Select Committee on Transport Written Evidence


Memorandum by Royal Mail Group plc (FOR 105)

THE FUTURE OF THE RAILWAYS

1.  SUMMARY

  Royal Mail Group plc welcomes the opportunity to submit this memorandum outlining its perspectives as a rail freight customer in the United Kingdom.

  To use a transport metaphor, our company is at a crossroads. We are near the mid-point of a three-year renewal plan designed to transform an ailing, backward-looking business into a thriving, profit-making one. Our Transport Review is one of six major change programmes in our renewal plan. It is about reshaping our transport network to move mail around more efficiently.

  Earlier this year, Royal Mail decided to move off rail because we could not agree on a new rail network with our supplier at an acceptable cost. This was purely a commercial decision based on price and the use of rail remains part of our preferred strategic approach provided there is benefit in terms of price and quality of service.

2.  BACKGROUND

  Royal Mail Group plc is a public limited company wholly owned by the Government. We have annual sales in excess of £8 billion and more than 200,000 employees. In the financial year 2002-03, the Royal Mail Group made a £611 million pre-tax loss and a £197 million loss from operations (before exceptional items). This is an improvement of £121 million or 38% over our losses from operations in 2001-02.

  We became a plc on 26 March 2001, wholly owned by the UK Government, our sole shareholder. The framework for change was the Postal Services Act 2000 that created a commercially focused company with a more strategic relationship with the Government. The Postal Services Act 2000 also established a new regulatory regime with an independent regulator, Postcomm, and a reformed consumer body, Postwatch.

  Through our predecessors, The Post Office Corporation, the General Post Office and Consignia, we have a record of over 360 years of providing the public with postal services.

  In the UK we operate under our trusted brands Royal Mail, Post Office(r) and Parcelforce Worldwide.

  Royal Mail provides an essential public service relied upon by local residents, businesses, local and national government, public services and the community generally. Notwithstanding the introduction of e-mail and other electronic messaging, and the continuing use of faxes, the volume of mail delivered each day is some 82 million items.

  We have a statutory duty to provide a letter delivery service to each and every one of the 27 million addresses in the United Kingdom at a uniform price, irrespective of the distance travelled. This duty also includes an obligation to carry out at least one collection daily from each of our letterboxes.

  The Government, our shareholder, requires us to operate the Royal Mail Group profitably, while our regulator, Postcomm, requires us to achieve a target of 92.5% next day delivery of First Class mail, or we face heavy penalties, potentially running to millions of pounds. At the end of September 2003, Postcomm announced that it intends to fine Royal Mail £7.5 million for failing the licence targets last year for two First Class business mail services.

3.  ROYAL MAIL TRANSPORT REVIEW

  We commenced a ten-year rail contract for the carriage of letter mails in September 1996 with English Welsh & Scottish Railway Ltd (EWS). The new network, "Railnet", comprised fast, limited-stop, fully-containerised, trains. Additionally, a dedicated rail facility at Willesden was central to the scheme so, for the first time, road transfers across London, that had proved such a drain on quality, were avoided.

  The infrastructure required a large investment and the deal had been agreed some years before the contract actually commenced. To defray those costs acceptably, an unusually long ten-year agreement was reached. We had, up to then, typically contracted only for periods of five years.

  This was done at a time when the commercial environment surrounding both parties, then the British Railways Board and The Post Office, was quite different. The Board, representing the whole rail industry, was set for privatisation and The Post Office, now Royal Mail Group, was itself under consideration for the same transition.

  In the intervening years, things have changed significantly in both the rail industry and for ourselves at Royal Mail. As part of these changes, our regulator, Postcomm, has started opening up competition in areas of our business that had previously been protected. This will inevitably have an impact on our business volumes over time and we need to be able to respond decisively to the challenges this presents. In addition, the changing nature of mail products and services and their relative volumes, has seen the growth of business bulk mailings and demanding targets for First Class letters.

