0017391 CLYDE AND HEBRIDES LIFELINE FERRY SERVICES - SCOTTISH EXECUTIVE’S CONSIDERATION OF THE...

8/14/2019 0017391 CLYDE AND HEBRIDES LIFELINE FERRY SERVICES - SCOTTISH EXECUTIVES CONSIDERATION OF THE REQ

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CLYDE & HEBRIDES

LIFELINE FERRY SERVICES

SCOTTISH EXECUTIVES CONSIDERATION

OF THE REQUIREMENT TO TENDER


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CLYDE AND HEBRIDES LIFELINE FERRY SERVICES

SCOTTISH EXECUTIVES CONSIDERATION

OF THE REQUIREMENT TO TENDER


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CONTENTS

Page No.

Summary of Scottish Executives Consideration of Requirement to Tender

- Background- Policy Objectives- Position in EU Member States- Revised Guidelines- Are there Alternatives to Tendering?- Conclusion- Next Steps- Staffing and Employment Issues- Gourock-Dunoon

11

1

2

2

5

5

6

7

Annexes

Annex A - Alternatives to Tendering which have been considered by

the Scottish Executive

- Background- (A) The Status Quo- (B) Altmark- (C) New Scheme where subsidy is available to all

Community shipowners

- (D) Clyde and Hebrides service brought in-house byScottish Ministers

- (E) Management Contract- (F) Professor Kays 5 part proposal which he suggested

would meet the 4 Altmark criteria

- (G) Meeting Underlying Objectives of EU rules meeting the Spirit of the Treaty

- (H) Proposal that the 1973 Undertaking between theExecutive and Caledonian MacBrayne was an existing

public service contract as described in Article 4,

paragraph 3 of the Maritime Cabotage Regulation and,

therefore, pre-date the requirements of the 1992

Maritime Cabotage Regulation- (I) Effect of July 2005 Commission Decision in relationto Services of General Economic Interest (SGEIs)

8

9

9

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12

12

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15

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Annex B - The Scottish Executives Consideration of the Academic

Papers submitted to the Local Government and Transport

Committee

- The Proposed Tendering of Clyde and Hebrides FerryServices: Problems and an Alternative Proposal

(Professor Neil Kay)

- Competing for the island lifeline: European Law, stateaid and regional public services (Dr Paul Bennett)

17

18

20


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- The Requirements of the European CabotageRegulation in relation to the General Treaty (Dr Paul

Bennett)

- The Financing of Lifeline Ferry Services to the Clydeand Hebrides (Jeanette Findlay)

25

27

Annex C - Staffing and Employment Issues

- Transfer of Undertaking (Protection of Employment)Regulations 1981 (as amended) (TUPE)

- Off Shore Status- Pensions- Protection of Terms and Conditions- New Appointees- Clawback- 2002 Protocol on Public Private Partnerships in Scotland

(agreed by the Executive and the STUC)- Flagging (Registration) of Vessels- Service Specification Requirements in relation to

Staffing

- Language- Nationality of crews- Nationality of bidders- Location of headquarters- Assurances given by Caledonian MacBrayne in relation

to protection of employees terms and conditions,

redundancy and the location of its Headquarters

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31

32

32

33

33

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34

34

35

36

36

36

36

Annex D - Summary of Decision of European Court of Justice in the

Altmark case

38

Annex E - Summary of Research on the application of the Maritime

Cabotage Regulation in EU Member States

41

Annex F - Correspondence between the Scottish Executive Ministers

for Transport and the European Commission Vice

President

48


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SUMMARY OF SCOTTISH EXECUTIVES CONSIDERATION OF

REQUIREMENT TO TENDER

Background

1. During the Parliamentary debate on ferry services on 8 December 2004, theParliament expressed concerns about the Scottish Executives (the Executives) proposals totender the Clyde and Hebrides ferry services. The then Minister for Transport, Nicol Stephen

MSP, agreed to discuss these concerns with the European Commission and, thereafter, to

return to Parliament.

2. In parallel with the most recent discussions with the Commission, the Executive hasreviewed the requirements of EU law in relation to the Clyde and Hebrides ferry services.

The Scottish Parliament Local Government and Transport Committee and others with an

interest including MSPs and MEPs, the trades unions representing the Caledonian

MacBrayne workforce, and Scottish academics have made a significant contribution to that

review and the Executive is grateful for their efforts.

3. The review included re-consideration of the implications of the 2003 decision of theEuropean Court of Justice in the Altmark case which some commentators have suggested

resulted in a relaxation of state aid rules and removed the requirement to tender the Clyde and

Hebrides ferry services. The Executive also considered proposals for alternatives to

tendering, some of which were put forward by other parties.

Policy Objectives

4. The Partnership Agreement A Partnership for a Better Scotland1 makes it clear thatthe Executive is committed to continuing to support and invest in lifeline ferry links.

5. The Executives policy objectives for the Clyde and Hebrides ferry services were setout in the 2000 consultation document Delivering Lifeline Ferry Services2. The Executive

seeks to ensure:

- the provision of a suitable standard of transport connection, in terms ofquality, frequency and capacity, to island and remote peninsular communities;

- that ferry fares and freight charges are not excessive;- that ferry services are delivered efficiently; and-

that the necessary level of service is provided for the minimum amount ofpublic subsidy.

Position in EU Member States

6. The Executive recently commissioned consultants Steer Davies Gleave to carry outresearch on the application of the Maritime Cabotage Regulation in other Member States.

The research found that all EU Member States with lifeline ferry services are either already

compliant with the European Union Maritime Cabotage Regulation, are in the process of

1

http://www.scotland.gov.uk/library5/government/pfbs-00.asp

2http://www.scotland.gov.uk/consultations/transport/fese-00.asp


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becoming so or are in discussion with the Commission about how to bring their services into

line.

7. There is a mix of Public Service Obligation (PSO) and Public Service Contract (PSC)arrangements in place across the European Union. In all cases where a Public Service

Contract is in place with an individual operator other EU Member States have tendered it orare making plans to do so in the future. This includes Denmark, Estonia, Finland, France,

Greece, Ireland, Italy, Malta, Spain and Sweden. This research has been published and is

available on the Scottish Executives website. A summary of the arrangements in EU

Member States is attached as Annex E.

Revised Guidelines

8. The flexibility which the Executive lobbied hard for has since been formalised in therevised guidance published by the Commission in December 2003 and January 2004. In

particular, the revised guidance now provides for:

- subsidy to be allowed for mainland to mainland routes according to criteriathat the two Caledonian MacBrayne mainland to mainland routes meet;

- the creation of a vessel owning company which would own the vessels used indelivering the services and lease them to the ferry operator, with the operator

required to use the existing vessels. This would ensure that the Caledonian

MacBrayne fleet remains in public ownership, with the purpose-built vessels

available for the first and future contracts;

- the bundling of routes, rather than services being tendered on a route by routebasis.

Are there Alternatives to Tendering?

9. Following the Parliamentary debate on ferry services on 8 December 2004, theExecutive considered proposals for alternatives to tendering, some of which were put forward

by other parties. In particular, the Local Government and Transport Committees

consideration of the issues and the interest of others including the STUC and academics has

provided valuable input into the alternatives considered by the Executive. The alternatives

considered were:

(A) Status Quo

(B) Altmark

(C) New scheme where subsidy is available to all Community shipowners

(D) Clyde and Hebrides service brought in-house by Scottish Ministers

(E) Management Contract

(F) Professor Kays 5 part proposal which he suggests would meet the Altmark

criteria

(G) Meeting the underlying objectives of EU rules meeting the Spirit of the

Treaty.

(H) Proposal that the 1973 Undertaking between the Executive and Caledonian

MacBrayne was an existing public service contract as described in Article 4,


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paragraph 3 of the Maritime Cabotage Regulation and, therefore, pre-date the

requirements of the 1992 Maritime Cabotage Regulation.

(I) Effect of July 2005 Commission Decision in relation to Services of General

Economic Interest (SGEIs)

10. A detailed consideration of each of these options is set out at Annex A but a summaryis provided below:(A) The Status Quo

11. The Maritime Cabotage Regulation3 requires that where a Member State concludes a public service contract or imposes a public service obligation it shall do so on a non-

discriminatory basis in respect of all Community shipowners. The current arrangement

between the Executive and Caledonian MacBrayne is a public service contract. It was not

concluded on a non-discriminatory basis and is, therefore, not compliant with the Regulation.

