Thursday, June 28, 2012

Kiwirail's asset revaluation - because Labour concealed the truth with accounting: UPDATED


Regular readers will remember that I’ve been long critical of the bizarre Treasury valuations of the social policy/heritage/commodity sector subsidy project called Kiwirail. So the latest report that this “asset” is to be revalued hardly surprises me. However, I am enormously dismayed at the unprofessional politically driven basis for valuation of this business which was instigated by the previous Labour government. It is one thing to throw taxpayers’ money at buying it back, another to hide what a real dud it is on the government accounts. Let’s bear in mind that neither Labour, nor the church of the Holy gRailway the Greens, have any interest in really showing what it’s worth.

So let’s start with the latest announcement. What does it mean?

The short version is “I told you so… again”. What was reported before has finally happened.

The land assets will remain under the NZRC, which has in fact been the case since 1 April 1982 when it was created. There was always a peppercorn rental of NZ$1 paid for use of the land under the rail corridor, which given that the Crown isn’t paid for the land under the road network, has always seemed an easy compromise in dealing with the thorny issue of valuing strips of land with little alternative use (especially roads, given land without access to roads has greatly diminished value). This should not be controversial, but let’s be honest about what the valuation of that asset should be – the market value of the land if sold. A study commissioned by the MoT valued it, in 2001, at NZ$462 million. This could be indexed to today’s values and priced, but I doubt it would top NZ$1 billion. Bear in mind this was never privatised in the first place, because every time TranzRail closed a rail line (which was rare), the corridor would, ultimately, be able to be sold by the Crown.  So the valuation was done professionally based on assumptions of the value of neighbouring land being applied, in most instances, to a narrow inaccessible corridor.

Yet the Annual Report 2011-2010 indicates land is valued at just over NZ$6 billion. This is quite absurd, so is the asset write down going to address this? Let’s continue.

The transfer of the other assets to a separate SOE is exactly what happened before the last privatisation, when NZ Rail Ltd was set up. The logic of this is clear, as the issues around rail land and its use are complex. Partly because of Treaty of Waitangi claims over Crown land, partly because the confiscation of past land under the Public Works Act means that if the land isn’t to be used for rail purposes, the previous owners or their successors must be offered the land back.

So the new SOE will be responsible for everything, other than the land, just like before. This is already raising the spectre of a new privatisation among those who treasure Kiwirail because they think it will be the saviour in the event oil prices and climate change suddenly decimate the viability of road transport.

Bill English states the total assets are being written down from NZ$13.4 billion to NZ$6.7 billion, this being both the land and the operations business. A simple halving of value, indicating a lot of in depth work was not done into this at all. The Kiwirail press release explains this further by saying that the non-land business will carry a valuation of up to NZ$1.3 billion “reflecting the revenue generated by it” rather than the current NZ$7.8 billion.  That's helpful in analysing this further.

The land component of the valuation seems to retain most of its book value, as it will be worth around NZ$5.4 billion, yet wont be expected to make a return on most of that asset (given the land under the roads isn’t expected to either). A small writedown of around NZ$600 million, but not nearly enough. Has the land under the rail network really shot up in value by a factor of 11 since 2001?  Kiwirail's Annual Report indicates that a professional valuation was done, no doubt in good faith. However, does that really reflect the market value of this land? If a railway line across a field, or behind some warehouses or houses is sold, are there really any other likely buyers beyond the neighbouring property owners? The discrepancy between valuations seems extraordinary, and I doubt whether valuations of railway corridors are done frequently enough in New Zealand to enable it to be equated to other such valuations.  

Setting that to one side, the valuation of NZ$1.3 billion for the operating business still seems wildly excessive. It was bought for NZ$665 million. How has it suddenly become worth double that since 2008? Is it revenue? Well no.

In 2011 it had gross revenue of NZ$667 million. It also got nearly NZ$345 million from taxpayers (yes you’ve spent more than a billion on this one and counting). However, its operating costs were NZ$567 million. Cool NZ$100 million profit before government right? No. Once you remove roughly NZ$60 million in subsidies for operating Auckland and Wellington passenger rail services, you’re down to about NZ$40 million. Not so good then.

Bearing in mind that the NZ$345 million from taxpayers is a capital grant to replace and renew some assets, you’ll also see it’s clear this isn’t a sustainable business able to renew its capital.  Otherwise it would take out debt that would be repaid over the depreciated life of those assets, which of course is not going to happen (but Treasury of course has taken out debt to pay for the nationalisation and all of the capital grants).  Bear in mind also that the market valuation when Toll Rail was nationalised was only NZ$435 million. Has the government really trebled the value of this business even though it has never paid a dividend yet? 

One guess as to why Opposition Finance spokespeople haven't asked that - because they fully supported this destruction of taxpayer wealth.

