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r························································· Prepared for Gladstone Ports Corporation
February 2012
PUBLIC VERSION
pwc
Limitations
This Report has been prepared by PricewaterhouseCoopers (PwC) for Gladstone Ports Corporation (GPC) in our capacity as advisors and in accordance with the Scope of Services and the Terms and Conditions contained in the letter of engagement between GPC and PwC.
The information, statements, statistics and commentary (together the 'Information') contained in this report have been prepared by PwC from publicly available material, from information provided by GPC, and from discussions held with GPC staff. PwC may in its absolute discretion, but without being under any obligation to do so, update, amend or supplement this document.
PwC has based this report on information received or obtained, on the basis that such information is accurate and, where it is represented by GPC management as such, complete. The Information contained in this report has not been subject to an Audit. While we consent to a copy of this report being provided to the Australian Competition and Consumer Commission (ACCC) we will not accept any responsibility or liability (whether in contract, tort (including negligence) or otherwise) to the ACCC or any other person other than GPC for the consequences of any reliance on this report. Neither the ACCC nor any other party should rely on this report for any purposes unless we so agree and they sign an undertaking to us in an agreed form.
PwC 2 1 Executive summary
Towage services at the Port of Gladstone have been provided under successive exclusive licence arrangements since July 2000. These arrangements were 'notified' to the Australian Competition and Consumer Commission (ACCC) in July 1999, March 2006, January 2009 and February 2009. On each occasion the ACCC allowed the notifications to stand on the basis that the 'notified conduct' was likely to generate public benefits in the form of increased efficiency and cost savings which would outweigh any public detriments.
In November 2011 Svitzer requested that the ACCC review and revoke its 2009 Decision to allow the notifications. Svitzer argues that the Australian towage industry has materially changed since the ACCC's 2009 review of exclusive dealing notifications in the Port of Gladstone and Port of Townsville. In response to Svitzer's submission, Gladstone Ports Corporation commissioned PwC to prepare a report which responds to Svitzer's submission and considers the potential benefits and detriments of continuing the current arrangements in the Port. Broadly, our report addresses:
• whether economies of scale in the provision of towage services have been, or are likely to be in the near term, exhausted at Port of Gladstone • the possible magnitude of additional costs associated with having a second towage provider, including whether (and how many) additional tugs might be required at the Port • the advantages of using a competitive tender process to allocate the market in circumstances where a single towage operator is the most efficient technical solution (i.e. where it can provide an appropriate service at less cost than two or more providers), and • the balance of public benefits and detriments likely to result from the notified conduct.
Towage market at Gladstone
Towage services are highly capital intensive, with a cost structure dominated by fixed costs. A high proportion of towage costs are invariant to the level of utilisation of tug vessels. These fixed costs give rise to economies of scale. Beyond a certain point economies of scale will be exhausted, though this does not necessarily mean that having multiple providers is a more efficient industry structure. Demand needs to have grown sufficiently such that each individual provider still has the scale necessary to realise average costs achievable by a single provider. Practically, this means that it is not efficient to have multiple towage providers except for very large ports and where there is a high intensity of use of tug vessels. In Gladstone, the scale of demand for towage services has not yet reached a point where it would be efficient to have multiple towage providers. While it is impossible to determine an absolute minimum threshold for competition, there are a range of factors that support this finding:
• The number ofvessel calls and tug jobs at Gladstone are significantly lower than the forecasts submitted to the ACCC as part of its 2009 assessment, with 1,316 vessel movements and 5,410 tug jobs in FY2011. This is still significantly lower than the 8,ooo threshold outlined by the Productivity Commission (though noting that this threshold is likely to be dependent on other port characteristics, and for Gladstone these characteristics suggest that this threshold may in fact be higher than the 'average' reported by the Productivity Commission). • The types of trade and vessels at Gladstone require a higher average number of tug jobs per vessel call, compared to container ports, such that the towage provider needs access to more tugs (and therefore more fixed capital) for a given number of vessel calls and tug jobs. At present there are five tugs in active service at the Port.
PwC 3 Executive summary
• Simulation and other modelling previously commissioned by GPC strongly indicate that a single operator requires fewer tugs than two operators to achieve similar vessel waiting times, a broad measure of port efficiency. This means it would be virtually impossible for the port to maintain the current number of tugs with two towage operators without slowing down shipping movements and reducing the efficiency of the Port. • An analysis of recent vessel movements at the Port (using a sampling approach) suggests that it would be difficult for two towage operators with less than four tugs each to meet Port user requirements, except in limited circumstances. • These findings are consistent with previous modelling undertaken by Maunsell (based on a specific proposal received by GPC for towage services to be provided by two operators to two non-competing market segments) which indicated that at least three to four additional tugs would be required to achieve operationally what a single provider already delivers. To impose a market structure of multiple towage providers in an environment where significant economies of scale have not fully been exhausted will cause towage costs, and prices, to be higher than otherwise. The cost of having additional tugs at the Port is significant, since a large percentage of towage - costs are proportionate to the number of tug vessels. Previous modelling undertaken by PwC (based on the outputs of Maunsell' s modelling) indicates an average cost penalty in the order of so% across all Port users, though this will depend on how many additional tugs are required with a second towage operator.
Exclusive licensing
Where the market for towage services is insufficient to support more than one operator beyond the short term, the market can be allocated in a number of ways. Where the market is allocated via a competitive tender for an exclusive licence, competition for entry to the market is generated by the tender process to select a licensee along with the additional inducement provided by exclusivity. Indeed, one of the key reasons cited by the ACCC in its Decision to allow GPC's notified conduct was that GPC intended to run a competitive tender process for the exclusive licence which was likely to stimulate competition for the market.
Evidence from GPC's 2009 tender does indicate robust competition for the market. The tender was specifically designed to provide a level of certainty to induce qualified tenderers and also to establish sufficient controls in the licence framework to mitigate the disadvantages of excluding competition during the exclusive licence term. In particular, the following factors support this conclusion:
• a sufficient number of tenders were received from qualified parties to generate real competitive pressure for the market (including attracting Smit International which did not previously have a presence in Australia) • tenders were assessed based on robust evaluation criteria, including the (lowest) cost of services to port users • the degree of uniformity between pricing proposals indicates that there was broad consistency in how parties interpreted the commercial risks/opportunities within the Gladstone market and therefore there appears to have been no information bias towards the incumbent, • the process ultimately resulted in a change in towage providers and the appointment of Smit Marine • there was an overall reduction in average towage charges at the Port following the appointment of Smit Marine (comparing closing charges at 31 December 2010 and opening charges at 1 January 2011), and
PwC 4 Executive summary
• key aspects of the winning tender, including price and quality, were incorporated into the licence framework which effectively 'locks in' the competitive pressure which operated during the tender process (for example price adjustments are subject to a pre-defined and comprehensive escalation framework). In the alternative, a non-exclusive regime could have a number of outcomes (in a market which is insufficient to support more than one towage operator):
• the incumbent could remain the single provider of towage services, with an incentive to charge above efficient prices (provided no other pricing controls were established) until such time as the threat of entryj competition becomes imminent. The threat of entry is lessened where barriers to entry are high, and where it is most likely more efficient for one operator to provide services to the entire market • a second operator could enter the market to service only a specific segment of the market without directly competing with the incumbent on an ongoing basis (as per the scenario considered in our 2008 analysis), reducing further the utilisation of the existing tug fleet and resulting in either higher towage charges or decreased below-sustainable financial returns, and • a second operator could enter the market to compete head-to-head with the incumbent, most likely leading to the duplication of capital and operating costs (and thus higher prices or financial returns at below sustainable levels) until such time as the number and composition of vessel movements is sufficient to sustain two operators. Exclusivity allows for keener price competition during the tender process (due to the certainty it provides prospective towage providers) and also avoids certain costs and inefficiencies potentially incurred during the term of the licence.
Conclusions
In its 2009 decision not to revoke GPC's exclusive dealing notification, the ACCC assessed the likely public benefits and public detriments which might arise as a result of the "conduct" -i.e. requiring vessels to use the services of the holder of the exclusive Tug Licence for the Port of Gladstone.
The evidence considered by the ACCC in 2009 is largely unchanged, and the public benefits continue to outweigh the public detriments, since:
• although competition in the market is certainly restricted over a period of time, this is outweighed by the benefits associated with competitive pressure for the market (which is generated by a tender process for the exclusive licence) • the volume of tug jobs within the Port is still significantly lower than the 8,ooo threshold outlined by the Productivity Commission, noting further that this threshold is likely to be dependent on other port characteristics, and for Gladstone may in fact be higher than this 'average' threshold • the number of tugs required by a single operator to enter the market (i.e. the minimum number of tugs required to service the types of vessels in the Port) is unchanged, therefore the broad magnitude of the cost penalty outlined in our 2008 report would be unchanged for a similar set of scenarios • there are administrative benefits for both GPC and the Harbour Master which are enabled by having a single towage provider in the Port, including having single tug berthing facilities rather than duplicate berthing facilities (and associated administration ofleasing and other arrangements) and the coordination of towage services between the Harbour Master and a single operator rather than multiple coordination points - the time and cost associated with this coordination could be material and would require the development of priority systems and other processes
PwC 5 Executive summary
• the benefits which the ACCC expected would be generated by the conduct (based on the counterfactual) are supported by actual outcomes from the tender process, in particular by providing strong incentives for prospective towage providers to compete for an exclusive licence where they may not otherwise be prepared to compete in the market • the strategies contemplated by the ACCC to mitigate potentially detrimental higher towage prices have been implemented; in particular competitive tendering which includes price competitiveness as a key evaluation criteria and a rigid framework for the escalation of tendered prices, and • the current licensee was sufficiently induced to compete for the market where it had previously not been prepared to compete in any other Australian Port, leading to a change in towage providers as a result of the tender process.
