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0017391 CLYDE AND HEBRIDES LIFELINE FERRY SERVICES - SCOTTISH EXECUTIVE’S CONSIDERATION OF THE REQUIREMENT TO TENDER

0017391 CLYDE AND HEBRIDES LIFELINE FERRY SERVICES - SCOTTISH EXECUTIVE’S CONSIDERATION OF THE REQUIREMENT TO TENDER

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22. If the Clyde and Hebrides ferry services are not brought into line with EU rules and the 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 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 in relation 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 ervices. If this action were to proceed to a full investigation it could seriously jeopardise these lifeline services.
22. If the Clyde and Hebrides ferry services are not brought into line with EU rules and the 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 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 in relation 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 ervices. If this action were to proceed to a full investigation it could seriously jeopardise these lifeline services.

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CLYDE & HEBRIDES LIFELINE FERRY SERVICES – SCOTTISH EXECUTIVE’S CONSIDERATION OF THE REQUIREMENT TO TENDER

CLYDE AND HEBRIDES LIFELINE FERRY SERVICES SCOTTISH EXECUTIVE’S CONSIDERATION OF THE REQUIREMENT TO TENDER

CONTENTS Page No. Summary of Scottish Executive’s Consideration of Requirement to Tender 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’ by Scottish Ministers (E) Management Contract (F) Professor Kay’s 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 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-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) 8 9 9 10 11 12 12 14 15 Background Policy Objectives Position in EU Member States Revised Guidelines Are there Alternatives to Tendering? Conclusion Next Steps Staffing and Employment Issues Gourock-Dunoon 1 1 1 2 2 5 5 6 7

Annex B

15 17

- The Scottish Executive’s Consideration of the Academic Papers submitted to the Local Government and Transport Committee The Proposed Tendering of Clyde and Hebrides Ferry Services: Problems and an Alternative Proposal (Professor Neil Kay) Competing for the island lifeline: European Law, state aid and regional public services (Dr Paul Bennett)

18 20

Annex C

The Requirements of the European ‘Cabotage’ Regulation in relation to the General Treaty (Dr Paul Bennett) The Financing of Lifeline Ferry Services to the Clyde and Hebrides (Jeanette Findlay)

25 27

- 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 30 31 32 32 33 33 33 34 34 35 36 36 36 36

Annex D Annex E Annex F

- Summary of Decision of European Court of Justice in the Altmark case - Summary of Research on the application of the Maritime Cabotage Regulation in EU Member States - Correspondence between the Scottish Executive Ministers for Transport and the European Commission Vice President

38 41 48

SUMMARY OF SCOTTISH EXECUTIVE’S CONSIDERATION OF REQUIREMENT TO TENDER Background 1. During the Parliamentary debate on ferry services on 8 December 2004, the Parliament expressed concerns about the Scottish Executive’s (the Executive’s) proposals to tender 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 has reviewed 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 the European 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 Scotland”1 makes it clear that the Executive is committed to continuing to support and invest in lifeline ferry links. 5. The Executive’s policy objectives for the Clyde and Hebrides ferry services were set out 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 of quality, 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 of public subsidy.

Position in EU Member States 6. The Executive recently commissioned consultants Steer Davies Gleave to carry out research 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 2

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

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 or are 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 Executive’s 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 the revised 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 criteria that the two Caledonian MacBrayne mainland to mainland routes meet; the creation of a vessel owning company which would own the vessels used in delivering 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 route basis.

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Are there Alternatives to Tendering? 9. Following the Parliamentary debate on ferry services on 8 December 2004, the Executive considered proposals for alternatives to tendering, some of which were put forward by other parties. In particular, the Local Government and Transport Committee’s 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) (B) (C) (D) (E) (F) (G) (H) Status Quo Altmark New scheme where subsidy is available to all Community shipowners Clyde and Hebrides service brought ‘in-house’ by Scottish Ministers Management Contract Professor Kay’s 5 part proposal which he suggests would meet the Altmark criteria Meeting the underlying objectives of EU rules – meeting the Spirit of the Treaty. Proposal that the 1973 Undertaking between the Executive and Caledonian MacBrayne was an ‘existing public service contract’ as described in Article 4,

(I)

paragraph 3 of the Maritime Cabotage Regulation and, therefore, pre-date the requirements of the 1992 Maritime Cabotage Regulation. 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 summary is 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 nondiscriminatory 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 operator would 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 Public Service 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 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 to result 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 to withdraw from the route there would, almost certainly, be no TUPE transfer of its staff.

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http://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 of individual consumers. Thus it could not be used to support freight services. the number of operators would be expected to increase, possibly with more than 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 the ferry 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. (E) Management Contract

15. Under this option Scottish Ministers would tender a ‘management contract’ for the management 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 Kay’s 5 part proposal

16. Professor Kay’s proposal is based on the assumption that the Altmark criteria can be used 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 Kay’s 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 as those 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.

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 the most important 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 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. (I) Effect of July 2005 Commission Decision in relation to Services of General Economic Interest (SGEIs) 19. Some commentators have suggested that the European Commission Decision on the application 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 Executive’s view the only alternative to tendering 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 or would 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 and the 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

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 in relation 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 of tendering 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 Executive’s 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 operator’s 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’ contract terms 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 have access 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 will be 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.

