Bosnia and Herzegovina Railways Policy Note The status of the railway sector and policy options for improving its effectiveness while harmonizing with European Union requirements The World Bank October 2016 BiH Railways Policy Note Acknowledgements.............................................................................................................................. 3  Summary of Findings and Conclusions ............................................................................................. 7  Part A  Background and overview ................................................................................................. 23  A.1   Origins and aims of the Policy Note ............................................................................. 23  A.2  Functional map of BiH’s railway sector ....................................................................... 24  A.3  EU-Bosnia and Herzegovina, Stabilization and Association Agreement (2015) ..... 25  A.4  Structure, strategy and management ......................................................................... 26  A.5  Effect of a two-railway system on policy options ..................................................... 27  Part B  Railways of the Federation of Bosnia and Herzegovina ................................................ 29  B.1.  Current status of the railway in FBH .......................................................................... 29  B.1.1  Overview of railway........................................................................................................ 29  B.1.2   ŽFBH financial status .................................................................................................... 33  B.1.3  Alignment with EU Acquis ............................................................................................. 35  B.2.  Rail industry structure options .................................................................................... 36  B.2.1  Industry structure alternatives .................................................................................... 36  B.2.2  Basic organizational form of state-owned railway enterprises ............................... 36  B.2.3  Location of a passenger rail management in the structure ...................................... 38  B.2.4  Exercise of state share-owning functions .................................................................. 38  B.2.5  Private participation in the Operating Company ....................................................... 39  B.2.6  Implementation issues .................................................................................................. 40  B.3.  Railway development policy ......................................................................................... 41  B.3.1  Key policy options .......................................................................................................... 41  B.3.2  Employment policy options ........................................................................................... 41  B.3.3  Passenger service policies ............................................................................................. 43  B.3.4  Rail freight policies ......................................................................................................... 44  B.3.5  Rail infrastructure investment policies ....................................................................... 45  B.3.6  Combined development policies ................................................................................... 46  B.3.7  Policy Implementation Issues ....................................................................................... 47  Part C  Railways of the Republika Srpska .................................................................................... 51  C.1.  Current status of the railways in Republika Srpska ................................................. 51  C.1.1  Overview of railway........................................................................................................ 51  C.1.2  ŽRS financial status....................................................................................................... 55  C.1.3  Alignment with the EU railway acquis ......................................................................... 57  C.2.  Rail industry structure options .................................................................................... 57  C.2.1  Industry structure alternatives .................................................................................... 57  C.2.2  Basic organizational form of state-owned railway enterprises ............................... 58  C.2.3  Location of a passenger rail services in the structure............................................... 59  C.2.4  Exercise of state share-owning functions .................................................................. 60  C.2.5  Private participation in the Operating Company ....................................................... 61  C.2.6  Implementation Issues .................................................................................................. 61  C.3.  Railway development policy options ........................................................................... 62  C.3.1   Key policies ..................................................................................................................... 62  C.3.2  Employment policy options ........................................................................................... 62  C.3.3  Passenger service policy................................................................................................ 64  C.3.4  Rail freight policies ......................................................................................................... 66  1 BiH Railways Policy Note C.3.5  Rail infrastructure investment policies ....................................................................... 67  C.3.5  Combined development policies ................................................................................... 68  C.3.7  Policy Implementation Issues ....................................................................................... 69  Part D  Implications for Entity governments and BiH ................................................................ 71  D.1.  Co-ordination between Entity railways and the role of BHŽJK ............................... 71  D.1.1  Entity Train Operating Companies .............................................................................. 71  D.1.1  BHŽJK and Entity Infrastructure Management Companies ..................................... 72  D.2.   The Role of the Rail Regulatory Board ........................................................................ 73  D.3.   Railway infrastructure investment funding ............................................................... 74  D.3.1 Adopting a multimodal approach to investment planning ......................................... 74  D.3.2  Raising additional investment funding for railways .................................................. 75  D.4.  Towards an Action Plan ................................................................................................. 76  ANNEX I: Current legal and institutional framework ............................................................... 79  I.1  Main Institutions ............................................................................................................ 79  I.2  BiH Law on Railways (2005) and Railway Regulatory Board ................................... 79  I.3  FBH Railway Law (2001) and status of FBH Railways .............................................. 82  I.4  The RS Railway Laws (2001 and 2016) and status of ŽRS ...................................... 84  I.5  Bosnia and Herzegovina Railways Public Corporation .............................................. 87  I.6  EU-Bosnia Stabilization and Association Agreement (2015).................................... 89  ANNEX II: Summary of EU acquis in the railways sector and status of implementation in Bosnia and Herzegovina ................................................................................................................ 91  II.1  The EU Rail Acquis ......................................................................................................... 91  II.2  The First EU Railways Package .................................................................................... 91  II.3  The Second EU Railways Package ................................................................................ 93  II.4  The Third EU Railways Package ................................................................................... 94  II.5  Further developments and the Fourth Railway Package .......................................... 95  II.6  Status of implementation in Bosnia and Herzegovina .............................................. 98  ANNEX III: Evaluation of Organizational Forms of Rail Enterprises ..................................... 101  III.1  Introduction .................................................................................................................. 101  III.2  Structure of state-owned railway companies among EU member states............ 101  III.3  Evaluation of alternatives for application in BiH...................................................... 103  ANNEX IV: Operational and Financial Performance of the Railways of Federation of Bosnia and Herzegovina ........................................................................................................................... 107  IV.1  The role of railways in FBH.......................................................................................... 107  IV.2  ŽFBH Network assets .................................................................................................. 109  IV.3  ŽFBH rolling stock ........................................................................................................ 109  IV.4  ŽFBH Human resources ............................................................................................... 110  IV.5  ŽFBH Financial performance ...................................................................................... 111  IV.6  ŽFBH Financial Model .................................................................................................. 113  ANNEX V: Operational and Financial Performance of the Railways of Republic of Srpska 119  V.1  The role of railways in RS ............................................................................................ 119  V.2  ŽRS Network assets .................................................................................................... 121  V.3  ŽRS Rolling stock ......................................................................................................... 122  V.4  ŽRS Human resources ................................................................................................. 123  V.5  ŽRS Financial performance ......................................................................................... 124  V.6  ŽRS Financial Model ..................................................................................................... 127  2 BiH Railways Policy Note ACKNOWLEDGEMENTS This Policy Note was funded by a generous grant from the Swedish International Development Agency (SIDA). This activity is expected to contribute towards the wider public sector reform for strengthening public administration and improving the quality of public services as outlined in the 2014 – 2020 Results Strategy for Sweden’s Reform Cooperation with Eastern Europe, the Western Balkans and Turkey. The Note was prepared by a World Bank team led by Antonio Nunez, Transport Specialist, and Baher El-Hifnawi, Lead Transport Economist. The team consisted of Paul Amos, Martin Baggott, Richard Bullock, Evgenia Epaneshnikova, Senad Sacic, Liljana Sekerinska and Kwangho Shin. The Note benefited from the comments of Peer Reviewers: Antoine Kunth, Simon Davies and Nedim Begovic. The World Bank team would like to thank its counterparts in Bosnia and Herzegovina for fruitful discussions, consultations, ideas and access to data and information. These counterparts include management and officials from the Ministry of Communications and Transport of Bosnia and Herzegovina, the Bosnia and Herzegovina Railway Corporation, the Bosnia and Herzegovina Railway Regulatory Board, the Ministry of Transport and Communications Federation of Bosnia and Herzegovina, Željeznice Federacije Bosne i Hercegovine, (Federation of Bosnia and Herzegovina Railways), the Ministry of Transport and Communications Republic Srpska, the Ministry of Finance, Republic Srpska and Željeznice Republike Srpske, (Republika Srpska Railways). The findings, interpretations, and conclusions expressed herein are those of the authors and do not necessarily reflect the views of the Board of Executive Directors of The World Bank or the governments they represent. 3 BiH Railways Policy Note CURRENCY EQUIVALENTS Exchange Rate Effective December 7, 2015 Currency Unit: Bosnian Marks (BAM) BAM 1.0 = USD 0.55 USD 1.00 = 1.81 BAM ACRONYMS BAM Bosnian Mark BiH Bosnia and Herzegovina BiHMOT Ministry of Communications and Transport of Bosnia and Herzegovina BHŽJK Bosanskohercegovačka Željeznička Javna Korporacija, (BiH Railways Corporation) RRB Bosnia and Herzegovina Railway Regulatory Board CEF Connecting Europe Facility COM Council of Ministers of Bosnia and Herzegovina COTIF Community of the Inter-governmental Organisation for international carriage by railways ERA European Railway Agency EU European Union EUR Euro FBH Federation of Bosnia and Herzegovina MAIC Multi-annual infrastructure contract ntkm Net tonne-kilometers (a unit of one tonne of freight carried one kilometer of distance) Public Service Contract (herein used in context of a contract for railway passenger PSC services) RFC Rail Freight Corridor RS Republika Srpska SAA EU-Bosnia and Herzegovina Stabilization and Association Agreement (2015) SEETO South East Europe Transport Observatory TERFN Trans-European Rail Freight Network Željeznice Federacije Bosne i Hercegovine (Railway of the Federation of Bosnia and ŽFBH Herzegovina) ŽRS Željeznice Republike Srpske (Railway of the Republika Srpska) 5 BiH Railways Policy Note SUMMARY OF FINDINGS AND CONCLUSIONS Purpose of the Policy Note This Policy Note has been prepared to assist the governments of the Entities in Bosnia and Herzegovina to better understand the current conditions of the railway sector, assess the policy options for modernizing it and help chart a course ahead. Railway performance is benchmarked against a number of regional comparator countries and against the EU average. The financial performance of each railway has been examined by main business sectors (freight, passenger and network infrastructure) using a railway cost allocation model developed by the Bank. Sector policies have also been assessed in terms of budget impact. Public policy decisions on the railway sector are the prerogative of the governments of the Entities. To help inform their decisions a range of structural and policy options is presented, their key features delineated and relative merits discussed. The range of policy options has been discussed with representatives of the Entity governments and railways but no endorsement of any policy option has been given at this stage. The Policy Note does present the Bank team’s opinions on certain of the options where this seems warranted but is not intended to be prescriptive. The institutional framework Bosnia’s legal framework 1 for the sector has established a two-railway system with two centers of governance, one railways corporation and one BiH regulator. In the Federation of Bosnia and Herzegovina (FBH) the railway is managed by Željeznice Federacije Bosne I Hercegovine (ŽFBH) and in Republika Srpska by Željeznice Republike Srpske (ŽRS). The Entity governments are majority (though not exclusive) owners of the railways located within their territory. They are responsible for its policy framework, performance oversight, and budgetary support as well as for the inter-entity coordination through the Railways Corporation (BHŽJK). At the BiH level, the Railway Regulatory Board (RRB) is responsible for international regulation. Figure 1 is a functional map broadly describing the ‘de facto’ roles of the main institutions. The sector faces three critical policy challenges relating to international obligations, sector strategy and company performance. 