EUROPEAN COMMISSION

Brussels, 22.VI.2005 C(2005)1816 final

Subject: State aid N 159/2005 – United Kingdom EWSI Freight Support Funding

Sir,

Procedure

1. By letter dated 22 March 2005, registered on 23 March 2005 (SG 2005/A/3003), the United Kingdom authorities notified to the Commission the State aid measure mentioned above. The measure concerns a settlement between the Strategic Rail Authority, which is a public authority responsible for the overall strategy and development of the British Railway (SRA), and the company English Wales and Scottish Railways International Limited (EWSI) regarding the continued operation of EWSI’s Channel Tunnel freight services. Subsequently, by e-mail of 25 May 2005, the UK authorities agreed to extend the two-month examination period provided for in Article 4.5 of Regulation 659/19991 to 22 June 2005. The UK authorities have confirmed that the notified measure has not been put into effect.

Background and related Commission decision

Background

2. In 1986, the UK and French governments agreed under the Treaty of Canterbury to grant a concession for the development, financing, construction and operation of a fixed link under the English Channel (the Channel Tunnel). Following a public competition the concession was initially granted to the companies Channel Tunnel Group Limited and France-Manche SA for a period of 55 years, which was subsequently extended to 100

1 Council Regulation No 659/1999 laying down detailed rules for the application of Article 93 of the EC Treaty, OJ L 83 of 27.3.1999.

The Right Hon Jack STRAW MP Secretary of State for Foreign and Commonwealth Affairs Downing Street London SW1A 2AL United Kingdom

Commission européenne/Europese Commissie, B-1049 Brussels – Belgium - Telephone: 00-32 (0) 2 299 11.11. years, expiring in 2086. Those two companies (the Concessionaires), which operate the Eurotunnel partnership (Eurotunnel), granted in their turn operating rights for long- distance international passenger and freight services to SNCF and the Board (BRB) under the Rail Usage Contract of 29 July 1987 (RUC) until 2052.

3. In return for those operating rights, payment obligations are imposed upon BRB and SNCF for the use of the Channel Tunnel. Under the RUC, BRB (and SNCF) is responsible for paying charges for the use of the Channel Tunnel. These charges include Channel Tunnel variable tolls and operating costs (OPEX) and a Minimum Usage Charge (MUC)2, hereinafter referred to as Usage Charges. Although these usage payments are broadly determined by the actual usage in the longer term, there is an obligation on BRB and SNCF to pay the MUC to Eurotunnel, irrespective of the actual usage of the Channel Tunnel until 30 November 2006.

4. As far as is relevant for this case, BRB delegated its principal obligations under the RUC in respect of the freight services to Distribution (RfD) by means of a back-to back agreement dated 10 May 1994 (the B2B Agreement) whilst retaining primary responsibility for any liabilities as between itself and Eurotunnel/SNCF.3 At the time the B2B Agreement was entered into, RfD was a division of BRB. However, on 13 October 1996, RfD was incorporated as a separate limited company fully owned by BRB and the division's business, as well as the division's rights and obligations under the B2B Agreement were transferred across to this newly established company.

5. Subsequently, on 12 March 1997, RfD was sold to East & West Railways Ltd (EWR), a subsidiary of English Welsh and Scottish Railway Holdings Limited (EWSH) by means of an open and non-discriminatory bidding procedure.4 Following completion of the sale of RfD to EWR, RfD’s name was changed to English Welsh and Scottish Railways International Ltd (EWSI). As part of the sale arrangements, a Supplementary B2B Agreement was entered into according to which BRB will not, until 30 April 2005, enforce its right of recovery under the B2B Agreement of the charges payable to Eurotunnel under the RUC.