  It was clear two years ago that the present contract for rail freight services could not stay in place until 2006, partly because of the postal market changes outlined above and partly because the Travelling Post Office (TPO) train carriages involved would be life-expired before then.

  In June 2001 we announced a comprehensive review of our UK-wide road, rail and air transport links to reshape the entire network to meet demands for cost effective and faster services. We said our aim was "to achieve the best possible integrated network, on the basis of cost, reliability, flexibility, growth potential and environmental factors. Our future use of rail, air and road services, and the balance between them will be judged against those factors." The review was due to be completed by the end of 2001, with changes to our transport network expected to take place progressively in the following 12 to 24 months.

  At the time our Transport Review was announced over two years ago, Royal Mail Group was spending around £300 million annually transporting mail and parcels in the UK. Of the 80 million letters posted each day, some 12 million or 14% were transported long distance by rail, 35 million travelled long distance by road, and five million or 6% travelled by air. The remainder is short distance and local. Our vehicle fleet numbered 40,000 vehicles of all types. We were also operating nearly 60 trains each night and 39 air services.

4.  RAIL—ROYAL MAIL'S CURRENT AND POSSIBLE FUTURE USE

4.1  Current Use

  Royal Mail mainly uses rail for the movement of First Class mail on an overnight basis. The services are dedicated to mail movements and involve rolling stock owned by Royal Mail (16 four coach sets of Class 325 Electric Multiple Units) and EWS the operator. The services connect a mixture of locations involving dedicated rail hubs, dedicated facilities at passenger stations and use of passenger platforms at stations. All services are multi-stopping and involve dropping mail off at intermediate points on the journey and picking up more mail. Mail is still sorted on 12 nightly services out of 44 services still running (36 with effect from 1 October 2003). The rolling stock used for the Travelling Post Offices is Mark 1—a type which in other forms from 31 December 2003 can no longer be used for fare paying passengers.

  Mail trains have a higher degree of priority on the rail network than passenger trains (which in turn have a higher degree of priority than ordinary freight) but do pay higher track access charges as a result. The performance regime for Royal Mail train services is also more demanding upon EWS, and in turn Network Rail, than is available to other rail users. This regime though is only available until May 2007 and is unlikely to be available to Royal Mail beyond then.

  Despite the performance regime, and the preference that mail trains get, Royal Mail has suffered similar problems to other rail users in obtaining acceptable levels of service performance. This has been particularly relevant post Hatfield. In the last 12 months the average level of performance has been about 91% against a target of 95% arrival within a 10 minute time window. The equivalent figures are 96% for road and about 94% for air. The latter level though varies from poorly performing turbo prop aircraft which lack all weather capabilities to nearly 99% achieved by BAE146 jets.

  With rail the prognosis is for ongoing renewal for the network, and hence, despite the operators best endeavours, an ongoing gap between Royal Mail's service aspirations and rail network capability. As stated above, Royal Mail is now regulated for mail products and faces fines for failure to achieve the required standards. The issue on rail is not just overall performance level but also the relative inconsistency on a night-by-night basis that makes effective contingency planning difficult.

  Quality issues and Royal Mail's financial position led to a review of poorly performing services and an assessment of the ability to transfer product movement from rail to road. This work exposed that rail was not as effective in many areas and that equivalent or better connectivity by road could be achieved.

  The more detailed modelling Royal Mail then undertook for their future network further highlighted that rail was not as effective as had been previously believed. This modelling used linear programming techniques and was able to switch flows of mail between road, rail or air depending upon cost and the ability to meet connection times. The model encompassed all UK mail flows with their availability for transportation and required connection times elsewhere in the network to meet Delivery Office deadlines for on time delivery to recipients. The modelling indicated that for overnight mail (principally First Class mail) road and air were most effective. This led Royal Mail to look at using rail to move less time critical products in bulk over long distance.