So the valuation continues to be generous in market terms. Kiwirail, if sold, would not go for the sort of money on its accounts, even if it continued to get hundreds of millions of dollars in subsidies and grants every year.

The use of replacement cost as an asset valuation gives a false impression of the value of an asset if it to be sold, simply because it does not generate sufficient revenue to justify ever replacing the asset on the scale (and in the same way) as it was originally acquired.

My previous post on this was right.

Kiwirail is not an “investment” in its current form, but rather an emotionally laden piece of heritage that mixes some commercial elements, some local public policy elements with a lot of hyperbole and wishful thinking.

Debates about pouring taxpayers money into it need to be based on some market based accounts, accounts that might actually show it can generate a reasonable rate of return based on what it could be sold for – but which wouldn’t ever justify the money poured into it so far.

For that reason, given both National and Labour have thrown over a billion into this taxpayer owned bonfire, and the Greens are just gagging to throw billions more at it, means that having debates based on reasoned balanced analysis are absent when most of those involved prefer conspiracy theories around corruption, hyperbolic evangelism about rail “saving the economy” and economic illiteracy.

Most of my past posts on this subject are summarised in this one, on what it would take to make the railway a viable business.

It includes the following ones:

-  The Greens posted a link to a great presentation on Kiwirail, which actually destroys most of their own self-generated myths about the business.  I link to it here.
Bill English admits the rail network is virtually worthless

Another good read is this from Ross Clark which explains that the "failure" of rail privatisation is because there are some serious questions about the viability of rail at all.

UPDATE:  I know this article has been linked to by a couple of forums.  Please read the articles at the bottom and indeed the presentation I linked to here. You can romanticise as much as you like, and I have a stack of Rails magazines from the 1980s and 1990s, and the NZ Railway Observer as well, so I am a rail enthusiast at a personal, emotional level, but the hard economic facts are that rail is an expensive way to move goods given the high capital costs of the bespoke equipment and infrastructure.  Only when volumes are high, frequent and over long distances do the fuel and personnel advantages start to offset this.  It's about economics.  In the US, rail freight succeeds in spite of serious undercharging of trucks on untolled interstate highways, in NZ Road User Charges contribute to a very different picture.

13 comments:

Jeremy Harris said...

Watching the Greens and Labour complain about funny figures trying to prepare "Kiwirail" for privatisation has been humourous.

I guess they don't really understand that the value of a business is; the required capital, it's profitability and the vialibility of the ongoing nature of it's profitability.

Just the people you in charge of 10s of billions of assets.

Anonymous said...

What's all the distraction obsessing about revaluation and viability?

Big picture: we all need good Land Transport. Land transport is road and rail. When does anyone give a monkey about the value or viability of roads? I see no reason to treat rail any more critically than roads.

Roads are massively subsidised. Rail needs to be too. Without rail, our roads would be smashed to pieces faster than they are now. Please consider how important rail really is; a railway line is a strategic asset as much as any road, and one complements the other.

Let's encourage some balance and common sense to "value" both of our essential land transport modes.
Regards - Les G

libertyscott said...

Jeremy: Quite!
Les: I disagree. It isn't a distraction, because we are talking about well over 1 billion dollars taken from taxpayers (not just rail users and not proportionately rail users) for what is deemed to be an asset but which doesn't pay for itself.

Land transport does not require rail, rail is good at certain specialised tasks, such as long haul high volume freight, bulk freight, and high volume frequent passenger movements. There isn't a lot of that in NZ. Roads provide ubiquitous access, railways do not. Nelson thrives quite adequately without a railway, as does Queenstown and Rotorua. Indeed, the South Island has only effectively got one trunk line down one coast and a coal line to the West Coast (which has one general goods train and the tourist train every day).

Roads are not "massively subsidised". The largely subsidy is the use of ratepayers' money for local roads, which does not compete with rail and could be replaced with a 20-25% hike in fuel tax and RUC - hardly going to make a difference to rail, especially if it was charged according to the roads used.

If the railways closed down, there would be a substantial uplift in RUC revenue, and so the cost of additional maintenance would be easily made up for by the increased revenue.

I am astonished that after multiple studies, the grand myth that somehow trucks use the roads without paying their true costs remains.

Subsidising either mode means users of them are more likely to travel or use them, than they would otherwise. For freight, it means that businesses that ship few goods subsidise those that ship more, and indeed those who use ships and coastal shipping are disadvantaged (and indeed coastal shipping is a competitor for rail for long haul container transport).

For people it means travelling unnecessarily, or driving rather than biking or walking.

Given the obsession with the environment, a priority should be to not subsidise transport and indeed for economic efficiency, one shouldn't either.

Why shouldn't users pay for transport, like they pay for telecommunications, electricity and other utilities?

Jeremy Harris said...