1 The Dayton Agreement and the Constitution are the main legislative framework of Bosnia and Herzegovina. 7 BiH Railways Policy Note Figure 1. Distribution of railway sector functions among institutions in BiH territory of territory of Function Federation of Bosnia and Republika Srpska Herzegovina BiH multi-modal transport Council of Ministers (CoM) of BiH in collaboration with the strategy (preparation in progress) Entities and Brčko District International railway economic and safety BiH Rail Regulatory Board (RRB) reporting to CoM regulation Inter-entity technical BiH Railways Corporation (BHŽJK) reporting to the Entities standards & coordination Entities multi-modal transport policies Intra-entity railway policy, Government of FBH Government of RS planning and regulation (MoTC, MoF) (MoTC, MoF) Public budgetary support Government of RS, pension Ownership of railway Government of FBH and some fund and some private company private shareholders shareholders Railway network infrastructure management ŽFBH ŽRS Railway transport operations The Law on Railways of Bosnia and Herzegovina of 2005 was intended broadly to reflect European Union directives for railways. The law provides for a degree of separation between railway transport services and infrastructure management, introduces License and a Safety Certificate for train operators, the establishment of a Railway Regulatory Board, and introduction of the concept of a track access fee. The law indicates that its purposes are to ensure the development of a sound railway transport system with effective competition among train operators and with other transport modes, to ensure non-discriminatory access to railway infrastructure, to encourage efficient and transparent management of the railway sector, to follow prevailing international practices and applicable directives of the European Union, to promote a safe and efficient railway transport system, and to ensure fair and efficient regulatory decisions. The Law on Railways of Federation of Bosnia and Herzegovina makes the ŽFBH the manager of railway infrastructure in FBH and adopts some similar articles to the BiH law in terms of vertical separation and competition. FBH is the owner of the railway infrastructure2. The law was established in 2001 and amended in 20123. According to the law, 2 Although the law specifies that FBH is the owner of the railway infrastructure, currently 8.2% of ŽFBH belong to private shareholders. 3 Amendment published in the Official Gazette of FBiH, issue No. 25/12 whose objective was for the FBiH Railways to continue their operations as a limited liability company. The amendments reduced the number of members of the Supervisory Board (Management Board) from 11 to 7, and a new article was added, Article 21a, according to which the company is under obligation to act in compliance with the decisions of the Regulatory Board as determined in the Law on Railways of BiH. 8 BiH Railways Policy Note competition in the railway market through entry of a new company is possible as ŽFBH shall allow approved operators access to railway infrastructure without discrimination if operators accept designated railway routes and pay an adequate infrastructure fee to ŽFBH. The law mandates accounting separation (but no other degree of separation) between infrastructure management and transport operations. The law provides a basis of compensation by the Entity government and Cantons to reimburse ŽFBH for loss-making railway passenger services. However, there is no specification of contract form, scale of compensation or how to calculate the amount. A new Railways Law in RS is under preparation to be harmonized with the EU rail acquis. The draft law as published in March 2016 proposes to restructure ZRS to promote its financial stability, and for the railway network to be integrated into the European network. The draft law divides roles of the entity government, the infrastructure manager and the train operator, introducing vertical separation in railway transport with the possibility for third party operators to enter the market. The draft law in its current form does not establish the principles for calculating the infrastructure access fees. Also, the draft law does not provide the basis for estimating and contracting for payment of Public Obligation Services for non- profitable passenger lines. A more comprehensive review of the railways organization and laws is provided in Annex I. Although the institutional arrangements in BiH are particular to the country, the two railways themselves are relatively straightforward and share many of the features and problems of state-owned railways worldwide. The Policy Note benchmarks performance at the Entities’ levels and first considers the options within the current framework of roles and responsibilities, taking the current arrangements as the starting point. The similarities in the role, structure and transport functions of each railway means that the policy issues and options are also much the same and would not be materially different if the two railways were one. However, the need for each Entity to consider new structural arrangements in response to BiH agreements with the EU also offers opportunities for the Entity governments to reconsider how best to co-operate to mutual advantage in the European railway market. These wider dimensions and possibilities are therefore also addressed in the Policy Note. Railway performance FBH’s network has about 600km and is the most intensely-used freight railway in the region with about 1.4 million tonnes per route-km, nearly 20 percent higher than the EU average. In 2014, ŽFBH carried 8.5 million tonnes for 885 million net tonne-km. ŽFBH achieves good locomotive and wagon productivity though an already old fleet continues to age. Despite low labor productivity and the poor overall financial results, the freight sector earns a creditable surplus above operating costs. Passenger rail services however make a near- negligible contribution to FBH’s overall personal mobility needs. In 2014, ŽFBH carried 355,000 passengers (fewer than 1,000 passengers/day). With an estimated total passenger operating costs of about BAM 23 million, the financial results for the passenger sector represent a poor use of operating resources and a financial drain on the surplus from freight operations. Because there is a heavy implicit subsidy from the freight to the passenger sector, the ability of freight to contribute to infrastructure costs is correspondingly low. 9 BiH Railways Policy Note The railway network in the Republika Srpska consists of 426 route-km (of which 353 route-km are in use) being one of the smallest networks in the Western Balkans region. ŽRS freight traffic density of about one million tonnes/route-km is high compared to neighboring countries and about 80 percent of the EU average4. In 2015, it carried around 5 million tonnes for 428 million net tonne-km (ntkm). Despite a weak overall financial status, ŽRS actually earns a healthy surplus on freight operations relative to its operating costs. By contrast, there are substantial losses on passenger services, even allowing for revenue support from the budget. Passenger rail transport is marginal to the RS’s overall transport system, carrying only about 460 passengers/day. Passengers have declined in recent years and train occupancy now averages only about 14 passengers/train equivalent to less than half a bus- load. Even with RS budget support, passenger unit revenues cover around a third of direct expenses of passenger services and 16 percent of total operating costs. ŽRS is not financially sustainable in its current role and form. The amount of total revenues, including budget support, was just about sufficient to cover cash operating expenses, with labor costs representing a disproportionate component of the cost structure of ŽRS. The policy challenges Restructuring for compliance with the EU railway acquis A specific policy challenge is to meet the terms of EU-Bosnia and Herzegovina Stabilization and Association Agreement (2015) as they apply to the railway sector. The obligation is to harmonize sector policies with the EU railway framework of directives and regulations (the ‘EU railway acquis’). The framework needs action in a number of areas to become compliant. The areas that most immediately bear on responsibilities currently exercised by the Entity governments are those related to institutional structure, track access, budgetary support for passenger services; budgetary support for infrastructure; and debt sustainability. Compliance requires both structural and process changes in the railway sector. Implementation of an affordable sector strategy A second and more long-standing policy challenge is the need for both Entities to settle on a financially sustainable railway sector strategy. Annual deficits recur year after year, even after receiving budget support from the respective Entity governments. This is partly due to railway employment policies and partly due to underfunded passenger losses. Over 97 percent of the traffic of both railways is freight, and both earn a creditable surplus on freight transport relative to operating costs. But nearly half of all the train distance run (42 percent in FBH and 49 percent in RS) comprises passenger trains. They carry few passengers but are a huge cost burden which consumes most of the freight surplus, which is therefore not available to re-invest in the freight rail business or contribute more to the upkeep of the infrastructure networks. To illustrate the scale of this problem if, in compliance with the EU rail acquis, passenger services had been adequately reimbursed through Public Services Contracts (PSC) in 2014, the average subsidy per return trip would have been about BAM 108 in FBH, and BAM 168 in RS. While providing subsidies for non-profitable passenger lines through PSC is allowed, cross-subsidizing passenger trips from freight earnings is contrary to 4 Considering only the network length currently in use, this number is 1.2 million tonnes/route-km and equals the EU average. 10 BiH Railways Policy Note the EU rail acquis, but more crucially is a poor use of resources as better passenger services could be offered at lower costs using intercity buses. Moreover, cross-subsidizing passenger services by freight increases the cost of doing business for firms relying on the railway freight, reflected in a high average freight rate compared to neighboring countries. New sector policies are essential to make the railway system more cost-effective and sustainable. Adoption of a commercial management culture The third challenge is an extension of the previous two and is the imperative for railways to become, and be allowed by their owners to become, more commercially-focused. Both geopolitical and structural economic changes in the region mean that traffic levels can never reach historic levels experienced as part of the former Yugoslavia nor justify the levels of employment and assets that those high traffic levels supported. It is important that railway managements be allowed and encouraged to adopt a more commercial ‘zero-based’5 approach to the assets, human resources, operating and maintenance standards, workshop requirements, work practices and business processes they need to be successful in the future. In the short-term this is needed to make the railway sector affordable. In the longer-term it is necessary to give the industry a better chance of being successful in an integrated European transport market. Strengths of the sector In contemplating options, BiH starts with some strong and positive features - it has the two busiest railway networks in the Western Balkans region. The overall traffic density per route-km in BiH is the highest in the region. The density of freight traffic is comparable with the EU (some 80 percent of the EU average in RS6 and 119 percent of the EU average in the FBH). Moreover, most of BiH’s network is main-line and it does not have a large sub-network of underutilized branch lines which have been a formidable and enduring financial burden in most other countries in South East Europe. The basic infrastructure and rolling stock allow the companies to provide a reasonable freight service for most traffic realistically available. These fundamentals would allow substantial improvement in cost-effectiveness if railway sector policies were matched to the country’s markets, scarce budget resources more productively used than they are now, and railway managements permitted and encouraged to run the railways as commercial transport businesses. The structural options The Entity governments have various structural options in the way they configure the railways they own which could each be consistent with the EU railway acquis. Among the alternatives considered in the Policy Note are: whether to adopt a group company structure or separate companies; the institutional arrangements for delivery of passenger services; whether the ministry performing the policy functions of the sector should also administer the government’s share ownership in public railway companies; and whether to privatize the freight transport operations (Figure 2). 5 Zero-based approach is a budgeting process that asks managers to build a budget from the ground up, starting from zero and allocates funding based on program efficiency and necessity rather than budget history. 6 Considering only the network length currently in use, this number equals the EU average. 