1. Assessing the efficient cost of sustaining Britain’s rail network: perspectives based on Zonal comparisons. First Conference on Railroad Industry Structure, Competition and Investment Toulouse, 7 Nov 2003 Andrew Smith* (email: asjs3@cam.ac.uk) * Co-author: John Kennedy. Full paper forthcoming in Journal of Transport Economics and Policy. Working paper version can be found at http://www.econ.cam.ac.uk/dae/research/regulate/rail-regulation.htm. This presentation should not be quoted without permission.

2. Acknowledgements Co-author: John Kennedy (Network Rail). Supervision: –Cambridge: Dr Michael Pollitt and Professor David Newbery –Network Rail: Stephen Gibson; John Smith; Paul Plummer; Duncan Hannan; and Ian Marlee.

3. Introduction Between 1994 and 1997 British Rail restructured and sold. Infrastructure (Railtrack) separated from train operation. Office of Rail Regulator (ORR) set up to regulate Railtrack. What level of “efficient costs” required to sustain network? Propose internal (Zonal) benchmarking to inform debate.

4. Background First major review of costs in 2000 Periodic Review. External benchmarking approaches proved inconclusive.

5. Background StudyTypeTarget Booz-Allen“Bottom-up”18%. First major review of costs in 2000 Periodic Review. External benchmarking approaches proved inconclusive.

6. Background StudyTypeTarget Booz-Allen“Bottom-up”18%. NERAInternational14-18%. First major review of costs in 2000 Periodic Review. External benchmarking approaches proved inconclusive.

7. Background StudyTypeTarget Booz-Allen“Bottom-up”18%. NERAInternational14-18%. Europe EconomicsPrivatised industries14-23%. First major review of costs in 2000 Periodic Review. External benchmarking approaches proved inconclusive.

8. Background StudyTypeTarget Booz-Allen“Bottom-up”18%. NERAInternational14-18%. Europe EconomicsPrivatised industries14-23%. OXERA9%.Nature of work First major review of costs in 2000 Periodic Review. External benchmarking approaches proved inconclusive.

9. Background StudyTypeTarget Booz-Allen“Bottom-up”18%. NERAInternational14-18%. Europe EconomicsPrivatised industries14-23%. ORR conclusions17%. OXERA9%.Nature of work First major review of costs in 2000 Periodic Review. External benchmarking approaches proved inconclusive.

10. Recent developments October 2000 Hatfield derailment (defective track). Heightened concerns over state of infrastructure. Precipitated major financial crisis at Railtrack. In October 2001 Railtrack went into administration. A year later assets taken over by Network Rail - CLG. Immediately ORR announced interim review of new company’s finances.

11. Progress of escalating costs First five years: £14 bn £10.40 per train mile

12. Progress of escalating costs First five years: £14 bn Next five years: £16.7 bn 2000 PR “settlement” £10.40 per train mile £11.24 per train mile

13. Progress of escalating costs First five years: £14 bn Next five years: £16.7 bn 2000 PR “settlement” £10.40 per train mile £11.24 per train mile £21.8 bn Railtrack summer 2001 £14.67 per train mile

14. Progress of escalating costs First five years: £14 bn Next five years: £16.7 bn 2000 PR “settlement” £10.40 per train mile £11.24 per train mile £21.8 bn Railtrack summer 2001 £14.67 per train mile £27.1 bn Network Rail summer 2003 £18.24 per train mile

15. Internal benchmarking - a Zonal approach Railtrack divided into seven geographical Zones. Potential for savings from implementing own best practice consistently. Data consistent across zones; smaller differences in scale, technology etc. Precedents: OFWAT; OFGEM.

16. Efficiency measurement techniques Efficiency of M&R activity across network (by Zone). Input distance function estimation (COLS and SFA); analysis.

17. Efficiency measurement techniques Efficiency of M&R activity across network (by Zone). Input distance function estimation (COLS and SFA); analysis.

18. Efficiency measurement techniques Efficiency of M&R activity across network (by Zone). Input distance function estimation (COLS and SFA); analysis. Zones assumed to minimise inputs (costs; quality) for exogenously-given output (track miles; traffic volumes).

19. Efficiency measurement techniques Efficiency of M&R activity across network (by Zone). Input distance function estimation (COLS and SFA); analysis. Zones assumed to minimise inputs (costs; quality) for exogenously-given output (track miles; traffic volumes). Trade-off between cost and quality explicitly recognised in DF.

20. Data List of variablesCoverage Maintenance costs Track renewal costs RT-caused delays Broken rails Passenger train miles Freight tonne miles Track miles 7 Zones: 1995/96 to 2001/02 7 Zones 1995/96 to 2001/02 Track quality; TSRs; track age; track category 7 Zones, 2001/02 only. Inputs Outputs Other factors

21. Input trends: maintenance and renewal costs

22. Input trends: quality measures

23. Output trends

24. Potential for savings Suggests savings of 13% if apply (own) best practice. Recent report prepared by ORR: 11-24% for maintenance.

25. Change post-Hatfield? 1999/00 Rankings* LNE[1] Scotland[2] East Anglia[3] Southern[4] Great Western[5] North West[6] Midlands[7] LNE[4] Scotland[1] East Anglia[6] Southern[3] Great Western[2] North West[7] Midlands[5] Differing responses to Hatfield by Zone. LNE deteriorates. 2001/02 Rankings* * Total cost rankings

26. Robustness of scores Do the most efficient Zones fall down on other measures?

27. Robustness of scores Variable L2 Exceedences Do the most efficient Zones fall down on other measures. Correlation based on 1 year Efficient zones have low L2 exceedences* * Significant at 5% level.

28. Robustness of scores Variable L2 Exceedences Speed restrictions Do the most efficient Zones fall down on other measures. Correlation based on 1 year Efficient zones have low L2 exceedences* Efficient zones have fewer speed restrictions** * Significant at 5% level. ** Not significant at 5% level.

29. Robustness of scores Variable L2 Exceedences Speed restrictions Track category (linespeed and tonnage) Do the most efficient Zones fall down on other measures. Correlation based on 1 year Efficient zones have low L2 exceedences* Efficient zones have fewer speed restrictions** Efficient zones associated with higher track category** * Significant at 5% level. ** Not significant at 5% level.

30. Robustness of scores Variable L2 Exceedences Speed restrictions Track category (linespeed and tonnage) Age of track Do the most efficient Zones fall down on other measures. Correlation based on 1 year Efficient zones have low L2 exceedences* Efficient zones have fewer speed restrictions** Efficient zones associated with higher track category** Efficient zones have older assets** * Significant at 5% level. ** Not significant at 5% level.

31. Efficiency and contractors Maintenance cost efficiency rankings versus maintenance contractor* ZoneMaintenance contractors MidlandsSERCO; AMEY; Carillion. ScotlandFirst Engineering. London North Eastern Jarvis. North WestFirst Engineering; Jarvis; Carillion. East AngliaBalfour Beatty; AMEC. SouthernBalfour Beatty; AMEC Great WesternAMEY; Carillion. * Most efficient Zone (in 2001/02) listed first. No clear relationship between efficiency and contractor. Note Great Western - now in-house - bottom of rankings.

32. Some conclusions At company level, sharp unit cost reductions after privatisation largely wiped out by Hatfield. Relative performance: –Differing responses by zones to Hatfield –Scope for average savings of 13% if replicate best practice Results robust to variety of other possible cost drivers. And in line with more recent ORR zonal benchmarking. Suggests that internal benchmarking a useful additional tool for ORR; especially given lack of external benchmarking options.