Ministry of Transport and Maritime Economy

MINISTRY OF TRANSPORT AND MARITIME ECONOMY

RESTRUCTURING PROGRAM

FOR POLISH STATE RAILWAYS

Adopted by the Council of Ministers on 7 September 1999

As amended by the Council of Ministers

7 September 1999

TABLE OF CONTENTS

Introduction......

1.GOAL......

1.1 Targets of PKP restructuring......

1.2 Strategic background......

2. EXAMINATION OF PKP STANDING......

2.1 Organizational structure......

2.2 Economic and financial situation in 1998......

2.2.1 Financial result......

2.2.2 Liabilities......

2.2.3 Situation in the first half of 1999......

2.3 Level of employment......

2.4 Assets......

2.5 Traffic, trends, demand forecast......

3. PKP RESTRUCTURING PROGRAM......

3.1 Scope......

3.2 Financial restructuring......

3.3 Restructurization of assets......

3.4 Restructurization of employment......

3.4.1 Pre-retirement benefits......

3.4.2 One-time severance pay for employees made redundant under restructuring activities..

3.4.3 One-time re-qualifying training for employees, professional and social advisory and other forms of professional animation

3.5 Organizational and legal restructuring......

4. COSTS AND SOURCES OF FINANCING RESTRUCTURING ACTIONS AND RESULTS THEREOF

5. PKP RESTRUCTURING AND ITS SETTING......

6. CHANGE IN FINANCING PASSENGER SERVICES......

7. TASKS OF RAILWAY MARKET REGULATOR......

8. MEASURES TO SECURE CONTINUITY IN OPERATIONS AND TRAFFIC SAFETY IN 1999

9. SCHEDULE OF PKP RESTRUCTURING ACTIONS......

10. RECOMMENDATIONS......

Introduction

During last year, overall situation of “Polish State Railways” state enterprise significantly deteriorated. Structural changes implemented since 1990, including cutting down on employment, separation of railway ancillary units and most recently health care units proved to be insufficient. While in 1991 the net loss was PLN 715.1 mln, in 1992 - 1997 it fluctuated between PLN 85 and 261 mln, which with total sale in the range of PLN several billion enabled PKP to operate without much disturbance. Possibly, in more favorable external circumstances, the above mentioned changes would allow PKP to adapt to market requirements and modal competition by means of evolution.

In 1998, PKP revenues on economic activity reached PLN 9,603.8 mln with related costs at the level of PLN 10,961.3 mln. Comparing with 1997 results, the costs increased by 14.3% while revenues only by 0.7%.

In 1998 the net loss on overall activity of PKP amounted to PLN 1,370.1 mln. PKP effectively lost financial liquidity (data supplied by financial statement F-01 as of 31 December 1998). Outlook for 1999 is dim – in first six month of 1999 the net loss was PLN 965.7 mln. Liabilities climbed from PLN 4,158.9 mln (end of 1998) to PLN 4,741.5 mln (30 June 1999). Positive trend in labor productivity over last few years broke down despite shrinking employment in the enterprise.

Rapidly cumulating loss of financial liquidity (calculated by means of III degree indicator) from 140.6% in 1997 to 101.2% in 1998 and 92.7% as of 30 June 1999 (at least 200% required) and huge increase in the net loss made the management board of the Ministry of Transport and Maritime Economy and involved members of parliament intensify their works on PKP restructuring. Shortly, it led to development of three subsequent concepts of recovery works in PKP.

The heart of cumulating difficulties remains with adaptation process of the enterprise to structural changes in the economy, which is too slow.

Freight operations are the base of PKP income, and until the end of 1997 generated profits, which with state budget subsidy for passenger operations allowed to cover the deficit of passenger operations and high, in comparison with other railways, labor costs. In freight operations traditionally coal is in the lead (generating about half of the revenues) and other bulks, eg. steel, grains and liquid fuels. Limited extraction of coal (still insufficient to meet economic needs of the industry), lower import of grains, difficulties in iron and steel sector and increased transport capacities of pipeline networks for liquid fuels, working together, brought further deterioration of railway performance indicators in 1998 and 1999, which in turn made most of traffic forecasts obsolete. Additionally, most of the factors show rather permanent trends and counting on radical changes in this respect would be a major mistake.