(B) Altmark

12. The Altmark judgement states that where sectoral EU rules apply (e.g. shipping, road,rail and inland waterways) they cannot be avoided by an appeal to the general rules of the

Treaty. The Clyde and Hebrides ferry services fall within the scope of the Maritime Cabotage

Regulation and the arrangements for the services must, therefore, be considered against the

requirements of that Regulation. Further, the Altmark decision looked at whether a subsidy

provided an advantage but the Maritime Cabotage Regulation requires that Community

shipowners be treated on a non-discriminatory basis. Thus even if it could be shown that the

Clyde and Hebrides ferry service met the Altmark criteria this would not mean that they had

met the non-discrimination requirement.

(C) Subsidy available to all

13. Under this option Scottish Ministers would set up a scheme whereby any operatorwould be entitled to apply for subsidy provided that they met some basic conditions relating

to financial stability of the company, safety record and so on. This option would meet the

non-discrimination requirement of the Maritime Cabotage Regulation and tendering would

not be required. However, it would not deliver a number of key policy objectives:

- the arrangement would be a Public Service Obligation rather than a PublicService Contract. As such the operator(s) would be free to withdraw from theservice at any time. This option would, therefore, not offer the certainty that a

single Public Service Contract offers in terms of delivery of a set service

specification.

- it would have to be applied on a route by route basis which would be likely toresult in the loss of an integrated set of services, since a range of operators

could emerge across the network.

- where 2 or more operators were servicing the same route if one were towithdraw from the route there would, almost certainly, be no TUPE transfer of

its staff.

3http://europa.eu.int/eur-lex/lex/LexUriServ/LexUriServ.do?uri=CELEX:31992R3577:EN:HTML


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- the scheme could only be applied in relation to defined categories ofindividual consumers. Thus it could not be used to support freight services.

- the number of operators would be expected to increase, possibly with morethan 1 operator on a number of routes. This option would therefore be likely

to lead to a significant increase in the subsidy requirement.

(D) Clyde and Hebrides service brought in-house

14. Under this option Scottish Ministers would directly undertake the provision of theferry services through the Scottish Executive. However, under EU rules it is the effect of the

arrangement and not the form it takes that determines compliance with the rules. If the Clyde

and Hebrides services were carried out directly by the Executive it would be deemed that

Scottish Ministers had placed an obligation on their officials to provide the services. This

would bring the arrangement within the scope of the Maritime Cabotage Regulation and the

non-discrimination requirement.


15. Under this option Scottish Ministers would tender a management contract for themanagement of Caledonian MacBrayne rather than the tendering a Public Service Contract

for the provision of the CHFS ferry services. However, such an arrangement would not

comply with the Maritime Cabotage Regulation. This is because Caledonian MacBrayne

would continue to be the operator of the services without the opportunity to provide those

services having been made available on a non-discriminatory basis to other community

shipowners.

(F) Professor Kays 5 part proposal

16. Professor Kays proposal is based on the assumption that the Altmark criteria can beused to satisfy the requirements of the Maritime Cabotage Regulation. However, as set out at

paragraph 11 above this is not the case. Even if the Altmark criteria were relevant, Professor

Kays proposal would not avoid tendering. Instead, tendering would occur on a route by

route basis and, ultimately, this would lead to the break up of the network, possibly without

the protection of TUPE for Caledonian MacBrayne staff.

(G) Meeting the underlying objectives of EU rules meeting the Spirit of the Treaty

17.

It has been suggested that the application of state aid rules to lifeline services such asthose in the Clyde and Hebrides is inappropriate and, indeed, conflicts with wider European

social goals. However, the Maritime Cabotage Regulation sets out a clear obligation on

Member States to conclude Public Service Contracts or impose Public Service Obligations on

a non-discriminatory basis in respect of all Community shipowners. The potential costs of

complying with that obligation cannot be taken into account in assessing whether or not that

obligation applies.


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H) Proposal that the 1973 Undertaking and 1995 Undertaking between the Executive

and Caledonian MacBrayne comprise an existing public service contract as described in

Article 4, paragraph 3 of the Maritime Cabotage Regulation and, therefore, pre-date the

requirements of the 1992 Maritime Cabotage Regulation

18. There are a number of key differences between the 1973 and 1995 Undertakings themost important of which is that they are with different companies. The 1973 Undertakingwas with David MacBrayne and the 1995 Undertaking is with Caledonian MacBrayne. It is

also clear from the Regulation and associated guidance that contracts are intended to be time

limited and the 1995 Undertaking is open ended. It is therefore quite clear that the 1995

Undertaking is a new contract arrangement which was agreed after the Regulation came into

force in 1992.



19. Some commentators have suggested that the European Commission Decision on theapplication of Article 86(2) of the Treaty to State aid in the form of public sector

compensation granted to certain undertakings entrusted with the operation of services of

general economic interest, announced on 15 July 2005, exempts ferry services, below a

certain threshold, from the requirements of the Maritime Cabotage Regulation. This is not

the case. The Decision provides an administrative framework which exempts certain State

aids from notification to the European Commission. It does not, however, exempt public

authorities from any other requirements in relation to State aids rules nor exempt them from

the requirements of sectoral State aid rules. This means that, in relation to the Clyde and

Hebrides, and Northern Isles ferry services, the Scottish Executive is still required to comply

with the terms of the Maritime State aid rules (the Maritime Cabotage Regulation) and, in

particular, the requirement to act in a non-discriminatory way.

Conclusion

20. The status quo is not an option. In the Executives view the only alternative totendering which may comply with the EU rules is for subsidy to be provided to all operators

on each route. However, as set out at paragraph 12 above, there are a number of

unacceptable consequences with this approach in particular, the exclusion of freight

services from the arrangements, the implications for staff terms and conditions and job

security, and the likely significant increase in subsidy requirement.

21. Other options which were considered were either not compatible with EU rules orwould have still required tendering but on a route by route basis. This would have led to the

break up of the network and the loss of the benefits of a cohesive, integrated, single network

of routes.

Next Steps

22. If the Clyde and Hebrides ferry services are not brought into line with EU rules andthe European Court of Justice were subsequently to find that such an action was in breach of

EU rules the consequences could be severe. Following on from such a ruling, the

Commission could order the immediate cessation of subsidy to Caledonian MacBrayne and


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that the Executive recover from Caledonian MacBrayne all subsidy that had been declared to

be illegal State aid.

23. Whilst the Commission has taken formal action against some Member States inrelation to the Maritime Cabotage Regulation it has preferred to work with Member States to

bring their services into line with EU rules rather than to use its draconian powers. Indeed,the Commission has worked with the Scottish Executive over the last 6 years as ways of

complying with EU law have been discussed. However, the European Commission has made

it clear to the Executive that if action is not taken shortly to bring the Clyde and Hebrides

services into line with EU rules then the Commission will initiate formal proceedings. It

should be noted that, on 29 June 2005, the UK government received a pre-infraction letter

from the European Commission in relation to the Clyde and Hebrides ferry services. If this

action were to proceed to a full investigation it could seriously jeopardise these lifeline

services.

Staffing and Employment Issues

24. One of the key concerns expressed by commentators has been the implications oftendering for the Caledonian MacBrayne workforce. The Executive attaches importance to

the future of the Caledonian MacBrayne workforce and, if tendering goes ahead, would do

everything it could, within EU and domestic legislation, to secure the continued employment

of those staff and the protection of their terms and conditions and pension rights. As part of

the review of the requirement to tender, the Executive also looked at the proposals in relation

to staffing. The provisions have been further strengthened to safeguard, as far as possible, the

position of the current Caledonian MacBrayne workforce if tendering goes ahead. A detailed

summary of the Executives proposals is set out at Annex C. In particular, the Executive is

of the view that TUPE would be likely to apply to the main Clyde and Hebrides bundle. If it

was subsequently found that TUPE did not (as a matter of law) apply and the operator

achieved cost savings as a result, there would be a compensating reduction in the operators

subsidy. This means that there would be no financial incentive to the operator to challenge

TUPE.