11 BiH Railways Policy Note Figure 2. Railway Industry Structure: The Main Options Key issue Structural Alternatives Basic organizational Separate Infrastructure Group structure with holding form of state-owned Management and Transport company railway enterprises Operating companies Subsidiary or Subsidiary in Independent freight Location of a passenger Business Division of holding company and passenger rail management Transport Operating structure companies Company A specialized central Exercise of Entity share- Line Ministry Shared ‘ownership’ agency or owning functions (MOTC) between ministries department Private participation in Retain public Transfer to private the state railway ownership owners/investors operator Holding company structure or separate companies (without a holding company) The most pressing structural issue is the institutional form of what are currently vertically integrated companies. The EU railway acquis allows a group structure with a holding company. Four EU countries use such model, the nature and merits of which are discussed in the Note. In the case of small railways similar to the ones in BiH, such a structure seems too ‘top-heavy’ and bureaucratic. The Bank team’s view is that the simplest and most straightforward approach in each Entity is to create two separate companies: an Infrastructure Manager and a Transport Operating Company (13 EU countries have opted for such separation). Synthesized structures including a number of specific arrangements are found in other EU countries. Institutional separation would avoid the ambiguity and potential conflict of interest inherent in a group structure. The preference for separation is reinforced by the added weight the team gives to two factors in the evaluation criteria: first, there is the expectation under separation that clarity and focus in roles would lead to better management of the individual infrastructure and transport operating companies; and second it would enhance their ability to determine their own business strategies in the context of a European railway system in which each will have different opportunities and constraints, and sometimes different interests. Passenger rail services management The Bank team’s favored approach is that passenger service management be established as a separately-accounted division or subsidiary of the Operating Companies. The EU rail acquis would require separate accounts be kept for the passenger division activities in order to verify and agree on the costs of the passenger Public Service Contract. Alternatively, the passenger company could be a specialist subsidiary of the Operating Company, buying in most of its services (e.g. crew, rolling stock maintenance) from the main company at properly verified transfer prices. 12 BiH Railways Policy Note Vesting of government’s share ownership Following the changes in company structures, it is considered better to vest the ownership of the government’s shares in new companies in a central agency or ministry of government other than the line transport ministry. There are potential conflicts of interest when a line ministry is both railway policy-maker and railway owner. Moreover, under the EU model the relationship between a line ministry as ‘customer’ and a railway enterprise should be governed by contractual arrangements that embody public policy aims. The owner and customer roles should clearly be kept separate. At the time of formation, it is considered better, if the option is available, to vest the ownership of the government’s shares in the two rail enterprises in a central agency or ministry that will not be responsible for negotiating the PSC and MAIC contracts. Given that a minor proportion of shares in each existing railway company are already privately owned, it would also seem appropriate to encourage or incentivize such shareholders to swap their shares in the current integrated company for shares in the Operating Company. This would leave the Infrastructure Manager as a fully publicly-owned company while the Operating Company would be part-private, with the possibility of increasing the private participation later on. Private participation in the Operating Company The Entity governments 7 currently hold majority ownership of existing companies but further privatization of the new Operating Companies is an option worthy of consideration. International experience and envisaged participation in a competitive European railway market suggest the government could benefit from considering the option of privatization before the market is opened up. When the railway freight market becomes contestable each Entity’s Operating Company will be vulnerable to competition for the best of their few markets. While the EU acquis does not favor either public or private ownership as a principle, the Bank’s international experience is that under public ownership, freight railway operators are less likely to grow into the high-efficiency, high-performing enterprises necessary to compete successfully both with the predominantly private road transport industry and the other operators in the emerging European rail freight industry. Privatization should be seriously considered while the Operating Company still has dominant freight market positions and before the market becomes contestable because the value of the companies will deteriorate once it is. Structural options: implementation issues Irrespective of whether a holding company is established or not, the creation of separate operating and infrastructure companies needs to be well-planned and implemented and not just be a process of dividing existing assets, liabilities and human resources. The intention of restructuring is not just to harmonize with EU structures but to create a more effective and sustainable railway industry. Separation of the current railway companies in the two Entities into infrastructure and operating companies appears likely to require a new Railway Law in each Entity with legal obligations on companies to implement those parts of the EU rail acquis that fall to them (for example, in the case of the Infrastructure Manager, the preparation and publication of the Network Statement and access terms and conditions). 7 In case of ŽRS, shares of state owned capital are managed by owners of shares: the Share Management Fund and the restitution Fund, which are within the structure of the RS IDB. 13 BiH Railways Policy Note The new companies should be established with a clear commercial mandate to operate their businesses in the most efficient and effective manner. Their opening balance sheets should carry only the assets they need and any obsolete or surplus assets disposed of as soon as possible. They should not be burdened with the transfer of unsustainable loan obligations which they are unable to service and repay and which are in practice funded from the budget. The new companies should ideally only take over the staff they need to run the companies efficiently. Unless these issues are addressed prior to separation and a robust implementation plan adhered to, the new companies will simply inherit and share between them the current problems and inefficiencies rather than having the opportunity to make a clean start. The policy options The Entity governments have policy options in four main areas of railway development policy: railway jobs policy, the future of passenger services, the future of freight services and the level of investment in infrastructure. The options evaluated are shown in Figure 3. The options have been grouped in different combinations to provide different reform scenarios. The combinations and their budgetary impacts are summarized in Tables 1 and 2 below. The World Bank team evaluated the policies using purpose-built financial models of each railway to estimate for the next 10 years (2016-2025) the total amount that each Entity budget would need to pay to sustain the railway financially though a combination of capital outlays and net operating deficit. Employment and productivity At the present employment levels, BiH’s railways will retain the lowest levels of labor productivity in the region and a cost to Entity budgets that past experience suggests is unaffordable. In both railways, labor costs constitute around two-thirds of operating costs. Employment levels have been heavily influenced by government job protection influences that in the ‘business-as-usual’ option would continue to amplify operating costs, reduce the funding available for equipment, works and services, and perpetuate labor-intensive operational practices that impede train operations. A second option of a sustained program of natural attrition of employee numbers would offer gradual improvements in productivity and budget affordability over a ten year period compared to doing nothing. In this case the net operating deficit prior to budget support over ten years could be cut by around half in FBH and by about 40 percent in RS. The adoption of railway labor restructuring programs in line with market demand and reasonable levels of labor productivity in each Entity would offer much greater efficiency and long-term competitive benefits in a single European railway market. The target in this third option would be to achieve regional best productivity by 2025, which should be facilitated by BiH’s relatively high traffic density and freight predominance (though the 2025 labor productivity levels would still be below EU average levels). In this case the net operating deficit prior to budget support could be cut by around 25 percent in FBH and by more than 90 percent in RS. 14 BiH Railways Policy Note Figure 3. Railway Industry Policy: The Main Options Key issue Policy Choices Reduce employment Employment and Maintain current Adopt an early labor through natural productivity employment levels restructuring policy attrition Rail passenger public Invest in improved Discontinue rail Current service level services passenger services passenger services Third-party freight Contestability of freight No competition in competition market foreseeable future from 20208 Prioritize train Investment in railway Current investment control and Train control plus network infrastructure levels associated increased line speeds improvements Rail passenger services Passenger rail services cost far more than the Entities’ budgets have shown willingness to fund but make a near-negligible contribution to BiH’s overall personal mobility needs. Passenger traffic density per network-km in both Entities is less than 2 percent of the EU average. In 2014 ŽFBH carried fewer than 1000 passengers/day (around 21 passengers/train) and ŽRS around 450 passengers/day (14 passengers/train). Improving labor productivity would help cut cost, but the basic problem is that trains are being run to serve passenger markets for which the use of railway technology is wholly uneconomic. Doing business as usual is an inherently unattractive option as it involves the Entities paying much more money than they do now (to avoid cross-subsidy) for a low quality service performing a minimal transport role. A range of options for passenger services, ranging from rail services to be discontinued and public transport provided by good replacement bus services, to the rail services to be improved to attract a bigger market and perform a more significant role, is available. Withdrawal of obligations to operate passenger rail services would beneficially transform the economics of each railway company and the budget support they require. In concert with higher labor productivity, this option would just about eliminate the need for net operating cost support from the budgets of the Entities. The Operating Companies would then be capable of operating profitably in their freight markets and, depending on their track access charges paid to the Infrastructure Manager, network infrastructure might nearly recover its operation and maintenance costs so requiring capital support only. The option of reinvigorating passenger services by investing in modern rolling stock and providing better services on the main passenger routes could generate more passengers but its budget impact would be severe. The indicative policies tested in the Policy Note could increase passenger numbers by about 60- 65 percent. More efficient rolling stock would also provide some unit operating cost savings although these would be more than consumed by increasing service frequency to more attractive levels. This would result in an increase in the 10-year budgetary impact compared to discontinuing services would be about BAM 580 million 8 If the EU railway acquis is adopted this is not a strategic choice but will depend on the market. However, the two alternatives are included to illustrate what impact significant competition could have on sector finances. 15 BiH Railways Policy Note in FBH and about BAM 91 million in RS (considering productivity improvement by labor restructuring). While discontinuing passenger services is politically problematic, and reinvigorating may be unaffordable, there is a need for an informed assessment and implementation plan. An intermediate option would consist in identifying the services that should be kept and that Governments can afford to subsidize through Public Service Contracts. This would require a wider potential catchment survey of passenger transport demand that might be attracted to an improved railway service as well as detailed economic, social and environmental appraisal of the investments required. A much more explicit Public Service Contract would also need to be developed with a verifiable costing procedure that meets EU approaches. Rail freight services The strategic imperative is to try to hold onto the freight already carried and minimize vulnerability to envisaged third-party competition through efficiency improvements and customer service. In accordance with the EU rail acquis, freight rail services should be competitive and financially self-sustaining without budget support for the train operations so that business strategy decisions and rolling stock investment would be essentially matters for the operating company management rather than governments. It has not been possible to discern any substantial new commodity flows that railways could realistically target in RS. In FBH, there are potential traffic movements to/from the Port of Ploče that may be transferable to rail. Other things being equal (and without third-party competition) if railway freight in FBH could be increased by about 30 percent, the net operating results of the company could be improved over the ten year period by about BAM 100 million. With track access, the concentrated market of a few large bulk customers could be attractive to third-party competitors in both Entities. Infrastructure access rights would tend to pressure freight rates downward (which is the aim of competition) and probably reduce the volume of traffic carried by the Entity-owned Operating Companies. Naturally, if new operators were to win part of the freight market they would still pay track access charges for infrastructure and so the income of infrastructure management companies would not be diminished. Competitive markets are never predictable, but noting the competitive vulnerabilities, an indicative scenario was tested in which by 2025 the Company’s markets would be reduced by 50 percent. This would increase the operating support required in FBH by BAM 77 million and in RS by BAM 45 million over the 10 year period because the increased track access income from third-party operators would not compensate for the anticipated reduction in net operating surplus from freight by the Entity-owned Operating Companies. In practice, sufficiently entrepreneurial managements might preserve more of their pre-existing freight markets but it is also