Keep up the good work Scott, you changed my mind completely on rail vs. roads and public transport etc.

Let freedom reign and all that...

Anonymous said...

Mr Scott hasn't changed mine over the years - all good libertarian stuff, ideal for discussion in a back bar with Aribica Beans compressed with boiling hot H2O, du lait (preferably steamed) added, can't see the wood for trees, largely based on assumptions made years ago not research.

Geoff said...

Trucks cause about 90% of vehicle-caused road damage, but only pay for about 30% of the cost of vehicle-caused road damage. The rest is paid for by private motorists.

Private motorists therefore subsidize trucking companies, and trucking companies therefore have an unfair advantage over rail, which must pay for 100% of its maintenance.

New Zealand's largest companies, like Fonterra, Solid Energy and the large forstry mills, remain competitive internationally because of the rail component of their supply chain. Force them to switch to road, and their costs go up. They cease to be competitive, shut down, and the economy suffers.

Neither National nor Labour like rail, but they both recognize that investment in rail keeps the wheels of industry rolling.

KiwiRail is not a business. It's a service, just like the roads.

libertyscott said...

Anonymous: Give me research, prove me wrong.

Geoff: Where do you get the 30% from? The MoT Cost Allocation Model rejects this, as indeed does a cursory glance at heavy RUC revenue compared to total highway maintenance expenditure. Are you saying the CAM is wrong?

The companies you list wouldn't be forced to go to road, if they are so competitive why can't they pay for the cost of capital tied up in the parts of the network they essentially solely use? Why should all the other businesses and private individuals in New Zealand who are not customers of the network pay for it? Why are milk, coal and forestry the new corporate welfare recipients?

It isn't an "investment", it's destruction of wealth. The railways could be a business, just a lot smaller than it is at present, if only we could separate nostalgia (which I hold in buckets if I'm honest) from reason.

The roads were able to be a business, road users pay more than enough in charges to pay the full cost of capital to retain and upgrade the network. Rail uses don't.

That's the sad, honest fact. Railway enthusiasts, of which I am one, need to separate their personal enthusiasm for trains and railways, from economics and business. As much as I'd love the whole network to thrive and grow, it's just not right to manufacture an economic case not based on evidence to claim rail is getting a raw deal. It's a easy trap to fall down, but it's false.

Anonymous said...

"Once you remove roughly NZ$60 million in subsidies for operating Auckland and Wellington passenger rail services"

You really don't have a clue, do you - KiwiRail doesn't even operate the Auckland network. They do however have an agreement with the Auckland operator (Veolia Transport) to supply some drivers along with locomotives. KiwiRail only operates the Wellington network, though it's Tranz Metro division. The cash it receives for doing that is not a subsidy. It's just like how bus company's tender for operating routes - they win tenders - and get paid for operating the routes.

If your going to use the "remove the metro subsidies" line, then are you prepared to apply it to every single public transport company that tenders for council contracts?

Anonymous said...

This Liberty Scott is very out of touch. Dose this person realy know how much freight is carried on rail ? ? Now why should all that freight end up on our highways to clogg up our roads more and put the public who use our highways more at risk from trucks. Why do we have to drive our cars and be stuck behind trucks on our roads and this person wants it worse. This Liberty Scott does not think of people in the world as being equal. This persons political thoughts stand for people like him having five houses , two boats and many cars and holidays homes while the rest of us have nothing. The system we live by clearly does not work and when it falls over they expext the government to bail everything out ! Today and everyday there are so called business men that are ripping the system off and taking far more than they should be. On the same level there are people who have no food and no where to live and that is ok to this Liberty Scott as long as the business man can make his dollar. And Liberty Scott would also beleive in god so what does that say about who he is. Liberty Scott can not get his head around that it is peoples right to stick together and be a collective so he hates unions. Look at countrys that have removed there rail systems , The Philippines being an example. We live in a railway world and even a lot of third world countrys are building railways , And why ! Liberty Scott does not know ! What does that say about a person running a right wing blog like this ? There are not many taking notice of him and we as a country are lucky for that.
Is it ok to live in a world where some people are worth multy millions and others who work as hard only make $13 dollars an hour ? Liberty Scott thinks it is. Is it ok to live in a world where some people do not have anywhere to live and dont have enough food , Liberty Scott thinks that is also ok as he supports the right wing. Shame on you Liberty Scott. If your world was to change and you were to go through major hardships and perhapps not be able to own property and not be able to buy enough food would you still be saying the same things ? There is enough wealth in the world for everyone to be well off , What type of person takes everything when others have nothing ?
It will be interesting to see if this post is even posted ? Liberty if you reply to this post then please think hard before you type more rubbish,
In unity
Mike ( Greymouth )

Anonymous said...