To diversify freight operations means to invest in rolling stock (average age is about 20 years now). Passenger rolling stock is 18 years of age in average. In order to maintain the level of services offered in qualified sector of the market (EuroCity, InterCity, etc.) – for which the future as regards market potential and profitability looks promising – PKP needs to invest heavily in rolling stock and infrastructure (quality of railway lines).

In its current status, PKP lost ability to invest (the 1999 level of own investment shrank to 15% of 1998); mounting liabilities and losses limit credibility of the enterprise. Annual procurement of rolling stock dropped to just a few pieces. At the same time, infrastructure investment financed by the state budget also dropped as a result of general limitations of investment expenditures in the state budget. Deteriorating investment, loss of liquidity and declining quality of transport operations adversely affect external economic subjects cooperating with PKP, particularly manufacturers of related materials and products, and contracting enterprises.

Railway agglomeration operations are in difficult position – they should be subsidized to promote public transport use in cities with visible congestion and environmental problems. Their efficiency however requires also to improve the quality of railway operations through direct measures like investment in rolling stock, traffic control systems, and improved management but also through stronger influence to increase user benefits with higher participation of local governments in financing railway operations.

It is vital to implement related reforms as early as it is possible and not wait until further decrease in operations, increased liabilities and deterioration of overall position of PKP become more visible. Coordinated actions should enable PKP to maintain the market position, mitigate adverse impacts on the state budget and economy caused by expanding liabilities, and - upon first wave of employment lay-offs – reach better labor rotation indicators and expand cooperation with contractors.

In 1998 several concepts of PKP reforms were developed.

In July 1998, the first concept of PKP restructurization, commercialization and privatization was presented to the Economic Committee of the Council of Ministers (KERM). KERM recommended supplementing the concept with diagnosis of PKP financial standing and forecast of railway traffic. KERM advised also to separate railway infrastructure within the first stage.

In September 1998, subsequent second concept of PKP restructurization, commercialization and privatization was submitted to KERM including draft of the law. The program provided for separation of infrastructure sector – Railway Infrastructure – under Article 44 of the law dated 6 July 1995 on “Polish State Railways” state enterprise, to form the basis for future railway infrastructure state enterprise.

In the scope of restructurization of assets, labor restructuring, ownership rights, both the program and the draft law included concepts similar to solutions proposed earlier, in July 1998. During 5 November 1998 session, this program was approved by KERM in terms of directions. The concept brought strong hostility of labor unions active in PKP, as well as the Management and Supervisory Boards of PKP itself.

In October 1998, third concept developed by the members of parliament was brought to Sejm – draft law on commercialization, restructurization and privatization of PKP, which is currently considered by the Parliamentary Commission.

The Government faces the necessity to select one of the following options:

First – to continue without changes in the situation leading to constant social distortions and tensions (difficulties in payments and rises of salaries), inability to modernize – directly leading to gradual deterioration of infrastructure, no development and difficulties in maintaining positive history of railway operations. Basically, it means delaying the decision on how to bear the costs – subsidize (directly or indirectly) deficient infrastructure.

Second – to implement the strategy of small steps, which means gradual reduction of costs, incurring restructurization expenditures but also not reaching the critical point, where profits, investment and development start. This is the model advocated by managers from some companies due to the fact that it delays a catastrophe and you never reach this critical point where extensive managerial input is required to keep the company floating. Radical programs are the starting points, however with slightly overestimated sale output, prices, etc. which are rather based on wishful thinking than reality. Thus, upon development of a radical program and making required expenditures the company still lacks effects in profitability and restructurization is on-going forever. The system drains money from the state budget and does not drive the company towards a development path.

Third – means radical changes in relatively short period of time, including rapid reduction of employment and privatization in order to reach the stage of profitability and sustainable growth, maybe at higher budgetary expenditures and social tensions than in previous scenarios. Implementation needs focusing on several activities at the same time – to settle the cost competition within one year and maximum in two years to cut down on long-term costs.

This scenario requires political and social support. Modes of its operation should focus on means to improve railway transport standing, protect human resources in this process and abolishion of structures inadequate for new situation.

