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On 11th March, the Isle of Man Examiner included a long feature about the future of the Isle of Man Steam Packet Company.

The User Agreement between the Isle of Man Government and the Isle of Man Steam Packet Company regulates use of the Government-owned linkspan, guaranteeing near-exclusivity for that linkspan for the Steam Packet Company, and outlining the services which the ferry operator must provide for the Island. The User Agreement has had its critics, with some suggesting it creates an unfair advantage for the Steam Packet Company. However, others believe the guaranteed services it provides brings much-needed stability to what is often dubbed ‘the Island’s lifeline’. With early negotiations ongoing towards renegotiating the User Agreement, Business News spoke with Steam Packet Company Chief Executive Mark Woodward:

*Why is the User Agreement so important to the Steam Packet Company? What guarantees does it provide the Company?
It’s important to the company for a number of reasons, but also to the Isle of Man. From the company’s point of view, this is a very small market, and the transport industry is very capital intensive. In order to plan effectively we have to plan for the longer term. A lot of the sums involved are very large and you need to look at the period over which you can recoup those costs and earn the profits that you need to invest in future services. It isn’t the sort of industry where you can simply buy a ship off the shelf, run it for a couple of years and move on. The other thing about the Island is that assets suited to our ports and services are not easily portable, so it isn’t a case of purchasing something generic somewhere and using that. We have to build specific ships that suit the routes and suit the harbours, and again that is costly.

The User Agreement gives us a guarantee of near-exclusivity over the Government-owned linkspan. It also gives us the right to site our own linkspan. Importantly, it allows us to invest knowing that we have a definite timeframe over which we can recoup that investment. There are lots of different models of agreements, and one of the criticisms I’m aware of is that perhaps the User Agreement isn’t the best model. If you look around the Highlands and Islands of the UK, and other small communities in Europe and further afield, there are several models. One is the public subsidy model, where a government pays the operator an agreed sum to provide a range of services. A hybrid used in some areas is where a government owns the vessels and leases them to the operators on the basis they provide a service. If you take that a step further, the government could own and operate its own completely nationalised service. The beauty about our agreement is that it’s the only service that I’m aware of where the Government does not have to give any subsidy funding whatsoever to us, nor does it have to provide capital funds for the Company. The service runs entirely on the principle of user pays and guarantees a level of sailing frequency that otherwise would not be provided.

*When does the current User Agreement expire, and is there an option to extend it?
It expires in 2020, and there is an option to extend to 2026, which is open to either the Government or ourselves. If we want to extend to 2026, it can’t reasonably be refused by Government provided we have adhered to the many requirements Government demands of us under the agreement.

*What stage are you at in terms of renegotiating the agreement?
We have put to Government in broad terms a proposal which would give us an extension to the User Agreement and protect loss-making services. In return, if the extension option is exercised, we would commit to a sum in excess of £50 million for new vessels and infrastructure. Obviously, the fine detail needs to be discussed, but that is the thrust of what we are proposing and we think it is a fair compromise. It would give the Government, crucially, some certainty over its shipping services for the foreseeable future.

The service we have here, despite the fact that we do get criticism from time to time, does work very well. Not a penny comes to the Company from Government in the form of subsidy. In addition, we pay for all the costs for operating and using both linkspans, not just our own linkspan. The User Agreement made us liable for financing the build cost of the Government linkspan and financing all of its operating costs and maintenance during its life, and yet we don’t own it. At the end of the day, Government will own a linkspan which has been entirely paid for by a private operator, and that is why it is wrong that competitors think that they should be able to come in and use the linkspan to compete with us. They haven’t contributed to those build costs or ongoing maintenance costs.

There is a clear difference between what Government does in relation to the Airport and what it does in relation to its sea services. Sea services run entirely on the principle of ‘user pays’. So we are responsible for all the costs, we pay harbour dues of many millions of pounds a year. The Harbours Division either breaks even or makes a small profit each year. Now contrast that to the Airport, which makes a significant loss each year. We think given present numbers, if airlines were treated the same way that the Steam Packet Company is treated, i.e. where costs would have to be spread over the number of passengers the airlines and Airport serve each year, there would have to be a substantial price increase in the level of air fares. So there isn’t a level-playing field in that sense.