PwC 6 2 Background
Towage services at the Port of Gladstone (Port) are provided by a single towage operator under an exclusive licence arrangement. This type of arrangement has been in place in the Port since 1 July 2000, with towage services being provided exclusively by Svitzer (and its predecessor firms) from 2000 to 20101 and SMIT Marine Australia from 2011. SMIT's current licence runs for as-year period from 1 January 2011 with an option to extend for 3 years. These arrangements were 'notified' to the Australian Competition and Consumer Commission (ACCC) in July 1999, March 2006, January 2009 and February 2009. On each occasion the ACCC allowed the notifications to stand. The ACCC's decision (Decision) in relation to the most recent notification (N93770) was released in May 2009. Notwithstanding that the current licence had not yet been awarded at the time of the Decision, the Decision covers the current arrangements under the following notified conduct:
• all vessels requiring towage services in the Port of Gladstone must use the services of the holder of the exclusive Tug Licence for the Port of Gladstone (Licence to be awarded), and • conduct to occur between 1 January 2011 and 31 December 2018 (five year licence with possible option to extend for three years). The Decision considered the relative public benefits and detriments of the notified conduct. The ACCC determined that the likely counterfactual (i.e. the likely future without the proposed conduct) was that the Port would operate with a single towage provider without an exclusive licence. Against this counterfactual, the ACCC determined that the conduct was likely to generate public benefits in the form of increased efficiency and cost savings which would outweigh any public detriments. In reaching this conclusion, the Decision noted that:
• the conduct has the potential to increase competition by providing incentive for competitors to tender for the market • the conduct is likely to limit the uncertainty that may restrict a competitor from seeking to operate at the Port • GPC's proposed competitive tender process is likely to subject prospective providers to a higher degree of competitive pressure than if GPC undertook bilateral negotiations or if GPC were to allow a non-exclusive arrangement where a single provider would be constrained largely be the threat of entry • it is unlikely that the conduct would result in higher towage charges, and • the duration of the proposed licence (i.e. up to 8 years) is not an unreasonable time for the licence holder to seek to recover the investment involved in entering the Port. Following the Decision, a competitive tender process for the exclusive licence was conducted by Gladstone Ports Corporation (GPC) in 2009. This process attracted a number of qualified towage providers to tender for the licence. Following comprehensive evaluation of the tenders GPC ultimately appointed SMIT Marine. On 23 November 2011, Svitzer requested that the ACCC review the current notifications both for the Port of Gladstone and Port of Townsville. The basis of Svitzer's request is that it is excluded from operating at the ports of Gladstone and Townsville "by virtue of the exclusive licenses to which the notifications relate".
Successive exclusive licences were issued for the periods 2000 - 2001, 2001 -2007, and 2007- 2010. Over this period, three firms held the exclusive licences (Gladstone Tug Services, Ad steam Harbour, and Svitzer Wijsmuller), however the first two licensees were predecessor firms to Svitzer, since Gladstone Tug Services was acquired by Ad steam, and Adsteam was later acquired by Svitzer.
PwC 7 Background
Svitzer's submission to the ACCC argues that GPC's exclusive dealings notifications should now be revoked on the basis that:
• the internationalisation and maturity of Australian ports and in Gladstone means that two operators could now be sustained at the Port • an exclusive licensing regime does not subject prospective providers to a higher level of competitive pressure than other competitive tender processes (for example, competition for a non-exclusive licensing regime) and further that all of the benefits of an exclusive licence also accrue to a non-exclusive licence, and • the current exclusive licence in the Port has not provided an incentive for the towage operator to increase efficiency and pass on decreased costs, since SMIT increased its towage charges in 2011 to account for reduced revenues in the prior period due to the Queensland floods. Svitzer's submission is supported by a report by Professor David Round and Dr Manish Agarwal entitled Competition in the Provision of Towage Services in Australian Ports: Is Exclusive Licensing Necessary? ("Economics Report"). The Economics Report argues that the Australian towage industry has materially changed since the ACCC's 2009 review of exclusive dealing notifications in the Port of Gladstone and Port of Townsville. Key findings of the Economics Report include:
• the number of current and forecast vessel calls at the Port of Gladstone suggests that competition in the market is now feasible and sustainable • barriers to entry in the towage industry are not large and the cost of entry relative to the benefit of entry is now lower due to growth in the industry since 2002 • a non-exclusive licensing regime may still result in a more competitive outcome if a single tug operator is the optimal result within a given Port at a given point in time • prices at the Port of Gladstone have been higher than at the Port of Newcastle over a period in which the Gladstone had an exclusive licence in place and Newcastle had a service agreement in place. and
• the ACCC's reliance on the Productivity Commission's 2002 report is no longer appropriate, since the size of the towage services industry has expanded materially, including significant growth in vessel calls at the Port of Gladstone in particular which would now sustain a second operator. GPC wishes to respond to Svitzer's submission and the Economics Report. GPC has engaged PwC to prepare a report that considers the potential benefits and detriments of continuing the current arrangements in the Port. In particular, this report explores the economic efficiency of the current arrangements for towage services at the Port and responds to certain issues raised in Svitzer's submission and the Economics Report. Although some of the arguments advanced in this report may be relevant to arrangements in other ports, our conclusions are based on information that is specific to the towage market at Gladstone. This report should not be used to draw conclusions on the appropriateness of specific arrangements at other ports.
PwC 8 3 Towage market at Gladstone A single towage provider remains the optimal technical solution for towage at the Port of Gladstone.
3.1 Minimum scale threshold for a second towage operator
Towage services are highly capital intensive, with a cost structure dominated by fixed costs. A high proportion of towage costs are invariant to the level of utilisation of tug vessels. These fixed costs give rise to economies of scale; that is, average costs decline as supply increases. For a given size tug fleet, average costs will initially decrease as the number of vessel movements 2 at a port increases, since fixed capital costs are amortized over a larger number of tug jobs • Beyond a certain point average costs increase as constrained tug availability impacts on vessel waiting times and causes increased demurrage costs. Eventually there will be an exponential increase in vessel waiting times as tug capacity becomes grossly insufficient to meet demand.
This relationship is represented in the following graph (Figure 3.1).
Figure 3.1 Average cost curve (for a constant size tug fleet with t' tugs)
Average costs reduce as economies of scale exploitedfor ajleet with t'tugs
Average costs increase as constrained tug tl availability impacts 0 u vessel waiting times and .S:ls demurrage costs 0 :::: 0 u Optimal scale for tug ~ fleet with r tugs
#tugjobs
As the number of tug jobs increases, it becomes economic to expand the tug fleet (see Figure 3.2). In theory, because average costs will increase immediately following the commissioning of a new tug vessel, it would be efficient to allow vessel waiting times/ demurrage costs to increase somewhat, before bringing on each incremental tug. In reality, defining a clear point at which it is most efficient to bring on a new tug is a complex matter, complicated further by the inherent uncertainty in future vessel movements and towage requirements.
2 "Tug jobs" refers to the number of tug calls on an individual basis. If a vessel requires two tugs to berth and two tugs to depart the port, this is classified as four tug jobs.
PwC 9 Towage market at Gladstone
Figure 3.2 shows how, initially, for demand up to q' it is efficient to have a tug fleet comprising t' tug vessels. Even though average costs have begun to increase, at every point where demand is below q' it is more efficient to have t' tug vessels than t' +1 tug vessels. Beyond q' however, the additional tug reduces vessel waiting times to again bring down average costs, with the pattern repeated with each successive tug vessel. There are some towage costs (for example management, operational and training systems costs) which do not vary at all with scale, meaning that, across a certain scale of tug jobs, the average cost continues to decline even as more tugs are brought into service. This is illustrated further in the (second) figure below, which shows the "industry" cost curve as both the demand for towage increases and the fleet expands to cater for the increased number of tug jobs.
Figure 3.2 Average cost curves (for various size tug fleets)
\ \ ' ' \ ' ' \ ' \ ' ' ::Q' ' \ .....,0 ' Average costs ' ' \ \ for fleet with .2"" ' ~ ' ' ' ·, f+t tu~s _/ Average costs ' ' / ' ' -"'0 for fleet with f ' ·, ././ <.> <.> tugs '§ ...... --'-<.:... ..,.,-/ 0 ·-·- Average costs c: 0 for fleet with "Industry" average costs w<.> f+2 tugs decline as tug fleet size I increases & # tug jobs I also increases 'q' #tug jobs #tug jobs
Beyond a certain point, economies of scale will be exhausted and the industry3 cost curve flattens out. Even where the limits of economies of scale are reached - where an incremental increase in demand for towage services does not reduce average costs further - it does not necessarily follow that multiple providers is a more efficient industry structure. Demand needs to have grown sufficiently such that each individual provider still has the scale necessary to realise average costs achievable by a single towage services provider. Practically, this means that it is not efficient to have multiple towage providers except for very large ports, and where there is a high intensity of use of tug vessels. To impose a market structure of multiple towage providers in an environment where significant economies of scale have not fully been exhausted will cause towage costs, and prices, to be higher than otherwise. This is further pronounced where the types of trade and vessels at the port require a higher average number of tug jobs per vessel call, as the towage provider needs access to more tugs (and therefore more fixed capital) for a given number of vessel calls and tug jobs. Many of the arguments in Svitzer's submission and the Economics Report rely on the assumption that the Port has now reached a minimum scale threshold that would be required to sustain two towage operators. The threshold presented in that report is roughly s,ooo tug jobs per annum. This is stated to be a similar aggregate number of tug jobs per annum at the Port of
3 "Industry' here refers to the provision of towage services within a given market, taken to be a single port.
PwC 10 Towage market at Gladstone
Brisbane at the time that a second tug operator entered the Brisbane market. Other studies have suggested that fewer than 8,ooo tug jobs per annum may indicate a natural monopoll. While it is impossible to determine a universal minimum threshold for competition for towage, there are a range of factors that can be drawn upon to form a view on whether economies of scale have been, or are likely to be in the near term, exhausted at Gladstone:
• the aggregate number of vessel movements/calls and tug jobs • the minimum number of tugs an operator would require to feasibly provide towage services, which is informed by the composition of vessel movements, both in terms of vessel size/cargo and the distribution of vessel movements through the Port (i.e. peak demand), and • the average level of utilisation of the tug fleet and the level of spare capacity in the existing tug fleet. Information on each of these factors is presented below.
3.2 Scale of towage requirements at Gladstone
The number of vessel calls and tug jobs at the Port has grown significantly over the past ten years. With early works now underway for proposed developments at Wiggins Island Coal Terminal and Curtis Island, growth prospects for the port are strong. However, global conditions over the past two years, as well as local events such the Queensland floods in early 2011, have meant that the number of vessel calls, and consequentially the number of tug jobs, have been below forecast levels.
