Roads to perdition

1 May 2012 While experts agree moving to road pricing might make financial sense, politics could prove a barrier. Paul Jarvis looks at the problems, and what might be learnt from the rail industry
In March, Prime Minister David Cameron sent out a clear call for the private sector to get involved with Britain’s roads.

“Why is it that other infrastructure – for example water – is funded by private sector capital through privately owned, independently regulated, utilities,” he asked, “but roads in Britain call on the public finances for funding?”

Within weeks, the answer to this rhetorical question was made painfully clear. Fuel pumps across the country ran dry amid fears of an impending strike by tanker drivers, who are again flexing their muscles over the rising cost of petrol. The average price per litre of unleaded petrol in the UK has soared from 87.3p in January 2007 to 132.5p in December last year.

Making changes to the way motorists are priced is a politically challenging business, with the constant threat of alienating motorists across the country – not to mention sparking new demonstrations and further panic at the pumps.

The idea of changing the way drivers pay for the upkeep of the motorways and roads they use has been mooted many times before. Back in 2010, just weeks after the coalition came to power, Business Secretary Vince Cable backed a report suggesting private operators could operate road networks on behalf of the government.

“I think the principle in that report, which is using assets more creatively, is something we have to look at across government,” he said at the time, referring to work carried out by investment bank NM Rothschild. The then Transport Secretary, Philip Hammond, was also understood to be in favour of the idea, but it quickly fell from the top of the government’s agenda.

Indeed, Ian Simpson at consultancy Deloitte points out that a 2008 study carried out by the Labour government found charging extra lanes on existing motorways is “both technically and financially viable”, and could improve capacity.

So why should we see more activity this time? For one, the dire state of the country’s finances certainly makes the idea of selling off the road network to the private sector seem like an attractive idea. While in 2010 ministers may have thought they could manage without such a drastic plan, the failure of current economic policy to stimulate any meaningful growth might have convinced some of the need to be more radical.

But not everyone agrees that the state of the economy is a good enough reason in its own right to warrant such an overhaul. “It may happen,” says Chris Nash, an academic at Leeds University’s Institute for Transport Studies, “but it’s not necessarily sensible to do it just because of the financial situation.”

If the government is looking for a fast buck by selling off the roads, ministers may be disappointed. One financial adviser argues the best price that the government might get is actually close to zero. “If the network was sold off for just £1, it would ensure that the private operators would not feel the need to make large amounts of money simply to cover their upfront costs,” he says. Politically, though, that might be a hard one to sell.

What’s for sale?
Regardless of how much ministers might seek to get for the roads, however, they need to first decide what they are selling. Cameron himself gave little away in his speech, simply saying he had commissioned the transport department and Treasury to undertake a feasibility study of new ownership and financing models. That will report back in the autumn so until then there is little to go on.

Is a complete sell-off of all the UK’s roads on the cards, or might we see a more limited sale of assets, such as motorways only? “I could see the Highways Agency concessioning the care of roads on a regional basis,” says Nash – although he points out the interface with the rest of the road network could be tricky.

Scott Wilson, at consultancy LeighFisher, agrees. “It can be argued that the Highways Agency makes a bundle of money for the government, if you calculate the amount of money spent on vehicle excise duty (VED) and fuel duty on the road network. “I don’t see why you couldn’t sell off the motorways – Japan and France have.”

The prime minister was clear on one thing, however: there will be no use of tolls for existing roads, only for new ones. That raises the question of why selling off the road network might offer any better value for money than the current system. “God knows how they’re going to fund it if they’re not using tolls,” says one contractor.

Cameron made the comparison with the water industry in his speech, but experts point out that water companies have a direct relationship with their customers, charging them for the use of water. Without tolls, road operators would not have that same relationship with their end users.

“If the government is going to provide substantially more capacity, there is going to have to be more money from somewhere,” says academic Stephen Glaister, at the RAC Foundation. “The government has previously talked about ring-fencing the VED revenue, but that doesn’t in itself provide more money.”

“The Treasury would fight that tooth and nail because it doesn’t believe taxes should be ring-fenced in this way,” says Wilson. He also points out that connecting VED to road users might be difficult, because it does not change depending on usage. Fuel tax, on the other hand, does. “But it brings in about three times less than what is spent on roads,” he says. “So ring-fencing it would mean it was still only a proportion of what could be used to fund road improvements.

“As vehicles become more fuel efficient, and electric cars are introduced, the amount of money raised by fuel tax will continue to fall.”

And experts are unconvinced that we’ll see a raft of new roads being built to take advantage of the ability to toll them. While the majority of other countries that do toll have only introduced charges on new roads, there is far less space in the UK to do that. “I don’t think there are many really good greenfield opportunities left,” says Glaister.

“Whether any could be made to stack up financially, I’m not sure.”

Hitting the rails
It remains far from clear how the private sector might be able to make money on the existing network if tolls are out of the question.

Shadow tolling or the more straightforward availability payments – whereby the private sector is paid to keep the road open – could be options. “But it is still taxpayers’ money,” says Glaister, his point being that those who use the roads are still not paying a proportionate amount for that usage. “By definition, it is shifting money from somewhere else to pay the shadow tolls.”