25. The TUPE Regulations do not currently apply so as to transfer employees contractterms in relation to an occupational pension scheme. The Pensions Act 2004 does require

that, where there is a transfer of an undertaking to which the TUPE Regulations apply and

there is an existing occupational pension scheme to which the previous employer had

contributed, then the new employer must deliver a prescribed level of pension provision to

transferring employees. However, these provisions do not require that transferring staff haveaccess to an actuarially equivalent pension scheme and entitlements. The Scottish Executive

would, however, make it a requirement of the Clyde and Hebrides tender contract that the

operator provides an actuarially equivalent pension scheme to transferring staff.

26. Caledonian MacBrayne has also confirmed that, whilst it is the employer, there willbe no compulsory redundancies; that pay and conditions for its staff now or in the future will

not be worsened and that the company has no intention to introduce a 2 tier workforce. The

company has also made clear that it has no plans to move its Headquarters from the current

site at Gourock.


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Gourock-Dunoon

27. Circumstances on the Gourock-Dunoon route are unique in the Clyde and Hebridesnetwork as there is a long established unsubsidised private sector operator competing on a

comparable route. There are currently operating restrictions placed on the Caledonian

MacBrayne service on the Gourock-Dunoon route. The Executive announced separateproposals for the Gourock-Dunoon ferry service in December 2004. Under these proposals

the Executive would seek to establish if there are ferry operators interested in providing an

unsubsidised service from Dunoon Pier to Gourock Pier with no operating or timetable

restrictions. Scottish Ministers agreed in February 2005 that these proposals would not be

taken forward until the issues around the requirement to tender the main bundle of services

had been resolved.

The Scottish Executive

September 2005


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ANNEX A

ALTERNATIVES TO TENDERING WHICH HAVE BEEN CONSIDERED BY THE

SCOTTISH EXECUTIVE

Background

1. The main purpose of the 1992 EU Maritime Cabotage Regulation4 (the Regulation)was to liberalise shipping in EU Member States. However, the Regulation recognised that themarket would not, on its own, always provide an appropriate level of service. The

Regulation, therefore, provides for Member States to conclude Public Service Contracts

(PSCs) or impose Public Service Obligations (PSOs) in order to ensure the adequacy of

regular transport services to, from and between islands5.

2. The Regulation and associated guidance do not state that tendering is required inrelation to PSOs and PSCs. Instead the Maritime Cabotage Regulation states, at Article 4.1

that,

Whenever a Member State concludes public service contracts or imposes publicservice obligations, it shall do so on a non-discriminatory basis in respect of all

Community shipowners.

3. The Regulation does not define what is meant by non-discrimination. However, theprinciple of non-discrimination is one of the cornerstones of EU law and, at the very least,

requires that a particular opportunity is available to all EU nationals on an equal basis. The

December 2003 Communication6 from the Commission provides further guidance on the

interpretation of this aspect of the Regulation at section 5.4,

The Commission takes the view that, in general, the awarding of public service

contracts risks to discriminate between operators, as normally only one operator of a

given route is concerned. It therefore considers that launching an open Community-

wide invitation to tender is in principle the best way to ensure non-discrimination.

4. Further, the January 2004 Guidelines7 from the Commission, state at section 9,In the field of maritime cabotage, public service obligations (PSOs) may be imposed

or public service contracts (PSCs) may be concluded for the services indicated in

Article 4 of Regulation (EEC) No. 3577/92. For those services, PSOs and PSCs as

well as their compensation must fulfil the conditions of that provision and the Treaty

rules and procedures governing State aid, as interpreted by the Court of Justice.

4 Council Regulation (EEC) No. 3577/92 of 7 December 1992 applying the principle of freedom to provide services to maritime transport

within Member States (maritime cabotage)

(http://europa.eu.int/eur-lex/lex/LexUriServ/LexUriServ.do?uri=CELEX:31992R3577:EN:HTML)

5 In subsequent guidance the Commission has made clear that mainland to mainland routes may also be included where the alternative road

journey is at least 100 kilometres and is 10 times longer or more than the sea crossing.

6 Communication from the Commission to the European Parliament, the Council, the European Economic and Social Committee and the

Committee of the Regions on the interpretation of Council Regulation (EEC) No. 3577/92 applying the principle of freedom to provide

services to maritime transport within Member States (maritime cabotage) COM(2003) 595http://europa.eu.int/eur-lex/lex/LexUriServ/site/en/com/2003/com2003_0595en01.pdf

7 Commission Communication C(2004) 43 - Community guidelines on State aid to maritime transport (2004/C 13/03)http://europa.eu.int/eur-lex/pri/en/oj/dat/2004/c_013/c_01320040117en00030012.pdf


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ANNEX A

5. The terms of the Regulation and the subsequent guidance from the Commissionsuggest that, whilst tendering might be the best way to fulfil the requirements of the

Regulation, it is not the only way. The Executive therefore considered whether there were

alternatives to tendering which met the requirements of the Regulation. This section sets out

the alternatives which were considered and the Executives views:

(A) The Status Quo

(B) Altmark

(C) New scheme where subsidy is available to all Community shipowners



(F) Professor Kays 5 part proposal which he suggests would meet the 4 Altmark

criteria

(G) Meeting Underlying Objectives of EU rules meeting the Spirit of the Treaty.

This argument was put forward by both Professor Kay and Dr Bennet.

(H) Proposal that the 1973 Undertaking between the Executive and CaledonianMacBrayne was an existing public service contract as described in Article 4,

paragraph 3 of the Maritime Cabotage Regulation and, therefore, pre-date the




(A) The Status Quo

6. The Clyde and Hebrides ferry services provided by Caledonian MacBrayne fall withinthe scope of the Maritime Cabotage Regulation, and the current arrangement between the

Executive and Caledonian MacBrayne is a public service contract (as defined by the

Regulation). However, the current Undertaking with Caledonian MacBrayne and the subsidy

which Caledonian MacBrayne receives for providing ferry services were not made available

to other Community shipowners. As such, the arrangement was not concluded on a non-

discriminatory basis and is, therefore, not compliant with the Regulation.

(B) Altmark

7. The Altmark judgement sets down 4 criteria (described in Annex D) to assess whetheror not a measure is classified as a State aid as defined in Article 87(1) of the Treaty. Some

commentators have suggested that if those criteria are met in relation to the Clyde andHebrides ferry services then the measure is not a State aid and should, therefore, be exempt

from the terms of the Regulation.

8. The Altmark judgement states that where sectoral EU rules apply (e.g. maritimetransport; road, rail and inland waterways) they cannot be avoided by an appeal to the general

rules of the Treaty. The Clyde and Hebrides ferry services fall within the scope of the

Maritime Cabotage Regulation and the arrangements for the services must, therefore, be

considered against the requirements of that Regulation.

9. The Regulation requires that EU shipowners must be treated on a non-discriminatory basis. This is a common principle of EU law and the effect of this requirement is thatMember States must treat all Community shipowners in the same way. If subsidy is to be


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ANNEX A

made available, that subsidy must be available to all Community ship-owners on the same

basis. If the subsidy is to be made available to only one ship-owner (as in the case of the

Clyde and Hebrides) then all ship-owners must be given the opportunity to qualify for this

subsidy and the only feasible way of providing this opportunity is through a bidding process.

10. This is a different issue from the Altmark consideration as to whether a subsidy wouldconfer an advantage on one operator over another. Thus, whilst it may be possible to showwithout tendering that the subsidy paid to Caledonian MacBrayne by the Executive did not

give the company an advantage over another, this would not satisfy the non-discrimination

requirement.

(C) New Scheme where subsidy is available to all Community shipowners

11. Under this option Scottish Ministers would set up a scheme whereby any operatorwould be entitled to apply for subsidy provided that they met some basic conditions relating

to financial stability of the company, safety record and so on. Such a scheme would, in

principle, meet the non-discrimination requirement of the Maritime Cabotage Regulationwithout the need for tendering.