Gourock-Dunoon 27. Circumstances on the Gourock-Dunoon route are unique in the Clyde and Hebrides network 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 separate proposals 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

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 the market 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 islands’5. 2. The Regulation and associated guidance do not state that tendering is required in relation 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 public service 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, the principle 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 Communitywide 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) 595 http://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

ANNEX A

5. The terms of the Regulation and the subsequent guidance from the Commission suggest 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 Executive’s views: (A) (B) (C) (D) (E) (F) (G) (H) The Status Quo Altmark New scheme where subsidy is available to all Community shipowners Clyde and Hebrides service brought ‘in-house’ by Scottish Ministers Management Contract Professor Kay’s 5 part proposal which he suggests would meet the 4 Altmark criteria Meeting Underlying Objectives of EU rules – meeting the Spirit of the Treaty. This argument was put forward by both Professor Kay and Dr Bennet. 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-date the requirements of the 1992 Maritime Cabotage Regulation Effect of July 2005 Commission Decision in relation to Services of General Economic Interest (SGEIs)

(I) (A)

The Status Quo

6. The Clyde and Hebrides ferry services provided by Caledonian MacBrayne fall within the 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 nondiscriminatory 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 whether or 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 and Hebrides 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. maritime transport; 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 that Member States must treat all Community shipowners in the same way. If subsidy is to be

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 would confer an advantage on one operator over another. Thus, whilst it may be possible to show without 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 operator would 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 Regulation without the need for tendering. 12. However, Commission Communication C(2004) 43 (Community Guidelines on State aid 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) and 87(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 the requirements 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 in relation 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 Public Service 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

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8

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

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 to withdraw from the route there would, almost certainly, be no TUPE transfer of its staff. This type of approach could attract low cost operators with consequential implications for staff terms and conditions. it would be impractical to offer the subsidy for all on the basis of a single network. 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 this type 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 the overhead costs of more than one operator.

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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 a subsidy for all scheme would be unacceptable. Such a scheme would not meet their commitment to protect existing levels of service. (D) Clyde and Hebrides service brought ‘in-house’ by Scottish Ministers

17. Under this proposal the Clyde and Hebrides ferry services, currently operated by Caledonian 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 currently employed 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 takes that 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. (E) Management Contract

ANNEX A

19. This option would entail the tendering of a ‘management contract’ to run Caledonian MacBrayne 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 the Hebrides. 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 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 Kay’s 5 part proposal which he suggests would meet the 4 Altmark criteria9 21. As set out at (B) Altmark (paragraphs 7 to 10 above) the Altmark criteria are not applicable 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 Kay’s 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 Cabotage Regulation requirement that ‘any compensation for public service obligations must be available to all Community shipowners’. He suggests that one way in which “the opportunity for 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 Kay’s paper ‘The Proposed Tendering of Clyde & Hebrides Ferry Services: Problems and an Alternative Proposal’ was initially

written for Edinburgh University’s Europa Seminar in March 2005. 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.

ANNEX A

23. Professor Kay also suggests that the European Commission might provide a ‘letter of comfort’ 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 the network’ 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 vessel deployment 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) is also 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 MacBrayne’s 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 and environmental 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 existing integrated transport links (with road, rail and other ferries in the Caledonian

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10

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

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 Kay would 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 the application 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) (b) (c) value for money (tendering of the services would result in additional costs to the public purse); the risks associated with lifeline services being provided by a private sector operator with a focus on profit rather than by a public sector operator whose focus is on meeting social need; and the wider potential implications for the local economy in terms of employment and business.

27. These issues do not address the legal requirement of the Maritime Cabotage Regulation 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 academic’s papers can be found in Annex B. A summary of the Executive’s proposals is set out below. (a) Value for Money/Costs. There would be some additional costs. However, those directly 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 MacBrayne’s vessels remained in public ownership ensuring their availability for subsequent contracts. Tendering Risks. The risks identified by various commentators are those which are often associated with contract/competitive tendering arrangements and are not unique to the Clyde and Hebrides ferry services. However, it should be noted that during the tender process bidders would be closely scrutinised to ensure that their

(b)

ANNEX A

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 were well-maintained and that the operator was incentivised to appropriately maintain the assets. (c) Employment and Business. The Executive attaches importance to the future of the 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 Executive’s 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 requirements of the 1992 Maritime Cabotage Regulation 28. The Maritime Cabotage Regulation states, at Article 4, paragraph 3, that “existing public 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 most important 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. (I) Effect of July 2005 Commission Decision in relation to Services of General Economic Interest (SGEIs) 30. Some commentators have suggested that the European Commission Decision on the application 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 Altmark decision. The Commission has experienced a significant increase in notifications following the Altmark decision as Member States wanted to make sure that their state aids were compliant with the Treaty. In response to this the Commission has decided that aid relating to

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 aid rules. 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 the Altmark 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 compensation which 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 the interpretation 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 nondiscriminatory basis with regard to all bidders. 34. The Commission has not indicated whether it intends to revise the guidance to bring the 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 MacBrayne carried over 5 million passengers and would, therefore, significantly exceed the de minimus threshold.

ANNEX B

THE SCOTTISH EXECUTIVE’S 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 and Transport 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 and commentary by the Executive on the key issues raised. 2. The papers submitted to the Local Government and Transport Committee and the Scottish Executive were : The Proposed Tendering of Clyde and Hebrides Ferry Services: Problems and an Alternative Proposal (Professor Neil Kay, Emeritus Professor Strathclyde University) Competing for the island lifeline: European Law, state aid and regional public services (Dr Paul Bennett, University of Edinburgh) The Requirements of the European ‘Cabotage’ Regulation in relation to the General Treaty (Dr Paul Bennett, University of Edinburgh) The Financing of Lifeline Ferry Services to the Clyde and Hebrides (Jeanette Findlay, 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 Executive’s response to these points is set out in more detail in the remainder of this Annex.

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 Kay’s paper was initially written for Edinburgh University’s Europa Seminar 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 current thinking 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 Altmark criteria) has 5 parts as follows: ring fence and separately account for leasing of vessels from operational activities. set out Caledonian MacBrayne’s obligations on a route by route basis (e.g. service spec). appoint an independent Regulator to protect and advance interests of ferry users, ensure ferry services delivered efficiently etc. Auditor General to set up procedures to ensure Caledonian MacBrayne is fulfilling 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 with 100% clawback of any profit made.

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3. The papers also discusses the Executive’s 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 Kay’s 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 Kay’s 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.

ANNEX B

Risks of Competitive Tendering 5. Professor Kay considers a number of concepts which are common risks in competitive tendering 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 grant mechanism, 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 to win 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.