possible that the impact could be greater. Rail infrastructure investment policies The Policy Note considers three development policies for the infrastructure sector depending on the level of investment that government wishes to make in the railway network. One policy is to sustain investments at the current level but this would perpetuate a number of operational problems. A second policy is to increase investment levels giving priority to the creation of an improved train control system which would include overcoming the numerous delays currently associated with train operations at level crossings. A third 16 BiH Railways Policy Note policy is to add to the train control system improvements yet higher investment so as to achieve higher line speeds. Comparisons of the budget impact are given in the Sections B and C of the Note. In the view of the Bank Team, investment in train dispatching and control (including level crossing control) to reduce operational delays and labor costs is the highest priority capital investment in both Entities. There is also an additional case for rehabilitation of tracks on the more problematic track sections of Corridor Vc connecting Bosnia to the port of Ploče in the south and to Central and Western Europe in the north. Summary of the budgetary impacts Tables 1 and 2 below show the budgetary impacts for the three scenarios as well as for different combinations of policy options for FBH and RS respectively. Table 1 Budgetary impact of combined policies for FBH Policy combinations9 Current passenger Labor restructure Medium network Current network Budgetary High passenger Labor attrition No passenger High network Current staff investment investment investment impact services services services 2016-2025 (BAM millions) Case 1 business-as-usual    347 Case 2 labor attrition    221 Case 3 labor    148 restructuring Case 1 + pax investment    769 Case 2 + pax investment    719 Case 3 + pax investment    600 Case 2 + no pax    151 Case 3 + no pax    20 Case 2 + train control   237 Case 3 + train control   225 Case 2 + high investment    541 Case 3 + high investment    533 No pax + train control    35 9 All policies include third-party freight train operator access from 2020, which is an essential element of the EU railway acquis 17 BiH Railways Policy Note Table 2 Budgetary impact of combined policies for RS Policy combinations10 Current passenger Labor restructure Medium network Current network Budgetary High passenger Labor attrition No passenger High network Current staff investment investment investment impact services services services 2016-2025 (BAM millions) Case 1 business-as-usual    328 Case 2 labor attrition    241 Case 3 labor    123 restructuring Case 1 + pax investment    335 Case 2 + pax investment    342 Case 3 + pax investment    143 Case 2 + no pax    205 Case 3 + no pax    52 Case 2 + train control   244 Case 3 + train control   127 Case 2 + high investment    269 Case 3 + high investment    152 No pax + train control    55 Policy options: implementation issues All of the main elements of the policy options require more detailed evaluation and planning prior to decision and implementation. A labor restructuring program should have a sound basis in future business needs of the companies. Their managements would undertake a fundamental re-evaluation of their ways of working to identify the most efficient labor force capable of meeting the traffic commitments they can reasonably foresee. A labor restructuring program would also need to be able to demonstrate that it is fair and transparent, that full consultation with the workforce and trade unions has taken place, and that funding is available for satisfactory compensation packages and supporting social/retraining programs. 10 All policies include third-party freight train operator access from 2020, which is an essential element of the EU railway acquis 18 BiH Railways Policy Note Deciding the future of passenger rail services requires a more detailed review of the public passenger transport market in the Entity corridors where passenger rail services currently run. More detailed passenger surveys could define the precise existing and potential markets for passenger rail service by origin-destination, journey purpose, age and gender, amongst other attributes. The option of withdrawing passenger rail services could then be accompanied by public transport policies to ensure adequate bus replacement services. Conversely, the passenger improvement policy option would require a more detailed economic, social and environmental appraisal of the investments required and a solid estimate of the costs of the Public Service Contract implied. (The financial model estimates suggest the budget support for such contract would need to be at many multiples of what government now pays for passenger rail services). Third-party access will become obligatory if the EU acquis is to be adopted, but many of the details of implementation and timing need to be determined. Good practice Network Statements are available from other EU Infrastructure Managers 11 . Track Access charges should be structured in accordance with evolving EU guidance. When freight traffic no longer subsidizes passenger traffic it could in principle make a significant contribution to network infrastructure costs relative to many European countries or rates could come down increasing the attractiveness of rail. There is a strong case to implement only after labor restructuring, the proper separation of the infrastructure management from operating companies, and when the latter have been given the opportunity to re-organize themselves for commercial effectiveness. The implementation of track access in 2020 that was assumed in the financial model may be a reasonable target to aim for. The final network investment programs would be developed by the management of the Infrastructure Management Companies in each Entity. The programs would need to be within a budget envelope agreed with Entity governments who will ultimately need to fund them. The program should cover a duration of at least five years and be renewable. The Note has concluded at a strategic level that greater centralization of train dispatching and control and better (and safer) control of level crossings is the main priority but there are track sections in both Entities where, if sufficient funds are available, a combined train control and track rehabilitation program could be a justified priority. A fuller investment appraisal could be used to optimize the projects which will provide highest returns. Implications for the railway sector at BiH level Coordination between the railway companies in RS and FBH The adoption of new structural arrangements to comply with the EU railway acquis will present Entity governments and railways an opportunity to consider how best to cooperate for mutual advantage in a European railway market. At present each railway enjoys de facto exclusivity in transport operations within its territorial boundaries. The most critical impact of the new structure will be the effective dismantling of both Entity and international boundaries so far as rail transport operations are concerned in accordance with the EU acquis. When the EU railway competition model is implemented, any train operating company licensed in the EU (including those of the two Entities) will be able to cross between the tracks of the FBH and RS Infrastructure Management Companies, and across those of 11 A template according to EU rules is available at www.rne.eu/network-statement. 19 BiH Railways Policy Note neighboring countries, as already happens daily throughout the European Union. The Entities should consider how they might productively cooperate in such circumstances. Cooperation between transport Operating Companies It is likely to be in the mutual interest of the Operating Companies to partner to undertake marketing and operations on a co-operative basis. Cooperation to provide ‘seamless’ inter-entity and international freight services would tend to strengthen the operating companies combined competitive position relative to new entrants. Cooperation also has advantages in regional markets in that ‘going it alone’ from the relatively small resource base of each Operating Company may well be to the advantage of other, larger European operators. Co-operation between Infrastructure Managers The EU railway framework means the physical interface between the two infrastructure management companies will become less important than the economic interface. The challenge will be to ensure mutually advantageous coordination of network statements, train control performance standards and track access charges. When the two infrastructure management companies are in place, BHŽJK could provide the technical resource and institutional forum for the entities infrastructure managers to agree to harmonize key aspects of their Network Statements (or to publish a combined Network Statement). This would lower the cost of doing business for firms using the railways. The role of the Railway Regulatory Board to meet the EU acquis A good regulatory capacity and effectiveness is imperative to meet the EU acquis and provide for market access. According to RRB, it is sufficiently empowered under the BiH Railway Law (2005) to perform licensing, economic regulation, safety regulation and other functions compatible with the EU railway acquis. It already performs a range of BiH-wide licensing, regulatory and safety functions under its legislation. But when the railway market in BiH is opened, the actual economic regulatory tasks will include the access to the network and track access charges. Although the BiH railway sector is smaller than many in the EU, it also has a bigger freight market than many, plus two international SEETO Comprehensive Network freight routes of wider regional significance (north-south Corridor Vc and east-west route 9a). Moreover, RRB will effectively be regulator of two entity rail markets, two infrastructure managers and access administration and pricing issues pertaining to two separately-owned and managed networks. Railway infrastructure funding Implementation of a multimodal planning policy in Bosnia could lead to an alternative allocation of network infrastructure development funds between roads and railways. A multimodal approach in planning and financing transport infrastructure could put in perspective the comparative advantage of the railways, their important role in Bosnia’s freight movements, the detrimental impact of overloaded trucks on roads and the environmental benefits of the railways. They could lead to an increase in the capital allocation for railways. An alternative or complementary policy consists in raising additional funds to be allocated to the railways. Such approach can either be applied under the current sector planning approach as dedicated funds for the railways or under a multimodal planning 20 BiH Railways Policy Note approach discussed earlier raising additional funds to be invested in all transport modes, but leading to higher investment resources for railways. There are a number of possible options for raising additional funds for transport investments. Traditional approaches include fuel taxes, classic road tolls, electronic distance- based tolling, vehicle registration and licensing fees, and freight related fees. In particular, fuel levies and electronic distance-based tolling have been successfully applied in Europe to raise additional funds for transport investments. However, each mechanism has its advantages and disadvantages and must be studied in detail before any attempt of implementation. Next steps and action plan It is anticipated that the Entity governments who own the two railways will, in consultation with their railway managements, now consider the various structural and policy choices presented and analyzed in this Report and their financial and other consequences. The strategic choices they make will determine the content and timing of actions to implement such strategy over the next few years. A preliminary roadmap presented by RS Government is described in section D4. Once the Entity governments have prepared a preliminary roadmap, the World Bank stands ready to work with them to identify a detailed Action Plan to bring about the desired transformation of the railway industry. Such Plans would be pursued with each Entity individually, reflecting the fact that their structural and policy choices may well differ. However, it would also be important to ensure that such Action Plans cohere with the overall policy and institutional framework in BiH to provide the most beneficial adaptation of the EU railway acquis for BiH as a whole. 21 BiH Railways Policy Note PART A BACKGROUND AND OVERVIEW A.1 Origins and aims of the Policy Note The railways of Bosnia and Herzegovina are passing through testing times: confronted by sovereign obligations requiring structural change; struggling to attain a financially sustainable transport role; and needing to adopt a more commercial orientation and culture. The sovereign obligations are contained in Bosnia and Herzegovina’s (BiH) Stabilization and Association Agreement (2015) requiring preparation for participation in EU railway acquis communautaire. The challenge of financial sustainability is demonstrated by continued inability or unwillingness of Entity budgets to meet the full costs of the transport role currently performed by the railway companies. These two challenges extend to a third: the imperative for railways to become, and be allowed by their owners to become, much more commercially-focused to make the railway sector affordable in budget terms and to give the industry the chance of being successful in an integrated European transport market. In contemplating solutions to these challenges BiH starts with one strongly positive feature– in traffic terms it has the busiest railway lines in the West Balkans region. The average traffic density per route-km in BiH is comparable with the EU average level and in FBH is higher. Moreover, its traffic profile is predominantly freight (over 97 percent of traffic units) on which each Entity’s railway company earns a positive financial surplus. The country also does not have a large low-density branch-line network to support which in many other countries in South East Europe has been found to be a severe financial burden on the state. These fundamentals would allow a substantial improvement if railway sector policies were to be matched to the country’s markets, scarce budget resources more productively used, and railway managements permitted and encouraged to run the railways as transport businesses. The Policy Note, financed by the Swedish Government, is intended to help the governments and railways in Bosnia and Herzegovina to identify the options and chart a course for moving forward. The reform of BiH railways has been identified by the BiH Council of Ministers and Entity governments as a priority. They recognize that the services provided by well-managed railways can provide wider transport economic and other benefits that can justify budgetary support. The EU railway acquis is partly about making that support explicit, targeted and transparent. This makes it easier to gauge value for money from