12. However, Commission Communication C(2004) 43 (Community Guidelines on Stateaid to maritime transport), which provides guidance on the Maritime Cabotage Regulation,

states that PSO and PSC arrangements must fulfil the conditions of the Regulation and the

Treaty8 rules and procedures governing State aid. It is generally accepted that subsidy

payable under a tendered public service contract complies with the State aid rules. However,

with the subsidy for all scheme this is not the case.

13. Article 87(1) of the Treaty is a general prohibition on State aids. Articles 87(2) and87(3) identify certain types of aid which are or may be compatible with the common market.

Only the types of aid identified in Article 87(2) are automatically exempt, those identified in

Article 87(3) are subject to control by the Commission. The exception which would be

relevant to the subsidy of the Clyde and Hebrides ferry services is Article 87(2)(a), namely

that the aid payable is aid having a social character, granted to individual consumers,

provided that such aid is granted without discrimination related to the origin of the products

concerned.

14. It would, therefore, be possible to develop a subsidy for all scheme which met therequirements of the Maritime Cabotage Regulation and Article 87(2)(a) of the Treaty.

However, such a scheme would have a number of restrictions and consequences:

- Article 87(2)(a) of the Treaty requires that the scheme could only be applied inrelation to defined categories of individual consumers. Thus, it could not be

used to provide support for freight services.

- the arrangement would be a Public Service Obligation rather than a PublicService Contract. As such the operator(s) would be free to withdraw from the

service at any time. This option would, therefore, not offer the certainty that a

8http://www.europa.eu.int/eur-lex/lex/en/treaties/dat/12002E/htm/12002E.html


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ANNEX A

single Public Service Contract offers in terms of delivery of a set service

specification.

- where 2 or more operators were servicing the same route if one was towithdraw from the route there would, almost certainly, be no TUPE transfer of

its staff. This type of approach could attract low cost operators withconsequential implications for staff terms and conditions.

- it would be impractical to offer the subsidy for all on the basis of a singlenetwork. The scheme would, therefore, have to be applied on a route by route

basis which would be likely to result in the loss of an integrated set of services,

since a range of operators could emerge across the network.

- there is not significant scope to increase carryings on lifeline routes and thistype of scheme would result in more operators chasing the same number of

passengers. This would be likely to lead to a significant increase in the

subsidy requirement as the subsidy per head would have to take account of theoverhead costs of more than one operator.

15. Spain and France run similar schemes to this in parallel with Public Service Contracts.In both cases operators are required to provide discounted fares to island residents. The

operators are then reimbursed by the government for the discounted portion of the fare. In

both cases the discounted fare is limited to cars and passengers.

16. Scottish Ministers are of the view that the restrictions that would be placed on asubsidy for all scheme would be unacceptable. Such a scheme would not meet their

commitment to protect existing levels of service.


17. Under this proposal the Clyde and Hebrides ferry services, currently operated byCaledonian MacBrayne, would be brought in-house by the Scottish Ministers. This could be

done (for example) by a wholesale transfer of assets and liabilities from Caledonian

MacBrayne to the Scottish Ministers with Caledonian MacBrayne itself being wound up.

The Scottish Ministers would then themselves directly undertake the provision of the ferry

services currently provided by Caledonian MacBrayne, through a Department of Clyde and

Hebrides Ferry Services, with the vessels and all other assets currently owned by Caledonian

MacBrayne being owned and operated by the Scottish Ministers and the staff currentlyemployed by Caledonian MacBrayne being employed directly by the Scottish Ministers as

civil servants.

18. However, under EU rules it is the effect of the arrangement and not the form it takesthat is relevant in terms of compliance with the law. If the Clyde and Hebrides services were

carried out directly by the Executive it would be deemed that Scottish Ministers had placed

an obligation on their officials to provide the services. This would bring the arrangement

within the scope of the Maritime Cabotage Regulation. As with Option (A) The Status Quo

(paragraph 6 above) this arrangement would then fall foul of the non-discrimination

requirement.



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ANNEX A

19. This option would entail the tendering of a management contract to run CaledonianMacBrayne rather than the direct tendering of a Public Service Contract. Scottish Ministers

would enter into a management contract with a third party who would take over

responsibility for running and managing Caledonian MacBrayne. Caledonian MacBrayne

would, in turn, be responsible for the provision of ferry services on the Clyde and to theHebrides. The Executive would provide the manager with the necessary funds to ensure that

the services were maintained (to enable any operating deficit incurred by the company

actually providing the service to be covered) as well as receiving a fee for their services. The

manager would operate under broad criteria set by the Scottish Ministers.

20. However, such an arrangement would not comply with the Maritime CabotageRegulation. This is because Caledonian MacBrayne would continue to be the operator of the

services without the opportunity to provide those services having been made available on a

non-discriminatory basis to other community shipowners.

(F) Professor Kays 5 part proposal which he suggests would meet the 4 Altmarkcriteria

9

21. As set out at (B) Altmark (paragraphs 7 to 10 above) the Altmark criteria are notapplicable to ferry services which fall within the scope of the Maritime Cabotage Regulation.

However, even if the Altmark criteria were applicable to the Clyde and Hebrides ferry

services and arrangements were put in place to try to show that the services provided by

Caledonian MacBrayne met the 4 Altmark criteria, it would not prevent another operator, at

any time, challenging those arrangements. Tendering (assuming that it is carried out in line

with EU rules) protects the subsidy arrangements from challenge on State aid grounds for the

duration of the contract. The Altmark criteria, on the other hand, must be met at all times.

Indeed, Professor Kays paper states, the consequence of keeping most of the network

together is recognising the possibility of opening up a route or routes to outside

competition. Professor Kay suggests that this would be the case only for profitable routes.

However, the fourth Altmark test requires that the level of compensation be determined by

comparison with a typical transport undertaking. It would always be open to any

competitor to argue that it could provide any of the routes for less subsidy than Caledonian

MacBrayne received.

22. Professor Kay addresses this issue in his paper by reference to the Maritime CabotageRegulation requirement that any compensation for public service obligations must be

available to all Community shipowners. He suggests that one way in which the opportunityfor compensation could be made available to all would be to invite expressions of interest

and the submission of technical proposals. Professor Kay does not say what would happen if

this approach was taken and the alternative proposals required less subsidy than that paid to

Caledonian MacBrayne. However, it is clear that the continued subsidy of Caledonian

MacBrayne at the higher level would be unsustainable and the compensation would have to

be awarded to the operator requiring the lowest compensation. This is, de facto, a tender

process.

9 Professor Kays paper The Proposed Tendering of Clyde & Hebrides Ferry Services: Problems and an Alternative Proposal was initially

written for Edinburgh Universitys Europa Seminar in March 2005. A revised version was submitted in March 2005 in response to theScottish Executive consultation on the service specification for the Clyde and Hebrides ferry services.


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23. Professor Kay also suggests that the European Commission might provide a letter ofcomfort confirming that the European Commission saw no ground for action against the

arrangement. Even if the European Commission were willing to issue such a letter it would

provide no protection against a future challenge. In the event that a complaint was made the

European Commission would be obliged to consider that complaint on its merits and the

letter of comfort would have no standing.

24. Given that there is subsidy available it could not be assumed that most of thenetwork or indeed any individual route would not be of interest to other operators. The

logical conclusion of this approach is that over time the network would be tendered on a route

by route basis. This is the approach envisaged in the 1997 EU Guidelines10 and which was

widely rejected in the 2000 consultation Delivering Lifeline Ferry Services. The Executive

and others successfully lobbied the European Commission to take account of the

circumstances in Scotland to allow for the tendering of the network as a single unit (now with

the exception of the Gourock Dunoon route) and to retain the benefits of a cohesive,

integrated, single network of routes. The main benefits are:

- the whole network approach gives the operator more flexibility for vesseldeployment and crewing. It should be noted that some vessels in the

Caledonian MacBrayne fleet operate on more than one route. A route by route

approach would therefore require additional vessels if operators were to

maintain the same level of service.