Figure 3·3 Vessel calls at the Port from FY2000-2011
1,600
1,400 1,200 /· 7.2% decrease in total 1,000 ...... ves~calls-from-F-¥20..10---···· ...... to FY2011
800
600
400
200
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011
Source: Gladstone Ports Corporation
4 Dale Cole and Associates submission to the Productivity Commission Inquiry, as reported in the 2002 Productivity Commission Report, page 77
PwC 11 Towage market at Gladstone
Over the period from 1 January 2011 to 30 June 2011 (ie. the first six months of SMIT's licence period) there was a 25% reduction in the total number of tug jobs compared to the previous forecasts released by GPC as part of the 2009 tender process and used in the Economics Report. In total, there were 2,330 tug jobs, compared to the previous (half-yearly) forecasts of 3,101 tug 5 jobs • The largest reductions were for the coal trade.
From FY2010 to FY2011 these variances led to a year-on-year decline of around 7% for overall vessel numbers and around 16% for tug jobs. The number of vessel calls and tug jobs for FY2011 were similar to FY2oo8 levels, which was the last full financial year prior to the ACCC's Decision 6 to allow GPC's notifications . A breakdown of actual and forecast tug jobs by Gross Registered Tonnes (GRT) for the first six months of SMIT's licence period is provided below.
Figure 3·4 Forecast and actual tug jobs at the Port from 1 Jan 2011 to 30 June 2011 (by GRT range)
[Redacted]
Following the recent decline in trade at the Port and other updated information, GPC has revised its forward forecasts for vessel movements and tug jobs at the Port. These revised forecasts are materially less than the levels presented by GPC to the ACCC as part of its 2009 exclusive dealing notifications. Likewise, the revised forecasts are below the forecasts relied on in the Economics Report, which were drawn from tender documentation released by GPC as part of the 2009 tender process. The current forecasts are based on: • current expectations of the timing of key expansion projects at the Port, including Wiggins Island Coal Terminal • forecast tonnage and other information provided to GPC by port users, and • the distribution of the vessel forecast and the average number of tug jobs required per vessel.
5 Note: half-yearly results are presented to maintain consistency with the data provided by Gladstone Ports Corporation to prospective tenderers as part of the 2009 tender process. Since the licence term runs from 1 January 2011, the first "year" of the licence is actually a half-year period running from 1 January 2011 to 30 June 2011.FY2011 'actual' data is a 'best estimate' of tug jobs across the final six months of Svitzer's licence period and the first six months of SMIT's licence period, based on data provided by both towage providers to Gladstone Ports Corporation. Tug job figures for the full FY2011 are calculated by adding figures provided to Gladstone Ports Corporation by SMIT and Svitzer. 6 Vessel calls for FY2011 were approximately 2% lower than for FY2008. Tug jobs for FY2011 and FY2008 are almost identical.
PwC 12 Towage market at Gladstone
Figure 3·5 Actual and forecast vessel movements (financial years)
3,000 Svitzerlicence period SMITiicence period Option period
2,500
2,000
-Vessel calls 1,500 (actual& forecast)
1,000 Previous forecast
500
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Source: Current forecasts and historical data provided by Gladstone Ports Corporation; previous forecasts are from Gladstone Ports Corporation Tender No. CS090111.
Figure 3.6 Actual and forecast tug jobs (financial years)
12,000 Svitzerlicence period SMITiicence period Option period
10,000
8,000
-Tugjobs 6,000 (actual& forecast)
4,000 Previous forecast
2,000
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018
Source: Current forecasts and historical data provided by Gladstone Ports Corporation; previous forecasts are from Gladstone Ports Corporation Tender No. CS090111.
PwC 13 Towage market at Gladstone
The Port currently has five tugs (with access to a sixth backup tug if required) servicing approximately 1,316 vessel calls in FY2011. The number of tug jobs for FY2011 was 5,410 with an average utilisation of 1,082 tug jobs per tug. The average number of tug jobs per vessel call was 4.1. The average number of tug jobs per vessel call and utilisation of tug vessels has increased over time, reflecting increases in the number of vessel calls and tug jobs at the Port. In 2008, the average number of tug jobs required per vessel call across all wharf centres at the Port was approximately 4.0. Over the period 2008 to 2011 this average increased (to 4.1). GPC expects that the average of around 4 tug jobs per vessel call will be broadly maintained for the remainder of the licence period. GPC expects that the Port will require additional tug capacity to meet demand from the LNG trade [Redacted] and increased coal trade from the Wiggins Island Coal Terminal [Redacted]. Increases in tug jobs until this point can be accommodated within the existing tug fleet without unacceptable increases in vessel waiting times. With the expected introduction of LNG terminals at Curtis Island, low tug utilisation could be exacerbated, since LNG vessels require two tugs with very specific capabilities (meaning current spare capacity cannot be used to service LNG vessels) and there will be a very low number of LNG vessel movements. This issue is discussed further below (Section 3.3.3).
3.2.1 Number of tugs required
Most sea-going vessels require more than one tug when berthing or departing the Port. In Gladstone, three tugs generally are required for each vessel movement for ships greater than 70,000 GRT. Based on the distribution of vessel calls at the Port, around 22% of total tug jobs require three tugs per vessel movement (or six tug jobs per vessel call). Generally only vessels less than 17,000 GRT can berth and depart with one tug. This equates to around 6-12% of the 7 total vessel movements and only 3-6% of the total tug jobs at the Port • The remaining tug jobs can be completed with two tugs. Since only a very small number of tug jobs can be completed with one tug it is implausible that a one-tug fleet could operate in Gladstone; to assume otherwise would mean that the one-tug fleet would almost always work in conjunction (not in direct competition) with the other operator to complete jobs with tugs from each fleet, or alternatively be wholly excluded from competing for the vast majority (93%-96%) of tug jobs.
An operator with a two-tug fleet could in theory access a much higher number of tug jobs, with around 4,245 tug jobs (78% of the total number of tug jobs for FY2011) being completed with less than three tugs. However, in reality the demand that could be met by a two-tug fleet would be much lower than this share. This is because a limited tug fleet restricts concurrent ship manoeuvres to those where the sum of tugs required is equal to or less than those available. This is further complicated by tug transit time between manoeuvres. For example, if there were concurrent vessel movements each requiring two tugs, the two-tug fleet would be excluded from one of these vessel movements except in very limited circumstances. Likewise, during the time taken to complete a single tug job and associated transit time the operator will be excluded from any new tug jobs.
7 Assuming that 17,000 GRT is equivalent to a vessel LOA of 180m or less. These vessels generally require one tug inbound and one tug outbound. Percentage bands are not precise as the 17,000GRT cut off sits between GRT bands and GRT ranges of 10,000 to 17,000 are therefore not able to be separately identified. This analysis therefore assumes half of vessels in the 10,000 to 20,000 range use one tug per vessel movement and all vessels below 10,000 use one tug per vessel.
PwC 14 Towage market at Gladstone
Given the geographical distribution of wharf centres, it would be difficult for an operator with a limited tug fleet to fully and efficiently meet the needs of a single or group of port users without imposing on them additional vessel waiting times. The Port's priority system (based on time of first arrival) along with tidal and other conditions means that if a tug is not available at the time required then there may be significant waiting times for the next available berthing/departure 'slot'. From a commercial perspective a towage provider would be unlikely to secure a contract to provide services to a particular port user or wharf centre if it could not meet the entire requirements of that port user or wharf centre. Many users have varied towage requirements, including a different number of tug jobs per inbound vessel movement versus an outbound vessel movement. While there are a large proportion of vessel movements which in isolation require only two tugs, the number of ships requiring two tugs for berthing and two tugs for departure is much smaller since requirements differ between loaded and unloaded ships. Likewise, the number of vessels at specific wharf centres that require only one or two tugs is relatively small (for example, only trade originating at Auckland Point, Fisherman's Landing 4 and Fisherman's Landings typically require only one tug per vessel movement). Even if an operator attempted to enter the market with two tugs, the other towage operator would need to maintain a tug fleet sufficient to service all jobs requiring three tugs. The size of the other tug fleet needs to be greater than three tugs to accommodate closely sequenced and concurrent manoeuvres at the port. At a minimum, across the port there needs to be enough tugs available at any given time to deploy tugs from the same fleet to each vessel movement at the Port without unacceptable delays. Thus, as noted by the Productivity Commission, the minimum economic investment requirement is not a single tug but the group of tugs required to service ships visiting particular 8 ports . Sample testing of the timing and distribution of the vessel movements suggests that it would be difficult for two towage operators with less than 4 tugs each to meet Port 9 requirements, except in very limited circumstances . To illustrate this, the example the table provides an extract from a 'typical' shipping schedule for the Port (from the actual port schedule for 12 December 2010). From this schedule, it is clear that the one operator (with less than 4 tugs) could not service both Vessel4 and Vessels as these are concurrent jobs. Likewise, one operator (again with less than 4 tugs) could not service both Vessel2 and Vessel4. It would only be possible for two operators to complete these tug jobs if one operator held the contract for Vessel 2, Vessel3 and Vessels and the other operator held the contract for Vessell and Vessel4. The likelihood of these contractual arrangements being amenable to the shipping schedule on (all) other days is very low. Any other combination would cause disruptions to the schedule by way of delays to vessels as a result of tug unavailability (except with cross-hiring).
8 Productiv~y Commission, Economic Regulation of Harbour Towage and Related Services, Inquiry Report, August 2002, page 75 9 A limited sample of actual shipping schedules was provided by Gladstone Ports Corporation. Analysis on these shipping schedules was conducted using infonnation on the location of vessel movements, the timing of tug jobs and the number of tugs required.
