Session 2010-12
UK Rolling Stock Procurement
Written evidence from Professor Chris Bovis, University of Hull (RSP 07)
Thameslink project
The recent procurement exercise has revealed fundamental issues in relation to strategic procurement in the UK and in particular the procurement of rolling stock.
Below are some thematic issue analysis which could familiarise the Select Committee on Transport with the latest developments at EU and domestic levels.
A. What are the principles which underpin public procurement regulation?
1. Public procurement in the European Union has been significantly influenced by the internal market project. The identification of public procurement as a major non-tariff barrier has revealed the economic importance of its regulation [1] . Savings and price convergence appeared as the main arguments for liberalizing the trade patterns of the demand (the public and utilities sectors) and supply (the industry) side of the public procurement equation [2] . The economic approach to the regulation of public procurement aims at the integration of public markets across the EU. Through the principles of transparency, non-discrimination and objectivity in the award of public contracts, it is envisaged that the regulatory system will bring about competitiveness in the relevant product and geographical markets, will increase import penetration of products and services destined for the public sector, will enhance the tradability of public contracts across the common market, will result in significant price convergence and finally it will be the catalyst for the needed rationalization and industrial restructuring of the European industrial base [3] .
2. In parallel with the economic arguments, legal arguments emerged supporting the regulation of public procurement as a necessary ingredient of the fundamental principles of the Treaties such as the free movement of goods and services, the right of establishment and the prohibition of discrimination of nationality grounds. The legal significance of the regulation of public procurement in the common market has been well documented. Public procurement liberalization reflects the wish of European Institutions to eliminate preferential and discriminatory purchasing patterns by the public sector and create seamless intra-community trade patterns between the public and private sectors. Procurement by member states and their contracting authorities is often susceptible to a rationale and policy that favours indigenous undertakings and national champions [4] at the expense of more efficient competitors (domestic or Community-wide). As the relevant markets (product and geographical) have been sheltered from competition, distorted patterns emerge in the trade of goods, works and services destined for the pubic sector. These trade patterns represent a serious impediment in the functioning of the common market and inhibit the fulfillment of the principles enshrined in the Treaties.
3. Legislation, policy guidelines and jurisprudence have all played their role in determining the need for integrated public markets in the European Union, where sufficient levels of competition influence the most optimal patterns in resource allocation for supplying the public sector as well as the public utilities with goods, works and services. Public procurement has now been elevated as a key objective of the EU’s 2020 Growth Strategy.
B. Procurement regulation as an economic exercise
1. Viewing public procurement from the prism of an economic exercise, its regulation displays strong neo-classical influences. Such influences embrace the merit of efficiency in the relevant market and the presence of competition, mainly price competition, which would create optimal conditions for welfare gains. The connection between public procurement regulation and the neo-classical approach to economic integration in the common market is reflected upon the criterion for awarding public contracts based on the lowest offer. This feature of the legal framework focuses on price competition being inserted into the relevant markets and, assisted by the transparency requirement to advertise public contracts above certain thresholds would result in production and distribution efficiencies and drive the market towards an optimal allocation of resources.
2. Removing protectionism and preferential treatment and inserting an environment of competition in public markets will bring about allocative efficiencies, which in turn will result in social welfare gains at European and national levels through the emergence of three major effects that would primarily influence the supply side. These gains include a trade effect, a competition effect and a restructuring effect.
3. The trade effect is associated with the actual and potential savings that the public sector would be able to achieve through lower cost purchasing. This effect appears to have a static dimension, since it emerges as a consequence of enhanced market access of the relevant sectors or industries. The trade effect emanates from the principle of transparency in public markets (compulsory advertisement of public contracts above certain thresholds). On the other hand, the competition effect relates to the changes of industrial performance as a result of changes in the price behaviour of national firms which had previously been protected from competition by means of preferential and discriminatory procurement practices. The competition effect derives also from the principle of transparency and appears to possess dynamic characteristics. The competition effect comes as a natural sequence to price competitiveness and inserts an element of long-term competitiveness in the relevant sectors or industries in aspects other than price (e.g. research and development, innovation, customer care). The competition effect would materialise in the form of price convergence, at both national and Community-wide levels, of goods, works and services destined for the public sector. Finally, the third effect (the restructuring effect) reflects upon the restructuring dimension of the supply side as a result of increased competition in the relevant markets. The restructuring effect possesses dynamic characteristics and refers to the long-term industrial and sectoral adjustment through strategic investment, takeovers and mergers and acquisitions. The restructuring effect attempts to capture the reaction of the relevant sector or industry vis-à-vis the competitive regime imposed upon the demand and supply sides, as a result of openness and transparency and the sequential trade and competition effects.