public expenditures. It also helps ensure competitive neutrality between suppliers of transport services and minimizing cross-subsidies between passenger and freight sectors, and between infrastructure management and transport operations. The Policy Note identifies structural options for harmonization with the EU railway acquis and policy options for attaining a more sustainable industry. The Bank’s involvement in BiH builds upon a continuing commitment to support of the railway sector in the Balkan region. It follows the Bank’s previous railway policy and operational investigations and action plans: Railway Policy Notes for Serbia and Croatia; a multi-country study “Railway Reform in South East Europe and Turkey: On the Right Track?” reviewing the state of the sector in the region; and an update of the Regional Western Balkans Infrastructure Study (REBIS) identifying regional physical and non-physical priorities. The findings of those studies and the policy directions indicated are reflected in this Policy Note. 23 BiH Railways Policy Note A.2 Functional map of BiH’s railway sector Bosnia and Herzegovina’s railway institutional structure reflects its political structure. It is useful to distinguish between the key sector functions, such as policy-making, regulation, financing, etc. Figure A1 summarizes ‘who does what’ in the railway sector as it is in practice. There are some inconsistencies between the ‘de facto’ situation and founding statutes, as well as between different legislative instruments. Bosnia’s legal framework (described in Annex I) has established a two-railway system plus BiH institutions. The framework is governed by a BiH railways law and two Entity railways laws—one for the Federation of Bosnia and Herzegovina (FBH) and the other for the Republic of Srpska (RS). In FBH, the railway system is operated by Željeznice Federacije Bosne I Hercegovine (ŽFBH), while in RS, the railway is operated by Željeznice Republike Srpske (ŽRS). The Entity governments are majority (though not exclusive) owners of the railway network located within their Entity, and are responsible for its policy framework, performance oversight, and budgetary support. Figure A1 Distribution of functions among institutions in BiH territory of territory of Function Federation of Bosnia and Republika Srpska Herzegovina BiH multi-modal transport Council of Ministers of BiH strategy International railway economic BiH Rail Regulatory Board (RRB) and safety regulation Inter-entity technical BiH Railways Corporation (BHZJK) standards & coordination Entity multi-modal transport policies Government of FBH Government of RS Intra-entity railway policy, planning and regulation Public budgetary support Government of RS, pension Government of FBH and some Ownership of railway company fund and some private private shareholders shareholders Railway network management ŽFBH ŽRS Railway transport operations The basic structure of the railway industry itself is straightforward – each Entity’s railway is responsible to its Entity governments. Both railways are vertically integrated enterprises, managing both the railway network and transport operations (both passenger and freight) on their networks within a divisional structure, albeit with a procedure for separating (by estimation and assumption) the financial accounts of infrastructure and transport operations. Each railway’s Entity government is responsible for railway sector planning, regulation and funding. Both railway companies have a (minority) element of private ownership. ŽFBH is owned approximately 9 percent by private investors. ŽRS is owned 10 percent by pension fund, 5 percent by public organizations and 10 percent by private shareholders. Detailed descriptions, performance indicators and benchmarks for the railways are provided in Sections B (ŽFBH), Section C (ŽRS), and in the Annexes. The Entity governments formulate and adopt their own transport policies, including railway policies. The BiH State Level (Council of Ministers) has the authority to propose a multi-modal transport strategy for the country in collaboration with the Entities and Brcko 24 BiH Railways Policy Note District. A Strategy has been prepared and is in the process of adoption. This Policy Note has been prepared prior to the completion of strategy and without access to its findings and recommendations. Other railway sector institutions at inter-entity and BiH level reflect specific international agreements. The BiH Railways Corporation (BHŽJK), mandated by the Dayton Accords, was allocated a wide-ranging coordinating role by agreement of the Entities in 1998, though it performs a more specific and limited role in practice. With staff sourced from both railways it verifies technical standards to ensure interoperability throughout BiH, assembles long-term plans of railway development, and manages capital projects and funds financed by International Financial Institutions (IFI’s). BHŽJK management and making decisions on operations require the consent of entity governments (both for the founding and for the delineation of its mandate of the Corporation. The BiH Railway Regulatory Board (RRB), was formally established in 2008 and is responsible for state obligations with regard to railway licensing and rail safety regulation 12 . RRB is also intended to supervise the separation of accounts between operations and infrastructure and between freight and passenger services though in practice the two railway companies determine their own accounting separations. A.3 EU-Bosnia and Herzegovina, Stabilization and Association Agreement (2015) Under this Agreement 13 BiH undertakes to prepare for the participation of BiH in the implementation and future evolution of the railway acquis. Some of the foundations have already been laid14. The State Law on Railways of Bosnia and Herzegovina (June 2005) contains provisions broadly reflecting concepts in relevant EU directives, requiring the separation of transport services and infrastructure management, the obtaining of a license and a safety certificate to operate, and the establishment of the Railway Regulatory Board (RRB). However, there are substantial gaps in implementation of some provisions and deficiencies in the application of others. A more detailed ‘gap analysis’ against the requirements is provided in Annex II and summarized later in this Policy Note. The bottom-line is that the greater part of the transformation to a compliant and competitive market structure remains to be achieved. Adoption of the EU acquis per se is not of itself the goal of railway reform but an opportunity to create a more efficient and effective industry. In many parts of the world (Latin America, Australia, Africa), many governments have decided - with some justification - that the best policy for small freight-predominant railways is to sell or concession them as an integrated business to a private company with a degree of exclusivity in rights of operation. If there is no competition in the market for these railways, their tariffs are typically subject to regulation. However, this option is not consistent with the EU framework which prohibits such exclusivity and it is based on a wider a trans-national construct of the railway sector: each participating state’s railway network forms a part of the European-wide network and its rail user markets form part of a larger single but contestable market. The EU policy framework holds both opportunity and threat for BiH railway companies, but neither positive nor negative 12 At the operational level ŽFBH and ŽRS are separately members of the International Union of Railways (UIC). 13 Discussed in annex I. 14 World Bank (2010) Transport Sector Review: Bosnia and Herzegovina - the road to Europe. 25 BiH Railways Policy Note outcome are automatic: the balance of advantage gained will depend on public policy choices made with regard to institutional structure and sector strategy and on how successful railway managers are in responding to a more competitive and commercial market. A.4 Structure, strategy and management The Policy options that are subject of this Policy Note have been developed and evaluated at two levels: industry structure options and sector policy options. Institutional structure and sector policies are primarily the responsibility of governments and are therefore the key elements of policy analysis. They are interdependent but treated in this order because the undertaking to harmonize with EU railway acquis will drive the main structural features; governments will then need to pursue sector strategy within a compliant structure. The Note treats labor productivity as a sector policy issue (though in most industries it is a management issue) because railway labor levels have been heavily influenced by job protection policies rather than commercial needs and any restructuring of the labor force would require policy support. Figure A3 shows the two policy areas covered in the Note, but it also reminds that the third driver of sector outcomes is railway commercial management (Level 3). Commercial management is the responsibility of and performed by enterprises and not policy-makers: but it requires that sector institutional structure (Level 1) is designed to permit company managements to manage commercially at ‘arm’s length’, and that sector policies (Level 2) enable rail companies to be financially sustainable. Policy reforms in structure and strategy are, or should be, enablers of more commercially effective management: if they are not, then little practical change may be anticipated. Figure A2: Policy as an enabler of performance Industry   structure Sector policy Business  management The Note presents alternative structural options that could each be designed to be consistent with the EU acquis. Among the options considered in the Policy Note are: whether to adopt a group company structure or separate infrastructure and operating companies; alternative institutional arrangements for delivery of passenger services; whether the ministry performing the policy functions of the sector should also administer the government’s share ownership in public railway companies; and whether to privatize the freight transport operations. The advantages and disadvantages of options are assessed in the context of each of the two railways but taking account of international experiences. 26 BiH Railways Policy Note The sector policy options depend mainly on the level of public resources that Entity governments are willing to devote to railways in BiH. Entity governments have shown they are unwilling or unable to afford the railways as currently constituted. In the EU framework budget support for railways may come from funding of a passenger services contract (PSC), funding of network operations and maintenance through an infrastructure contract (MAIC), and loans, grants or sovereign guarantees for infrastructure or passenger rolling stock investment. The sector policy options examined are in four main areas: railway jobs policy, the future of passenger services, the future of freight services and the level of investment in infrastructure. The World Bank team has evaluated the strategies using purpose-built financial models of each railway to estimate for the next 10 years (2016-2025) the total amount that each Entity budget would need to pay to sustain the railway financially. A.5 Effect of a two-railway system on policy options The fact that there are two railways in BiH does not significantly affect the nature of either structure or sector policy options. The two railways themselves are relatively straightforward railway businesses sharing many of the features and challenges of small, state-owned railways worldwide. The approach of the Policy review started at the Entity level and first considered the options that exist within the current framework of roles and responsibilities shown in Figure A1. Part B of the Policy Note addresses the railways of FBH and Part C the railways of RS. They have similar (though not identical) physical and operational profiles and market prospects. Each railway has a comparatively small network.15 Each is more than 97 percent freight-dominant carrying significant volumes of bulk products, much of it for a limited number of customers (in some cases it is the same freight consigned between entities). Each railway nevertheless has very low labor productivity and operates nearly as many passenger trains as freight trains. Each Entity government faces similar budget pressures and a compliance gap with the EU rail acquis. These similarities mean that the policy issues and options are much the same and would not be materially different if they were one railway. However, the need by both Entity governments to adopt new structural arrangements under the railway acquis implies a turning point in their affairs and the creation of new opportunities. A restructured railway in each Entity will offer opportunity for the Entity governments to reconsider how best to co-operate or combine for mutual advantage in the European railway market. The RRB will need to perform a fuller role as BiH and international regulator once there is a proper track access regime. And any significantly higher levels of domestic public funding for investment are not credible without additional funding sources, which might require funding decisions at the state level. The wider implications and dimensions of reform are addressed in Section D of the Policy Note. The Policy Note is organized as follows: Part B discusses the railways and policy options for the Federation of Bosnia and Herzegovina and Part C discusses the railways and policy options for the railways of Republika Srpska. Parts B and C include an assessment of the current status of the railway in the Entity, assessment and discussion of the rail industry structure options and the railway development policies. Part D elaborates on likely reform implications for entity governments and BiH. Part D presents a proposed action plan. 15 Though more than 30 countries worldwide also have national railways of less than 1,000 km and in the USA there are some 550 ‘viable’ short-line and regional railroads operating lines which, while varying in length, have an average length of only around 125km. 27 BiH Railways Policy Note PART B RAILWAYS OF THE FEDERATION OF BOSNIA AND HERZEGOVINA B.1. Current status of the railway in FBH16 B.1.1 Overview of railway Railway length and density The 600 km railway network of FBH is comparable with the small railways in the West Balkans region17. The network is similar in length to that of FYR Macedonia (Fig B1). Compared to land area, the network density (Figure B2) is a little less than half of that Croatia and Serbia, largely because those railways have more extensive networks of lightly-used branch lines. By contrast, most of the FBH operational network consists of its main lines the most important of which is the north-south trunk line (located in Pan-European transport Corridor Vc). The network is standard gauge (1,435mm), mainly single track (89 percent of the total) and 73 percent electrified (73 percent of the total). The rated line speed on Corridor Vc averages around 50-80 km/h depending on section but the commercial (end-to-end) speed on the corridor and the network as a whole is significantly lower. Commercial speeds are much lower than rated speeds partly due to poor track conditions on specific sections. This is notable on Corridor Vc between Sarajevo and Zenica and between Zenica and Doboj (though in the latter section is mitigated somewhat by double-tracking). But an additional major cause of train stops and delays is low-performance train dispatching and control technology (with relatively short distances between many stops, including train stops at unprotected level crossings) and there are problems in reliability of power supply in some areas. Albania 423 Albania 15 Montenegro 239 Montenegro 17 FYR Macedonia 699 FYR Macedonia 27 ZRS 426 ZRS 17 ZFBH 600 ZFBH 23 Bosnia and Herzegovina 1,026 Bosnia and Herzegovina 20 Croatia 2,604 Croatia 46 Serbia 3,809 Serbia 43 Slovenia 1,208 Slovenia 60 Bulgaria 4,023 Bulgaria 36 Romania 10,770 Romania 45 18,942 Poland 61 Poland 0 20 40 60 80 0 5,000 10,000 15,000 20,000 Figure B1. Network route-km, 2014 Figure B2. Network density, km/000 km², 2014 16 Details on the operational and financial performance of ZFBH are provided in annex IV. 17 The West Balkans Region is defined for these comparisons as Albania, the Former Yugoslav Republic of Macedonia, Montenegro, Serbia, Bosnia and Herzegovina and Kosovo. 