ANNEX B

DR PAUL BENNETT – COMPETING FOR THE ISLAND LIFELINE: EUROPEAN LAW, STATE AID AND REGIONAL PUBLIC SERVICES Summary of Paper 1. Dr Bennett’s paper was originally presented at the Annual Conference of the Regional Studies Association in Angers, France in April 2004. The paper has been updated and this consideration is of the 1 March 2005 version. 2. Dr Bennet’s paper considers the underlying EU principles relating to State Aid and the benefits 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 abuses of state aid in commercial industries and core European regions are inappropriate for essential but unprofitable public services in more peripheral regions.” Scottish Executive Comment 4. Dr Bennett’s paper seeks to demonstrate inconsistencies in EU principles and describes 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 Bennet’s paper set out a number of potential difficulties and risks associated with competitive tendering as follows: There may be so little opportunity for an operator to expand the business that the operator’s focus would probably be on efficiency savings. 6. The Scottish Executive has made it clear that its consideration of the need to tender the 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 financial compensation (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 the contract. However, this will prevent the operator acting in an entrepreneurial way and/or

ANNEX B

the services changing to suit local communities’ needs. The Executive will not be able to mandate the operator to provide additional or altered services. 7. As part of the 2002 consultation on the draft service specification the Executive consulted on its proposal for a prescriptive approach. This approach was strongly supported by respondents. This would ensure that the operator was contractually required to provide the 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 and Reliability 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 tenderer’s 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 Executive’s 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 Executive and 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 VesCo vessel 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 operator’s 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

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 of vessels 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 the approval 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 contract would 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 by the Operator would be subject to VesCo’s approval. VesCo vessels could not to be used by the Operator outwith the CHFS service except with the agreement of VesCo and Scottish Ministers. It should also be noted that VesCo would also be responsible for acquiring new 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.

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(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 VesCo’s duties as harbour authority. Key aspects of the contracts would be: The Harbour Management contracts would clearly set out VesCo’s and the Operator’s respective responsibilities in relation to safety, maintenance, insurance, environmental protection and management of the harbours. The Operator 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 Operator’s contract period, would usually fall to be tendered and managed by VesCo.

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ANNEX B

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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 contract period 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 and have 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 and VesCo would then have a claim against the Operator. As well as issues specific to VesCo’s 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.

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(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 the Operator 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 VesCo’s contract monitoring and compliance procedures. A key aspect would be to ensure that all assets were maintained to an appropriate standard. This would include 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 Caledonian MacBrayne 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, were considered recently by an Employment Tribunal and subsequently by an Employment

ANNEX B

Appeals Tribunal and it is, therefore, the Executive’s 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 operator’s 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 Executive’s detailed proposals in relation to staff.

ANNEX B

DR PAUL BENNETT – THE REQUIREMENT OF THE EUROPEAN ‘CABOTAGE’ REGULATION IN RELATION TO THE GENERAL TREATY Summary of Paper 1. Dr Bennett’s paper recognises that the Altmark decision itself stated that the specific EU rules cannot be avoided by an appeal to the general rules of the Treaty. However he questions 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 sections and 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 to all 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 conclude Public 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 shipowners free to operate a commercially viable service. Scottish Executive Comment 4. Dr Bennet’s paper recognises that the Altmark decision stated that where sectoral EU rules 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 Maritime Cabotage. 5. The requirement to tender is not mentioned in the Regulation. However, as Dr Bennet notes, 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 shipowners 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 operator over another.

ANNEX B

6. It should also be noted that guidance issued by the European Commission in relation to 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 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.” 7. Dr Bennet also suggests that the effect of Altmark is that ordinary State aid rules are now 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 less subsidy. 8. Dr Bennet seeks to break down the Regulation into individual Article sections and to show 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 4’s provisions would, as suggested by Dr Bennet, prevent a Member State imposing PSO’s (Public Service Obligations) on a route on only foreign shipowners. However, it also has the effect that where subsidy is available (either under a PSO 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.

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/competitive tendering and compares the status quo with additional costs which may arise when the Clyde and Hebrides Ferry Services are tendered. Scottish Executive Comment General 3. The underlying basis of the report, as stated at the outset, is “it is possible that a tender 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 Executive’s 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 and Hebrides Ferry Services are tendered compared to the status quo. 5. The report suggests that the restructuring of Caledonian MacBrayne would lead to cessation 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 restructuring would ensure that the substantial and publicly funded assets which Caledonian MacBrayne

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 left with 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, be to 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 Scottish Ministers 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 in excess 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 be closed 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 a requirement 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 MacBrayne’s vessels remained in public ownership with the associated benefits as set out at paragraph 5 of this section

ANNEX B

Protection of the Existing Caledonian MacBrayne Workforce 11. The report states that tendering does not necessarily mean lower costs for the same quality, and that lower costs have often been achieved at the expense of wages and the terms and conditions of the workforce. The Executive is committed to doing everything it can within EU rules to protect the existing Caledonian MacBrayne workforce, their terms and conditions and access to an actuarially equivalent pension scheme should tendering proceed. The Executive’s proposals in relation to the protection of the workforce are set out in detail at Annex C. Risks Generally Associated with Tendering 12. The Report discusses risks often associated with contract/competitive tendering arrangements including principal agent and moral hazard issues. Similar issues are addressed in the commentary on Professor Kay and Dr Bennet’s papers and the points made there are not repeated here. However, it should be noted that should tendering proceed then bidders would be closely scrutinised to ensure that their 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 were wellmaintained and that the operator was incentivised to appropriately maintain the assets.

ANNEX C

STAFFING AND EMPLOYMENT ISSUES 1. The Executive attaches importance to the future of the Caledonian MacBrayne workforce. If tendering goes ahead 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. This Annex sets out the Executive’s proposals, in relation to employment issues, should tendering go ahead: 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

Caledonian MacBrayne has also given assurances in relation to: Protection of terms and conditions Redundancy Location of its Headquarters

Transfer of Undertaking (Protection of Employment) Regulations 1981 (as amended) (TUPE) 2. Where TUPE applies it provides the following main protections for employees: (a) Employees would transfer automatically to the employment of the new contractor with their period of continuous service recognised for statutory purposes; Employees would be entitled to be employed on the same terms and conditions of employment as they had immediately prior to the transfer (with the exception of entitlement to certain occupational pension rights); Employees would have the right not to be unfairly dismissed for a reason connected with the transfer, unless there was an economic, technical or organisational reason for the dismissal; and Employees would have the right for their representatives to be informed and consulted in connection with the transfer.