PwC 15 Towage market at Gladstone
Figure 3·7 Extract from Port shipping schedule (actual schedule for 12 December 2010)
Location Tug :first Tug Number of Vessel movement line released tugs
Vessell Fairway to Clinton Coal Facility 3 1045 1215 3
Vessel2 Fairway to South Trees West 1230 1330 2
Vessel3 South Trees West to Fairway 1145 1215 2
Vessel4 Fisherman's Landing 1 to Fairway 1300 1330 2
Vessels Auckland Point 3 to Fairway 1400 1430 2
Source: Gladstone Ports Corporation
The availability of tugs depends heavily on the geographical spread of wharf centres and resulting tug transit times. For a tug to transit from the tug base to (furthest) wharf centre is around 45 minutes. It takes around 60 minutes to transit between the furthest facilities (from South Trees Wharf to Fisherman's Landing 1). In the example provided above, the tugs on Vessel3 could not transit to Vessel4 at Fisherman's Landing 1 within 45 minutes. Even though the two vessel movements are not concurrent, a fleet with only two or three tugs could not perform both jobs without causing delays in the port. Modelling is not currently available to accurately determine changes in vessel waiting times under all plausible operating scenarios. However, previous detailed harbour simulation modelling has been undertaken by Maunsell AECOM for a limited range of scenarios. Maunsell's modelling was based on an actual proposal received by the Port to divide the port into two non-competing markets segments aligned with the requirements of one of the port's 10 large users . Broadly, Maunsell's harbour simulation model was able to determine average waiting times (total anchor time) that would result from various sized tug fleets with a single operator compared with two operators. Several scenarios were simulated and compared against a base 11 case of a single tug fleet with six vessels • A selection of results from this modelling is shown below at Figure 3.8. These results are drawn from the simulation that showed the least number of additional tugs required to maintain vessel waiting times (compared to the six-tug base case). Other scenarios, for example when growth assumptions were incorporated into the modelling, showed that more additional tugs would be required. These results show that a single tug fleet with six tugs gives an average vessel waiting time of around 48 hours. This average vessel waiting time can be broadly maintained in a two-operator scenario where there are nine tugs in total (44 hours for a 4:5 tug configuration) or ten tugs in total (5:5 tug configuration). This implies that 3-4 additional tugs are required. Less tugs would
10 See 2008 PwC report for additional tug requirements under a base case and growth scenario. Note that the assumptions underpinning Maunsell AECOM's modelling include market segmentation between two hypothetical towage providers (with each towage provider servicing only their part of the market segment- i.e. no direct competitive rivalry) where the coal trade is split between the two market segments. Further discussion on Maunsell's modelling and PwC's cost modelling is presented at Section 3.3 of this report, including the methodology and limitations of that analysis. 11 This base case (six tugs) was selected because it implied a higher cost base against which incremental cost comparisons could be made (resulting in more conservative incremental cost estimates) and also because it implied more reasonable vessel waiting times when volume growth assumptions were applied. At the time that the simulation was undertaken there were five tugs in the Port. There are presently five tugs in the Port, with access to one back-up tug if required.
PwC 16 Towage market at Gladstone
mean that vessel waiting times would increase by >23 hours on average. Around this average, there is significant variability between different wharf centres and trades, with the most disaffected trades being those which are tidally-constrained.
Figure 3.8 Average vessel waiting times for tug configuration scenarios
Single fleet (base 6tugs Stugs I------., I case) 4tugs stugs ?tugs 9tugs : The number of 1 tugs required to Average waiting time per broadly maintain vessel - single tug fleet a 6s 39 36 average vessel waiting times of around 48 hours 3tugs 3tugs 4tugs Two tug fleets is 6 tugs with a 4tugs stugs 4tugs single operator and 9-10 tugs Average waiting time per with two vessel- two tug fleets b b 71 1 operators. :_ ------~ a. Simulation results indicate insufficient tugs to meet overall Port vessel movements without excess queuing b. Simulation results indicate insufficient capacity to service certain wharf centres or insufficient capacity for concurrent operations • Range reflects differences in a scenario where operator "A" has 4 tugs and operator "8" has 5 tugs versus a scenario where operator "A" has 5 tugs and operator "8" has 4 tugs. This result is a product of the particular scenario modelled, where vessel movements are divided between the two operators according to very specific rules. In a more generalised simulation where the towage providers are not limited to specific trades, there would be no difference between a 4:5 configuration and a 5:4 configuration.
Maunsell's simulation modelling and other examples described above support the argument that a single operator requires less tugs than two operators to achieve similar vessel waiting times. It would be virtually impossible for the port to maintain five tugs with two towage operators without slowing down shipping movements and reducing the efficiency of the Port. By extension, even more tugs would be required if there was a third competing tug fleet. To avoid delay costs, surplus tug capacity would need to be incorporated into one or both tug fleets, imposing a direct cost penalty through the duplication of capital and other costs. The possible scale of costs associated with additional tugs is discussed further at Section 3.3.1 below, which draws on our 2008 cost analysis for the Port.
3-3 Cost structure of towage services
3.3.1 2008 cost analysis
In 2008, GPC commissioned PwC to undertake an analysis of the towage market at the Port, in response to a proposal received by the Port to allow a second operator to service a specific subset of the vessel movements at the Port. The report examined the cost structure of towage services and analysed potential changes in the aggregate cost of providing towage services under a range of scenarios which broadly represented the specific proposal received by the Port. More broadly, our report considered factors such as the possible minimum economic scale for the provision of towage services at the Port and the impact of dual towage providers on whole-of-port services. The report focused only on the likely outcome if a second non-exclusive licence was granted at that time; that is, the likely outcome in the Port if the proposal received by the Port actually eventuated. This proposal was for the separate provision of towage services to two distinct segments of vessel calls.
PwC 17 Towage market at Gladstone
As such, we deliberately did not consider in detail the effect of issuing non-exclusive licences to more than two towage operators, or other factors such as cross-hiring arrangements, cooperation in servicing peak towage demand and direct competitive rivalry between the two providers. Our report did not address a generalised question of exclusivity, rather the specific question of whether there is a cost penalty to port users associated with the introduction of another towage provider. The report made clear that the findings do not provide a universal basis on which to suggest that a separated towage market, in any configuration, would impose a cost penalty on port users in the order of that estimated above. These limitations are expressly included in that report (for example, page 29). In conducting the analysis, we considered:
• the outputs of harbour modelling undertaken by Maunsell AECOM in relation to a hypothetical division of wharf centres at the Port of Gladstone, including projected vessel and tug movements, total tug steaming time and vessel waiting times • the cost structure of a hypothetical towage service provider based on data provided by GPC and benchmarked against the cost structure of the existing incumbent towage services provider and other sources • a near- and medium-term forecast of demand for towage services, and • the spatial distribution of vessel movements across the Port's various wharf centres and including the potential impact of the proposed Wiggins Island Coal Terminal and Gladstone Pacific Nickel developments (but excluding the effect of prospective LNG developments at the Port). Our analysis compared the number of tug vessels (and associated capital and operating costs) required to service the all wharf centres with a single fleet against the number of tugs (and costs) required to service all of the wharf centre groupings separately, while broadly maintaining target vessel waiting times. The modelling which underpinned our analysis was comprehensive. For example, the scope of the Maunsell harbour model used for producing tug utilisation and steaming time data included detailed shipping operations for all primary commercial berths in the Port of Gladstone and considered ship loading rates, channel occupancy, pilot requirements, tug requirements and restrictions and the effect of tides and other restrictions in the Port. The physical scope of the model included the anchorage, channels and all primary commercial berths, but did not include landside operations past the berth. From a cost perspective, the analysis considered the impact of market segmentation on the cost structure and aggregate cost of towage services at the Port. In particular we examined whether additional tugs would be required in the Port to maintain average vessel waiting times (and if so, how many), and the fixed and variable costs associated with maintaining and operating two separate tug fleets. The analysis suggested that, on a full economic cost basis, the separation of towage service providers would impose an average cost efficiency penalty on port users in the order of 50%. The precise distribution of costs between users of different wharf centres differed depending on the allocation of vessels between tugs fleets and the particular tug configuration.
12 A breakdown of the cost penalty associated with three additional tugs is provided below , which indicates that the most significant additional costs are for crewing and capital costs.
12 Following the example provided in Figure 3.8 which suggests that a minimum of nine tugs would be required across two tug fleets compared to a base case of six tugs for one tug fleet- i.e. three additional tugs.
PwC 18 Towage market at Gladstone
Figure 3·9 Breakdown of incremental costs (three additional tugs) Additional operating costs • - - •
Total Costs Crew Costs Fuel &Oil Maintenance Berthing Other (Admin Return on Depreciation Total Costs (one tug fleet) Consumables) Assets (twotug fleets)
3.3.2 Towage cost structure
The overall nature of the towage cost structure at the Port remains largely unchanged since our 2008 analysis. The core cost components of towage services includes operating and capital components, including major operating costs for labour (mostly crewing costs), fuel and oil, maintenance, berthing/leasing, and other costs. There is also a large capital component, with annual capital costs comprising depreciation costs and return on assets (tug vessels). [Redacted]
Figure 3.10 Comparison to previous report -breakdown of (representative) annual towage capital and operating costs [Redacted] Towage capital costs increase in proportion to the number of tugs. Likewise, many of the operating costs, such as crewing costs, berthing costs and other administration costs are also fixed in the short run and are in proportion to the number of tugs. Fuel costs are the most variable of the major operating costs, however these costs are not precisely correlated to the number of tug jobs since the amount of fuel consumed depends on a number of factors such as the intensity of tug task, steaming and waiting time, weather and other factors. Since the Port cannot have a fraction of a vessel, a high proportion of costs (for example, financing, capital amortisation, and labour availability costs) will still be incurred for tugs which are not fully utilised. It follows that where additional tugs are introduced to the Port and create additional spare capacity, then the total cost of providing towage services will also increase. The indivisibility of capital means that it is highly likely that spare capacity will be introduced with the addition of a second tug fleet, at least for a period of time. While it is impossible to accurately model the cost impact of all plausible competitive scenarios at the Port, there are number indicators from our previous cost analysis and other studies which can be drawn on to support a more generalised finding that a single towage operator remains the least-cost option at the Port, at least in the short to medium term:
• the cost of towage is highly correlated with the number of tugs and therefore aggregate costs will be higher where there is a higher number of tugs
PwC 19 Towage market at Gladstone
• Maunsell's scenario simulations and the timing/ distribution of manoeuvres across the port indicate that more tugs would be required for multiple operators compared to one operators
• the scale of the cost differential c~so%) implied in our previous analysis strongly suggests that provision of towage services by two or more providers would result in additional economic costs which would need to be passed on to port users or cause unsustainable financial returns for the operator • in the absence of cross-hiring and cooperation between towage providers to service peak demand, the scale at which the Gladstone market could sustain two operators each with the capacity to meet current service levels (i.e. without a significant deterioration in vessel waiting times) is significantly larger than the current market • there are significant and complex operational considerations for the Port (which are evident in Maunsell's harbour modelling) which, although not necessarily prohibitive, become even more complex and costly from an administrative perspective with the introduction of a second operator (e.g. implementing two berthing facilities, berth leasing arrangements, priority/queuing mechanisms, and other factors)
3·3·3 LNG requirements
The forecasts presented in Figure 3·3 exclude the LNG trade. There is still considerable uncertainty around the timing and volume of LNG vessel calls at the Port. [Redacted] At this stage, it is expected that the LNG trade will require two additional escort tugs as well as making use of two (existing) standard harbour tugs. The escort tugs will need to be significantly more powerful than the tugs required for standard harbour towage (with at least 8o tonne bollard pull capability), therefore existing tugs alone cannot be used.