4. The lowest offer as an award criterion of public contracts is a quantitative method of achieving market equilibrium between the demand and supply sides. The supply side competes in costs terms to deliver standardised (at least in theory) works, services and goods to the public sector. Price competition is bound to result in innovation in the relevant industries, where through investment and technological improvements, firms could reduce production and/or distribution costs. The lowest offer criterion could be seen as the necessary stimulus in the relevant market participants in order to improve their competitive advantages.
5. The lowest offer award criterion reflects on, and presupposes low barriers to entry in a market and provides for a type of predictable accessibility for product or geographical markets. This is a desirable characteristic in a system such as public procurement regulation which is charged with integrating national markets and creating an homogenous and transparent common market for public contracts. In addition, the low barriers to enter a market, together with the transparent price benchmarking for awarding public contracts through the lowest offer criterion would inevitably attract new undertakings in public procurement markets. This can be seen as an increase of the supply-side pool, a fact which would provide the comfort and the confidence to the demand side (the public sector) in relation to the competitive structure of an industry. Nevertheless, the increased number of participants in public tenders could have adverse effects. Assuming that the financial and technical capacity of firms is not an issue [5] , the demand side (the public sector) will have to bear the cost of tendering and in particular the costs relating to the evaluation of offers. The more participants enter the market for the award of public contracts, the bigger the costs attributed to the tendering process would have to be born by the public sector.
6. However, competitiveness in an industry is not reflected solely by reference to low production costs. Efficiencies which might result through production or distribution innovations are bound to have a short term effect on the market for two reasons: if the market is bound to clear with reference to the lowest price, there would be a point where the quality of deliverables is compromised (assuming a product or service remains standardized). Secondly, the viability of industries which tend to compete primarily on cost basis is questionable. Corporate mortality will increase and the market could revert to oligopolistic structures.
7. The welfare gains emanating from a neo-classical approach of public procurement regulation encapsulate the actual and potential savings the public sector (and consumers of public services at large) would enjoy through a system that forces the supply side to compete on costs (and price). These gains, however, must be counterbalanced with the costs of tendering (administrative and evaluative costs born by the public sector), the costs of competition (costs related to the preparation and submission of tender offers born by the private sector) and litigation costs (costs relevant to prospective litigation born by both aggrieved tenderes and the public sector). If the cumulative costs exceed any savings attributed to lowest offer criterion, the welfare gains are negative.
8. A neo-classical perspective of public procurement regulation reveals the zest of policy makers to establish conditions which calibrate market clearance on price grounds. Price competitiveness in public procurement raises a number of issues with anti-trust law and policy. If the maximisation of savings is the only (or the primary) achievable objective for the demand side in the public procurement process, the transparent/competitive pattern cannot provide any safeguards in relation to underpriced (and anti-competitive) offers.
9. The price competitive tendering reflects on the dimension of public procurement regulation as an economic exercise. On the one hand, when the supply side responds to the perpetually competitive purchasing patterns by lowering prices, the public sector could face a dilemma: what would be the lowest offer it can accept. The public sector faces a considerable challenge in evaluating and assessing low offers other than "abnormally low" ones [6] . It is difficult to identify dumping or predatory pricing disguised behind a low offer for a public contract. On the other hand, even if there is an indication of anti-competitive price fixing, the European public procurement rules do not provide for any kind of procedure to address the problem. The anti-trust rules take over and the suspension of the award procedures (or even the suspension of the contract itself) would be subject to a thorough and exhaustive investigation by the competent anti-trust authorities.