(b)

(c)

(d)

ANNEX C

3. The Executive could not require, through the contract, that a new operator takes on the existing workforce. To do so would be in breach of the non-discrimination requirement of the Maritime Cabotage Regulation. However, the Executive is of the view that TUPE would be likely to apply to the main Clyde and Hebrides bundle. Similar circumstances were considered recently in relation to the Northern Isles ferry services which support this view. Further, the Executive would require bidders to cost their bids as if TUPE applied and would evaluate bids on that basis. If it was subsequently found that TUPE did not (as a matter of law) apply, there would be a reduction in subsidy throughout the contract equivalent to any reductions in the operator’s costs as a consequence of that decision. This means that there would be no financial incentive to the operator to challenge TUPE. 4. In relation to the Gourock-Dunoon route the applicability of TUPE would depend on a number of factors including whether the ferry service that was to be provided was similar to that provided at present and what assets were used by the new operator. However, it should be noted that Caledonian MacBrayne agreed in March 2005 that, whilst it is the employer, there would be no compulsory redundancies. Off Shore Status 5. If transferring employees are employed ‘on shore’ prior to a TUPE transfer the new operator would have the same ability subsequently to transfer seafarers offshore as Caledonian MacBrayne currently has. The Executive could not require that the crews are employed ‘on shore’ or, if employed ‘off shore’ that the agency employing them is based in the EU. 6. However, employees would continue to be employed within the UK and on UK flagged vessels. As such they would continue to have the same statutory rights they currently enjoy in relation to their employment such as rights to redundancy consultation and payments and protection against unfair dismissal. 7. Off shore crewing would have some implications for entitlement to social security benefits. However, Caledonian MacBrayne has confirmed that it would ensure that there would be no financial detriment to any employee as a result of these changes and that this commitment would be included in employees’ terms and conditions and so would be protected by TUPE. The detailed changes are as follows: Employees would no longer be eligible for Statutory Sick Pay and Statutory Maternity Pay. However, broadly equivalent arrangements would apply with employees eligible, respectively, for Incapacity Benefit and Maternity Allowance. The employee would claim these directly from Department of Work and Pensions rather than being paid by the employer. Caledonian MacBrayne has confirmed that it would ensure that there is no financial detriment to employees and that this would be encompassed in employees’ terms and conditions. Statutory Redundancy Pay is normally paid by the Department of Trade and Industry in the event of insolvency of the employer. It is unlikely that the DTI would make such a payment for a non-UK employer. However, the operation of the Clyde and Hebrides ferry services would continue and the Scottish Executive is of the view that TUPE would be likely to apply.

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ANNEX C

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Employees would have no right to Statutory Paternity Benefit or Statutory Adoption Pay. Caledonian MacBrayne has confirmed that it would ensure that there is no financial detriment to employees and that this would be encompassed in employees terms and conditions. There would be no effect on employees’ entitlement to contributory benefits including Incapacity Benefit, Industrial Injuries Disablement Benefit, Basic Retirement Pension, Second State Pension (if not contracted out) and Job Seekers Allowance.

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8. If Caledonian MacBrayne or a future operator were to take its crew ‘off shore’ prior to the start of a new contract this would not affect the applicability of TUPE to the undertaking in the UK, provided that TUPE would otherwise apply. This is because the employees would be employed within the UK for the purposes of TUPE. Pensions 9. The TUPE Regulations do not currently apply so as to transfer employees’ contract terms 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 have access to an actuarially equivalent pension scheme and entitlements. The Scottish Executive would, however, make it a requirement of a Clyde and Hebrides tender contract that the operator provided an actuarially equivalent pension scheme to transferring staff. 10. The Executive has made clear, since 2002, that it would require a successful tenderer to ensure that transferring staff had access to an actuarially equivalent pension scheme and entitlements. This would be a requirement of the contract. Tenderers’ schemes would be subject to the approval of the Government Actuary Department. This is in line with the Cabinet Office Staff Transfers in the Public Sector: Statement of Practice11. Protection of Terms and Conditions 11. The Executive could not require, through the contract, that transferring employees terms and conditions were protected. However, as set out above, the Executive is of the view that TUPE would be likely to apply and, as such, transferring employees would be entitled to be employed on the same terms and conditions of employment as they had immediately prior to the transfer. 12. It should also be noted that Caledonian MacBrayne agreed in March 2005 that pay and conditions now or in the future will not be worsened. The company also confirmed that it has no intention to introduce a 2 tier workforce now or at any future date.

11

http://www.civilservice.gov.uk/publications/staff_transfers/publications_and_forms/pdf/stafftransfers.pdf

ANNEX C

New Appointees 13. The Executive would not able to require that the operator employed new staff on no less favourable terms than transferring staff or provide them with an equivalent pension scheme. Clawback 14. Where the operator has made allowance in his bid for a cost and this cost changes during the contract period a clawback clause in the contract could be used to claw back any financial benefit to the operator. This could include changes to: TUPE pensions on shore status of crews, and staff terms and conditions

2002 Protocol on Public Private Partnerships in Scotland (agreed by the Executive and the STUC) 15. The Protocol states that under EU Public Procurement legislation certain workforce matters may come into consideration at the Pre-Qualification and Tender Evaluation stages. However, only those workforce matters which directly affect the suitability of a bidder can be considered. The Executive is of the view that in relation to this issue the Maritime Cabotage regime and the wider procurement rules on pre-qualification of bidders are substantially the same. Subject to ensuring the criteria are correctly applied in the pre-qualification and award assessments the factors set out in the Protocol would be taken into consideration. The factors, as listed in the Protocol, are: arrangements for managing the application of TUPE where transfer of employees is involved management arrangements for the workforce pay, terms and conditions of transferees and new appointments including pension arrangements workforce training and development framework for and conduct of employee relations including their approach to trades union recognition and facilities, such as the deduction of union subscriptions at source health and safety equal opportunities principles of human resources strategy identification and approach to use of subcontracted labour including being assured that there will be safeguards to prevent individuals being wrongly classified as self employed