6. On 30 January 2001, specified property, rights and liabilities of BRB were transferred to SRA under Schedule 19 of the Transport Act 2000. The transfer scheme included the Channel Tunnel Usage Agreement, the B2B Agreement and the Supplementary B2B Agreement including, in particular, the liabilities included in BRB’s obligations under

2 The MUC element of the Usage Charges requires the rail operator to pay a minimum price for the use of the Channel Tunnel up to a certain usage threshold over and beyond the cost actually and directly incurred for running a train through the Tunnel, and irrespective of the actual use of the Channel Tunnel. Should the usage threshold be exceeded the Usage Charges may rise to a level higher than the MUC. The MUC was originally devised to meet and contribute to the original project financing requirements of the Channel Tunnel project rather than recovering infrastructure costs on the basis of prevailing market conditions. 3 Under the B2B Agreement, BRB has the right to recover from RfD any Usage Charges that BRB pay to Eurotunnel resulting from RfD’s usage of the Channel Tunnel or as a result of any MUC payment irrespective of usage.

4 As part of the sale arrangements a compensation package was provided by the UK authorities to the purchaser. This financial package, which consisted of £ 247.2 million, was notified to the Commission on 8 January 1997 and authorised by the Commission on 18 February 1998 (Case N 29/97).

2 the RUC to pay the Usage Charges. However, under the RUC, which is an agreement subject to French law, BRB’s rights, liabilities and property under the RUC may not be transferred without the consent of Eurotunnel. Therefore, the transfer scheme, which was unilaterally adopted by the UK authorities, cannot override the need for Eurotunnel’s consent, a consent which has not been given. BRB is thus Eurotunnel’s counterpart under the RUC and is responsible for discharging any liabilities thereunder on behalf of SRA in relation to Eurotunnel. If the measure, which is the subject of this decision, is approved the SRA will, in accordance with the provisions of the transfer scheme, have to take over financial responsibility for funding the Usage Charges beyond 30 April 2005 until 30 November 2006.

Commission decision of 18 February 1998 (N 29/97, Railfreight Distribution)

7. On 8 January 1997, the UK authorities notified to the Commission the financial arrangements put in place for the sale of RfD. As part of the sale agreement, the UK authorities provided a financial package to the purchaser of up to £ 242.7 million for (i) infrastructure charges and (ii) arrangements for the sale and restructuring of RfD. The Commission decided, on 18 February 1998, not to raise any objection to the financial arrangements.

8. In so far as it is relevant for the present case, the UK authorities undertook, as part of the financial package, a commitment to cover in full the MUC payable to Eurotunnel on behalf of RfD until 30 April 2005. This commitment formed part and parcel of the RfD financial support package, which was offered by BRB to all bidders in view of RfD’s privatisation and was estimated at £ 127.6 million.

9. When assessing the financial support provided by the UK authorities for the Channel Tunnel Charges the Commission took note of the fact that these Usage Charges had been negotiated in the past between two Governments and would never have been undertaken by a company on the basis of purely commercial considerations.5 The Commission accordingly came to the conclusion that the amount to be covered by BRB in favour of Eurotunnel for the use of the Channel Tunnel (the MUC) constituted aid compensating for infrastructure expenditure which other transport operators are not burdened with. The aid thus represented compensation under Article 3.1 b) of Regulation 1107/70 and was accordingly deemed compatible with the Common market.6

Detailed description of the measure

10. It follows from the above that SRA is contractually responsible for paying the MUC to Eurotunnel until 30 November 2006 whereas EWSI is responsible for paying its share of the MUC to SRA according to the B2B Agreement. However, according to the Supplementary B2B Agreement, which formed an integral part of the privatisation of RfD in 1997, EWSI’s (re)payment obligations have been waived until 30 April 2005. Therefore, for the period between 1 May 2005 and 30 November 2006, when the obligation to pay MUC expires, EWSI would be liable to reimburse SRA for all expenditure related to the payment of Usage Charges (including MUC) paid to Eurotunnel.