I don't see what the issue is here. Both forms of transport are required in New Zealand. NZ has modern road vehicles and modern rail vehicles. Neither have a decent infrastructure to use so either way to make things good NZ needs a decent rail permanent way and some decent highways - all of which will cost heaps of dollars and road or rail user charges will not cover the development costs. No point in complaining as I suggest it will never change.

libertyscott said...

Anonymous 8.21pm: Yes, that's right, I am completely clueless. In a blog it is possible to describe to the n'th degree every detail and nuance. Look I helped write the Cabinet paper that bought back the Auckland rail network from Tranz Rail and advised Ministers on Auckland rail, I think I know what I'm talking about. Yes Veolia is the operator, Kiwirail is a contracted supplier to it.

You are playing semantics to claim that it "isn't a subsidy" for Auckland Council to use ratepayers money and central government funding to pay for a service that the users only contribute one-third of the costs of operating. Of course it is. If Auckland Council and WRC didn't seek to subsidise rail services, they would be drastically curtailed because users wouldn't be willing to pay for them.

Yes I will argue it for every public transport company that tenders for subsidised services (which is what they are) in the same way.

I'd also argue that if Wellington had efficient road pricing, commuter rail (except the J'ville line) would probably stand on its own feet (Auckland's is less likely to do so).

I'm not picking on Kiwirail regarding commuter services, but the claim it is some great successful business is a bit rich. It exists because the state chooses to bail it out for primarily political reasons.

libertyscott said...

Mike: You've read nothing, you've simply gone on a rant. The fact you can even claim I believe in god is ludicrous. I'm an atheist and have written about it several times.

Yes I know how much freight is carried on rail, and if you read the article and the other articles you'd note that I do think rail is viable in New Zealand. Let the Northland, Gisborne, Taneatua bits get run into the ground, and stop wasting capital on lines and services that carry nothing.

The Napier-Gisborne line has, at best, had one fertiliser train a day, each way for over a decade, despite much political support keeping it hanging on, it simply doesn't provide a route that serves the needs of inbound and outbound freight from Gisborne. Closing it would add an additional truck every 3 hours to the existing highway. Nobody would notice.

I think all people should be equal under the law, but no I don't believe everyone is equal or should have equal property, because you only reap what you sow. A man who works 18 hour days striving to start up a business, taking risks, creating and producing should not have the same as someone who wakes up at noon, wants others to provide for him and seeks to do little work, and live a life of leisure. Those who tried to enforce equality stole and in some cases murdered those who got in their way - the Khmer Rouge being the most extreme.

By the way I rent, own one car and have no property, and by no stretch of the imagination do I think the "system we live by" is the one I support. Find a single libertarian who supports bailing out businesses or banks. Find a single libertarian who thinks people should go without food. You think the only way the poor should be helped is by people living their lives, with the state confiscating much of their income and then dishing it out like some paternalistic big brother. I believe that people should actually give a damn themselves, give to charity, help the less fortunate, be magnanimous by sharing the values of being human. This strawman of people who aren't Marxists want to trample on the poor is false, you need to talk to people other than your comrades.

I've never argued that people shouldn't choose to form unions and collectivise themselves if they wish. However, I've observed unions acting like those they criticise - like Bob Crow in the UK on a 6 figure salary whilst proclaiming he cares about the poor. Maybe unionists need to learn economics and throw away Das Kapital.

YOU say is it ok for some people to have a lot of wealth while some people "who work as hard" get $13 an hour. Who measures that? Isn't the correct measure of value what people are prepared to pay? Some people get paid little because there are thousands of others with the same skills and knowledge, and so they can be replaced. Others are worth a fortune because they created something new that many people wanted. The world is full of entrepreneurs, almost all with a low profile, who started with little and created businesses for themselves. Do you think the person who wants to spend his life stacking shelves should get the same?

Look at your philosophy in action, it has been implemented in a series of examples. The two Germanys (were) and the two Koreas are stark in their differences. Why? Because one embraced capitalism (in a diluted form) allowing people to succeed and fail and be entrepreneurial, the other tried to "share the wealth", and stagnated (and had to keep the people behind walls to stop them fleeing).

I'm not right wing. I don't vote National. I believe in freedom and the capability of people to solve problems, create and live their own lives as they see fit.

My grandfather worked on the Glasgow docks and was a card carrying member of the Labour Party, I do have some idea of the feelings and thoughts of the self-styled "working class".

libertyscott said...

Anonymous 2.23AM: I think NZ's highway infrastructure is actually pretty good, and indeed since the mid 1980s road users have paid the full costs of maintenance and capital on the state highway network.

Rail users only did during the brief commercial and privatisation periods, which both required the infrastructure to be run into the ground on lightly used lines. The argument really is whether the rail network should continue to exist where there is insufficient business to pay for the cost of capital.