16. The Protocol also states that trades union representatives should be invited to hold discussions (e.g. through interviews) with all short listed bidders. This would be facilitated by the tendering organisation (in this case the Executive) and trades unions should be invited to provide a report to the tendering organisation on the outcome of the discussion. In

ANNEX C

evaluating bids the tendering organisation should take into account the report from trades unions following their discussion with bidders. 17. It should be noted that the ability of any contracting authority to take account of the views of third parties who are not directly part of the evaluation committee is very limited under the procurement rules. Accordingly, whilst the evaluation committee may consider any reports which are relevant to specified award criteria, it must ultimately come to its own decision based on the information it has itself gathered through the tendering procedure. Further, as the Trades Unions would have no obligation to treat bidders equally this could have implications for the Executive’s compliance with the requirement to treat all bidders equally. However, providing these issues are appropriately dealt with, the Executive is of the view that there would be benefit in seeking the views of the trades unions representing the Caledonian MacBrayne workforce, should tendering proceed, and the Executive would make arrangements for this at Technical Bid stage. The relevant trades unions would be invited to discuss workforce matters with the short listed bidders. The discussions would relate solely to the bidders’ proposals for the Clyde and Hebrides ferry services. After the meetings the trades unions would have an opportunity to submit a written report to the Executive setting out their views on workforce related issues and highlighting any areas of concern. This report would be taken into consideration in both the Executive’s discussions with bidders about their proposals and in the evaluation of bids. Flagging (Registration) of Vessels 18. The Executive can restrict, through the tender process, the flagging (registration) of vessels to EU/EEA states. Article 1 of the Regulation states that the freedom to provide maritime transport services shall apply to all Community shipowners who have their ships registered in, and flying the flag of a Member State. This means that the Executive could not require, through the contract, that the operator uses vessels flagged (registered) to the UK. 19. However, the Caledonian MacBrayne fleet would be owned by the Vessel Owning Company (VesCo) and leased, on a bareboat basis, to the operator. The operator would be bound to charter from VesCo sufficient vessels to meet the service specification (including requirements for relief and special events). These vessels would be flagged (registered) in the UK and the Executive is of the view that the VesCo would be able to require that the vessels remain flagged (registered) in the UK. The operator would only be able to bring its own vessels either to provide services outwith the subsidy arrangement or where the they have taken all available VesCo vessels. Service Specification Requirements in relation to Staffing 20. Should tendering proceed, tenderers would be required to detail proposals for staffing issues and would be evaluated on those proposals. This would include: details of the tenderers approach to crewing in relation to the CHFS services. details of training policies for the development of seagoing and shore staff on the CHFS services. These must adequately provide for the continuing and long term requirements of the services. details of policy on retention and how the tenderer would avoid high staff turnover. The proposals must ensure that there would be sufficient numbers of appropriately trained staff available at the end of the contract to ensure the

ANNEX C

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continuation of the services into the next contract. Together with policies on training, there should be long term planning to ensure that there would be sufficient numbers of appropriately trained staff available for the continuation of the services well into the future. industrial relations and other related policies - for example on Fairness at Work. The successful tenderer would be expected to work in partnership with the relevant unions. The operator’s human resource management policy would be required to set out and demonstrate a commitment to foster constructive relationships and a partnership approach in line with the Executive’s objectives. either a statement that the tenderer was content to continue Caledonian MacBrayne’s current policies in relation to staff (as set out in the Staff Handbook, Disciplinary policy, Dignity at Work policy, Drugs and Alcohol policy and Equal Opportunities policy) or a copy of the policy/policies which the tenderer intended to negotiate with the staff and his proposals for doing so. If the latter, the Technical Submission would have to satisfy the Executive that the tenderer would be able to negotiate the changes with staff. detailed explanation of any proposed changes to the terms and conditions of existing staff. If tenderers proposed such changes they would have to set out in the technical submission how they would achieve this whilst meeting the minimum standards set out in the specification. In particular, the service specification would require that tenderers considered negotiations with the unions representing the Caledonian MacBrayne workforce and relations with staff. The Technical Submission would have to satisfy the Executive that the tenderer would be able to negotiate the changes with staff.

Language 21. The Maritime Cabotage Regulation restricts the language requirements that the Executive could set through the contract terms and conditions. Should tendering proceed the Executive would require that: the operator ensured that the Maritime Coastguard Agency requirements relating to language would be met (i.e. ISM Code and STWC 95 in relation to the ability to communicate with passengers and to each other) the operator ensured that the crew and shore staff who deal directly with users were proficient in English tenderers considered whether there were benefits attached to ensuring a number of sea-going or shore based jobs for competent Gaelic speakers

ANNEX C

Nationality of Crews 22. Section 4.1 of the Maritime Cabotage Regulation states that ‘a Member State may require the crews of such ships to be composed entirely of Community nationals’. Should tendering proceed the Executive would set this restriction in relation to the Clyde and Hebrides ferry services. Nationality of bidders 23. The Regulation states that public service contracts and obligations can only be concluded with ‘Community shipowners’. Community shipowners are defined in the Regulation as: nationals of a Member State established in a Member State in accordance with the legislation of that Member State and pursuing shipping activities; shipping companies established in accordance with the legislation of a Member State and whose principal place of business is situated, and effective control exercised, in a Member State; or nationals of a Member State established outside the Community or shipping companies established outside the Community and controlled by nationals of a Member State, if their ships are registered in and fly the flag of a Member State in accordance with its legislation.