5 Case No N 29/97 of 18 February 1998, Railfreight Distribution, paragraph 100. 6 Ibid. paragraphs 104-106.

3 11. When RfD was privatised BRB anticipated that after 30 April 2005 compensation would no longer be required since the freight services would be profitable by then. It has however since become evident that its traffic forecast at the time of privatisation has not been achieved and that the Channel Tunnel freight services are not yet profitable7. Therefore, if EWSI were to continue to operate the Channel Tunnel freight services paying all relevant Usage Charges, it would incur significant losses (estimated at approximately £ 42 million) for the period between 30 April 2005 and 30 November 2006 (the Relevant Period).

12. According to the Supplementary B2B Agreement, EWSI is entitled to cease its Channel Tunnel freight service operations if, in doing so, it operates in accordance with normal commercial policies that have been genuinely adopted in good faith. In contrast to BRB (SRA), which is Eurotunnel’s formal counterpart under the RUC (see recital.6), EWSI does not have any obligation to give prior notice of such a cessation. Indeed, under the RUC a withdrawal of Channel Tunnel rail services can only be made with the agreement of SNCF and after appropriate notice to Eurotunnel8.

13. If EWSI were to withdraw its Channel Tunnel services, it would have to pay a single Exit Payment to SRA. This payment would however only amount to approximately £ 6 million and does hence not provide any real economic disincentive to EWSI to cease to operate the services if the alternative is to fully pay at least the MUC, which are estimated at £ 42 million (€ 61 million) for the Relevant Period. Indeed, EWSI has informed the UK authorities that the freight traffic through the Tunnel cannot bear these costs and has indicated to the authorities that unless a settlement can be reached with SRA on the infrastructure charges for the Relevant Period, it will cease to operate Channel Tunnel Freight services.

14. Moreover, a withdrawal of the freight services by EWSI without appropriate notice would result in BRB (SRA) being in breach of its contractual obligations under the RUC, which most likely would have significant cost implications for BRB (SRA), as it could lead to claims for damages from Eurotunnel and SNCF. The UK authorities have estimated that such claims could be […]*.

15. As far as the entry of a substitute rail operator is concerned, it must be recalled that the international rail freight services on the Channel Tunnel have significant entry cost, over and above the level of User Charges. Specialised electric locomotives, which are expensive to procure and operate, are required to haul international freight services between the British and French rail networks via the Tunnel. All such locomotives are currently owned by EWSI and SNCF as incumbent freight operators, or by Eurostar UK Ltd. In addition, access must be negotiated to train inspection facilities adjacent to the

7 For the financial year ending 31 March 2004 EWSI made an operating loss of £4.3 million. The corresponding audited figures for the two preceding years showed operating losses of £ 7.1 million (2003) and £11.1 million (2002) respectively. These annual losses do not include any payment of Channel Tunnel User Charges. Moreover, the annual statutory accounts contained a note to the effect that Channel Tunnel services would not be viable after 30 April 2005 if EWSI were to pay the usage charges currently defined in the RUC and, that in consequence, full provision of the quantifiable liabilities that would be triggered if EWSI would discontinue services after 30 April 2005, including an exit payment of £5 million, had been included in the accounts. 8 It is considered that an appropriate notice under the RUC imply a period of at least 18 months.

* Confidential information.

4 GB and French portals of the Channel Tunnel and any new freight operator must comply with Eurotunnel’s stringent operating, safety and security regimes, incurring significant staff recruitment and training costs. Therefore, it is highly unlikely that any new rail freight operator would, or could, enter the Channel Tunnel rail freight market on a self- financing basis on a short notice.

16. In view of the above and in order to secure the continued operation of Channel Tunnel rail freight services in light of the fact that EWSI cannot legally be compelled to meet SRA’s (BRB) obligations under the RUC by continuing to operate the freight services inconsistent with its commercial discretion, the UK authorities have negotiated an agreement with EWSI according to which the suspension of EWSI’s obligation to refund to SRA (BRB) the Usage Charges after 30 April 2005 will be extended until 30 November 2006.