29 BiH Railways Policy Note Rail freight transport FBH’s network is the most intensely-used freight railway in the region with about 1.4 million tonnes per route-km, nearly a fifth higher than the EU average. Table B1 provides the country comparisons. ŽFBH manages what is overwhelmingly a freight railway in terms of transport role, with freight comprising more than 97 percent of all traffic units. In 2014, ŽFBH carried 8.5 million tonnes for 885 million net tonne-km an average intra-entity transit distance of 104 km. Over the last ten years, the company’s freight volume has been stable to marginally increasing, other than a dip in 2009 coincident with the global financial crisis. (Fig B3). ZFBH freight traffic is characterized by significant volumes of heavy industrial commodities – mainly iron ore, coal and metals. Domestic traffic comprises 27 percent of the total ntkm, import and export traffic 72 percent, and transit traffic 1 percent of total (Fig B4). Table B1. Freight and passenger traffic density (2014, unless otherwise indicated) COMPARATOR Freight traffic density Passenger traffic density RAILWAYS (000 tonnes/route-km) (000 pass/route-km) EU average 1,240 1,870 Poland 1,690 626 Romania 912 420 Bosnia 1,277 33 ŽFBH 1,475 37 ŽRS 998 28 Croatia 814 356 FYR Macedonia 590 115 Montenegro (2013) 419 293 Serbia 680 162 Albania 95 18 1,200 10.0 1,000 8.0 800 6.0 600 4.0 400 2.0 200 0.0 0 2007 2008 2009 2010 2011 2012 2013 2014 Domestic Import Export Transit Figure B3. ŽFBH Freight traffic task, Figure B4. ŽFBH Freight tonnes millions, tonne-km millions, 2005-2014 2007-2014 30 BiH Railways Policy Note Rail freight prices applied by ZFBH are high compared to neighboring countries 18. Although detailed information about transport prices was not provided, in 2014 ZFBH transported 885 million net tonne-km with an associated freight revenue according to the financial statement of 77.7 million BAM, which represents an average price of 0.088 BAM/tkm or 0.048 USD/ntkm. Average prices in ZFBH are higher than in neighboring countries, with 0.038 USD/ntkm in Croatia, 0.029 USD/ntkm in Serbia, 0.023 USD/ntkm in Slovenia, but slightly lower than in ZRS where the average price is 0.05 USD/ntkm or Albania 0.057 USD/ntkm. Passenger rail transport Passenger rail services now make a near-negligible contribution to FBH’s overall personal mobility needs. In 2014, ŽFBH carried 355,000 passengers (fewer than 1000 passengers/day) for a total of 22 million passenger-km, an average distance of 62 km (Figures B5 and B6). The average train occupancy is only 21 people 19 . The railway share of FBH total non-urban passenger travel was around 2 percent in 2014. Passenger traffic density is less than a tenth of most other South East European countries and less than 2 percent of the EU average. Table B1 provides the comparisons. Domestic (incl. inter-entity) routes account for 98 percent of trips for which the main domestic routes are Sarajevo-Zenica (4 pairs of trains/ day), Sarajevo-Capljina (2 pair of trains/day) and Sarajevo-Konjic (2 pair of trains/day). Inter-entity trains run between Doboj and Sarajevo and Doboj and Tuzla once and twice per day in each direction respectively, but they carry very few inter-entity passengers and most passengers are intra-entity. FBH is served by two international passenger rail routes – Sarajevo- Zagreb and Sarajevo - Ploče, but most passengers on international trains are relatively short-distance cross-border trips rather than inter-city trips. (Table B1). 50.0 6.0 600,000 40.0 5.0 500,000 4.0 400,000 30.0 3.0 20.0 300,000 2.0 10.0 200,000 1.0 0.0 0.0 100,000 - Passenger traffic (million pass-km) % of the total traffic Domestic route International route Figure B5. ŽFBH Passenger traffic, million Figure B6. ŽFBH Number of passengers pass-km, 2005-2014 transported, 2007-2014 18 The low share of transit traffic implies in more manipulations per ntkm in average, what may, at least partially, explain a higher price. 19 As measured by passenger-km/train-km 31 BiH Railways Policy Note Rolling stock ŽFBH achieves good locomotive and wagon productivity though an already old fleet continues to age. Locomotive and wagon productivity (Figures B7 and B8) are highest in the region though lower than the EU average by about 30 percent (locomotives) and 18 percent (wagons). Out of 97 locomotives most are older than 40 years and around 40 are operational. Investment in new freight wagons has proven productive. Passenger coach productivity in 2014 is one of the lowest in the region (details are provided in Annex IV). Nine Talgo passenger train-sets were acquired in 2008 with finance from Spain and have never been used in service until end of September 2016 when a service started between Sarajevo and Doboj. Serbia 12.80 Serbia 0.34 Montenegro (2009) 10.15 Montenegro (2009) 0.28 FYR Macedonia (2012) 16.19 FYR Macedonia (2012) 0.56 Croatia 12.72 Croatia 0.43 ZRS 8.09 ZRS 0.36 ZFBH 22.68 ZFBH 0.65 Bosnia 14.30 Bosnia 0.51 Romania 9.59 Romania 0.34 Poland 16.40 Poland 0.60 EU* 32.68 EU* 0.79 0 0 0.0 10.0 20.0 30.0 40.0 0.0 0.2 0.4 0.6 0.8 1.0 Figure B7. Locomotive productivity, million Figure B8. Wagon productivity, million traffic units/operational loco (2014) ntkm/operational wagon (2014) Human resources The company has improved its labor productivity in recent years as staff attrition has coincided with gradually improving freight volumes but it remains very low. By 2014, ŽFBH had 3,572 employees. But the average traffic units per employee in 2014 was lower than in most neighboring countries other than Albania and Serbia, and only about 40 percent of the EU average (Table B2). For a freight-dominant railway this is particularly meagre as freight traffic is generally less labor intensive in its needs than passenger traffic, but the passenger train services are still much more labor-intensive, bringing down the average, despite the small proportion of passenger traffic in the total. 32 BiH Railways Policy Note Table B2. Labor productivity by country (2014, unless otherwise indicated) COMPARATOR Staff productivity Number of staff per RAILWAYS Total staff (000) (000 traffic km of line unit/staff) EU* 1069.0 613 5.1 Poland 90.0 490 4.7 Romania 45.1 318 4.2 Bosnia and Herzegovina 7.0 193 6.8 ŽFBH 3.6 253 5.9 ŽRS (2015) 3.2 146 8.7 Croatia 9.3 329 3.6 FYR Macedonia 2.6 188 3.7 Montenegro 1.0 (est) 178 4.0 Serbia 17.1 188 4.5 Albania 1.1 42 2.7 B.1.2 ŽFBH financial status ŽFBH has incurred heavy financial losses in each of the last 10 years as operating expenses have exceeded total revenues even when the latter include budgetary support from the FBH government. Annex IV provides the detailed analysis. Total revenue, with budget support, was just sufficient to cover just cash operating expenses but those expenses were not themselves sufficient to cover full operations and maintenance needs and there is a considerable backlog. In principle there is an agreed infrastructure funding ‘contract’ with government but the company’s actual budget subvention has consistently fallen short of the work that the company considers necessary or believes it agreed. Labor costs constitute about two-thirds of operating expenses20 and 88 percent of market revenues. This is a very high proportion of costs, with most railway enterprises internationally aiming to keep labor costs below half of operating expenses. Despite low labor productivity and the poor overall financial results, the freight sector earns a creditable surplus above operating costs. Table B3 provides World Bank estimates of the performance by business sector in 2014, using a financial model based on commonly- used management accounting techniques for railway analysis. ŽFBH earns a surplus on freight operations relative to operating costs (about BAM 30 million) but a big deficit on passenger services (BAM 19.5 million). The passenger services loss is mainly offset by the freight surplus rather than the FBH budget, which only reimburses the company for about 9 percent (BAM 2.1 million) of the estimated total passenger operating costs of about BAM 23 million. The financial results for the passenger sector represent a poor use of operating resources and a financial drain on the surplus from freight operations. Although passenger numbers are minimal and passenger traffic provides less than 3 percent of all revenue, around 42 percent of all train-km operated by the company are generated by passenger trains. Direct budgetary support for the passenger services is very low and some two-thirds of the freight surplus is effectively diverted to covering the direct operating costs and train control costs incurred by the passenger business. As a result there are insufficient funds to cover the cost 20 Defined for this purpose as expenditures related to materials, fuel, electricity, salaries and allowances, outsourcing and other services, and depreciation. 33 BiH Railways Policy Note of infrastructure maintenance and these are funded by a separate budget payment, equivalent to about 73 percent of infrastructure maintenance 21 cost (excluding any cost coverage of depreciation). Subsidies for passenger transport in FBH are high compared to the EU average. Subsidies for passenger transport in the EU, as included in PSO contracts, vary largely from around 0.1 USD/train.km in the Netherlands to about 20 USD/train.km in Luxembourg, with an average around 8 USD/train.km. In FBH, the implicit subsidy estimated from the total deficit for passengers is around 10 USD/train.km, higher than the EU average. The relative subsidy is still higher when computed by passenger.km since the average occupancy in the EU is around 100 passengers/train while in FBH it is only around 20. During 2009-2013 ŽFBH invested on average 279 million BAM annually on rail infrastructure and rolling stock. Infrastructure investments included overhaul and rehabilitation of track and modernization of signaling and telecom system on Corridor Vc, south of Sarajevo. The financing was made available to ŽFBH through foreign and domestic loans. Persistent financial losses prevented ŽFBH from funding much of its capital expenditure or servicing fully its debt obligations. As a result, the debt service payments were made on the behalf of ŽFBH by the Entity government but charged to the railway account. In addition to the loans, ŽFBH received significant annual subsidies for infrastructure (and a small amount for passenger services); however this total amount declined over the years from over BAM 23 million in 2008 to BAM 22 million in 2014. 21 The total infrastructure expenditure in the accounts is BAM 71.4 million. However, BAM 14.0 million is depreciation (non-cash), BAM 5.6 million is debt service and BAM 1.4 million is provisions (also non- cash). This leaves BAM 50.4 million of operating cash expenditure, of which BAM 7.4 million is an allocation of corporate overheads. Infrastructure-related direct costs are thus BAM 22.4 million for train control/safeworking and BAM 20.6 million for maintenance. The figure of BAM 22.5 million for maintenance in Table B3 includes BAM 1.8 million as the estimated cost of work trains. When train control costs for the work trains and corporate overheads are included, the estimated cost of infrastructure maintenance is BAM 26.4 million. 34 BiH Railways Policy Note Table B3. ŽFBH estimated financial performance by sector, BAM millions (2014) Income and Expenditure Passengers Freight Network Total Summary Direct expenses Labor 8.0 21.1 16.8 45.9 Materials 1.1 3.3 1.5 5.9 Fuel/energy 1.9 6.5 1.1 9.4 Other 0.6 3.4 3.1 7.1 sub-total direct expenses 11.6 34.2 22.5 68.4 Train control 8.7 13.0 0.7 22.4 Corporate 2.7 6.4 3.1 12.3 Total op. Costs 23.0 53.6 26.4 103.1 Revenue 1.4 83.5 9.2 94.1 Budgetary support 2.1 19.2 21.3 Amortization 29.6 Deficit/surplus -19.5 29.8 2.0 -17.2 Financial revenue 0.1 Financial expenses 14.7 Other revenue 6.1 Other expenditure 3.9 Total Deficit -29.5 Source: ŽFBH financial statements and operational data and World Bank analysis. Total revenue, expenditure and deficit reconcile to ŽFBH financial statements in Table III.4 of the Annexes. Note that both train control and corporate costs in the above table include significant labor components. B.1.3 Alignment with EU Acquis The policy framework for the railway sector in BiH must be significantly modified to harmonize with the EU railway acquis. The main requirements bearing on the policy responsibilities currently exercised by the FBH government relate to institutional structure, track access, budgetary support for passenger services, budgetary support for infrastructure, and debt sustainability. Harmonization implies: greater separation between the management of railway infrastructure and of rail transport operations which are currently co-located and commonly managed in one corporate structure; the implementation of a non-discriminatory track access regime and charging structure promulgated through an explicit Network Statement; the provision of adequate compensation for any loss-making passenger transport services (basically all of them) via a service-based contract; similarly adequate budgetary support for the O&M of network infrastructure through more rigorous (and preferably multi- annual22) maintenance contracts; and a mechanism for government to assume or restructure unsustainable debt of its train operating company in order for it to be able to compete on a fair basis with third-party train operators competing under access arrangements. More detailed analysis is contained in Annex II. Substantial legislative action at the Entity level appears necessary to underpin the necessary institutional and structural changes necessary. It is to the options for change that the Policy Note now turns. 22 The railway acquis does not require that the infrastructure contract be on a multiannual basis but it is suggested in EU supporting papers as best practice. 