24. Should tendering proceed the Executive would comply with this requirement when assessing bidders. Location of Headquarters 25. Should tendering proceed the Scottish Executive could not require that the operator had its headquarters at a particular location. This would be in breach of EU rules. However, it would be appropriate for the Scottish Executive to require that appropriate management systems were in place to deal with the day to day running of the services. Given the needs of the services in this case, the Executive would require that the operator had sufficient management personnel located close to the actual point of delivery of the services, both to deal with day to day running issues and to enable regular and ad hoc meetings to take place between Ministers and officials and representatives of the operator. 26. It should be noted that Caledonian MacBrayne has indicated that, if it is successful in a tendering process, it would have no plans to move its Headquarters from the Gourock site. Assurances given by Caledonian MacBrayne 27. The Chairman of Caledonian MacBrayne, Dr Harold Mills, wrote to the then Minister for Transport, Nicol Stephen on 3 June. He noted that whilst, at that time, discussions with the European Commission were ongoing he wished to confirm the company’s position in relation to staff and location issues should tendering go ahead: Redundancies – Dr Mills confirmed that in March Caledonian MacBrayne had given a guarantee to the Trades Unions representing the Caledonian MacBrayne workforce that there would be no compulsory redundancies in

ANNEX C

relation to either the Gourock-Dunoon route or the main Clyde and Hebrides bundle. He noted that in the event of any voluntary redundancies the redundancy package would be no less favourable than in the current Collective Agreements. Protection of terms and conditions – Dr Mills confirmed that pay and conditions now or in the future would not be worsened and that the company had no intention of introducing a 2 tier workforce now or at any future date. Location of Caledonian MacBrayne’s Head Quarters – Dr Mills also confirmed that the company had no plans to re-locate its headquarters from the current location at Gourock, either now or in the future.

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ANNEX D

SUMMARY OF DECISION OF EUROPEAN COURT OF JUSTICE IN THE ALTMARK CASE 1. It has been suggested that the decision of the Court of Justice in Altmark Trans GmbH and Nahverkehrsgesellschaft Altmark GmbH12 (the Altmark case) removes the requirement for tendering the Clyde and Hebrides ferry services. 2. This case concerned the granting of licences by the regional council of Magdeburg, the capital of the German Land of Sachsen-Anhalt, to Altmark Trans to operate regular public bus services in the locality of Stendal which attracted subsidies from the council. A competitor complained that the relevant provisions of German domestic law concerning the grant of such licences had not been followed, as Altmark Trans, it alleged, would not be economically viable but for the subsidies. This was ultimately rejected by the Federal Administrative Court. That Court however had concerns about the compatibility of continued payment of the subsidies and accordingly referred the issue to the Court of Justice. 3. The question referred was in three parts, two of which were principally concerned with the relevant provisions of Regulation No. 1191/6913 concerning the obligations inherent in the concept of a public service in transport by rail, road and inland waterway. The first part of the question however raised the issue of whether subsidies to compensate for deficits in local public transport were subject to the prohibition on aid now contained in Article 87 of the EC Treaty. 4. The Court answered this issue by concentrating on whether the subsidy was capable of being regarded as an advantage conferred on the recipient undertaking.14 In the relevant part of its judgement, the Court set out 4 criteria (often now referred to as the Altmark Criteria) as follows (paragraphs numbered as in the decision): “87. It follows from those judgments that, where a State measure must be regarded as compensation for the services provided by the recipient undertakings in order to discharge public service obligations, so that those undertakings do not enjoy a real financial advantage and the measure thus does not have the effect of putting them in a more favourable competitive position than the undertakings competing with them, such a measure is not caught by Article [87](1) of the Treaty. 88. However, for such compensation to escape classification as State aid in a particular case, a number of conditions must be satisfied. 89. First, the recipient undertaking must actually have public service obligations to discharge, and the obligations must be clearly defined. In the main proceedings, the national court will therefore have to examine whether the public service obligations
12 13 14

Case C280/00 OJ English Special Edition 1969 (I) p. 276, as amended by Council Regulation (EEC) NO. 1893/91. For a subsidy to be classified as a state aid, it must fulfil four criteria: a) there must be intervention by the State or through State resources; b) the intervention must be liable to affect trade between Member States; c) it must confer advantage on the recipient; and d) it must distort or threaten to distort competition.

ANNEX D

which were imposed on Altmark Trans are clear from the national legislation and/or the licences at issue in the main proceedings. 90. Second, the parameters on the basis of which the compensation is calculated must be established in advance in an objective and transparent manner, to avoid it conferring an economic advantage which may favour the recipient undertaking over competing undertakings. 91. Payment by a Member State of compensation for the loss incurred by an undertaking without the parameters of such compensation having been established beforehand, where it turns out after the event that the operation of certain services in connection with the discharge of public service obligations was not economically viable, therefore constitutes a financial measure which falls within the concept of State aid within the meaning of Article [87](1) of the Treaty. 92. Third, the compensation cannot exceed what is necessary to cover all or part of the costs incurred in the discharge of public service obligations, taking into account the relevant receipts and a reasonable profit for discharging those obligations. Compliance with such a condition is essential to ensure that the recipient undertaking is not given any advantage which distorts or threatens to distort competition by strengthening that undertaking's competitive position. 93. Fourth, where the undertaking which is to discharge public service obligations, in a specific case, is not chosen pursuant to a public procurement procedure which would allow for the selection of the tenderer capable of providing those services at the least cost to the community, the level of compensation needed must be determined on the basis of an analysis of the costs which a typical undertaking, well run and adequately provided with means of transport so as to be able to meet the necessary public service requirements, would have incurred in discharging those obligations, taking into account the relevant receipts and a reasonable profit for discharging the obligations. 94. It follows from the above considerations that, where public subsidies granted to undertakings expressly required to discharge public service obligations in order to compensate for the costs incurred in discharging those obligations comply with the conditions set out in paragraphs 89 to 93 above, such subsidies do not fall within Article [87](1) of the Treaty. Conversely, a State measure which does not comply with one or more of those conditions must be regarded as State aid within the meaning of that provision.” 5. It has been suggested that Altmark relaxed the State aid rules. This, however, is not the view of many expert commentators. 6. Adinda Sinnaeve, an administrator in the European Commission’s Competition Directorate, stated (Volume 2 No. 3 of European State Aid Quarterly) that “Although the Altmark judgement in principle maintains the compensation approach, the conditions it has added are such that many State measures granted to offset the cost of public service obligations will not qualify as compensation not caught by Article 87(1) EC.” In other words, things that before Altmark were not State aid (because they were not caught by Article 87(1)) were State aid after Altmark because they did not comply with all the conditions.