4.2  Factors Affecting Use of Rail for Royal Mail

  The key factors for Royal Mail in the use of any transport mode are:

  Connectivity: Royal Mail needs to connect all parts of the UK with an overnight service to meet its Universal Service Obligation. The last posting times around the country with a next day delivery requirement means there is a need for speed. There also needs to be consistency and reliability so that the connectivity works each and every night. Road provides almost 100% connectivity, excluding islands. Air is quickest for connecting extremities or offshore locations.

  Quality of Service: the reliability of a transport network is essential for confidence in planning. Without consistency there is an inability to plan a robust network and have contingencies should the network fail. Royal Mail has quality of service targets agreed with its regulator, Postcomm, and so has to ensure its transport networks do connect effectively. As commented above, road provides the best quality of service in Royal Mail's transport network. Plans are in place to raise the quality of air services.

  Rail unfortunately has achieved only about 91% on quality of service in the last year. Worse still is the inconsistency of performance ranging from a low of 80% to the high 90's. These fluctuations occur on a nightly basis, are unpredictable and have a damaging effect on Royal Mail's quality of service.

  Flexibility of Routing: there are many variations on road for routing between two locations and so road traffic is able to divert round traffic congestion, road works and so on. Whilst rail has some flexibility it is less than road. Furthermore when a line is blocked there is little alternative but for trains to be delayed.

  Another issue on routing is so called "Z legs". Mail needs to get to rail hubs and passenger stations by road. This means two road movements into and out of a rail hub at each end of a rail journey. For a direct movement only one journey is necessary. Even if a road hub were used there would be only two road links via the hub rather than two road links and one rail link. Rail will almost always need road support.

  Cost: for Royal Mail's type of products and movements costings to date show rail to be more expensive than road. As an existing user, Royal Mail was not eligible for rail freight grants. There may be opportunities for grants for future use—whether these will bridge the cost gap is not clear.

  "Dedicated" versus "Shared User": Royal Mail currently runs dedicated trains. In order to achieve economies of scale in train length and fill, mail needs to be marshalled into a suitable volume equivalent to many truck loads and so is effectively held back before despatch. Upon arrival, time is then taken to unload and disburse mail. With road each truckload can be despatched when it is ready thus departing earlier. This marshalling and disbursement process with rail and the impact of "Z legs" in many instances removes any time advantage rail may have had when travelling at higher speeds.

  Shared user services produce a smoother flow and so this is an option Royal Mail is considering. However, departure and arrival times are an inevitable compromise with the needs of other users and network availability and so may not meet Royal Mail's needs.

4.3  Possible Future Use

  Looking to the future, it is forecast that road congestion will grow and Working Time Directives will have an impact. However, with rail it is clear that ongoing disruption to the network is inevitable due to the need for renewal. Events such as Hatfield were more damaging than 11 September as the impact was more prolonged and more unpredictable in its duration and extent.

  Equally unclear for existing and potential rail users at the moment are:

  The timescale and impact of network renewal: there has been much debate on funding availability and what is required which creates uncertainty about when a higher degree of reliability can be expected. There are in the meantime the ongoing issues of disruption as renewal occurs.

  Resolution of the conflicts between users—passenger (inter city versus regional) versus freight (slow versus high speed, dedicated versus shared user): these users have conflicting needs on what appears to be a capacity constrained network. It is unclear how these competing priorities can be balanced to ensure access at times suitable for each customer's product.

  Funding for freight users to offset the additional costs of rail versus road: Royal Mail has not been able to access these grants in the past. If it were able to then a degree of security for ongoing access to them would be vital.

5.  ROYAL MAIL TRANSPORT REVIEW PROPOSALS 2002

  In March 2002, we announced our intention to switch to an entirely new transport operation based on a regional "hub and spoke" system combining road, rail and air links. Royal Mail therefore made a strategic decision to seek to retain the use of rail as a modal alternative to road and air. This approach recognises that no one network is 100% reliable and events (September 11th, major road closures, major rail incidents such as Hatfield) impact on all modes at times so alternatives are desirable.

  The continued use of rail in these proposals involved fewer trains carrying more mail in bulk and during the day rather than at night. This proposal would have increased the volume of mail carried by trains from around 14% to 18%.