- the availability of relief vessels (for both planned and unplanned events) isalso critical to the reliability of the Clyde and Hebrides services. The

uniqueness of the vessels means that replacements outside the fleet are, for

most routes, unavailable. Caledonian MacBraynes current arrangements for

relief vessels usually require a series of sequential movements of vessels

between routes in order to maximise capacity whilst preserving continuity. To

have equivalent arrangements among a number of operators would be

extremely complex and vulnerable to breakdown. It should be noted that the

Maritime & Coastguard Agency (MCA) Regional (Scotland and Northern

Ireland) Office said, in responding to the 2000 consultation Delivering Lifeline

Ferry Services, that,

if individual routes are offered for the tender, the question of provision of

relief vessels for maintenance periods and annual survey requirements

becomes a significant problem, which should not be underestimated.

- the whole network approach makes it easier to integrate safety, quality andenvironmental aspects of vessel and port operations and to ensure that

standards are applied evenly across the network. Likewise, it supports the

same standards of training across the network and provides staff with the

opportunity to experience a variety of vessels operating in a range of

conditions.

- the whole network approach provides the best opportunity to maintain existingintegrated transport links (with road, rail and other ferries in the Caledonian

10Community Guidelines on State aid to Maritime Transport (97/C 205/05)


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ANNEX A

MacBrayne network) and integrated ticketing facilities. Fragmentation would

encourage operators to protect their own services and would diminish the

likelihood of promotional fares for multi-service journeys. This would reduce

convenience and quality of service and possibly mean increased fares.

- the whole network approach allows an operator to achieve economies of scale,thus keeping subsidy to a minimum.- the whole network approach with a single operator is the most efficient form

for the Executive to manage.

25. It has been suggested that the route by route approach outlined by Professor Kaywould ensure, at least for a time, that Caledonian MacBrayne continued to be available to bid

for routes and, if necessary, to act as Operator of Last Resort. Whilst this could be true, the

price of that would be the loss of cohesion of the network and the likely consequences in

terms of service reliability and flexibility. The Scottish Executive is of the view that this

would be unacceptable.

(G) Meeting Underlying Objectives of EU rules meeting the Spirit of the Treaty

26. Dr Bennett, Professor Kay and Ms Findlay, among others, have suggested that theapplication of state aid rules to essential services such as those in the Clyde and Hebrides is

inappropriate and, indeed, conflicts with wider European social goals. There are 3 strands to

this argument:

(a) value for money (tendering of the services would result in additional costs tothe public purse);

(b) the risks associated with lifeline services being provided by a private sectoroperator with a focus on profit rather than by a public sector operator whose

focus is on meeting social need; and

(c) the wider potential implications for the local economy in terms of employmentand business.

27. These issues do not address the legal requirement of the Maritime CabotageRegulation or the obligation on the Executive to comply with it. The Executive does,

however, recognise that these issues would have to be addressed should tendering go ahead.

Detailed responses on individual points raised in the academics papers can be found in

Annex B. A summary of the Executives proposals is set out below.

(a) Value for Money/Costs. There would be some additional costs. However, thosedirectly related to the tender process would be essential to ensure that the tender

process was robust and that contract performance was monitored rigorously. The

creation of a separate vessel owning company would ensure that Caledonian

MacBraynes vessels remained in public ownership ensuring their availability for

subsequent contracts.

(b) Tendering Risks. The risks identified by various commentators are those whichare often associated with contract/competitive tendering arrangements and are not

unique to the Clyde and Hebrides ferry services. However, it should be noted thatduring the tender process bidders would be closely scrutinised to ensure that their


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proposals complied with the requirements of the service specification and that

bidders had made realistic assumptions about costs and revenues. Appropriate

monitoring and enforcement arrangements would be developed to ensure that the

Executive had detailed information about the operation of the services (including

costs). The terms of vessel leases and harbour management arrangements

combined with regular inspections would ensure that vessels and other assets werewell-maintained and that the operator was incentivised to appropriately maintain

the assets.

(c) Employment and Business. The Executive attaches importance to the future ofthe Caledonian MacBrayne workforce. The Executive recognises the value of the

employment Caledonian MacBrayne provides to the local economies of the Clyde

and Hebrides, and the direct and indirect benefits Caledonian MacBrayne and the

services it operates bring to local businesses. The Executive would do everything

it could, within EU and domestic legislation, to secure the continued employment

of those staff and the protection of their terms and conditions and pension rights.

The Executives detailed proposals in relation to staff, should tendering proceed,are set out at Annex C.

(H) Proposal that the 1973 Undertaking between the Executive and Caledonian

MacBrayne was an existing public service contract as described in Article 4,

paragraph 3 of the Maritime Cabotage Regulation and, therefore, pre-dates the


28. The Maritime Cabotage Regulation states, at Article 4, paragraph 3, that existingpublic service contracts may remain in force up to the expiry date of the relevant contract. It

has been suggested that the 1995 Undertaking between the Executive and Caledonian

MacBrayne could be viewed as a continuation of the previous 1973 Undertaking and would,

thus, be deemed to be an existing public service contract.

29. However, there are a number of key differences between the 2 Undertakings the mostimportant of which is that they are with different companies. The 1973 Undertaking was

with David MacBrayne and the 1995 Undertaking is with Caledonian MacBrayne. It is

therefore quite clear that the 1995 Undertaking is a new contract arrangement which was

agreed after the Regulation came into force in 1992.



30. Some commentators have suggested that the European Commission Decision on theapplication of Article 86(2) of the Treaty to State aid in the form of public sector

compensation granted to certain undertakings entrusted with the operation of services of

general economic interest, announced on 15 July 2005, exempts ferry services, below a

certain threshold, from the requirements of the Maritime Cabotage Regulation. This is not

the case.

31. The purpose of the Decision was to provide some certainty after the 2003 Altmarkdecision. The Commission has experienced a significant increase in notifications following

the Altmark decision as Member States wanted to make sure that their state aids werecompliant with the Treaty. In response to this the Commission has decided that aid relating to


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ANNEX A

social housing and hospitals, and certain small state aids (including ferry services with

average annual carryings of less than 300k passengers) given to Services of General

Economic Interest (SGEIs) would be exempt from notification to the European Commission.

The Decision is, therefore, an administrative measure to provide an exemption, in certain

circumstances, from notification of the State aid to the European Commission. It does not,

however, exempt public authorities from any other requirements in relation to the state aidrules. Indeed, the Decision states, at Article 3, that the provisions of the Decision apply

without prejudice to the application of stricter specific provisions relating to public service

obligations contained in sectoral Community legislation. This means that, in relation to the

Clyde and Hebrides ferry services, the Scottish Executive is still required to comply with the

terms of the Maritime State aid rules (the Maritime Cabotage Regulation) and, in particular,

the requirement to act in a non-discriminatory way.

32. It should also be noted that the Decision does not seek to provide guidance on theAltmark case or the application of the Altmark decision. The Decision does refer to the

Altmark case but only so as to make clear that the Decision relates only to public

compensation which does not meet the Altmark criteria. This is because public compensationwhich does meet the Altmark criteria does not constitute State aid within the meaning of

Article 87 of the EC Treaty.

33. It should be noted that the Decision does not revise the 2003 guidance on theinterpretation of the Maritime Cabotage Regulation or the 100k passenger de minimus

threshold mentioned in it. The guidance provides that for low volume routes (less than 100k

passengers per year) the selection of a suitable operator could be carried out following a

simple call for expressions of interest without launching a formal tendering, provided that a

Community-wide announcement of the services is maintained. The purpose of this

additional flexibility is to allow public authorities to avoid a full tender process for routes

serving small islands where there is only one local bidder. However, if there is more than one

bidder then the public authority would still be required to award the contract on a non-

discriminatory basis with regard to all bidders.

34. The Commission has not indicated whether it intends to revise the guidance to bringthe threshold figure in the 2003 Maritime Cabotage guidance into line with the 300k figure in

the Decision on SGEIs. However, even if the Commission were to raise the threshold in the

Maritime Cabotage guidance to 300k passengers, this would have no effect on the

requirements in relation to the Clyde and Hebrides ferry services. The 2003 guidance also

requires that, in calculating whether the threshold has been met, the carryings for all public

service routes provided by an operator are aggregated. Last year Caledonian MacBraynecarried over 5 million passengers and would, therefore, significantly exceed the de minimus

threshold.