ANNEX D

7. Andreas Bartosch, a lawyers with Haver & Mallander, Brussels, stated (Volume 2 No. 3 of European State Aid Quarterly) that when it comes to the fourth Altmark test (the efficient economic operator one) “it becomes apparent that the new material standard may well be harsher than the one applied under Article 86(2)” i.e. imposing a higher standard than existed previously. 8. Bo Vesterdorf, the President of the European Court of First Instance, is on record (Proceedings of the 2nd Experts Forum in European State Aid Law, held in Brussels on 29 April 2004) as saying that, “The result of the Altmark ruling is that for instance existing (unnotified) public service compensation which does not exceed the costs incurred by the public service operator in carrying out the public service may now be challenged as illegal State aid simply because the parameters on the basis of which it was granted were not established in advance, because the public service obligation was not “sufficiently clear” or because no public procurement was held. A particular peculiar consequence of the Altmark ruling would seem to be the fact that even State measures adopted after the Ferring ruling and which respect the Ferring test but do not comply with the new Altmark criteria now constitute State aid.” 9. It should be noted that Ferring was the leading case on public service compensation pre-Altmark. Mr Vesterdorf’s view is, therefore, that compensation that previously met the Ferring test might not now satisfy the Altmark criteria and would therefore be unlawful State aid.

ANNEX E

SUMMARY OF RESEARCH ON APPLICATION OF MARITIME CABOTAGE REGULATION IN EU MEMBER STATES Scope and Purpose of Research 1. The Executive commissioned Steer Davies Gleave to provide research and advice on risk management in relation to the support of lifeline ferry services which fall within the scope of the Maritime Cabotage Regulation. The research comprised the provision of a factual report on the different approaches adopted in EU countries to support lifeline island ferry services; a similar report on 3 non-EU countries (Norway, Canada and Japan), and a third report summarising the risks identified and different approaches to managing those risks. These reports have been published on the Executive website at (www.scotland.gov.uk). 2. It should be noted that the following Member States were excluded from the study because they are landlocked and could not, therefore, have any services which fall within the scope of the Maritime Cabotage Regulation: Austria Czech Republic Hungary Luxembourg Slovakia

3. Steer Davies Gleave also confirmed that there are no publicly subsidised island ferry services in the following Member States: Belgium Latvia 4. Lithuania Poland Cyprus Slovenia

The SDG research focused on the remaining 14 EU Member States: Denmark Estonia Finland France (Corsica) Germany Greece Ireland Italy (Sicily) Malta The Netherlands Portugal Spain Sweden UK (Scotland)

5. The reports cover a range of issues. However, of particular relevance to the Executive’s consideration of the requirement to tender the Clyde and Hebrides ferry services, it was noted that all other EU Member States were either already in compliance with the Maritime Cabotage Regulation, were in the process of becoming so or were in discussions with the European Commission about how to become so. Table 1 provides a summary of the current arrangements in each Member State and an indication of which of these categories the Member State falls into.

ANNEX E TABLE 1

Member State Denmark

Summary of Lifeline Ferry Provision

Provision of lifeline ferry services in line with EU rules on Maritime Cabotage?

What steps are being taken to bring lifeline ferry services into compliance with EU rules?

Estonia

Partly. All subsidised routes The Commission notified the Danish Government in July 1998 have been tendered. that their legislation for ferries and However, the EU notified the the option to give exclusivity on Danish Government in July certain routes for operators was 1998 that their legislation for against EU legislation. As a result Some of the small island lines and cross-river traffic are ferries and the option to give new legislation was brought into operated by the local governments in-house. exclusivity on certain routes for force in June 1999. However, the operators was against EU new legislation is still not in compliance with the EU legislation. regulations and the Danish Other changes which have been government is working with the made to bring the Danish ferry Commission to resolve the issues. services into compliance include a legal requirement that all subsidised ferry services must be tendered and that the tender must be advertised in the Official Journal of the European Union. 4 ferry services are provided under a Public Service SDG were unable to contact The services are being tendered Contract with a single operator. anyone in the Estonian with a view to having a new government. The information contract in place in 2005. is, therefore, not sufficiently complete to indicate whether or not the services are in compliance. 24 routes to 26 islands receive public subsidies and are regarded as lifeline services. The organisation of ferry services is complex and fragmented and the tendering and contracting of PSO/PSC services is carried out at local, regional, or state level.

ANNEX E TABLE 1

Member State Finland

Summary of Lifeline Ferry Provision

Provision of lifeline ferry services in line with EU rules on Maritime Cabotage? No.

What steps are being taken to bring lifeline ferry services into compliance with EU rules?

The Finnish Maritime Authority provides services between the Finnish mainland and islands, and local authorities provide inter island services.

France (Corsica)

The Finnish authorities are preparing to move to open tender for all island ferry services in Finland. It is expected that the process will take at least three years. France supports domestic ferry services to Corsica and Yes. All Public Service N/A along the Atlantic Coast. Steer Davies Gleave focused, in Contract arrangements are their report, on the arrangements in Corsica. awarded after an EU compliant tender procedure. In relation to Corsica, ferry services are supported in 2 ways: The arrangements for open routes are also compliant with Maritime Cabotage − Open routes (Corsica-Nice, Corsica-Toulon). Operators the receive subsidy, based on numbers of passengers Regulation. carried, as long as they meet certain light obligations and agree to a convention with the relevant authorities. − Closed routes (Corsica-Marseille). This service is operated under a contract with a single operator.

ANNEX E TABLE 1

Member State Germany

Summary of Lifeline Ferry Provision

Provision of lifeline ferry services in line with EU rules on Maritime Cabotage? N/A

What steps are being taken to bring lifeline ferry services into compliance with EU rules? N/A

Greece

Ferry services are regulated by state governments (laender). Where relevant there is an obligation on laender to secure a year round ferry service to islands. However, the market currently provides sufficient services and there are, currently, no lifeline ferry services requiring government support. It should be noted that until 1997, operators in Lower Saxony and Schleswig Holstein had exclusive contracts to operate ferry routes. Under these contracts, operators agreed to provide year-round services. In order to comply with EU rules, the government of Lower Saxony abolished the exclusive contracts. Operators that provide year-round services, however, benefit from a discount on port duties. This benefit is available to any operator. Each January operators are invited to submit applications to operate commercial island services from the following November for a year. Those routes which do not receive any applications (currently around 70) are deemed to be lifeline services and the government tenders public service contracts for those routes.