  Taken together these changes would save approximately £90 million on current transport operating costs. In brief, the key elements of the 2002 proposals included:

    —  Using air and road elements in a "discrete" overnight network based on the hub and spoke model using high-volume articulated vehicles—as opposed to the large number of smaller 7.5 tonne vehicles currently operating. This would result in a reduction in annual road mileage and a significant reduction in usage of smaller 7.5 tonne road vehicles.

    —  The bulk network would use large elements of rail transport for Mailsort/Presstream products and Second Class items. Sending less time sensitive mail by rail would mean transporting these products during the day and not being so affected by the continuing rail infrastructure and maintenance work being carried on at night and estimated to last up to five years.

    —  Moving away from transporting mail by rail overnight, would mean the requirement for TPOs would diminish. As a result we announced ceasing the TPO network.

    —  We would continue to use our existing operational sites as far as possible. The intention being to transfer work out of sites that are not up to the operational specification of a "state of the art" distribution service and into our sites that are fit for purpose. This would involve the creation of a new distribution centre in the Midlands area with work transferring from our existing sites in the area into the new hub.

    —  Royal Mail would continue to use air transport, but changing to fewer, larger containerised aircraft thus reducing the number of flights and staff required for airport operations. The use of jet freighters would also mean being less susceptible to poor weather conditions.

    —  Using fewer and larger vehicles would greatly reduce the number of road vehicles and cut the amount of carbon emissions our vehicles produce.

6.  ROYAL MAIL TRANSPORT REVIEW DECISIONS 2003

  In June this year, following the failure of protracted negotiations with our rail freight supplier EWS over the transfer of existing services to the new network, Royal Mail Group concluded there was no alternative but to move forward with a restructure based on a road and air network only. To continue talks would simply have caused unacceptable delays to our plans to restructure our transport network, costing us money and impacting on the service to our customers.

  We were disappointed that, after two years of discussions with EWS, we were unable to make any headway. EWS were unwilling to quote a competitive price for the revised service we requested, apparently taking the view that they needed what they defined as "a critical mass of revenue" of about £40 million—similar to current revenue levels. What became apparent—and was clearly articulated at a meeting on 30 January this year—was that it was £40 million or nothing. Throughout the discussions EWS consistently refused to share costings to allow any sort of debate. The EWS attitude appeared to be that they did not believe the Government would allow Royal Mail Group to cease using rail, so they were not taking a risk with the "nothing" option.

  EWS have never lowered their prices. We asked them to provide cost visibility to allow a programme of cost reduction to be instigated when Royal Mail Group first entered its time of financial difficulty. EWS declined, mainly, we now understand, because the contract with Royal Mail was very profitable. We then started a programme of cancellation of the worst performing services and transferring to road at lower cost and improved quality of service. We then threatened further cancellations as EWS were still unwilling to address the cost of services. In response EWS offered a special discount off the invoice and to forego the price indexation as allowed for under the contract. Both discounts were time-limited to this calendar year.

  The final quotations from EWS that were used for decision-making were £25.9 million per year above the road-only solution.

  As was made clear at the time of our announcement in June, the decision to cease using EWS was a purely commercial decision based on price, and the use of rail for some elements of the distribution network remains our preferred strategic option and has not been ruled out for the future.

  It is vital if Royal Mail's wishes to maintain a rail element in its transport strategy are successful that meaningful discussions take place with other potential providers. Since the announcement in June, seven other potential suppliers have come forward and discussions continue.

  Our current rail operation uses purpose-built facilities at Willesden, Warrington, Wishaw, Bristol Parkway, Doncaster, Low Fell and Tonbridge. Even if a road-only solution is adopted, the facilities at Willesden, Warrington and Wishaw will remain in use and rail-connected. Those at Doncaster and Bristol will return to their landlords, EWS and Network Rail respectively, to use as they so wish. We intend to retain the platforms at Low Fell, alongside our Mail Centre, and at Tonbridge so they will remain available for use if required in the future.