Preparation and implementation of the reforms should as much as possible make use of public information practices to provide reliable information to each and every of the involved employees.

Proposed third scenario of restructurization eliminates possibilities to create another inefficient state enterprise in place of PKP – a concept advocated in both previous options.

Presented herewith the program of restructurization is practically dealing with security measures to prevent railways from further deterioration. Its goal is to reshape relations in the sector and its legal and economic proximity in order to attract capital for further development, which would enable stabilization of state budget participation at a level required to guarantee adequate quality of cross regional passenger operations, compensating for loss of revenues due to recognition of discounted and free rides. In agglomeration and regional operations, new possibilities to involve local budgets will be opened.

Railways will remain a crucial transport sector for the economy, its market share will be maintained at the high level until 2005 (see Table 1 below).

Table 1.Modal split in traffic operations (freight)

Specification

/ 1980 / 1985 / 1990 / 1995 / 2000 / 2005
mln tons / bln
tkm / mln tons / bln
tkm / mln tons / bln
tkm / mln tons / bln
tkm / mln tons / bln
tkm / mln tons / bln
tkm
1 / 2 / 3 / 4 / 5 / 6 / 7 / 8 / 9 / 10 / 11 / 12 / 13
Railways / 473.2 / 134.5 / 412.8 / 120.5 / 278.1 / 83.5 / 228.9 / 69.1 / 172.0 / 51.6 / 164.0 / 49.9
Roads / 2167.9 / 44.5 / 1393.7 / 36.5 / 945.7 / 30.0 / 1086.7 / 51.2 / 1330.2 / 83.6 / 1587.6 / 72.8
Inland waterways / 22.2 / 2.3 / 14.5 / 1.40 / 9.8 / 1.0 / 9.3 / 0.9 / 8.7 / 0.8 / 8.1 / 0.7
Pipelines / 40.7 / 17.1 / 38.7 / 17.0 / 32.9 / 13.9 / 33.3 / 13.5 / 33.8 / 13.1 / 34.4 / 13.4
TOTAL / 2704.0 / 198.4 / 1859.7 / 175.4 / 1266.5 / 128.4 / 1353.6 / 134.6 / 1569.2 / 156.0 / 1819.1 / 163.7

Sources: statistical data and own forecast for 2000 and 2005.

Efficient railways adapted to market requirements – limited but more effective and representing much higher technical sophistication – are a prerequisite to maintain fast track of further economic transformations and to discount benefits of favorable location in Europe. Railways will also remain an important factor strengthening Poland’s position in accession negotiations with the European Union.

Actual railway performance indicators, particularly as regards traffic, will be carefully monitored and in case of significant deviations forecasts will be verified. Despite assuming a drop in traffic volumes and operations, the reform should critically revitalize PKP traffic operations.

1.GOAL

1.1Targets of PKP restructuring

To increase railway share in the market

It is desired to increase railway share in the transport market due to various reasons – eg. railways are safer and more environmental friendly mode of transport than road transport. Operating companies established as a result of restructurization of PKP S.A. would have to produce intensive marketing policy and at the same time expand the offer of rendered services. They will experience market pressure to become competitive against other railway operators and road transport or even air transport. The minimum target is to stop traffic decline and maintain current level of service.

To achieve profitability and to decrease costs

The reforms should lead to creation of conditions to render profitable railway services. Railway activity can and should be profitable undertaking. Railway companies would have a possibility to expand under market restrains with subsidies from local governments for public transport obligations, mainly in agglomerations and regions. Such companies should endeavor to cut costs in a competitive environment.

Implementation of this target would:

• prevent growing liabilities,
• allow to reach reliability to secure development on the basis of credits and capital injections from stock exchange and private investors, in order to bring about:
• modernization or railway lines and rolling stock,
• implementation of investment programs,
• higher wages and salaries.