The inclusion of the LNG trade was clearly identified as part of the 2009 tender process. As part of its work program leading up to the, GPC considered extensively the towage framework and pricing mechanisms that could apply to LNG, including whether LNG should be tendered separately. Taking into account a range of factors, it was determined by GPC that the provision of LNG and standard harbour towage in parallel could reduce the aggregate cost of towage services at the Port and could also derive significant benefits from being included the competitive tender process:
• LNG escort tugs are expected to have excess capacity after servicing LNG vessels, given the low volume of LNG vessel calls • to avoid underutilisation of the LNG and 'standard' harbour tug fleets, where possible excess capacity should be used to defer the introduction of new standard harbour tugs (which could also require close cooperation between LNG and standard harbour towage in order to service vessels with tugs from both fleets) • to the extent that the introduction of a new standard tug could be deferred by using an LNG tug, revenue from standard towage charges up to the amount of the deferred cost could be used to reduce LNG towage charges (i.e. overall revenue sufficiency from LNG and standard charges could be considered in parallel, which would reduce cost duplication) • utilisation of the standard harbour tug fleet by the LNG trade will increase demand for standard harbour towage, reduce unutilised time for the existing fleet and reduce towage charges for other port users (i.e. the annual revenue requirement will be recovered across a higher number of tug jobs) • despite uncertainties around timing and costs, sufficient certainty could be incorporated into the tender/licence process by requiring tenders to submit required rates of return on investment in LNG tugs which would be 'locked' for the duration of the licence, along with other contractual terms which would act to prevent the incumbent unduly profiting from the LNG trade
PwC 20 Towage market at Gladstone
Overall, the (low) volume oftugjobs expected to be created by the LNG trade, along with other factors, means that the introduction of the LNG trade cannot be considered in isolation as a determinant for the sustainability of a second towage operator.
3·4 Comparisons with other ports
While comparisons with other ports can provide useful context, care needs to be taken in drawing conclusions based on comparative data alone. This information presented in this Section 3.4 is intended to respond to comparisons outlined in the Economics Report and should be read in conjunction with the Port-specific information presented in other sections of this report. The Economics Report draws on examples of competition at Brisbane, Sydney and Melbourne and specifically uses Brisbane to infer that 5,179 tug jobs could be considered as an indicative threshold for the introduction of competition -i.e. the number of tug jobs when a second operator entered the Brisbane market (page 25). Notwithstanding that the Productivity Commission accepted an indicative threshold of B,ooo tug jobs, the number of tug jobs should not be considered in isolation of other factors. Differences in cargos and vessel sizes can mean that there are significant differences in the tug fleet required to meet demand. For example, the tug fleet required to service liner cargos is much smaller (in number) than the tug fleet required to service the same number of bulk ships, particularly deep draft coal vessels. A comparison of the major types of cargo exported through Brisbane and Gladstone is set out in the figure below. This comparison demonstrates the predominance of the coal trade at Gladstone, which can require up to six tugs per vessel call (three tugs for berthing and three tugs for departure). FY2009-10 is used for comparative purposes as the data is consistently specified in the Trade Statistics Report (which is not yet available for FY2010-11).
PwC 21 Towage market at Gladstone
Figure 3.11 Comparison of major cargoes (bytonnes) Brisbane and Gladstone (F¥2009-10) Brisbane Gladstone Trade (tonnes) Export Import Export Import (tonnes) (tonnes) (tonnes) (tonnes) 6,303,331 - 60,390,042 - Coal 41.5% o.o% 90.1% o.o% - 1,545,431 1,278,273 - Cement/clinker o.o% 9.1% 1.9% o.o% - - 4,214,205 - Alumina o.o% o.o% 6.3% o.o% - - - 13,195,900 Bauxite o.o% o.o% 0.0% 8o.8% - 7,246,761 - - Crude oil o.o% 42-9% o.o% o.o% 2,038,832 - - Refined oil 2,354,198 15.5% 12.1% o.o% o.o% - - Cereals 1,207,311 100,695 7.9% 0.6% 0.0% o.o% 2,568,901 5,053 35,661 General cargo 1,931,515 12.7% 15.2% o.o% 0.2% 3,383,858 3,397,996 1,140,747 3,105,790 Other 22-4% 20.1% 1.7% 19.0% 15,180,213 16,898,616 67,028,320 16,337,351 Total 100% 100% 100% 100%
Source: Queensland Ports Trade Statistics Report 2010 for the five years ending 30 June 2010, Queensland Government. Trade data shown in the table are for the 2009-10 financial year.
Figure 3.12 Comparison of major cargoes
Ports Dry Bulk General Gas&Bulk Containers Other Total 2010/11 Cargo* Cargo liquids Gladstone 0 Ports 1,087 32 189 8 1,316
Brisbane 308 316 603 868 345 2,440
Melbourne 233 1,202 285 1,233 324 3,277
Sydney 145 102 573 1,116 0 1,936
Newcastle 1,459 252 107 34 1 1,853
* includes co a I Source: Ports Australia, Trade statistics for 2010/11
PwC 22 Towage market at Gladstone
For Gladstone, the breakdown of vessels across these cargos reflects the predominance of coal, with 637 out of the total vessel calls carrying coal. The residual vessels were comprised of around 450 vessels carrying (non-coal) dry bulk cargo, 190 vessels carrying gas or bulk liquids, 13 33 vessels carrying general cargo, and only 6 container vessels . In contrast, 1,184 of the total 2,095 vessel calls in Brisbane were for container vessels or general 14 cargo and only 308 were for vessels carrying dry bulk cargos (including coal) . Likewise, Melbourne and Sydney have a high proportion of container and general cargo vessels and a relatively low proportion of dry bulk cargo. Vessels carrying coal are typically Panamax or Cape class vessels which require a higher number of tugs per vessel movement. This is particularly the case for Cape vessels, which do not call at Brisbane. As such, there likely is a higher minimum scale for entry in Gladstone (and other ports with a large coal trade) compared to container ports. In Brisbane the two towage providers 15 operate with a fleet offour and two tugs respectively . Svitzer has not reduced the size of its fleet (four tugs) since the introduction of PB's two additional tugs. Broader comparisons of the trade composition by vessel call for select Australian port along with comparisons of vessel calls and towage information are set out in the figures below.
Figure 3.13 Comparative data for select ports
Total commercial Towage service Ports Number of tugs vessel calls providers
Queensland 7,219
Gladstone 1,316 SMIT International 5 plus 1 backup tug
Townsville 675 PBTowage 2
Port of Brisbane 2,440 Svitzer/ PB Towage 6 (Svitzer 4; PB Towage 2)
New South Wales 4,884
Newcastle 1,853 Svitzer 9 (with 8 in operation)
8 (Svitzer 6; PB Towage Sydney 1,936 Svitzer/PB Towage 2)
Victoria 4,304
Melbourne 3,277 Svitzer/PB towage 5 (Svitzer 3; PB Towage 2)
Source: Ports Australia trade statistics for 2010-11 and other public information
13 Source: Gladstone Ports Corporation. Note there are very minor variances between data provided by GPC and data available through Ports Australia. Table 3.12 uses Ports Australia data for the Port of Gladstone to maintain consistency and comparability between ports, whereas the vessel numbers reported in the paragraph text are taken from data provided directly by GPC. 14 Source: Gladstone Ports Corporation and Ports Australia trade statistics. Note that there is a minor variance in the breakdown of vessel calls by cargo provided by GPC and presented by Ports Australia (see Figure 3.12). Coal vessel numbers are not separately identified for Port of Brisbane. 15 Svitzer operates Svitzer Colmslie, Svitzer Newstead, Clontarf and Wilga. PB operates PB Murrumbidgee and PB Daintree.
PwC 23 Towage market at Gladstone
3.4.1 Price comparisons
The Economics Report compares the market size, productivity and towage charges in the ports of Gladstone and Newcastle. While the two ports do have some similarities, with coal being the predominant export commodity (over go% of total export tonnages for each port), there are also important differences which can impact significantly on the average utilisation of tugs and also the average price per tug job. These differences are not explicitly taken into account (though some are acknowledged) in the comparisons presented in the Economics Report. These include factors such as geographical layout, peak demand, and vessel composition. In fact, the Economics Report concludes that "productivity is not greatly affected by the underlying towage arrangement" (page 47), recognising that the differences in tug utilisation which are presented in the Economics Report may be due to the particular vessel mix and tugs jobs per vessel, rather than any other underlying factors. Notwithstanding, the Economics Reports compares towage prices at Gladstone and Newcastle using the total revenue formula- Total Revenue (TR) =Price (P) x Quantity (Q)- and data provided by Svitzer on total revenue and quantity of tug jobs. These comparative prices are used to suggest that an exclusive licence does not necessarily generate lower price outcomes. However, it does not necessarily follow that a higher (comparative) price per tug job is due to comparative inefficiency. In Gladstone, Cape size vessels require six tugs jobs per vessel (three tugs in and three tugs out) and Panamax vessels require four tug jobs per vessel (two tugs in and two tugs out). Whereas in Newcastle, Cape size vessels require eight tug jobs per vessel (four tugs in and four tugs out) and 16 Panamax vessels require six jobs per vessel (three tugs in and three tugs out) • Therefore loaded coal vessels in Newcastle create a higher number of tug jobs per vessel movement, offering scope to improve tug utilisation and lower average costs. Similarly, a comparison of the geographical layout of each port indicates that tugs at Gladstone travel a significantly longer distance (and over a longer period of time) to complete an average tug job. The furthest berth from port entry is approximately 40km from the fairway buoy (Fisherman's Landing) whereas at Newcastle wharf centres are more proximate. In Gladstone, it can take up to two and a half to three hours for a tug to complete a tug job (including transit time to and from the tug base) for a vessel berthing at the most extreme berth. On average, for other berths this takes just over two hours. On an average basis, the longer distances travelled by ships while inside port limits mean that tugs also travel a longer distance in active service in Gladstone compared to Newcastle. These longer tug jobs will have a higher operating cost, due to factors such as higher fuel and oil burn rates per tug job. The maps below demonstrate the significant geographical differences between the port limits at Gladstone and Newcastle. The maps are presented on the same scale, with 20.0 km markings as indicated.