C. The ordo-liberal approach to public procurement regulation
1. Harmonisation of laws has been entrusted to carry the progress of public procurement regulation. Directives, as legal instruments, have been utilized to provide the framework of the acquis communautaire, but at the same time afford the necessary discretion to the Member States as to the forms and methods of their implementation. This is where the first deviation from the traditional economic approach of public procurement occurs. Anti-trust law and policy is enacted through the principle of uniformity across the common market, utilizing directly applicable regulations. By allowing for discretion to the Member States, an element of public policy is inserted in the equation, which often has decentralized features. Traditionally, discretion afforded by Directives takes into account national particularities and sensitivities as well as the readiness of domestic administrations to implement acquis within a certain deadline. In addition, individuals, who are also subjects of the rights and duties envisaged by the Directives, do not have access to justices, unless provisions of Directives produce direct effect.
2. However, the public policy dimension of public procurement regulation is not exhausted in the nature of the legal instruments of the regime. The genuine connection of an ordo-liberal perspective with public procurement regulation in reflected in the award criterion relating to the most economically advantageous offer. The public sector can award contracts by reference to "qualitative" criteria, in conjunction with price, and thus can legitimately deviate from the strict price competition environment set by the lowest offer criterion [7] . There are three themes emanating from such approach: one reflects on public procurement as a complimentary tool of the European Integration process; the second regards public procurement as an instrument of contract compliance; last, the ordo-liberal perspective can reveal a rule of reason in public procurement, where the integration of public markets in the European Union serves as a conveyer belt of common policies, such as environmental policy, consumer policy, social policy, industrial policy and takes into account a flexible and wider view of national and community priorities, and a type of "European public policy".
D. How are complex public contracts awarded?
1. Although in numerous instances the importance of the economic approach [8] to the regulation of public procurement has been reinforced by European and national institutions, the relative discretion of contracting authorities to utilise non-economic considerations as award criteria it has also been confirmed. Under the most economically advantageous offer award criterion, environmental [9] and socio-economic considerations [10] are allowed to play a part in the evaluation process and determine the award of public contracts, provided that they are linked to the subject-matter of the contract, do not confer an unrestricted freedom of choice on the authority [11] , are expressly mentioned in the contract documents or the tender notice [12] , and comply with all the fundamental principles of Community law, in particular the principle of non-discrimination [13] .
2. Often, questions are asked as to the possibility of a contracting authority to lay down criteria that pursue advantages which cannot be objectively assigned a direct economic value, such as advantages related to the protection of the environment or the promotion of employment policies. The European Court of Justice held that that each of the award criteria used by contracting authorities to identify the most economically advantageous tender must not necessarily be of a purely economic nature [14] .
3. The European Court of Justice maintained that a criterion relating to the reliability of supplies is a legitimate factor in determining the most economically advantageous offer for a contracting authority [15] . However, the capacity of tenderers to perform the terms and conditions of the contract cannot be legitimately linked with the subject matter of the contract, unless the contracting authority provides for an objectively determined verification. Therefore, the link of non-economic criteria to the subject mater of the contract presupposes the existence of procedural requirements which permit the authentication of the accuracy of the information contained in the tenders and confirm that the criteria serve the objective pursued.
August 2011
[1] See Commission of the European Communities, The Cost of Non-Europe, Basic Findings, Vol.5, Part.A; The Cost of Non-Europe in Public Sector Procurement , Official Publications of the European Communities, Luxembourg, 1988. Also the Cechinni Report 1992 The European Challenge, Aldershot , Wildwood House, 1988.
[2] The European Commission has claimed that the regulation of public procurement could bring substantial savings of ECU 20 bn or 0.5% of GDP to the (European) public sector. See European Communities, The Cost of Non-Europe, op.cit.
[3] See Commission of the European Communities, Statistical Performance for keeping watch over public procurement, 1992. Also the Cost of Non-Europe, Basic Findings, Vol.5, Part.A; The Cost of Non-Europe in Public Sector Procurement, op.cit.