To improve passenger and freight offer

It is necessary to improve railway transport offer in order to:

• facilitate connections between large municipal centers, in competition with road and air transports, putting too much stress on municipal and national roads networks. Geographical features of Poland offer railways huge potentials on the market substantiated by the performance indicators for Warsaw – Kraków/Katowice and Warsaw – Gdańsk connections.
• enable solution of transport problems in agglomerations (scale of possibilities is visible – Warsaw metro, Warsaw Commuter Railways and Tricity Commuter Railways),
• increase the role of railways in freight traffic to lower the stress of roads networks, particularly as regards the heaviest traffic.

To increase safety

Polish railways – even after recent accidents – are safe. It is important to maintain and improve traffic safety, to make the safety perception objective, to conduct independent safety audits and accident investigations. Increased economic pressure creates certain dangers before the railway companies realize that it is not wise to economize on safety. To this effect, in 1998 the General Railway Inspectorate, independent of PKP, was established – it is proposed to reinforce its role.

To be ready for competition within EU

Accession to the European Union means also an obligation to make railway lines accessible to foreign railway operators. The law on railway transport requires railway administration to make railway lines available to railway operators, including of foreign origin (if so stipulated in international agreement, of which the Republic of Poland is a party). Implications are straightforward – railway lines should be ready to serve a number of operators and provide a standard, which would make use of railway infrastructure profitable in Poland. On the other hand, Polish railway operators should be ready to compete with foreign operators, particularly in the scope of rolling stock. Consequently, they need to invest, improve administration, labor efficiency and marketing systems.

On-going reform of railway transport and the need to adapt to European standards require introduction of transitional period before full liberalization of market access is possible.

To develop public transport in agglomerations

Improving operation of railways is one of the crucial factors in finding solutions to congestion problems in big agglomerations. In this case, marker intervention is necessary. For normal intercity roads, excise tax (included in fuel price) makes the user pay for external costs of transport means he uses. In city centers, user charges are not adequate to cover for actual costs of infrastructure construction and maintenance. Consequently, there is no possibility to find the equilibrium between supply and demand in the market of “vehicle accessibility to municipal road networks”. Its is impossible to solve this problem waiting for the demand to find its equilibrium point. That is why national transport policy should on one hand provide for possibilities to levy charges to cover for municipal infrastructure costs (within the scope of overall municipal traffic management schemes) – charges for parking, access to particularly congested areas, traffic calming and pedestrian zones in centers – and on the other hand to encourage to use means of public transport. In this respect, railways could be most efficient and attractive mode, particularly where railway networks cover city centers (Warsaw, Upper Silesia and Tricity). To integrate railway networks into municipal transport system requires introduction of common tariff regimes, time-table coordination, provision of safe parking areas for cars and bicycles around railway stops, but also reliable and relatively frequent railway services in clean and safe rolling stock.

MT&ME is currently working out a transport policy document comprising overal concept to support public transport. The concept would provide for integration of administration powers, systems for selection of operators and financing (cost sharing) of public transport in an agglomeration or region. To this end, we propose to enact uniform public transport law to replace existing individual acts on rights to free and discounted rides, and compensation for bus and railway operators. The law would regulate responsibilities for public transport, provide means of financial support to operators (railway and bus), stipulate means of organizing tenders for public obligation services to improve quality of service and reduce subsidies. Therefore, solutions proposed in this program and related law are of temporary nature.

To animate railway employees

Labor restructuring processes aim at rationalization of level and structure of employment. Therefore, significant reduction of employment, re-training programs and professional advisory services are necessary. The program provides for active approach to this issue to create job opportunities outside PKP S.A. and its subsidiaries, however using existing PKP assets and within the restructuring measures.

1.2 Strategic background

Taking into account development scenarios adopted in the European Union, national policy as regards railway transport is determined by strategic goals for next years and would focus on:

• integration of Polish transport system with UE and other European systems,
• antimonopoly actions (establishing new operators in railway transport, entrusting the General Railway Inspector with regulatory functions related to access to the infrastructure),
• regional aspects of passenger services,
• completion of upgrading and modernization investment in the railway lines covered by AGC and AGTC Agreements,
• making competition fair between transport modes and within transport modes,
• making railway operators active in competitive commercial operations.

The law dated 27 June 1997 on railway transport is compatible with acquis of the EU. It enables demonopolization of railway industry. The PKP reforms will accelerate this process opening access to railway infrastructure to new railway transport operators.