16 Source: correspondence with Gladstone Ports Corporation, January 2012
PwC 24 Towage market at Gladstone
Figure 3.14 Ports of Gladstone and Newcastle: Port limits and deepest berth Gladstone Newcastle
-
Source: latitudes and longitudes of port limit markers and deepest berth (furthest from port entry) per GPCL and NPC websites; maps per Google Earth (scale marker indicates 20.0km)
The Economics Report does acknowledge the limitations of its average price analysis, stating that "(differences in average prices] could be due to other factors such as the average hours of operation per tug, the size of ships requiring towage, and the number oftug jobs per vessel". In fact, the characteristics of each port suggest that these factors are entirely consistent with a higher average price at Gladstone.
3.5 Cross-port participation
The Economics Report hypothesises that a towage operator could potentially use excess capacity (i.e. temporarily unutilised tugs) to undercut other operations in spot markets in other ports (page 41-42) and hence earn profits above any 'guaranteed' returns in the home port. We believe this argument to be unrealistic in many Australian ports and particularly for the Port of Gladstone. Recognising the geographical distribution of ports across central Queensland, along with a range of other factors, the 'market' for towage services in Gladstone is most likely constrained to the individual port. The time required to transport surplus tugs to nearby ports means that standby tugs cannot be easily moved without interfering with the availability of tug capacity at Gladstone. It is therefore highly unlikely that a towage operator in Gladstone could effectively participate in a spot market in other locations, if such a spot market were to exist. For example, to transport a tug from Gladstone to Port Alma and back (i.e. the nearest port, being 44 nautical miles from Gladstone) would require over 8 hours of additional steaming
PwC 25 Towage market at Gladstone
17 time . Other central Queensland ports, such as Bundaberg and Mackay are even further away and at any rate have negligible towage demand (for example, Bundaberg had only 21 vessel calls 18 in FY2ou ). For a tug to complete a return trip to Bundaberg (87 nautical miles from Gladstone) would require over 15 hours of steaming time. A return journey to Mackay (which is 183 nautical miles from Gladstone) would require over 36 hours of steaming time. In addition, the time taken for a tug to exit the Port (i.e. to steam from the tug base to the fairway buoy in Gladstone) can be up to 4 hours. These times exclude the time taken to complete the actual tug job (i.e. transit times only).
The fuel cost associate with transporting tugs to alternative ports is also significant, and may be 19 in the order of 95% to 430% of the total revenue earned from a standard tug job , noting that significant additional fuel costs would be incurred in undertaking the actual tug job. Under the current contractual arrangements in Gladstone, tugs are required to be available 24 hours per day (every day of the year) on 30 minutes notice. This availability extends to responding to a request by or on behalf of the Regional Harbour Master Gladstone, Pilot, Ships agent as master representative, and GPC (including requests to respond to emergency situations). Further, the towage operator must not release any tug from providing services in the Port and must ensure that tugs are not taken, used or hired outside the Port without the prior written consent of GPC. It would be virtually impossible for the licensee to deploy one or more tugs to a different port and also comply with these licence terms.
A possible exception is that the towage provider could profit from salvage opportunities in or 20 close to the Port , however the number of salvage jobs near Gladstone has historically been very low. We acknowledge that the profitability ofthese jobs is typically high, with salvage charges being much higher than standard harbour towage charges. Conceivably, where a backup tug is required to be located proximate to the Port but which is not required to be available for active services, the towage provider could use this tug in other ports. This type of arrangement is in fact in place in Gladstone where there are 5 tugs in active service but the towage provider is required to have access to a sixth tug within 36 hours. The sixth tug does not fall within the 'revenue cap' for standard harbour towage at Gladstone, nor is it operated by a Gladstone crew. Effectively it ensures continuity of services in Gladstone without requiring port users to pay directly for excessive surplus capacity. As such, the towage operator can use the backup tug for any other purpose, so long as it can deploy the tug in Gladstone within the required timeframe.
For the licensee to deliberately incorporate surplus tug capacity into standard port operations (and to recover the cost of this capacity from port users) is unrealistic, since the terms of the licence specify that the introduction of a new tug is at the direction of GPC. Towage rates are only adjusted to recover the cost of a new tug if requested by GPC to satisfy the demand for towage services at the Port. The indivisibility of capital will certainly mean that there will be times at which there is surplus capacity in the tug fleet (most significantly in the time immediately following the commissioning of a new tug vessel). However, the terms of the current exclusive licence at the Port, and the
17 Total estimated steaming time based on travelling speed of 10 knots and average fuel consumption of 400 litres per hour. Distance to Port Alma is 44 nautical miles, resulting in a total steaming time (for a one-way journey only) of 4 hours and 24 minutes (rounded down to an 8 hour return journey). 18 Source: Commercial vessel calls: total for 2010/11, Ports Australia, Trade Statistics 1g . For a JOurney between 8 and 36 hours, based on a fuel bum rate of 400 1nres per hour and a fuel cost of $1.20 per litre. Percentage of total revenue earned is dependent on the type of vessel movement. This comparison assumes revenue of $4,000, which is broadly equivalent to the expected 'average' tug job price in FY201 in the Port of Gladstone. 20 Vessel assistance within the Port limit is covered by the terms of the licence and the licensee is bound by tendered prices for such services.
PwC 26 Towage market at Gladstone
geographical constraints of the Port, mean that the towage operator will have limited or no opportunity to profit from offering surplus tug capacity in other ports.
It follows that any residual risk associated with cross-subsidisation of services in other ports based on 'guaranteed' rates of return on investments in tug capacity can be dealt with adequately via appropriate licence terms. Such terms have been implemented at Gladstone. These conclusions are supported by a number of studies and decisions, which cite operational constraints and transport costs as (generally) limiting competition across multiple locations.
• In 2007 the UK Competition Commission released its Final Report in relation to the proposed 21 acquisition of Adsteam Marine by Svitzer Wijsmuller (referred to in the ACCC's 2009 Decision), stating that "the geographic market for towage services was restricted to individual ports", since there is little or no opportunity for supply-side substitution to occur due to significant time and cost associated with moving tugs between ports and due to existing tugs being dedicated to meet requirements of other port authorities (pages 23 and 24 of the Final Report). • The Productivity Commission's Inquiry Report discussed the opportunities for a single operator to service different ports (for example providing services at different ports with strong complementary seasonal patterns), however this discussion related to the cost advantages for single common operator across some regional groupings of ports (in a coordinated fashion), rather than the presence of a spot market for towage services whereby one or more 'surplus' tugs is deployed to meet or compete for a short-term need in another port. The Inquiry Report noted that towage services were likely to be local natural monopolies and that given the delays and distances associated with the redeployment of tugs across ports, redeployment of tugs was unlikely to result sufficient cost savings for it to be efficient for only one operator to service all Australian ports (page xxvii and page 79 of the Inquiry Report).
• In its 2009 decision in relation to the current notifications for Gladstone (which are the subject of Svitzer's application), the ACCC concluded that the most important area of competition is the Port of Gladstone (i.e. the individual port), but that the provision of harbour towage services in central Queensland and Australia are also relevant (page 9 of the Decision).
21 Competition Commission, A Report on proposed acquisition by Svitzer Wijsmul/er AIS of Adsteam Marine Limited, 9 February 2007
PwC 27 4 Exclusive licensing
An exclusive licence is the most effective means of achieving competition in the Port of Gladstone
4.1 Competitive pressure for the market
Where a single towage operator is the most efficient technical solution (i.e. where it can provide an appropriate service at less cost than two or more providers) the market can be allocated by either incumbency, a tender for an exclusive licence, or by a limited period of head-to-head competitiOn• • 22 . Where the market is allocated via a competitive tender for an exclusive licence, competition for entry to the market is generated by the tender process to select a licensee along with the additional inducement provided by exclusivity. One of the key reasons cited by the ACCC in its Decision to allow GPC's notified conduct was that the tender process may stimulate competition in Gladstone. The tender process contemplated by the ACCC and GPC at the time of the Decision was completed in 2009. This competitive process, which resulted in a change in towage providers, generated a great deal of interest amongst prospective towage providers. The robustness of competition generated via the tender process will depend on the particular characteristics of the individual tender, including the proposed licence terms. Importantly, we understand that the characteristics described below were present for the Gladstone tender process and have subsequently been incorporated into the current exclusive licence framework.
• sufficient certainty in relation to the term of the licence and other operating conditions to provide both the opportunity for tenderers to evaluate the potential risks and benefits of entering the market and to provide an incentive for tenderers to invest in the market, though noting that the level of certainty in relation to market share will depend on whether the tender is for an exclusive or non-exclusive licence. • there needs to be more than one party eligible to submit a tender in order to provide incentive for tenderers to submit competitive offers • if the proposed licence is exclusive (as is the case for Gladstone), the exclusive licensee must be contractually bound to be present at the Port and to provide a minimum level of service to all Port users, thus providing security and certainty of services in the Port • if the proposed licence is exclusive , the exclusive licensee is bound to continue to provide services over the life of the licence in accordance with the prices (or pricing framework) submitted/negotiated as part of the tender process A tender process need not solely be for an exclusive licence. Tenders can also be used to award one or several non-exclusive licences.
An important advantage of exclusivity is the certainty it creates for prospective tenders. This certainty is particularly important where it is unclear whether the particular market can sustain two operators, since the risk of entering or remaining in the market is much higher. The inducement provided by an exclusive licence framework can overcome many of the advantages of incumbency, since it puts the incumbent and potential entrant in a similar position when
22 Productivity Commission Report, 2002, page xxxv
PwC 28 Exclusive licensing
tendering for the licence. It can also stimulate keener price competition during the tender process. Provided there are enough controls included in the licence framework, the disadvantages associated with excluding competition during an exclusive licence term can be significantly mitigated. By requiring tenderers to compete on both price and quality, and requiring key aspects of tenders to be 'locked in' for the duration of the licence, the competitive pressure which operates during the tender process can be enjoyed for the duration of the licence term. Non-exclusive licences provide only permission to operate within a Port, without providing any guarantee in relation to market share (though can prescribe a range of other conditions). Without exclusivity, it is the threat of head-to-head competition from a potential market entrant that can constrain the incumbent. However, where the size and scope of the market is insufficient to sustain two minimum-sized fleets, entry is unlikely to be sustainable. This presents a significant risk for a prospective towage provider. Thus, the threat of entry is far less credible in smaller ports or where a single towage operator is more cost efficient, or even where it is unclear whether the market can support two operators. Likewise, where there are no pricing controls other than the threat of entry, there may be an incentive for the incumbent to set prices above efficient levels until the threat is imminent. This creates a significant advantage for the incumbent, since it will in a better position to compete aggressively with the new entrant.