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ANNEX B

THE SCOTTISH EXECUTIVES CONSIDERATION OF ACADEMIC PAPERS

SUBMITTED TO THE LOCAL GOVERNMENT AND TRANSPORT COMMITTEE

1. A number of academic papers have been submitted to the Local Government andTransport Committee and the Executive in relation to the proposals for the tendering of the

Clyde and Hebrides ferry services. This section provides a brief summary of each paper andcommentary by the Executive on the key issues raised.

2. The papers submitted to the Local Government and Transport Committee and theScottish Executive were :

- The Proposed Tendering of Clyde and Hebrides Ferry Services: Problems andan Alternative Proposal (Professor Neil Kay, Emeritus Professor Strathclyde

University)

- Competing for the island lifeline: European Law, state aid and regional publicservices (Dr Paul Bennett, University of Edinburgh)

- The Requirements of the European Cabotage Regulation in relation to theGeneral Treaty (Dr Paul Bennett, University of Edinburgh)

- The Financing of Lifeline Ferry Services to the Clyde and Hebrides (JeanetteFindlay, University of Glasgow)

Overview

3. The academic papers are written from an economic, social and best value perspective.However, they do not take into account the clear legal requirement on the Executive to

comply with EU law. Thus, whilst the papers highlight many of the potential issues

associated with tendering they do not suggest any alternatives that would satisfy the EU

requirements.

4. The Executives response to these points is set out in more detail in the remainder ofthis Annex.


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ANNEX B

PROFESSOR NEIL KAY THE PROPOSED TENDERING OF CLYDE AND

HEBRIDES FERRY SERVICES: PROBLEMS AND AN ALTERNATIVE

PROPOSAL FINAL SUBMISSION TO THE CONSULTATION PROCESS

Summary of Paper

1. Professor Kays paper was initially written for Edinburgh Universitys EuropaSeminar in March 2005 and a revised version was submitted in March 2005 in response to the

Scottish Executive consultation on the service specification for the Clyde and Hebrides ferry

services.

2. The key argument in the paper is that the 1992 Regulation does not reflect currentthinking post Altmark and that the Regulation would have had different requirements if it had

been written today. Following this line of argument Professor Kay considers that, if it can be

shown that the payment of subsidy to Caledonian MacBrayne meets the requirements of

Article 87 of the Treaty (i.e. as set out in the Altmark decision), then the underlying policy of

EU law will have been met. His proposal (which he considers would meet the Altmarkcriteria) has 5 parts as follows:

- ring fence and separately account for leasing of vessels from operationalactivities.

- set out Caledonian MacBraynes obligations on a route by route basis (e.g.service spec).

- appoint an independent Regulator to protect and advance interests of ferryusers, ensure ferry services delivered efficiently etc.

- Auditor General to set up procedures to ensure Caledonian MacBrayne isfulfilling its designated responsibilities with specific reference to EC State aid

requirements. This might include stripping out profitable routes but would

keep most of network together.

- instruct Caledonian MacBrayne to operate on a least cost, non profit basis with100% clawback of any profit made.

3. The papers also discusses the Executives proposals for an Operator of Last Resort;argues that there is a need, more generally, for a Regulator for the services; and considers

some of the economic concepts that can arise in competitive tendering.

Scottish Executive Comment

Proposal for an Alternative to Tendering

4. A detailed assessment of Professor Kays proposals is set out in Annex A, Option F(paragraphs 21 to 25). In summary, his proposal is based on the assumption that the Altmark

criteria can be used to satisfy the requirements of the Maritime Cabotage Regulation.

However, this is not the case as the Altmark criteria consider whether an operator in receipt of

subsidy has an advantage and does not address the requirement of the Maritime Cabotage

Regulation that all Community shipowners must be treated on a non-discriminatory basis.

Even if the Altmark criteria were relevant Professor Kays proposal would not avoid

tendering. Instead, tendering would occur on a route by route basis which, ultimately, would

lead to the break up of the network.


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Risks of Competitive Tendering

5. Professor Kay considers a number of concepts which are common risks in competitivetendering exercises. In particular he refers to asymmetric information, opportunism, hold up

problems, moral hazard and adverse selection. The Executive is aware of these issues and

has taken them into account in the design of the service specification, the contract, the grantmechanism, the tender process and, in particular the evaluation of bids, and the proposals for

monitoring the contract.

6. Professor Kay appears to predicate arguments on the basis of operators not wanting towin the contract more than once. However, a concept in this area of economics which he does

not refer to is reputations as contract enforcers. This principle suggests that parties would

aim to perform well in order to build up a good reputation. If the operator is interested in

winning the next or future contracts (as we would assume it is) then it would wish to cultivate

a good reputation and relationship with the customer in order to increase its chances of

winning another contract.


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ANNEX B

DR PAUL BENNETT COMPETING FOR THE ISLAND LIFELINE: EUROPEAN

LAW, STATE AID AND REGIONAL PUBLIC SERVICES

Summary of Paper

1. Dr Bennetts paper was originally presented at the Annual Conference of the RegionalStudies Association in Angers, France in April 2004. The paper has been updated and thisconsideration is of the 1 March 2005 version.

2. Dr Bennets paper considers the underlying EU principles relating to State Aid and thebenefits generally assumed to derive from competitive tendering. His paper then discusses

potential risks associated with the tendering of the Clyde and Hebrides ferry services. These

are discussed further in the section below.

3. Dr Bennet concludes by saying that the policies that were designed to prevent abusesof state aid in commercial industries and core European regions are inappropriate for

essential but unprofitable public services in more peripheral regions.


4. Dr Bennetts paper seeks to demonstrate inconsistencies in EU principles anddescribes some of the risks associated with competitive tendering. However, it does not

suggest any alternatives to tendering which would comply with EU rules.

Potential Risks Identified by Dr Bennett

5. Dr Bennets paper set out a number of potential difficulties and risks associated withcompetitive tendering as follows:

There may be so little opportunity for an operator to expand the business that the operatorsfocus would probably be on efficiency savings.

6. The Scottish Executive has made it clear that its consideration of the need to tenderthe Clyde and Hebrides Ferry Services was not triggered by a desire to secure efficiency

savings but because it could be the only way to continue to support the current level of

service within EU rules. It is difficult to tell whether any savings would be achieved through

tendering. All tenderers would be encouraged in the Invitation to Tender to make efficiency

savings and the successful tenderer would be the operator who required the lowest financialcompensation (providing other technical and financial criteria had been met) to deliver the

quantity and quality of the services specified. However, given the prescriptive approach of

the service specification, which was consulted on in 2002 and which was strongly supported

by consultees, the possibility of any significant monetary savings could be limited.

Nevertheless, tenderers would be encouraged to be innovative during the contract period

which may result in efficiency savings. All route and timetable changes proposed by the

operator would, however, need to be agreed with the local community concerned and all

financial implications agreed with the Executive.

A prescriptive specification will ensure that service requirements are clearly defined in thecontract. However, this will prevent the operator acting in an entrepreneurial way and/or


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ANNEX B

the services changing to suit local communities needs. The Executive will not be able tomandate the operator to provide additional or altered services.

7. As part of the 2002 consultation on the draft service specification the Executiveconsulted on its proposal for a prescriptive approach. This approach was strongly supported

by respondents. This would ensure that the operator was contractually required to providethe services as currently timetabled. However, it was not intended that the services and

timetables would be set in stone during the contract period. During this time there would, in

principle, be the opportunity for changes to be approved provided that the operator had

agreed these with the local communities concerned through the consultative mechanism and

that the financial consequences were acceptable to the Scottish Executive. In addition, the

Executive would have powers, through the contract, to require the operator to provide

additional or altered services. Such a requirement would be made on a No Net Loss/ No Net

Gain basis and so any resulting costs or savings to the operator would be reflected in the

subsidy arrangements.

It is difficult to build an appropriate quality requirement into contracts. Punctuality andReliability are not sufficient and do not cover issues such as staff training, staff commitment

etc.

8. Punctuality and reliability of services would be key performance targets. However,the service specification would also require that tenderers developed, as part of their bid, a

Users Charter covering such issues as on board facilities, cleanliness, staff conduct, services

for disabled people and the complaints procedure. It would also require that tenderers

detailed their plans for crewing, training and staff retention which would have to provide

adequately for the continuing and long term requirements of the service. Bids would also

have to set out the tenderers proposals for industrial relations and other related polices.