A more innovative approach could be allowing private operators to use the regulated asset base (RAB) model to raise funds for investment. Under RAB, the regulator assigns a value to previous investments, which can then be used as the basis of a long-term contract between investors and customers. It has been used in the rail industry, largely by Network Rail until now, but that could all be about to change. The government’s Command Paper on the rail industry, which effectively backed the McNulty review of the rail sector, said private train operators should be encouraged to make greater use of RAB to fund upgrades.

“I could imagine the shadow toll on a RAB basis in a region,” says Glaister. “You would then have a periodic review of the leveraged shadow toll.”

Nash agrees. “RAB might put extra pressure on the private sector for quality and efficiency through a regulator. And it might give access to more stable funding.”

However, Tammy Samuel, at lawyers SNR Denton, warns that making a comparison between road and rail is not perfect here. “I’m not aware of any RAB-financed rail projects that were not done by Network Rail,” she explains, pointing out that getting the private sector to use RAB has proved difficult. “So looking into it is one thing, but getting it to work is completely different.”

The experience in the rail sector could offer the roads a useful case study from which to learn. “The Highways Agency could play the role of Network Rail as a systems operator, but concession different parts of the network,” says Nash. That would be better than selling them off completely because it would ensure the government could retain some control over the network, he adds.

Getting the private sector to invest in long-term infrastructure upgrades has proved a challenge on the trains, but the Command Paper is looking to change that. One thing many in the industry believe might be key to unlocking greater rail investment is longer franchises, giving the train operating companies (TOCs) the incentives to plough money into station upgrades and other work.

At present, seven-year concessions mean such major infrastructure work will not benefit the TOCs during their concession period, so have no reason to start such schemes.

“There’s a lot of room for TOCs to invest in new developments,” says Samuel. “In the past, it’s often been too difficult.

“Network Rail has started to develop small and medium-sized stations. It’s never been an issue to get something done with the bigger stations, such as St Pancras or Victoria in London, but the smaller ones are more difficult. Having the TOCs inside the tent here could help.”

With the vast majority of all franchises up for renewal over the next two years, it could mark a step-change in the way the private sector works in partnership with the public rail network. The lessons learned in reaching this stage mean the government may be able to avoid some of the mistakes of the past – and it might mean longer partnership arrangements will also be necessary on the roads.

“If the government is after someone to invest in upgrading the infrastructure, long-term contracts will be better,” suggests Samuel.

Glaister, though, is not convinced this is the only option. “It can be done with short-term contracts. The buses in London work on five-year contracts and that has worked well.”

Ghost of PFI
Whatever the final plans look like, the government will have to be sure the private sector is willing to get involved. The early signs are promising. “I think it is potentially interesting for any contractor,” says a source at one investor. “[But] the details are extremely sketchy at the moment.”

Laughlan Waterston, at funder SMBC, agrees that if the government is looking to sell off parts of the road network, he and others are likely to be interested in funding them. “If these are project finance-type acquisitions, they would be of interest,” he says. “We have looked at this sort of thing in France in the past.”

While there remains uncertainty over exactly what the model for a privatised road network might look like, however, it will be hard for the government to be sure there is substantial interest. Some experts, however, suggest that Cameron’s comments may not have been as radical as the prime minister might have wanted them to appear.

“Many roads are already privatised on long-term concessions,” says Samuel. “We did the M25 contract, for example, which is a design, build, finance and operate contract to widen key sections of the motorway.”

And it’s not just the M25. There are plenty of PFI and PPP deals around the country that have brought new investment into roads and allowed them to be greatly improved. Most notably, the highways PFI pilots in Birmingham and Portsmouth have been well received and the government has backed the procurement of similar programmes in Sheffield, the Isle of Wight and the London Borough of Hounslow.

“What was said [by Cameron] looks a lot like the PFIs that already exist,” adds Wilson. He suggests the only difference might be the length of contract – say up to 70 or even 90 years long, as opposed to the traditional 25-30 years for a PFI deal.

For all the negative publicity attached to PFI, most experts are in agreement that it might offer a sensible option for ministers. “Roads are pretty simple and there are advantages in the lifecycle element,” says Glaister, “so why not use PFI?”

Nash reveals work carried out by one of his students concluded road PFI deals do give better value for money on average, but they are only worthwhile for larger schemes because of the set-up costs.

“I’m not sure big schemes are what we need,” he continues. “We would want to see work around junctions and small things like that.”

One investor suggests the government wants to have the Highways Agency working around the existing PFI deals. If more of these are procured across the country, it may mean the agency’s role is diminished as the ‘privatised’ roads are looked after on long-term contracts by private operators. This could ensure a cash injection to some of the most run-down and congested town and city roads, while freeing up capital money for the Highways Agency to focus on the major network.

So could Cameron have simply been preparing the country for a ramping up of the highways PFI programme, only by another name? Politically, it would have been difficult to talk of increasing the use of PFI at a time when a review into its very existence is taking place at the Treasury.

“We at the RAC Foundation were left confused as to what the government has in mind,” admits Glaister. “I suspect they don’t know.”

Until the Treasury and transport department report back to the prime minister in the autumn, the guessing game will continue. Just don’t be surprised if the outcome has some familiar hallmarks, particularly as it is scheduled to appear just a few months after the Treasury’s response to the PFI review’s call for evidence.

As with the Priority Schools Building Programme at the education department, road privatisation could be used as a testing ground for the newly detoxified model of private investment.

This page was last updated on:
17 July 2012.

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