17. In return for the extension of the payment suspension EWSI have contractually committed itself to:

- continue to use their best endeavours to operate as many Freight Services as commercially possible and to run a minimum service (subject to demand) up to 30 November 2006 equivalent to 250 freight trains per year; - a specific and detailed procedure for handling any withdrawal of Freight Services which is consistent with the SRA/BRB obligations under the RUC. This is designed to ensure that SRA/BRB is protected from any litigation resulting from a breach of the RUC stemming from a unilateral withdrawal of Freight Services by EWSI. - identify and seek to capture traffic growth opportunities that are profitable, or can be made so by improvements in business efficiency and keep SRA/BRB informed of these opportunities; - a contribution mechanism based on traffic thresholds, at which levels ‘profit– sharing’ contributions would be paid by EWSI to SRA/BRB, to reflect the improved financial performance (if any) of Channel Tunnel services; and - facilitate liberalisation of the international railfreight market by making available to third parties, until 30 November 2006, Channel Tunnel traction services at market rates, and train paths within EWSI’s share of Channel Tunnel capacity on terms comparable to those applying to EWSI itself and taking necessary steps to ensure that these services are publicised.

18. In addition, the UK authorities has confirmed that after the expiry of the MUC on 30 November 2006, any potential public funding for international rail freight traffic will, as a principle, no longer be provided on a company specific basis but be allocated on the basis of non-discriminatory and company-neutral criteria.

19. It follows that the purpose of the measure, EWSI Channel Tunnel Freight Support Funding, is to ensure the continued operation of Channel Tunnel Rail freight services by way of suspending EWSI’s obligation to refund SRA for the User Charges (MUC) paid by the latter to Eurotunnel, which are due independently of the actual use of the Channel Tunnel.

5 20. The beneficiary of the measure will be English Welsh and Scottish Railway International Ltd (EWSI). The amount of aid is estimated at £ 42 million (app. € 60 million) and will apply between 1 May 2005 to 30 November 2006.

Assessment of the measure

Existence of aid

21. Article 87.1 of the EC Treaty provides that, save as otherwise provided, any aid granted by a Member State or through State resources in any form whatsoever which distorts or threatens to distort competition by favouring certain undertakings or the production of certain goods shall, insofar as it affects trade between Member States, be incompatible with the common market.

22. In the case at hand the UK authorities (SRA) will waive EWSI’s obligation to refund the MUC payments made by SRA on behalf of EWSI to Eurotunnel for the use of the Channel Tunnel. Accordingly, State resources are used to compensate EWSI for costs that it would normally have to bear.

23. Moreover, EWSI provides both national and international rail services. Therefore, any change in the circumstances of the company’s economic situation is liable to affect trade between Member States and distort or threaten to distort competition.

24. It follows that the notified measure constitute State aid within the meaning of Article 87.1 of the Treaty and is hence prohibited unless it may be deemed compatible with the common market by virtue of any of the exemptions provided for in the Treaty or secondary legislation.

Compatibility of the aid measure

25. The Commission has in previous State decisions9 considered that the User Charges imposed on operators providing Channel Tunnel rail services constitute infrastructure expenditure within the meaning of Article 3.1 b) of Regulation 1107/70 on the granting of aid for transport by rail, road and inland waterways. In line with this established legal practice the Commission considers that Article 73 of the Treaty in conjunction with Regulation 1107/70 provides the appropriate legal basis to assess the notified measure’s compatibility with the common market.

26. Article 73 of the EC Treaty provides that “Aids shall be compatible with this Treaty if they meet the needs of co-ordination of transport or if they represent reimbursement for the discharge of certain obligations inherent in the concept of a public service.”