4.2 Barriers to entry
Perfect competition, defined in a textbook sense, has conditions which rarely are observed in practice. It requires many buyers and sellers, ready market entry and exit, homogeneous products, perfect information and costless transactions. Given the practical absence of these conditions in an absolute sense, competition analysis generally accepts competition as applying where conditions for "workably competitive" market are present. A workably competitive market is one where there is sufficient (but not necessarily perfect) rivalry between firms to encourage productive and pricing efficiency, and where market entry and exit is sufficiently flexible -in short, where there remains a reasonable relationship, over time, between costs and prices. Critical to a competitive market is the absence of substantial barriers to entry. Barriers to entry can include sunk costs - in this case, costs of entry which are unrecoverable upon departing a market - or informational asymmetries giving rise to uncertainty and risk. A key advantage of an exclusive towage licence, over a non-exclusive alternative, is that it reduces barriers to entry. Potential providers of towage services are encouraged to compete in the knowledge that the exclusive licence arrangement will give them a defined period of time during which to recover the fixed costs of market entry - reducing their exposure to unrecoverable sunk costs. By levelling the informational playing field between incumbents and potential new entrants, a competitively structured exclusive licence has the potential to reduce costs to all tenderers, removing risks which otherwise would be priced into towage charges. By doing so it can further open up the market to a wider field of potential participants than would otherwise be possible, enhancing the degree of contestability.
PwC 29 Exclusive licensing
4-3 Tender process and current exclusive licence at the Port of Gladstone
Exclusive licence arrangements have been in place at the Port since 1 July 2000. Prior to the expiry of the previous exclusive licence in 2010 (which Svitzer and is predecessor firms held since 2000), GPC ran a competitive tender process to elicit tenders from prospective towage providers. This tender process commenced in May 2009, and consisted of a 3 week registration period followed by a 6 week tender period. The tender process was conducted within the guidelines of the Queensland Government Chief Procurement Office, GPC's Contract and Tendering Handbook, and the Policies and Guidelines for Supply Functions. A probity auditor was appointed for the duration of the tender to advise and provide assurance on procedural matters. [Redacted] The tender was crafted to be both specific and prescriptive, so as to eliminate suppliers that would not be capable of delivering the technical equipment or performance required and also to ensure that the operational requirements of Pilots and Harbour Master could be met. A prescriptive pricing framework was also set out to allow consistent evaluation of financial proposals, to provide certainty in relation to the financial risk associated with entering the market, and to ensure that competitive pressure generated by the tender could be 'locked in' for the duration of the licence.
As part of the tender process, all interested parties had access to sufficient information to assess the commercial risks and benefits of entering the Gladstone market under an exclusive licence arrangement. This information encompassed:
• pricing arrangements, including that tendered prices would be 'locked' for the period of the licence, subject to a defined adjustment framework (i.e. set cost escalation parameters and adjustments for revenue gains/losses due to volume volatility) • the obligation to invest in new tugs at the direction of the Port • the inclusion of future Liquefied Natural Gas (LNG) trade, including the opportunity to earn revenues from the LNG trade within the term of the licence and the obligation to invest in suitable tugs to service LNG vessels, and • a range of other service, operational, safety and environmental requirements. These various arrangements and requirements were clearly communicated during the tender process so as to allow parties to 'price' the relative risks and benefits into their tender submissions. As such, while the Economics Report correctly identifies that a guaranteed margin may indeed confer some commercial benefit on the towage provider, this was one of many benefits (and risks) for which parties competed on an equal basis and which generated strong interest amongst prospective towage providers.
4.3.1 Price evaluation indicates a competitive outcome
Pricing proposals submitted as part of the competitive tender process were evaluated by an independent consultant on a 'blind' basis (i.e. based on de-identified information). The primary objective of the price evaluation was to determine the proposal with the least-cost to port users under a range of scenarios. [Redacted]
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Figure 4.1: Comparative pricing proposals [Redacted]
The pricing proposals received by the Port support a conclusion that the tender process resulted in a competitive outcome, since:
• a sufficient number of tenders were received to generate robust competition for the market (including attracting Smit International which did not previously have a presence in Australia); • the tender evaluation process resulted in a change of towage providers, based on clear evaluation criteria including criteria related to the least-cost provision of services to port users; and • [Redacted] there was some consistency in how parties interpreted the commercial risks and opportunities within the Gladstone market - i.e. no information bias to the incumbent. The tender process ultimately meant that there was an overall reduction in average towage charges at the Port (comparing closing charges at 31 December 2010 and opening charges at 1 January 2011). [Redacted] The figure below indicates the percentage changes in towage charges, with the typical customer impacts highlighted for each GRT range.
Figure 4.2 Comparison of towage charges upon change in licensee
[Redacted]
4.3.2 Other examples
Fremantle Port
The Economics Report favours non-exclusive licensing over exclusive licensing, citing a number of reasons. One of these reasons is a contention that exclusive and non-exclusive licenses both generate competition for the market but non-exclusive licensing also comes with a treat of potential or actual entry (page 31). This argument is supported with the example of Freemantie Port.
In 2002, Fremantle Port ran a tender process for a towage provider and awarded a non - exclusive licence.
As part of the Productivity Commission's 2002 inquiry, Fremantle Port provided a submission which explained its views on the outcomes of this tender process. In this submission, Fremantle Port highlighted that:
• The interest from non-incumbent suppliers was primarily for exclusive licences, which reflects the high sunk capital costs of market entry and highlights that high capital costs are a barrier to entry where there is a possibility for price wars (page 2 of the submission) • Higher charges were required by proponents if they were to be awarded a licence for only part of the market (for example, if they were to be awarded a licence for either the inner or outer harbour, compared to both) (page 2 of the submission) • Exclusive licences would have resulted in the greatest cost reductions in the short-run, but other preferences on other criteria led to the award of a non-exclusive licence at that time (page 2 of the submission), and • Overall, the introduction of serial competition through competitive tendering for exclusive licences has potential to offer long term solutions to making the towage services market as competitive as possible (page 3 of the submission)
PwC 31 Exclusive licensing
Contrary to the view of the Economics Report, the example of the 2002 tender process at Fremantle Port provides evidence to suggest that non-exclusive licences do not generate the same level of competition for the market. We acknowledge that this is not conclusive for every scenario (and do not suggest that the Economics Report claims this), though maintain that the Fremantle example cannot be relied on to support the proposition that non-exclusive licences generate equal competition for the market. The Economics Report also states that the "fact of a single bid [for a non-exclusive licence] ex post does not rule out the possibility of potential competition having been present during the bidding process" since the bidder may not know that it is the single bidder. In a scenario where there is a single bid, we consider that it is extremely likely that the bidder would be aware of the level of interest in the market. Typically, such tender processes are supported by consultation, open information sessions and other forums where a bidder would be exposed to other bidders. Even where a tender process does not seek to publicly identify potential tenderers, it is likely that other bidders will have some knowledge of the level of competition for the market through their own assessment of organisations which would be capable and qualified to deliver the specific licence requirements.
Brisbane Marine Pilots
In 2010 the ACCC denied authorisation to Brisbane Marine Pilots Pty Ltd (BMP) for a three year exclusive licence with Marine Services Queensland (MSQ). The ACCC considered that although it was likely that a single operator would prevail at least in the short term, exclusivity was not required to deliver the benefits contemplated by BMP.
It is important to note that the exclusivity arrangements in place between BMP and MSQ had never been tested via a competitive tender process. There had never been robust competition for the market, though the ACCC did accept that alternatives such as directly engaged pilots would have put BMP under some competitive pressure in negotiating the terms of the exclusivity agreement. Notwithstanding, the exclusivity agreement would operate to entrench BMP's market power. In contrast, the tender process held by GPC sought to award the exclusive towage licence on the basis of rigorous competition between the incumbent and potential market entrants. Indeed, SMIT Marine was able to use the competitive tender process to enter the Australian market for the first time. Also, the benefits of exclusivity for Gladstone are different than those presented by BMP. The benefits submitted by BMP and rejected by the ACCC include:
• certainty of services allows the attraction of high calibre candidates and promotes 'collegiate' responsibility among pilots for safety in the port • a single safety management system and optimisation of safety practices, and • investment in infrastructure and support for pilots resulting in enhanced safety outcomel3 While it is important that a single towage service in Gladstone would likely create operational and capital efficiencies compared to multiple towage operators, the primary benefit of exclusivity in Gladstone is vastly different. The benefit flows from the certainty and inducement provided by exclusivity as part of the tender for the licence; this benefit is contextualised by the efficiencies associated with having a single tug fleet rather than flowing directly from having a single towage operator in the Port.
23 ACCC Determination, Application for authorisation lodged by Brisbane Marine Pilots Ply Ltd in respect of an exclusive pilotage services agreement at the Port of Brisbane, 3 December 2010, page 13.
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4-4 Operation of the price adjustment mechanism
The current exclusive licence provides that if aggregate towage charges differ from forecast towage charges by more than a threshold amount in any year (due to differences in actual vessel movements compared to forecast), then towage charges in the following year can be adjusted to the extent that the difference exceeds the threshold amount. Importantly, this adjustment can operate to either increase towage charges (where volumes/revenues were lower than expected) or decrease towage charges (where volumes/revenues were higher than expected).