35 BiH Railways Policy Note B.2. Rail industry structure options B.2.1 Industry structure alternatives There are various ways of organizing state railways while harmonizing with the EU rail acquis and FBH should consider which arrangement best suits its future railway industry. EU member states have adopted many different arrangements for their national railways to comply with the acquis. Four of the main structural choices facing FBH relate to (a) the organizational form of the future state-owned railway enterprise (or enterprises); (b) if the state chooses to have a state-owned passenger rail operation, where to locate this activity in the structure; (c) the exercise of state share-owning functions in such enterprises; and (d) whether to seek greater private participation in the rail user company. These main choices are set out in Figure B9. Figure B9. Railway Industry Structure: The Main Options Key issue Structural Alternatives Basic organizational form of Separate Infrastructure Group structure with state-owned railway Management and Transport holding company enterprises Operating companies Subsidiary or Independent Subsidiary in Business Division Location of a passenger rail freight and holding company of Transport management passenger structure Operating companies Company Shared A specialized Exercise of Entity share- Line Ministry ‘ownership’ central agency or owning functions (MOTC) between department ministries Private participation in the Retain public Transfer to private state railway operator ownership owners/investors Each of the policy choices has its own rationale and a mix of advantages, disadvantages and risks. The policy options are set-out below and the appraisal that follows seeks to delineate the key features of each. The Note presents an opinion on options when, weighing all factors, this seems to be justified by the local circumstances and international experiences. However, public policy decisions are the responsibility of governments. B.2.2 Basic organizational form of state-owned railway enterprises The Policy Note is guided by provisions of the informal agreement on the 4th Railway Package market pillar agreed by representatives from the European Commission, Parliament and Council in April 2016. The Agreement has still to be approved by the full Council and Parliament, and this is expected in late 2016. It implies that both the separated or group structures that exist in member states are acceptable but whichever alternative is used it should be designed to ensure impartiality of railway infrastructure managers in providing non-discriminatory access to tracks, allow them to pursue their own strategies for better use 36 BiH Railways Policy Note of rail infrastructure, and improve financial transparency in order to remove the risk of cross- subsidy between infrastructure managers and transport operators. Detailed rules on each of these matters are to be promulgated. On balance, the Bank team expresses a preference for institutional separation of infrastructure manager from transport operating company, arguably the simplest and most clear-cut option for FBH. The basis of the evaluation is described in more detail in Annex III. The evaluation was aimed at identifying a structure which, while capable of complying with the EU acquis, would also consider the efficiency of various elements of sector management, and the ease of implementation. Institutional separation would avoid the ambiguity and potential conflict of interest inherent in a group structure. The two companies would each have a clear role and functions. Relations between the two companies would be governed by a contract for infrastructure access subject to the regulatory oversight of the BiH RRB, in accordance with EU principles. The preference for separation is reinforced by the added weight the team gives to two factors in the evaluation criteria: first, there is the expectation under separation that clarity and focus in roles would lead to better management of the individual infrastructure and transport operating companies; and second it would enhance their ability to determine their own business strategies in the context of a European railway system in which each will have different opportunities and constraints, and sometimes different interests. Thirteen EU member states have separated structures: Bulgaria, Czech Republic, Denmark, Great Britain, Greece, Finland, Netherlands, Norway, Portugal, Romania, Spain, Sweden, Slovakia (See Annex III). However, a group structure is also a legitimate and compliant option that would maintain a measure of coordination between the state-owned components of the rail industry. Under this structure a holding company would be interposed between the FBH government (and the other) owners and subsidiary infrastructure and operating company (ies). Four EU Member States have adopted holding company arrangements for their railways: Germany, Poland, Italy and Austria. It might be easier to implement in FBH, requiring corporate reorganization of the existing railway rather than its division, and it might be easier for the line-ministry to deal with one holding company rather than two separate companies. However, it would create less clarity and focus in company roles and would create a greater regulatory compliance challenge because of the need to demonstrate management independence, competitive neutrality and financial transparency on the part of the infrastructure management subsidiary. The separate companies approach seems more suitable for FBH and likely to deliver better performance at lower cost. The railway industry is not sufficiently large or complex to justify adding another institutional layer23 (in the form of a holding company) to a railway industry already characterized by an abundance of institutions. Moreover, in a group structure the best railway managers would tend to gravitate to the holding company instead of running the actual businesses where their skills are most needed. This would dilute the responsibility and accountability of the subsidiary managements. While in theory a group structure could provide some sharing of corporate services such as financial accounting and human resources management, putting these at holding company level would reduce management independence at the subsidiary level. It is also likely that with current low levels of productivity, 23 The holding company would need to have separate management structure and steering committees, in order to prevent conflict of interest. 37 BiH Railways Policy Note significant costs can be saved anyway in all functions during a well-planned separation process, a saving less likely if resources are simply regrouped into subsidiaries. B.2.3 Location of a passenger rail management in the structure If a holding company structure were to be favored it would be relatively straightforward to locate a separate passenger company within it. A small and separate passenger subsidiary could be nested into a group structure, a PSC contract agreed between the government and the passenger subsidiary (possible with the assent of the holding company). The ‘group’ would then consist of a Holding Company, Infrastructure Manager, Freight Operating Company and a Passenger Operating Company. It would also be possible, but probably not very practicable, to establish an independent separate passenger services company. In this option, FBH would establish three separate companies: Infrastructure Manager, Freight Operating Company and a Passenger Operating Company. However, a railway Passenger Operating Company in FBH would be a very small enterprise to operate entirely independently, might suffer some diseconomies of very small scale, and be more or less wholly dependent on and therefore vulnerable to fluctuations in budget funding (which would need to provide more than 95 percent of income). The best option would seem to be to leave passenger services as subsidiary or special business division of the Operating Company. In view of the very small scale of FBH passenger rail operations then it would be a sensible approach to retain passenger capability within the Entity-owned Operating Company as a division or subsidiary rather than having two new Operating Companies. (This presupposes that the FBH government would choose to continue to own a passenger rail operation, a proposition that is evaluated in Section B3). If this option were preferred the EU railway acquis requires that separate accounts be kept for the passenger activities to facilitate verification and agreement on the costs of the Public Services Contract, and avoid cross-subsidy from freight to passenger sectors (that clearly now occurs). B.2.4 Exercise of state share-owning functions When ownership functions in government transport enterprises are exercised by the line ministry (normally the transport ministry) this increases ministerial control but can lead to day-to-day intervention and undermining of management responsibilities. A line ministry has the responsibility for formulating overall transport policies in accordance with government social, economic and other aims, and bears the burden of public accountability for those policies. However, the shareholder functions in a corporate structure must be primarily concerned with the efficiency and commercial sustainability of the enterprise. In many countries exclusive line ministry oversight of enterprise share ownership has led to conflicts of interest between political and commercial aims, resulting in day-to-day political intervention in the management of enterprises despite adverse commercial impacts. The exercise of public ownership functions in state-owned enterprises by an agency or department not responsible for transport policy tends to give greater weight to the efficiency and commercial performance of the company. The World Bank’s Toolkit on Corporate Governance of State-Owned Enterprises (2014) suggests governments should consider moving away from traditional ownership models in which line ministries have 38 BiH Railways Policy Note ownership responsibilities, to centralized ownership arrangements. Similarly, OECD Guidelines on Corporate Governance of State-Owned Enterprises (2015) suggest: there should be a clear separation between the state’s ownership function and other state functions that may influence the conditions for state-owned enterprises… The exercise of ownership rights should be centralized in a single ownership entity, or, if this is not possible, carried out by a coordinating body. OECD reports that such vesting of the public share-ownership functions in State-owned Enterprises in a single, specialized agency or department is being increasingly adopted among OECD countries, including (but not limited to) some EU countries. Adoption of the EU railway acquis tends to support (but does not require) vesting the share-ownership functions in a ministry separate from the contracting line ministry. Under the EU model the relationship between a line-ministry and a railway enterprise should generally be governed by contractual arrangements that embody public policy aims, leaving managers freedom to manage enterprises commercially in how they meet the contracted targets. These contracts are the PSC contract with an Operating Company for passenger rail services and a MAIC contract with an Infrastructure Management Company for network infrastructure management. Following the implementation of new company structures, the customer/owner roles can then be separated, with the line-ministry being the party contracting with the companies in accordance with transport policies and a separate agency performing ownership functions. However, this option is clearly only feasible if the FBH government were to create such an agency for a number of the enterprises owned by the entity. If not, a third ‘compromise’ alternative is to divide the share-ownership function between a line-ministry and a non-line-ministry (e.g. a ministry of Industry or Ministry of Finance) to try to give more balance between the corporate governance functions of an ‘independent’ shareholder and the policy/contracting functions of the line ministry. B.2.5 Private participation in the Operating Company The FBH government currently holds majority ownership of ŽFBH and has no plans for privatization of any part of transport operations. When the Entity’s rail freight market becomes contestable under a non-discriminatory access regime the Operating Company will need to compete for freight traffic with possible new entrants, both public and private. It will be vulnerable to competition for the best of its few markets. It is not always clear why governments wish to participate as a player in freight transport which in all other modes of transport is dominated by the private sector. There is a serious risk that if it remains publicly- owned, the Entity’s Operating Company will be unable to grow into the high-efficiency, high- performing enterprise necessary to compete successfully both with the predominantly private road transport industry and the many operators in the emerging European rail freight industry. International experience and proposed market competition suggest the government should consider the option of privatization before track access rights open up the market. Private participation in rail freight has been successful in improving performance just about everywhere it has been tried. A World Bank review of rail freight privatization on three continents, Latin America (sample of 7 freight railways), Africa (12 freight railways) and Australia (5 freight railways) showed that privatization has almost always had a positive result on the pre-existing business efficiency and effectiveness in the rail freight sector. While 39 BiH Railways Policy Note acknowledging this must be a decision for Entity governments this option should be seriously considered before the market becomes contestable through track access rights because the value of the company will surely deteriorate once it is. The option of privatization should be considered while the Railway Operator still has dominant market positions. B.2.6 Implementation issues The most pressing of the structural issues is to determine and implement the desired future institutional structure of what is currently ŽFBH. The most suitable approach for the railways of FBH is that which creates the most simple and straightforward structure, that is the creation of two separate companies, an Infrastructure Manager and a transport Operating Company. A supplementary decision is how to handle any residual passenger services and the most straightforward solution is again favored which is to have it as a separately accounted division or subsidiary of the Operating Company rather than trying to create an independent company in such a small and unpromising market. At the time of formation, it is considered better, if the option is available, to vest the ownership of the government’s shares in the two rail enterprises in a central agency or ministry that will not be responsible for negotiating the PSC and MAIC contracts. Given that a small proportion of shares in the integrated ŽFBH are already independently owned, it would seem appropriate to encourage or incentivize such shareholders either to sell their shares back to government or to swap their shares in ŽFBH for shares in the new Operating Company. This would leave the Infrastructure Manager, which will be greatly dependent on MAIC, as a fully publicly-owned company while the Operating Company would increase its proportion of private ownership with the possibility of profitable freight operations and potential dividends. Increasing private participation still further should then be seriously considered, but any decision to do so beyond this could be deferred until the new Operating Company is up and running with an audited set of accounts. If the FBH government chooses the option of separating companies it should be well- planned and implemented and not just be a process of dividing out existing assets, liabilities and human resources. The intention of restructuring is not just to harmonize with EU structures but to create a more effective and sustainable railway industry. Separation of the two new rail companies appears likely to require a new FBH Railway Law and the opportunity should be taken to establish the new companies on a firm commercial foundation. They would be obligated by law to implement those parts of the EU rail acquis that fall to the companies (for example, in the case of the Infrastructure Manager, the preparation and publication of the Network Statement and access terms and conditions) The new companies should be established with a clear commercial mandate to operate their businesses in the most efficient and effective manner. Their opening balance sheets should carry only the assets they need and any obsolete or surplus assets disposed of as soon as possible. They should not be burdened with the transfer of unsustainable loan obligations which they are unable to service and repay and which are in practice funded from the budget. They should ideally only take over the staff they need to run the companies efficiently. Unless these issues are addressed prior to separation and a robust implementation plan adhered to, the new companies will simply inherit and share between them the current problems and inefficiencies rather than having the opportunity to make a clean start. 