Tenderers would be required to demonstrate a commitment to foster constructive

relationships and a partnership approach in line with the Executives objectives. These

requirements (and all other aspects of the service specification) would be part of the contract

terms and conditions.

Concerns raised during the 2002 consultation in relation to responsibility for maintenance,and investment in vessels and piers.

9. Safety and the reliability and continuity of the services are priorities for the Executiveand a 3 pronged approach has been devised to ensure that it would be absolutely clear where

responsibility for maintenance and investment lay. This approach would utilise the VesCovessel leasing contracts and harbour management agreement and the contract between the

Executive and the operator:

(1) The operator would be required to maintain the ships condition throughout the

contract period and would also be responsible for the operational management of the

vessels including repairs, running maintenance, insurance etc for the duration of the

contract. The vessel leasing contracts would be based on standard bareboat charters

common in the shipping industry. This means that VesCo and the operators

responsibilities would be clear. Key aspects of the contract arrangements would be:

- that the vessels would be returned to VesCo in at least as good a condition(subject to fair wear and tear) as they were when they were leased out. The


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ANNEX B

terms would include appropriate requirements for a programme of planned and

strategic maintenance programmes and annual overhauls. Running

maintenance including annual overhauls would be the Operator's

responsibility and costs would fall to the Operator. VesCo would also have

the right to inspect the vessels as appropriate and at least annually during the

annual overhaul so as to enable a below waterline hull inspection.

- VesCo would be responsible for the cost of statutorily required upgrading ofvessels although it would be likely that the operator would manage the work

on behalf of VesCo.

- the Operator would only be permitted to alter/upgrade the vessels with theapproval of VesCo and Scottish Ministers. Any costs (other than for

statutorily required changes) would ordinarily fall to the Operator. If,

however, the proposed improvements would have a beneficial effect beyond

the end of the contract VesCo would consider funding some of the costs. The

latter would be subject to the approval of Scottish Ministers. The contractwould include a procedure whereby the Operator could propose

alternations/upgrades and a mechanism for VesCo to contribute if appropriate.

- The vessels would have to be properly insured. All proposed insurances bythe Operator would be subject to VesCos approval.

- VesCo vessels could not to be used by the Operator outwith the CHFS serviceexcept with the agreement of VesCo and Scottish Ministers.

- It should also be noted that VesCo would also be responsible for acquiringnew vessels, as Caledonian MacBrayne is now, to serve the network through a

planned replacement programme. The operator would be bound to use those

new vessels as they come into service.

(2) The operator would be required to enter into a harbour management agreement in

relation to VesCo owned piers and harbours to carry out some of VesCos duties as

harbour authority. Key aspects of the contracts would be:

- The Harbour Management contracts would clearly set out VesCos and theOperators respective responsibilities in relation to safety, maintenance,

insurance, environmental protection and management of the harbours. TheOperator would be required to put forward a maintenance plan for approval by

VesCo and ad hoc work would be dealt with in consultation with VesCo. The

contract would include a definition of the type and upper cost limit of

unexpected work that could be carried out immediately without consulting

VesCo. This would ensure the operator can respond quickly to unexpected

situations.

- Ordinary capital works would be treated in the same way as maintenance i.e.the Operator would propose works which would be subject to the approval of

VesCo and agreed costs would fall to VesCo to meet. However, large scale

projects, particularly if they extended beyond the Operators contract period,would usually fall to be tendered and managed by VesCo.


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ANNEX B

- Where the Operator contracted with others for maintenance or capital works(e.g. the building of a new pier) the contract would include collateral

warranties to VesCo. These would ensure that VesCo had the same rights

under the contract as the Operator. This would be necessary to ensure that

VesCo would have options for recourse if problems arose during the contractperiod either after the Operator had been replaced or if the Operator refuses to

take action.

- VesCo would continue to be the Harbour Authority, Navigation Authority andhave responsibly for harbour safety. Some of these responsibilities could not

be delegated and VesCo would continue to carry them out at its own hand.

However, where appropriate, the operator would carry out some tasks on

behalf of VesCo. Where the Operator was acting as an agent the contract

would include comprehensive indemnity provisions to ensure that the Operator

was tied into any liability. This means that in the event of a legal action where

the Operator was acting as an agent the claim would be against VesCo andVesCo would then have a claim against the Operator. As well as issues

specific to VesCos role as Harbour Authority there are more general issues to

consider. For example, VesCo would not be able to delegate responsibility for

criminal liability or corporate manslaughter. VesCo would therefore put

procedures in place to ensure that it had acted reasonably, employed

appropriate personnel (and in some cases that the Operator had employed

appropriate personnel) and had appropriate monitoring procedures in place.

- The Operator would collect harbour dues on behalf of VesCo.(3) Responsibility for the day to day harbour operation related to the Clyde and

Hebrides services (i.e. at all network harbours, not just those where VesCo would be

Harbour Authority) would lie squarely with the operator as part of the contract with

the Scottish Executive. This would include mooring, securing ships, unmooring,

marshalling, loading and unloading of passengers, vehicles, freight and livestock.

10. In addition, the contracts would provide for regular meetings between VesCo and theOperator to discuss such matters as capital expenditure requirements, replacement of

vessels/additional vessels, harbour management and Operator of Last Resort. The contracts

would also set out VesCos contract monitoring and compliance procedures. A key aspect

would be to ensure that all assets were maintained to an appropriate standard. This wouldinclude rights of inspection, powers to direct the Operator to take action and dispute

resolution procedures.

Tendering often results in reduced terms and conditions for employees, or that employees are

replaced.

11. The Executive attaches importance to the future of the staff of the CaledonianMacBrayne workforce should the services be tendered and another operator be successful in

its bid. The Executive believes that ensuring the continued employment of the current staff

with their strong local roots would be best met through the TUPE Regulations. It should be

noted that similar circumstances, in relation to the Northern Isles ferry services, wereconsidered recently by an Employment Tribunal and subsequently by an Employment


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ANNEX B

Appeals Tribunal and it is, therefore, the Executives view that TUPE would be likely to

apply. The Executive would require tenderers to cost their bids as if TUPE applied and, if

TUPE was subsequently found (as a matter of law) not to apply there would be a reduction in

subsidy throughout the contract equivalent to any reduction in the operators costs as a

consequence of that decision. This should ensure that there would be no financial incentive

to the operator to challenge TUPE. Annex C sets out the Executives detailed proposals inrelation to staff.


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ANNEX B

DR PAUL BENNETT THE REQUIREMENT OF THE EUROPEAN CABOTAGE

REGULATION IN RELATION TO THE GENERAL TREATY

Summary of Paper

1. Dr Bennetts paper recognises that the Altmark decision itself stated that the specificEU rules cannot be avoided by an appeal to the general rules of the Treaty. However hequestions why, if Altmark can satisfy the general Treaty rules to prove that a subsidy does not

confer an advantage, the same test would not be relevant in relation to Maritime Cabotage,

particularly as the Regulation does not specifically refer to tendering. He also argues that

Altmark has meant that ordinary State aid rules are now less restrictive than the Maritime

Cabotage Regulation and that this was never the intention.

2. Dr Bennet also seeks to break down the Regulation into individual Article sectionsand to show that they are not applicable to the Clyde and Hebrides services. He argues that

Article 4.2 (which limits the requirements Member States can set in relation to Public Service

Obligations (PSOs) and requires that, where compensation is offered, it must be available toall Community shipowners) is not relevant to the Clyde and Hebrides services. He states that

the Article was developed to prevent Member States imposing PSOs as a condition of access

to a particular route and only compensating their own operators. He further argues that the

effect of the Article is that compensation does not have to be paid where no obligations are

imposed.

3. Dr Bennet goes on to argue that Article 4.1 (which permits Member States to concludePublic Service Contract (PSCs) or impose PSOs but requires that where this happens it must

be done on a non-discriminatory basis in respect of all Community ship-owners) is the only

relevant Article. He then states that the purpose of the Article is to prevent unprofitable PSOs

being imposed on shipowners from other Member States whilst leaving the domestic ship-

owners free to operate a commercially viable service.