Yes. Greece was granted a derogation from Council Regulation EEEC 3577/92 until 2004. In 2000 the government took steps to liberalise the market including the reform of the arrangements for PSOs and PSCs.

N/A

ANNEX E TABLE 1

Member State Ireland

Summary of Lifeline Ferry Provision

Provision of lifeline ferry services in line with EU rules on Maritime Cabotage? Yes.

What steps are being taken to bring lifeline ferry services into compliance with EU rules? N/A

Italy (Sicily)

There are PSCs on 14 routes. All are operated by private domestic shipping companies. None of the Irish islands generate more than 100,000 trips in a year, and the routes would, therefore, be eligible for the ‘simple call for expressions of interest’ referred to in the December 2003 guidance. However, the Irish government chose, instead, to run a full tender process to ensure a transparent, competitive and fair bidding processes for the subsidised contracts. The only subsidised services are the 4 routes which link Sicily to the surrounding islands under its competency. Open competitions were held for fast passenger services and freight/dangerous goods services. Slow ferry services are currently provided under contract by a part state owned company. However, the contract is due to expire in 2005 and will be re-let via an open competition. Lifeline services between Malta and Gozo are provided by Gozo Channel Shipping Line (a wholly owned subsidiary of Malta Government Investments Limited) under a Public Service Obligation Contract.

Partly.

Slow ferry services tendered in 2005.

will

be

Malta

No. The current PSO contract, Malta has committed to tendering the first one since Malta’s the Gozo Channel service by 2010. accession to the European Union, was not tendered. This arrangement was agreed with the Commission as part of Malta’s accession arrangements.

ANNEX E TABLE 1

Member State

Summary of Lifeline Ferry Provision

Provision of lifeline ferry services in line with EU rules on Maritime Cabotage? No.

What steps are being taken to bring lifeline ferry services into compliance with EU rules? Legislation is being prepared to put the operation of these ferry services out to tender. This is expected to take 4 to 5 years. Currently, negotiations are taking place with the operators and the state to draw up improved agreements, including a requirement that operators pay for the use of port facilities. N/A

5 services to and from the Wadden islands in the north of The Netherlands the country are considered to be life-line services. The operators receive no direct subsidy but do benefit from free use of port facilities, and maintenance of the navigation channels in the Waddenzee. 2 of the services also benefit from an exclusive arrangement in return for a year-round service.

Portugal

Spain

There are Public Service Obligations (PSOs) applying to some freight routes between the mainland, and Madeira and the Azores. The PSOs are applied through an authorisation system which places some light obligations on operators. There are 3 PSCs in Spain covering 3 bundles of routes: the Peninsula and connections to the Balearic Islands, the Canary Islands, and Ceuta and Melilla. Following a tender process Trasmediterranea holds the contract for all three contracts. Other operators on the 3 bundles of routes are required to provide discounted fares to island residents. These discounts are reimbursed by the government.

Yes.

Yes.

N/A

ANNEX E TABLE 1

Member State Sweden

Summary of Lifeline Ferry Provision

Provision of lifeline ferry services in line with EU rules on Maritime Cabotage? No.

What steps are being taken to bring lifeline ferry services into compliance with EU rules? The Gotland service will be retendered in autumn 2005. The Executive is considering the requirement to tender the Clyde and Hebrides services.

UK (Scotland)

The only lifeline service is the one from the mainland to Gotland. It is provided under a PSC although the contract is not in compliance with EU rules (10 years plus 1 year possible extension). Within the UK, the Scottish Executive, subsidises 2 bundles of services: between the Scottish mainland and the Orkney and Shetland Islands (Northern Isles), and 28 services within the Clyde and between the mainland the Hebrides (Clyde and Hebrides). The Northern Isles services were tendered in 2000 in line with EU rules. The Northern Isles services are currently being re-tendered ahead of schedule, also in line with EU rules. The Clyde and Hebrides services are currently provided by a state owned company under an open ended agreement. There are no subsidised lifeline ferry services in the UK outwith Scotland.

Partly.

ANNEX F

CORRESPONDENCE BETWEEN THE SCOTTISH EXECUTIVE MINISTERS FOR TRANSPORT AND THE EUROPEAN COMMISSION VICE PRESIDENT List of correspondence between the Scottish Executive Transport Ministers and Jacques Barrot, Vice President and Commissioner for Transport, European Commission. • Letter dated 23 December 2004 from Nicol Stephen MSP, Minister for Transport, Scottish Executive to Jacques Barrot, Vice President and Commissioner for Transport, European Commission. Letter of 27 January 2005 from Jacques Barrot, Vice President and Commissioner for Transport, European Commission to Nicol Stephen MSP, Minister for Transport, Scottish Executive. Letter of 24 February 2005 from Nicol Stephen MSP, Minister for Transport, Scottish Executive to Jacques Barrot, Vice President and Commissioner for Transport, European Commission. Letter of 19 April 2005 from Jacques Barrot, Vice President and Commissioner for Transport, European Commission to Nicol Stephen MSP, Minister for Transport, Scottish Executive. Letter of 4 May 2005 from Nicol Stephen MSP, Minister for Transport, Scottish Executive to Jacques Barrot, Vice President and Commissioner for Transport, European Commission. Letter of 25 May 2005 from Jacques Barrot, Vice President and Commissioner for Transport, European Commission to Nicol Stephen MSP, Minister for Transport, Scottish Executive. Letter of 4 July 2005 from Tavish Scott MSP, Minister for Transport, Scottish Executive to Jacques Barrot, Vice President and Commissioner for Transport, European Commission.

Copies of all of these letters are attached.

© Crown copyright 2005 This document is also available on the Scottish Executive website: www.scotland.gov.uk Astron B42755 9/05

Further copies are available from Transport Division 4 Enterprise, Transport & Lifelong Learning Department The Scottish Executive 2-F (dockside) Victoria Quay Edinburgh EH6 6QQ Telephone orders and enquiries 0131 244 1522

ISBN 0-7559-4799-1

9 780755 947997

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