*So the new agreement would effectively replace the existing one?
It could either replace what has already been agreed, or it could amend what is already there. Many aspects of the agreement are working well and I don’t think there is a desire on the part of either party to change them significantly. So it is really a question of us going to the table with a list of things that we would like to see either altered or changed or introduced, and equally I’m sure Government will have its own list.

*What kind of extension would you be looking for?
Probably something similar to what we have, a 10 plus 5-6 year formula. So we would have a guaranteed 10-year period and an option for a further period if we were successful in meeting the requirements. It could be that, if the agreement was substantially changed, it is 21 years from 2020, rather than 15 years from 2026, but possibly with appropriate renewal points in it as well.

*If the User Agreement is not renegotiated, will you effectively retain one linkspan and the Government will retain the other?
Yes, if the agreement comes to a natural end in 2026; at that point we would be left in a scenario where the government has a linkspan which it is free to do with what it wants, and we would be left with a linkspan which we would be free to do with what we want.

*There is a perception in some quarters that the agreement gives the Steam Packet Company an unfair advantage, or ‘monopoly’. How would you answer these claims?
A monopoly to me is something that gives you an absolute entitlement and there is no possibility of competition from others. In our case, recent events have shown that is simply not the case. We have had competition in the form of a freight service from Mezeron.  It didn’t last very long, but it did significant damage to our level of revenues.  That does not fit comfortably with any definition of monopoly that I’m aware of. I think what people don’t realise is the level to which we are susceptible to competition from airlines. We can debate at length the basis on which airline pricing should fairly reflect the cost of operating the airport, but notwithstanding that, the fact is that the North West air/sea market combined has not grown at all in recent years. All that’s happened is that sea has lost passengers to air and for that to happen on the basis of prices which are effectively subsidised by the taxpayer, is probably not the most sensible long-term outcome for the Isle of Man. We made the point under our submission to the open skies policy debate; the strategy needs to be more joined up between air and sea. Now that we have a Director of Ports who is responsible for air and sea, I would expect to see more movement towards that joined up strategy.

*There is also a perception that the User Agreement allows the Steam Packet Company to cherry pick the services it wants to offer. Is that really the case?
There may be a perception, but I don’t understand how people can believe that when they look at the services we do offer. Ben-my-Chree sails twice a day, almost every day of the year. To me that isn’t cherry-picking the market. The fact is, we operate a load factor significantly lower than most airlines would even contemplate and our year-round load factor is only 37% in terms of passengers. This is a very low number by industry standards, and reflects the fact that demand for sailings in the Isle of Man is very much skewed towards the spring and summer periods. We do sail with better load factors during the peak TT period, inbound and outbound sailings, and some peak summer weekends, but the rest of the time there is plenty of space on board and I think that is reflected in the fact that we have over 900,000 special offers throughout the course of the year.

*The Irish sailings are often referred to when people suggest the Steam Packet Company is cherry-picking, and one of the claims is that you do not offer enough from Ireland?
We’d all like to have better connectivity, and there is no doubt that the Irish connectivity levels are not as good as the UK levels are - but there is a stark reality here and business to and from Ireland does not justify putting on additional sailings. It is very poor business practice for us and it would be a very poor choice for the consumer ultimately. If we can put a sailing on to Liverpool we may attract five or six hundred people during the summer season, and if we put the same sailing on to Ireland we may have between 30 and 130 people on board.

*If the User Agreement wasn’t in place, what kind of services would the Steam Packet Company most likely withdraw because they wouldn’t be financially feasible?
For a company operating with a load factor of 37%, in deep winter we can have as few as 20-50 people on board a sailing, which is clearly not a sustainable number of passengers for any commercial organisation, and it could well be the case, on a purely needs basis, that we might sail once every two days. Clearly, from a freight point of view that is not acceptable, because the ‘just in time’ nature of the service means it would need a daily service during the week. The reality is that we would be forced to compromise and would probably end up with one sailing a day midweek, and perhaps two on a Friday and a Saturday. But those single sailings would have to be biased to overnight sailings to meet the needs of the freight customers because they are the people who are ultimately subsidising the cost of travelling here, and we have made no bones about that. The Irish services certainly don’t make money, so if you were judging it on nothing other than commercial grounds, you would struggle to justify any Irish services. But we are required to provide them under the User Agreement.