4. Dr Bennets paper recognises that the Altmark decision stated that where sectoral EUrules apply they cannot be avoided by an appeal to the general rules of the Treaty. He also

notes that the Maritime Cabotage Regulation requires that all community ship owners are

treated on a non-discriminatory basis but that tendering is not mentioned in the Regulation.

He then suggests that if Altmark can satisfy the general Treaty rules to prove that a subsidy

does not confer an advantage, the same test would be relevant in relation to MaritimeCabotage.

5. The requirement to tender is not mentioned in the Regulation. However, as Dr Bennetnotes, the requirement is to act on a non-discriminatory basis is. This is a common principle

of EU law and the effect of this requirement is that Member States must treat all Community

shipowners in the same way. If subsidy is to be made available, that subsidy must be

available to all Community ship-owners on the same basis. If the subsidy is to be made

available to only one ship-owner (as in the case of the Clyde and Hebrides) then all ship-

owners must be given the opportunity to qualify for this subsidy and the only feasible way of

providing this opportunity is through a bidding process. This is a different issue from the

Altmark consideration as to whether a subsidy would confer an advantage on one operatorover another.


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ANNEX B

6. It should also be noted that guidance issued by the European Commission in relationto the Maritime Cabotage Regulation (the December 2003 Communication on the

Interpretation of the Regulation (COM (2003) 595)) states at 5.4:

The Commission takes the view that, in general, the awarding of public service

contracts risks to discriminate between operators, as normally only one operator of agiven route is concerned. It therefore considers that launching an open

Community-wide invitation to tender is in principle the best way to ensure

non-discrimination.

7. Dr Bennet also suggests that the effect of Altmark is that ordinary State aid rules arenow less restrictive than the Maritime Cabotage Regulation and that this was never the

intention. However, the view among expert commentators is that, if anything, Altmark

represents a tightening of the general State aid rules (see Annex D) The criteria set out in

Altmark are extremely difficult to meet without tendering. In particular, the 4th test (ie the

typical undertaking test), means that an arrangement with a provider is always vulnerable to

challenge from another operator who consider that the service could be provided for lesssubsidy.

8. Dr Bennet seeks to break down the Regulation into individual Article sections and toshow that they are not applicable to the Clyde and Hebrides services. The purpose of the

Regulation is to liberalise maritime markets. However, it is recognised in the Regulation that

the market would not provide certain services that would otherwise be deemed necessary by

Member States and therefore it provided an exception to the blanket liberalisation. The

preamble states that,

the introduction of public services entailing certain rights and obligations for the

shipowners concerned may be justified in order to ensure the adequacy of regular

transport services to, from and between islands, provided that there is no distinction

on the grounds of nationality and residence.

9. Thus, under the Regulation the only purpose for which Member States may impose public service obligations and/or conclude public service contracts is, therefore, to ensure

adequacy of regular transport services.

10. The effect of Article 4s provisions would, as suggested by Dr Bennet, prevent aMember State imposing PSOs (Public Service Obligations) on a route on only foreign

shipowners. However, it also has the effect that where subsidy is available (either under aPSO or PSC (Public Service Contract) arrangement) that it must be made available to all

Community shipowners on a non-discriminatory basis. It is this latter effect which is relevant

to the Clyde and Hebrides ferry services.


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ANNEX B

MS JEANETTE FINDLAY THE FINANCING OF LIFELINE FERRY SERVICES

TO THE CLYDE AND HEBRIDES

Summary of Paper

1. The STUC commissioned Ms Findlay to look at:a comparison of the cost of continuing to run lifeline ferry services through the

existing integrated structure, compared with the revised structure as now proposed by

the Scottish Executive, but incorporating the costs associated with tendering

and that

the report should also consider the EC definition in tendering these lifeline services

and state whether it is achievable that services can be improved with lower costs to

the taxpayer. The report should also identify costs associated with redundancy in

different scenarios where TUPE might apply or not

2. The paper discusses some of the risks generally associated with contracts/competitivetendering and compares the status quo with additional costs which may arise when the Clyde

and Hebrides Ferry Services are tendered.


General

3. The underlying basis of the report, as stated at the outset, is it is possible that atender would not go ahead if it can be shown that the cost to the public would be less by

continuing the present arrangements than by going through a competitive tendering process.

This is a misunderstanding of the position. There is a clear requirement in the Maritime

Cabotage Regulation that, where compensation is to be offered, it must be made available to

all community ship owners on a non-discriminatory basis. If tendering were deemed

necessary, the costs which might arise from a tendering process and/or the Scottish

Executives preparations for that process (such as the restructuring of Caledonian

MacBrayne) cannot be taken into account in considering whether or not the Regulation

applies.

Additional Costs arising from Tendering

4. The report focuses on the likely additional costs that would arise if the Clyde andHebrides Ferry Services are tendered compared to the status quo.

5. The report suggests that the restructuring of Caledonian MacBrayne would lead tocessation of trade with tax debt of 5-10m. The arrangements for restructuring are still to be

finalised but it is likely that there would be a tax liability broadly on the scale suggested in

the report. Capital allowances are available for ships and the capital allowances held by

Caledonian MacBrayne should be available to VesCo. Going forward, the capital allowances

are available to be claimed by VesCo, the extent to which VesCo can take advantage of this

and the timing will depend on the level of future taxable profits. The proposed restructuringwould ensure that the substantial and publicly funded assets which Caledonian MacBrayne


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ANNEX B

currently holds remained in public ownership whichever operator ran the services. This

would ensure efficient utilisation of the existing fleet and other assets, offer service reliability

through a period of change and guarantee the availability of vessels and ports for subsequent

operating contracts. VesCo would also have a role in strategic planning including vessel

procurement to meet service delivery needs and the capital investment programme for its

piers and harbours.

6. It should be noted that, should tendering proceed, the fleet could not simply be leftwith Caledonian MacBrayne. The geography and climatic conditions of the Clyde and

Hebrides network require unique purpose built vessels. It would, therefore, clearly be

discriminatory to give only one bidder access to those vessels, given that its provision has

largely been funded by grants from Scottish Ministers. It would be discriminatory for only

one of the bidders to have assets funded in this way.

7. Under a tendering approach, the alternative to the VesCo option would, therefore, beto sell the vessels to the successful bidder with a requirement that he would then sell them on

to the next operator of the services. However, that approach would mean that ScottishMinisters would have less control over the maintenance and investment in the vessels, or the

condition in which they were transferred to subsequent operators.

8. The Report suggests that, if TUPE were not to apply, redundancy costs would be inexcess of 20m, if Caledonian MacBrayne did not win a tendered contract. If all staff were to

be made redundant Caledonian MacBrayne estimates that the cost would be in the region of

30m. However, the Executive is of the view that TUPE would be likely to apply and a

recent decision by the Employment Appeal Tribunal on the transfer of staff working on the

Northern Isles ferry service lends considerable weight to that assessment.

9. The Report suggests that if the Caledonian MacBrayne pension scheme were to beclosed it would require an injection of 10m to ensure that it had sufficient funds to cover

future pension entitlements. A range of options for future pension arrangements would have

to be considered should tendering proceed and it is not necessarily the case that the

Caledonian MacBrayne scheme would have to be closed. It should be noted that the

Executive would require the successful tenderer to ensure that transferring staff had access to

an actuarially equivalent scheme. The report suggests that bidders would not wish to provide

such a pension scheme. However, it would be a requirement of the tender specification and

refusal to provide it would result in failure of the bid.

10.

The Report notes that other new costs arise from a tendering process, such as arequirement for additional monitoring by the Scottish Executive. It also notes that the

restructuring of Caledonian MacBrayne into 2 companies would result in additional

management and a greater need for coordination and monitoring. These would be additional

costs. However, it would be essential that a contract of this nature was monitored rigorously

and robustly. And, whilst there would be some additional costs involved in the creation of a

separate vessel owning company, this structure would ensure that Caledonian MacBraynes

vessels remained in public ownership with the associated benefits as set out at paragraph 5 of

this section

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0017391 CLYDE AND HEBRIDES LIFELINE FERRY SERVICES - SCOTTISH EXECUTIVE’S CONSIDERATION OF THE...

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