[4] The term implies a firm with more than a third of its turnover made in its own country and has enjoyed formal or inf ormal government protection.
[5] The demand side often omits risk assessment tests during the evaluation process. The Directives remain vague as to the methods for assessing financial risk, leaving a great deal of discretion in the hands of contracting authorities. Evidence of financial and economic standing may be provided by means of references including: i) appropriate statements from bankers; ii) the presentation of the firm’s balance sheets or extracts from the balance sheets where these are published under company law provisions; and iii) a statement of the firm’s annual turnover and the turnover on construction works for the three previous financial years. See case C-27/86, Constructions et Enter prises Indusrtielles S.A (CEI) v. Association Intercommunale pour les Autoroutes des Ardennes ; case C-28/86, Ing.A. Bellini & Co. S.p.A. v. Regie de Betiments ; case C-29/86 , Ing.A. Bellini & Co. S.p.A. v. Belgian State , [1987] ECR 3347.
[6] The European rules provide for an automatic disqualification of an “obviously abnormally low offer”. The term has not been interpreted in detail by the judiciary at European and domestic levels and serves rather as a “lower bottom limit”. The contracting authori ties are under duty to seek from the tenderer an ex planation for the price submitted or to inform him that his tender appears to be abnormally low and to allow a reason able time within which to submit further details, before making any decision as to the award of the contract. See Case 76/81, SA Transporoute et Travaux v. Minister of Public Works , [1982] ECR 457; Case 103/88 , Fratelli Costanzo S.p.A. v. Comune di Milano , [1989] ECR 1839; Case 296/89, Impresa Dona Alfonso di Dona Alfonso & Figli s.n.c. v. Consorzio per lo Sviluppo Industriale del Comune di Monfalcone , [1991] ECR 2967; Case C-285/99 & 286/99, Impresa Lombardini SpA v ANAS, [2001] ECR 9233.
[7] See Commission Interpretative C ommunication on the Community law applicable to public procurement and the possibilities for integrating social considerations into public procurement, COM (2001) 566, 15 October 2001 . A lso, Commission Interpretative C ommunication on the Community law applicable to public procurement and the possibilities for integrating environmental considerations into public procurement, COM(2001) 274, 4 July 2001.
[8] See Case C-380/98, The Queen and H.M. Treasury, ex parte University of Cambridge , [2000] ECR 8035 at paragraph 17; Case C-44/96, C-44/96, Mannesmann Anlangenbau Austria AG et al. v. Strohal Rotationsdurck GesmbH, [1998] ECR 73 at paragraph 33; C-360/96, Gemeente Arnhem Gemeente Rheden v. BFI Holding BV , [1998] ECR 6821 at paragraphs 42 and 43; C-237/99, case C-237/99, Commission v. France (OPAC), [2001] ECR I-939, at paragraphs 41 and 42.
[9] See case C-513/99 Concordia Bus Finland [2002] ECR I-7123, paragraph 69; case C-448/01, EVN AG, Wienstrom GmbH and Republik Österreich, [2003] ECR I-14527 .
[10] See case C-225/98, Commission v France , [2000] ECR I-7445; case 31/87, Gebroeders Beentjes B.V v. The Netherlands , [1989] ECR 4365.
[11] See case 31/87 Beentjes [1988] ECR 4635, paragraphs 19 and 26; Case C-19/00 SIAC Construction [2001] ECR I-7725, paragraphs 36 and 37; and Concordia Bus Finland , [2002] ECR I-7213 , paragraphs 59 and 61 .
[12] See case C-28/86, Bellini , [1987] ECR 3347.
[13] See case C-379/98 PreussenElektra [2001] ECR I-2099, paragraph 73.
[14] See case C-513/99 Concordia Bus Finland [2002] ECR I-7123, paragraph 55 .
[15] See case C-448/01, EVN AG, Wienstrom GmbH and Republik Österreich, judgment of 4 December 2003 , paragraph 70.