6.1  ENVIRONMENTAL ISSUES

  Royal Mail's new road and air network will reduce the impact of our distribution network on the environment by a 30% reduction in carbon dioxide emissions compared with the current network, and by 26% on the proposal which included the use of rail. Under the road/air network we will reduce our road mileage by some 20 million miles a year (26.5%) compared with the current network.

  Royal Mail's figures on environmental issues are laid out herewith:


Current Network
Air/Road/
Rail Proposal
Air & Road
Only Network
Carbon Dioxide Emissions kg per day730,633 694,444513,436


Miles Per Annum
77,255,782 55,619,93856,784,895


Lorry Movements Per Day
8,500 3,3272,500


  There is an increase in road miles as one would expect with the road/air option compared to the road/rail/air option but a large reduction compared to the current network. There will however, be fewer lorry movements with the road/air network compared to both the current network and road/rail/air option, as we make better use of larger vehicles on longer journeys and avoid the need for short runs between our regional distribution centres and rail hubs.

  While the use of rail would have resulted in a small improvement in road mileage compared to the road/air option (just one million less road miles per year) there is also the fact that rail is not a zero emission option. Diesel locomotives generate emissions and electric trains require power stations to produce electricity. Royal Mail's load factors for rail are lower than industries like coal or aggregates and this should also be taken into account.

  The use of rail also creates vehicle movements to and from stations which are often vehicles that are less than fully loaded (we can only put mail for a limited number of Mail Centres on the train—the ones it connects with). With a lorry going to a road hub there are more connections that can be made so there is greater opportunity to fill the vehicle up.

  There seems to be a perspective that rail is a totally environmentally friendly, pollution free mode of transport—it is not so. It can be more environmentally friendly than road in the right circumstances.

6.2  JOBS

  The 153 jobs affected in our smaller rail hubs and at passenger stations were all included in the 2,500 jobs to be impacted by the Transport Review announced in March 2002. As a responsible employer, we will seek redeployment opportunities for staff and to achieve any job losses through natural turnover. We note EWS' contention that 500 of their jobs (8.1% of their 6,200 total staff) are threatened as a result of Royal Mail ending 49 services per day (3.1% of their weekly 8,000 services).

7.  VAT

  On the issue of VAT, Royal Mail is currently VAT exempt on postal charges. This means it cannot recover VAT paid to suppliers for services provided in the course of its mails business. As a Government Minister recently stated: "Postal services provided by the universal service provider, Royal Mail, are currently exempt from VAT, and the Government believe that the vital social role played by the universal postal service should continue to be reflected in the tax system. The Government are therefore opposed to VAT on stamps" (John Healey MP, Economic Secretary to the Treasury, Hansard, 12.6.03). The result is that Royal Mail has to add 17.5% to any prices quoted by EWS to arrive at the full cost. The suggestion however, that our road costs are free of VAT is not true. Royal Mail incurs VAT on fuel, lease costs and other bought in services for road vehicles.

8.  GOVERNMENT POLICY

  As we understand the Government's transport policy, it is to make rail freight attractive for business to use via grants and other means. It is not Government policy that Royal Mail Group should subsidise the railways or a privately owned rail operator. We have regular meetings with Ministers at the Department for Trade and Industry as our shareholder and these have included discussions on the progress of our Transport Review. We believe the Government's position can be summed up as regretting the loss of business for rail freight but standing by its policy that Royal Mail Group must have the freedom it needs to operate commercially. It has therefore regarded the discussions and negotiations between Royal Mail Group and EWS as a commercial matter for the companies concerned.

9.  CONCLUSION

  Royal Mail Group has repeatedly explained that its decision to move to a new integrated road and air transport network and withdraw from the use of rail is a commercial rather than a policy decision. It remains true that, ideally, we would like to retain a rail element in our transport mix and therefore have not ruled out a return to rail in the future for some elements of our operations provided the price and quality of service are appropriate.

Paul Bateson,

Managing Dirctor Logistics

Royal Mail Group plc

September 2003


 
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