The BBC is not responsible for the content of external sites. Read more.

This page is best viewed in an up-to-date web browser with style sheets (CSS) enabled. While you will be able to view the content of this page in your current browser, you will not be able to get the full visual experience. Please consider upgrading your browser software or enabling style sheets (CSS) if you are able to do so.