*Another perception is that SPC passenger/vehicle fares are high; either compared with other passenger ferry companies around the UK, or comparatively with prices 20 or 30 years ago. How do your prices compare, and what monitoring of them is carried out by Government under the User Agreement?
Our prices may at first glance sometimes appear high compared with others – but I think you have to look at the scenario and the companies you are comparing us against. If you are comparing us with a company subsidised to the tune of many millions of pounds by a government, then you have to appreciate that the reason for that subsidy is to bring down fares or provide a service which commercially would not survive. We don’t receive any subsidy, so our fares have to stand alone. That’s a conscious decision by the Government; it has chosen that it should not use public funds to subsidise fares and it is happy with the principle of ‘user pays’. In the case of the Scottish Islands and the Northern Isles, the opposite applies and their government believes that it should fund fares, by way of subsidy, in order to lower them. We do monitor these fares on a regular basis because we want to be as competitive as we possibly can be. But you have to understand that it’s not just the subsidy issue, there is also the issue of market size, and the market size in the Isle of Man is very small. Having said that, when you look at some of the comparisons of cost-per-mile, you realise that we compare very favourably, and if you refer back to the Select Committee investigation, which looked at the issue of fares, they concluded that our passenger fares were ‘very competitive’. In terms of ‘have prices increased’, I see comments about prices having suddenly gone up or prices being increased massively. It’s not true.

When we went into the User Agreement in 1995 our fares were effectively ring-fenced. For the first 15 years of that agreement, we were not allowed to increase fares by more than Manx RPI less one half a percent. So the maximum fare has fallen by half a percent in real terms every year for each of those 15 years. So our fares are actually much cheaper in real terms than they were 15 years ago. I think back in 1989 our foot passenger fare was £15. Now, 25 years later, it is still around £18, so to say that fares have increased massively simply is not the case. I think the difficulty is that because we have such a large number of special offers now, inevitably someone who has got a special offer on many occasions, and for whatever reason doesn’t manage to get a special offer and pays the standard fare – and only 20% of our passengers do pay standard fares – they probably perceive that there has been a huge fare increase because they are paying a standard rather than a special fare.

Today, our price increases are capped at Manx RPI, so we have a half a percent more than we had for the first 15 years of the User Agreement, but it’s still capped, so in real terms our fares can do no better than that.

*Are you starting to plan for replacement vessels, and is the investment required dependent on the User Agreement being renegotiated?
The Ben is 16 years old and Manannan is second hand and a similar age to the Ben. The Ben has had a very large amount of money spent on her mechanically and there is now a programme underway to refurbish. If we were forced to use and operate the Ben until the end of the existing agreement, we wouldn’t have any concerns, and it would still provide the quality of service that we do at the moment. Equally, with Manannan, although she is older, she had a major refurbishment when we bought her, so she is effectively almost a new ship, and because of the period of use she had with the previous owner, she has had very low engine hours and she is in very good condition, and again we would have no concerns about continuing to use her. So we don’t anticipate, in the scenario where there was no prospect of a renegotiation, that we would be investing in new ships simply because we couldn’t afford to do it, and there would be no need to if there was no longer term certainty. This business is all about stability, for the company, for Government and for residents and visitors.

*If the User Agreement is renegotiated, will you look to replace the Ben and Manannan sooner than you might otherwise?
Our preference would be, as part of a renegotiation, to replace the Ben and Manannan with new ships well before the end of the existing agreement. We think that would be beneficial to the business, and in an ideal world we would prefer newer, more efficient and more flexible vessels.

*What sort of lead-in time do you need for the design, build and delivery of a new vessel?
I think a three-year lead time from literally starting the project to having the ships delivered, tested and ready to go is not unreasonable. If we were aiming for, say, a 2020/2021 deadline, that brings us into 2017/2018, and bearing in mind we’re now galloping through 2014, we need to get moving. This isn’t something that can be left longer-term, as you can’t just pick a ship off the shelf and have it suit all of our needs. The build time is probably a year, maybe a year and a half, and it is the planning around that – ports are our biggest concern because clearly we want to remain in Liverpool, the Pier Head is going to be subject to some improvements and we are aware that the landing stage we have at the moment needs improving. It is a fantastic location and we would like to have something that is more modern and more flexible there. In the longer-term we would like to be able to send a ship in the winter to Pier Head rather than to Birkenhead, which is not our first choice. So those are all things we would like to work on and as soon as we have some degree of certainty we can get moving.