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Capital risk As John Prescott shows his determination to make privatisation of the Underground succeed with the sacking of London Transport chairman Peter Ford, Antony Oliver examines what demands the

In a surprise move last Tuesday Deputy Prime Minister John Prescott showed his intention to control privatisation of the Underground at the expense of London Transport chairman Peter Ford.

Observers believe that the writing was on the wall last week with the publication of an Official European Journal advertisement for consultants to advise London Underground on how to privatise itself. 'LU simply has not got the skills to strike deals with the private sector,' they said.

The plan outlined by Prescott last month will ask the private sector for bids to maintain and modernise the network's ageing infrastructure and rolling stock. The resulting 15 year concessions will leave the public sector body simply providing the service to passengers, and let the private sector get on with a £7bn improvement scheme.

Not overt nationalisation, nor overt privatisation, but a new third and middle way, proclaimed Deputy Prime Minister John Prescott. And over the next eight months, government, LU, and all those interested in getting a slice of one of the most significant public transport shake-ups since rail privatisation, will have to thrash out the details.

But while in outline the plan seems workable, it is the details that will determine whether or not the private sector will either want or, perhaps more significantly, be able to get involved.

Past experience of the Private Finance Initiative in the road and hospital sectors has given the private sector a great deal of experience of what to expect. This, of course, includes experience in detecting quickly if it is on a hiding to nothing. Having eight months or more to consult and discuss the terms of any deal could be seen as an excellent opportunity to allay such fears - providing government, in particular the Treasury, is prepared to listen.

Miller Civil Engineering managing director Graham Grundon says that like all major construction groups it is assessing its interest in the proposals. But he is clear that any moves must take into consideration exactly how such a deal fits into business plans and the level of financial risk associated with making such a bid.

'Interested parties can expect bidding costs similar to the last major rail infrastructure bid, the Channel Tunnel Rail Link. Costs of this level certainly concentrate the mind and will make consortiums think very carefully before committing themselves to bid for a London Underground concession,' says Grundon.

What he and the other potential bidders certainly will not be drawn into is spending vast amounts of cash on any bidding before knowing precisely what level of service LU will demand, and of course just what level of access charge it will be prepared to pay for this service. Too much money has been wasted in this way in the past.

'While the private sector invariably meets new challenges proposed by the government it will not take on lightly the costs and risks associated at this level,' says Grundon. 'In addition the formats of the contracts are somewhat different to those in place for Railtrack infrastructure. This is because London Underground is looking for interested parties to supply and maintain the rolling stock in addition to maintaining the existing system.'

So the negotiations from now on will have to find a way to close the inevitable gap between the high level of service that LU will demand from any concessionaire and the low level of access charge necessary to keep the fares low without excessive public subsidy. And it will not be easy, particularly as a huge amount - estimated conservatively at £1.2bn - must be spent as soon as possible to reduce LU's maintenance backlog. Despite the extra £365M ploughed into the system over the next two years, it still remains unclear just what level of disrepair concessionaires will find.

'Committed parties must also be interested in seeing how the £7bn estimate has been established, as many of the below ground tunnels have not had detailed state and condition surveying for many years,' says Grundon. 'The extent of work required can only be estimated on a very broad basis, therefore interested parties may find themselves involved in a complex bidding process with risk having to be established early on in the negotiations.'

It is clear that the private sector will not be bundled down any path towards accepting risk without first ensuring that there will be returns on offer for the value that it adds to LU's operations. All this means some very tough talking with government and, as some believe, will require an aggressive, heavyweight approach.

Firms such as consultant Gibb realise that having clout even at this early stage is vital if they are going up against the likes of Railtrack, which could easily take over the whole network in one bite. They need to be big and financially strong enough to fight their corner.

While the precise make up of Gibb's consortium will be disclosed within the next month, chief executive Peter Brettell says: 'We need to be a consortium that is big enough and strong enough to do the complete job if necessary. It is crucial that we are strong enough to say to government: 'is that what you want?' and if not to negotiate to find a workable solution.'

Brettell is clear that the first hurdle to bridging the gulf between what LU wants and what it is prepared to pay, is to link revenue more closely with operation. In the current thinking the two are distinct - LU looks after the service and collects the revenue while paying the track and rolling stock operator a flat fee for providing this service.

'This means that revenue issues become very much someone else's problem,' he says. 'Railtrack does very well simply because it does not have to worry about generating revenue from passengers.'

But he argues that with LU in charge of operations this situation could never happen on the Underground. It simply would not be able or prepared to pay high enough charges to the track operator to finance improvements.

'We would need to make substantial investment in the infrastructure and in equipment to do the job efficiently,' says Brettell. 'But if you do not tie the private sector to the revenues, then you will not have sufficient risk sharing to afford this level of investment. Part of the discussion with government will be to determine whether there is enough risk sharing in the contracts.'

On the one hand revenue could be affected by poor or faulty infrastructure and rolling stock delaying trains. But on the other hand revenue could also be increased by improvements in the infrastructure or rolling stock. Without a means to reflect this risk the private sector will be left in the dark.

It is only a month since Prescott unveiled his plans, and therefore perhaps a little early to judge how well discussions with the private sector are progressing. But with the restructuring of the LT board Prescott has shown that he wants to keep a firm grip on the process. The private sector should now have the strength to tell him what will work, so that the mistakes of the Channel Tunnel Rail Link are not repeated.

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