27. Regulation 1107/70 lists exhaustively the circumstances under which a public subsidy shall be deemed to meet the needs of co-ordination of transport within the meaning of Article 73 of the Treaty and thus be compatible with the common market. In particular, it follows from Article 3.1 b) of Regulation 1107/70 that until the entry into force of common rules on the allocation of infrastructure costs, aid granted to undertakings which

9 Cf. State aid cases No N 576/98 of 22 December 1998, , Channel Tunnel Rail Link II, OJ C 56, 26.2.99, N 706/01 of 29 April 2002, Channel Tunnel Rail Link III, OJ C 130, 1.6.02 and N 29/97 of 18 February 1998, Railfreight Distribution, OJ C 103, 4.4.98.

6 have to bear expenditure relating to the infrastructure used by them, which other undertakings are not burdened with, constitute a measure that meets the needs of co- ordination of transport pursuant to Article 73 of the Treaty.

28. The measure subject to the present notification is effectively a time-limited extension of a suspension clause, according to which SRA waives EWSI’s obligations to refund the payment of MUC that SRA makes to Eurotunnel on behalf of EWSI. This suspension clause was originally approved and authorised by the Commission in its decision of 18 February 199810.

29. In that previous decision the Commission concluded that “the part which represents Channel Tunnel charges negotiated in the past between the two responsible Governments and which a potential competitor interested in the provision of Tunnel services when calculating economically would never undertake to pay…” and that “the amounts which are paid as an infrastructure usage charge to Eurotunnel in favour of RfD constitute aid compensating for infrastructure expenditure which other transport operators are not burdened with. They therefore represent aid as mentioned in Article 3(1)b and are to that extent granted in compliance with the common market.”

30. As far as the present case is concerned the Commission recalls that as of today no harmonised rules on the charging for the use of railway infrastructure capacity has been put in place. Furthermore, and by reference to the Commission’s previous conclusions in its decision of 18 February 1998 (case N 29/97), the aid granted in the form of a waiver of the MUC payments for the use of the Channel Tunnel can be seen to represent compensation for infrastructure expenditure, which other undertakings are not burdened with. Hence the present aid can be deemed compatible with the Treaty by virtue of Article 73 of the Treaty in conjunction with Article 3.1 b) of Regulation 1107/70.

31. It is further noted that the time limited extension of the payment suspension now notified (1 May 2005 – 30 November 2006) is subject to more stringent and onerous terms than the original and authorised suspension. In particular, EWSI will be required to (i) run a minimum service up to 30 November 2006 equivalent to 250 freight trains per year while seeking to identify and capture traffic growth opportunities that are profitable, (ii) reduce entry barriers for cross-Channel services by making traction available to other rail operators at market rates and (iii) agree a profit-sharing mechanism with SRA. In addition, the UK authorities has confirmed that after the expiry of the MUC on 30 November 2006, any potential public funding for international rail freight traffic will, as a principle, no longer be provided on a company specific basis but be allocated on the basis of non-discriminatory and company-neutral criteria.

32. In view of the foregoing considerations and in line with its findings in case N 27/97 concerning essentially the identical measure, the Commission concludes that the notified measure is compatible with the common market.

10 See points 7-9.

7 Decision.

The Commission has accordingly decided: - to consider the notified aid to be compatible with the EC Treaty by virtue of Article 73 of the Treaty in conjunction with Article 3.1 b) of Regulation 1107/70 and not to raise any objections.

If this letter contains confidential information which should not be disclosed to third parties, please inform the Commission within fifteen working days of the date of receipt. If the Commission does not receive a reasoned request by that deadline, you will be deemed to agree to the disclosure to third parties and to the publication of the full text of the letter in the authentic language on the Internet site: http://europa.eu.int/comm/secretariat_general/sgb/state_aids/. Your request should be sent by registered letter or fax to:

European Commission Directorate-General for Transport & Energy Directorate A, unit 4 Rue Demot 28, 6/100 B-1049 Brussels Fax No: +32 2 296.41.04

Yours faithfully,

For the Commission

Jacques BARROT Vice-president

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