This adjustment mechanism was applied in 2011 to account for significant differences in vessel movements as a result of the Queensland flood and other conditions. The coal trade was most significantly affected during this period therefore the price adjustment was weighted to recover more of the revenue shortfall from coal vessels. Svitzer concludes in its submission that that this "does not provide sufficient incentive to towage operators to minimise any losses in circumstances where demand for towage services is lower than expected". The Economics Report claims that this type of adjustment- i.e. one that preserves a "guaranteed fixed rate of return" - is overly generous in Gladstone. In fact, this type of fixed rate of return arrangement is a relatively common mechanism for addressing volume risk in commercial arrangements and is observable for a range of monopoly assets (for example, where there is a revenue cap rather than a price cap). It a component of many regulated pricing regimes where the "reasonable" rate of return is set by a regulator and revenue under-recovery (caused by volumes which are lower than anticipated) is carried forward to future years. In this case, the revenue adjustment mechanism also addresses specific uncertainties in relation to the timing of 'greenfields' developments at the Port, including the Wiggins Island Coal 24 Terminal and LNG terminals at Curtis Island • [Redacted] With volume risk being particularly pronounced at Gladstone, the (limited) revenue certainty within the licence framework sought to reduce any price premium that would be required by an operator to enter the market. Parties which tendered for the exclusive licence in Gladstone had the opportunity to factor into their tenders the reduced financial risk associated with a fixed margin/rate of return, and thus were able to submit more aggressive pricing proposals. [Redacted]
24 At the time of the tender process, WICT had not reached financial close.
PwC 33 5 Summary of public detriments and benefits
5.1 Public benefits/detriments have not materially changed since the ACCC's previous assessment
In its 2009 decision not to revoke GPC's exclusive dealing notification, the ACCC assessed the likely public benefits and public detriments which might arise as a result of the "conduct" - i.e. requiring vessels to use the services of the holder of the exclusive Tug Licence for the Port of Gladstone. In assessing the "counterfactual" (i.e. the ACCC's prediction of how the market would react in the absence of the notifying conduct), the ACCC concluded that it most likely that the Port would continue to operate with a single towage provider. In reaching this conclusion, the ACCC considered the Productivity Commission's Inquiry Report and a range of submission, including PwC's 2008 report comparing the cost-efficiency of a single towage provider versus two towage providers. The evidence considered by the ACCC is largely unchanged, since:
• the volume of tug jobs within the Port is still significantly lower than the 8,ooo threshold outlined by the Productivity Commission, noting further that this threshold is likely to be dependent on other port characteristics, and for Gladstone may in fact be higher than this 'average' threshold • the benefits which the ACCC's expected would be generated by the conduct (based on the counterfactual) are supported by actual outcomes from the tender process, in particular by providing strong incentives for prospective towage providers to compete for an exclusive licence where they would not otherwise be prepared to compete in the market • the strategies contemplated by the ACCC to mitigate potentially detrimental higher towage prices have been implemented; in particular competitive tendering which includes price competitiveness as a key evaluation criteria and a rigid framework for the escalation of tendered prices • the number of tugs required by a single operator to enter the market (i.e. the minimum number of tugs required to service the types of vessels in the Port) is unchanged, therefore the broad magnitude of the cost penalty outlined in our 2008 report would be unchanged for a similar set of scenarios. A brief summary of the public benefits and detriments associated with the "conduct" set out in GPC's 2009 notification is provided below.
5.2 Public detriments
The ACCC's assessment of the public detriment from the conduct largely remains valid. Competition in the market is certainly restricted over a period of time by virtue of GPC granting an exclusive licence for a period of five years with an option to extend by three years, exercisable only by GPC. During this period, GPC intends not to issue any further licences to operate towage services, therefore prospective towage operators will be excluded from the market during the term of the licence. The ACCC also considered the possibility of public detriment in the form of higher prices, however concluded on balance that this was unlikely. Indeed, outcomes from the competitive tender process held by GPC in 2009 indicate that competitive prices were tendered (and were, in fact, lower than prices at the expiry of the previous licence). While there has been a subsequent price increase as a result of a sharp decline in trade volumes in the port, this
PwC 34 Summary of public detriments and benefits
increase was in accordance with a known pricing framework for which tenderers competed. Revenue certainty was a deliberate element of the tender process, which was designed to reduce the risk/price premium required by tenderers due to uncertainties around the timing and scale of planned greenfields developments at the Port.
5·3 Public benefits
The types of efficiency and cost saving benefits contemplated by the ACCC as a result of the notified conduct are unchanged.
It is likely that economies of scale within towage services have not yet been exhausted in the Port. Given the results of our 2008 analysis, along with current tug utilisation rates and the likely minimum number of tug vessels required to enter the Port, is remains likely that a single towage operator can provide services across the entire port at a lower economic cost than two towage operators. Recognising that it is not only the efficiency of a single operator but also the advantages of exclusivity that generate the overall public benefit from the conduct, we further consider that the competitive tender process held by the Port for the exclusive licence has generated significant competitive outcomes for the towage market. The tender process held by GPC, which the ACCC considered could potentially increase competition for the provision of towage services at Gladstone, attracted a number of qualified tenderers. While it is impossible to conclusively determine whether any of these tenderers would have been willing to attempt to compete in the market (assuming no exclusivity in the market), the economies of scale and barriers to entry which still exist at the Port, along with other uncertainties, suggest that there would likely be substantial risk associated with entering the market. Noting that there has been a clear expression of interest in entering the market by a potential second operator this risk is substantially reduced where entry is supported by a pre arrangement to provide services to one or more specific port user. In these circumstances, the cost burden of an under-utilised tug fleet would pass to the incumbent. This cost burden results from the segmentation of the market and the need for at least one tug fleet to be capable of servicing the maximum vessel size/requirements. These additional costs would either be passed on to port users in the 'residual' market or would create below-sustainable financial returns for 25 the towage provider • The particular scenario considered as part of our 2008 report was a cost penalty in the order of so% (in aggregate) for the particular market segregation scenario considered. This assumes that the incumbent would remain operating in the Port following the cancellation of the exclusive licence. In summary, where two operators are not able to be sustained by the number and composition of vessel movements in a Port, a non-exclusive regime could have a number of outcomes:
• the incumbent could remain the single provider of towage services, with an incentive to charge above efficient prices (provided no other pricing controls were established) until such time as the threat of entry/ competition becomes imminent. The threat of entry is lessened where it is most likely more efficient for one operator to provide services to the entire market. • a second operator could enter the market to service only a specific segment of the market without directly competing with the incumbent on an ongoing basis (as per the scenario
25 This assumes that the incumbent would remain operating in the Port following the cancellation of the exclusive licence. We have not considered the implications of specific contractual terms currently in place between GPC and SMIT which govern the exclusive licence arrangement.
PwC 35 Summary of public detriments and benefits
considered in our 2008 analysis), reducing further the utilisation of the existing tug fleet and resulting in either higher towage charges or decreased below-sustainable financial returns. • a second operator could enter the market to compete head-to-head with the incumbent, most likely leading to the duplication of capital and operating costs (and thus higher prices or financial returns at below sustainable levels) until such time as the number and composition of vessel movements is sufficient to sustain two operators It follows that the important public benefit generated by the current exclusive licence are:
• Competition for the market: Robust competition for the market has led to a change in towage providers at the Port. The current licensee was sufficiently induced to compete for the market where it had previously not been prepared to compete in any other Australian Port. The competitive tender process held by GPC included a number of attractive characteristics, including certainty provided by exclusivity and a clearly defined pricing framework to limit revenue volatility associated with the timing and scale of planned Port developments. It was also designed to sustain the results of the competitive process for the duration of the licence term, by binding the licensee to its tendered rate of return/ gross margin and allowing price increases only where approved by GPC in accordance with the defined framework. • Avoided duplication of costs: If exclusivity were to be removed and a second operator were to enter the market, the (aggregate) cost of providing towage services at the Port will increase compared to a single operator providing services, since it would require duplication of capital and other costs. That is, total demand would most likely not be met at least cost. The magnitude of this cost penalty is unclear for all circumstances, but where the market is segmented according to a specific proposal received by the Port, the cost penalty is in the order of so%. For other scenarios, the cost penalty may be lower, however the introduction of LNG tug vessels will create additional surplus capacity in towage operations which may not be able to be effectively offset through use for standard harbour towage unless LNG tugs can be used in conjunction with other harbour tug vessels (either from the tug fleet of the same operator, or through cooperative rather than competitive arrangements with another tug operator). • Administrative benefits: There are administrative benefits for both GPC and the Harbour Master which are enabled by having a single towage provider in the Port, including having single tug berthing facilities rather than duplicate berthing facilities (and associated administration of leasing and other arrangements) and the coordination of towage services between the Harbour Master and a single operator rather than multiple coordination points - the time and cost associated with this coordination could be material and would require the development of priority systems and other processes.
PwC
Appendix A Reference List
Documents Reference Term
Allen & Overy, Svitzer Australia's Submission to the ACCC on Exclusive Svitzer Submission Licensing of Towage Services at the Ports of Gladstone and Townsville, 23 November 2011
Australian Competition and Consumer Commission, Decision in respect of a The Decision notification lodged by Gladstone Ports Corporation Limited regarding towage services at the Port of Gladstone, 1 May 2009
Australian Competition and Consumer Commission, ACCC Submission to the ACCC Submission Productivity Commission on Economics Regulation of Harbour Towage and Related Services, Mary 2002
Competition Commission (United Kingdom), A report on the proposed Final Report acquisition by Svitzer Wijsmuller A/S of Adsteam Marine Ltd, February 2007 - Freemantle Port, Submission to the Productivity Commission inquiry into Freemantle Port economic regulation of harbour towage and related services, Economic Submission regulation of harbour towage and related services, 4 April 2002
Professor David Round and Dr Manish Agarwal, Competition in the Provision Economics Report of Towage Services in Australian Ports: Is Exclusive Licensing Necessary? October 27 2011
Exclusive Harbour Towage Licence; Gladstone Ports Corporation Limited and Licence SMIT Marine Australia Pty Ltd, 30 December 2010
Productivity Commission, Economic Regulation of Harbour Towage and Inquiry Report Related Services, Inquiry Report, August 2002
PricewaterhouseCoopers, Gladstone Ports Corporation Towage Market PwC 2008 Report Analysis, November 2008
Data sets Source
Number and type of vessel calls at the Port of Gladstone GPC
Number and type of tug jobs at the Port of Gladstone GPC
Forecast vessel calls and tug jobs at the Port of Gladstone GPC
Simulated vessel waiting times and number of tugs required Maunsell AECOM (2008)
Shipping schedules and operational data for the Port of Gladstone GPC
Towage cost structure for Svitzer and SMIT Marine for FY2005 and FY2011 GPC
Major export and import cargoes for the Port of Gladstone and Port of Queensland Ports Brisbane
Number of vessel per type of cargo at Gladstone, Brisbane, Melbourne, Ports Australia and GPC Sydney and Newcastle
Total vessel calls at Gladstone, Townsville, Brisbane, Newcastle, Sydney and Ports Australia Melbourne
Tender information and associated data for the Port of Gladstone (2009 GPC tender)
Towage price schedules (201 0 and 2011) for the Port of Gladstone GPC
PwC 38