40 BiH Railways Policy Note B.3. Railway development policy B.3.1 Key policy options The FBH government has policy choices in four main areas of railway sector policy, each having significantly different budgetary impacts for the Entity. The options concern employment policy, the future of passenger services, the success of freight services in winning more traffic combined with the impact of third-party track access, and the level of investment in infrastructure. The options evaluated are summarized in Fig B10. The strategies have been evaluated using the ŽFBH financial model by estimating the total 10 year cost, expressed in 2015 constant prices, of capital outlay and net operating costs (operating costs less commercial revenues), which is essentially the amount that the Entity budget would need to pay to support the railway on a sustainable basis over that period through (using the EU framework) a combination of Public Services Contract a Multi-Annual Infrastructure Contract and support of capital investment in passenger services and network infrastructure. In all cost tables in Section B3, this capital cost is the future cost outlay and excludes FBH government payments of existing IFI debt service, which will average about BAM 20 million/year between 2016-25. Figure B10. Railway Industry Policy: The Main Options Key issue Policy Choices Reduce employment Maintain current Adopt an early labor Productivity and employment through natural employment levels restructuring policy attrition Invest in improved Discontinue rail Rail passenger public services Current service level passenger services passenger services Contestability of freight market No competition in Significant third-party freight competition (with and without rail market foreseeable future from 202024 expansion) Prioritize train Investment in railway Current investment control and Train control plus network infrastructure levels associated increased line speeds improvements B.3.2 Employment policy options If the government of FBH adopts a ‘business as usual’ approach then the total potential budgetary impact of its railway sector over the ten years would need to be about BAM 344 million. The capital support would be about BAM 90 million and net operating cost support (passenger services contract and infrastructure O&M costs) about BAM 254 million. The business-as-usual case represents broadly a continuation of current policies and investment levels. Specifically it assumes: no significant change in total employment levels from a 2015 base of about 3065 employees; passenger and freight trains continue to be operated in FBH much as now for the same traffic levels; and no competition from any third- 24 If the EU railway acquis is adopted this is not a strategic choice as such but the two alternatives are included to illustrate what impact significant completion could have on sector finances. 41 BiH Railways Policy Note party freight train operators. The overall results are shown in the business-as-usual row in Table B5. An active policy of improving productivity through natural attrition of employment levels could reduce net operating costs by around 50 percent over the period. Capital spend would not be affected so that overall budgetary impact would reduce by about 37 percent to around BAM 218 million. The natural attrition policy could deliver a reduction of around 3-4 percent of the labor force each year yielding a staff level of around 2134 after 10 years. The average labor productivity would improve to 434,000 traffic units/employee, about 70 percent of the current EU average level. An early labor restructuring program would mean that by the end of the period budgetary support of net operating costs (excluding depreciation) could be reduced by about four- fifths. The labor restructuring policy is represented as a downsizing over the period 2017- 2019 to about 2,000 staff by 2020 with a gradual reduction thereafter to a total staff of around 1770 by 2025. Assuming labor compensation costs are treated as operational expenditures25 the capital spend would not be affected so that overall budgetary impact over the period would reduce by about 60 percent to around BAM 145 million. The average labor productivity in 2025 would improve to about 520,000 traffic units/employee, about 82 percent of current EU levels. Table B5: Impact of railway employment policies Reference Case (1) Case (2) Case (3) Passenger services Productivity improved by Productivity improved by policies ‘Business-as-Usual’ natural attrition (2016- labor restructuring 2025) program (2017-2019) Staff in 3007 2134 1768 2025(a) Staff 308 434 524 productivity(b) Capital Cost(c) 90 90 90 Net operating 257 131 58 cost(c) Total Budget 347 221 148 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) The budgetary impact of FBH’s railway sector is therefore dramatically influenced by railway labor productivity which in turn depends strongly on Entity employment policy. While ŽFBH has been addressing the issue gradually through attrition, Government support would be necessary to pursue major labor restructuring. If the government of FBH were to approve programs to improve railway efficiency through higher labor productivity then the net budgetary impact of other strategies would be more favorable. Moreover, in anticipating a future as part of an integrated rail market, the FBH Operating Company will not be competitive 25 In practice there is a strong case for treating labor restructuring as a form of investment which in overstaffing situations yields returns on investment substantially higher than either rolling stock or infrastructure investment. 42 BiH Railways Policy Note with third-party operators if it is not operating efficiently and its Infrastructure Manager will similarly not be able to offer an attractive route if government support is being funneled into supporting employment levels rather than infrastructure improvements. B.3.3 Passenger service policies Withdrawal of the requirement for ŽFBH to provide passenger services would beneficially transform both the economics of ŽFBH and the FBH budget support required for railways. This policy has been represented in the financial model as a withdrawal of all rail services from the year 2020. The fares revenue foregone would be minimal but the potential operating costs savings substantial. Table B6 shows the net impact compared with a base policy of productivity improvement through natural attrition of employment levels (Case 2 above). Discontinuing passenger rail services would reduce the need for capital cost and operating cost support from the budget by one third. When added to the productivity improvements scenario of an early labor restructuring program (Case 3 above), discontinuing passenger rail services would eliminate the need for net operating cost support from the budget and by 2025 would be close to being able to fund minor investments in infrastructure. At the same time the total staff of the (in this scenario) freight-only railway would be reduced to around 1350 employees and the productivity would increase to about 670,000 traffic units/employee, nearly 10 percent higher than the EU average. The FBH government could choose to adopt the converse policy of reinvigorating passenger services by investing in modern rolling stock and providing a higher level of service on the main passenger routes, but the budget impact would be severe. This policy has been represented in the financial model as comprising government funded investment to operate a good frequency inter-city service between major centers on main lines with new better quality all-EMU rolling stock, starting in 2020 (Annex III gives more details). The policy would increase passenger numbers which, using conventional estimates of market elasticity, suggests an increase in passengers of about 65 percent. The new (more efficient) rolling stock would also provide some unit operating cost savings although these would be more than consumed by increasing service frequency to more attractive levels. The upshot is that the operating financial support required over the ten years would be BAM 87 million more than the net cost under Case (2), but with an increase in need for capital support to BAM 501 million, yielding an overall budgetary support requirement of more than BAM 700 million. The FBH government might wish to replace rail public transport services with a bus service contract the cost of which for a comparable or better service would be only a fraction of current rail service costs. The FBH has a well-developed bus industry that with a reasonable period of preparation could readily provide the capacity to absorb the small volume of rail passengers affected. However, an alternative that might be favored to assure the public of continuity of is for the Ministry of Transport and Communications to tender a transitional contract for replacement bus services paralleling the existing railway services. This is a way of assuring passengers who may be impacted by service withdrawal that they will receive continued public transport service at affordable price which can be done by establishing performance benchmarks service frequency, station stops, journey times and vehicle standards at levels equal to or ideally superior to those of the rail services they replace. 43 BiH Railways Policy Note Table B6: Impact of railway passenger services policies Reference Reference Case (2p1) Case (2p2) Case (3p1) Case (3p2) Case (2) Case (3) (2) + (2) + productivity (3) + (3) + Passenger productivi discontinue substantiall improved discontinue substantiall services ty rail y improve by labor rail y improve policies improved passenger passenger restructurin passenger passenger by natural services service g program services service attrition from 2020 levels 2017-2019 from 2020 levels Staff in 2134 2139 2920 1768 1349 2067 2025(a) Staff 434 422 323 524 669 456 productivity(b) Capital Cost(c) 90 62 501 90 62 501 Net operating -42 131 89 218 58 99 cost(c) (surplus) Total Budget 221 151 719 148 20 600 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) B.3.4 Rail freight policies In the freight sector ŽFBH must try to hold onto the freight it already carries while seeking to attract additional flows. There are flows of traffic in FBH which are carried by road transport such as bulk petroleum products, for which railways would normally be expected to offer comparative economic and environmental advantages. Table B7 (Case 3f1) shows that if additional freight of about 30 percent of tonne-km could be won by FBH by 2025 the total budgetary impact of the rail sector over the period compared to Case 3 would reduce by about two-thirds. A similar result, resulting however in higher budget amount, is found when the reference scenario is Case 2. Within the EU rail acquis freight rail services are to be competitive and financially self-sustaining without budget support for transport operations so strategic decisions are essentially for the operating company management rather than the FBH government26. Rolling stock investments would need to be financed by the company, not through the budget. However, the Company’s financial performance will also be influenced by when the FBH rail market becomes open to competition by other freight train operators, and what the impact of such competition would be. For illustrative purposes it is assumed that an effective access regime in place on the FBH rail network by 2020. Competitive markets are never very predictable, but observing other European experiences and noting that ŽFBH has a very concentrated market of a few large bulk customers, it is evident that parts of the market could be quite attractive to competitors, or may lead to freight shippers operating their own services. Naturally, if new operators win part of the freight market they will still pay track access charges for infrastructure and so the income of a ŽFBH infrastructure company would remain constant. But the revenue of a ŽFBH freight company would reduce. For illustrative 26 ŽFBH has been unwilling on grounds of commercial confidentiality to provide the Bank team with any data on its freight customers or freight tariffs, so any analysis of freight strategy is necessarily speculative. 44 BiH Railways Policy Note purposes the evaluation assumes that the ŽFBH average freight rates for the traffic they retain (which will generally be wagonload traffic unattractive to new operators) would remain constant compared to business-as-usual but that the ŽFBH freight operator would lose 10 percent of its markets to private operators each year with a residual market of about 50 percent of the ‘without access’ case by 2025. In practice a sufficiently active management might preserve more of the company’s pre- existing markets than assumed, but equally the impact on the company could be more severe. Based on the assumptions stated, Table B7 (Case 2f2) shows that such an outcome would double the operating support for the Entity-owned railways compared to Reference case (2) because the increased track access income from third-party operators would not compensate for the anticipated reduction in revenue lost to competition by the incumbent Entity-owned operator. Table B7: Illustrative impact of third party track access by freight operators 27 Reference Reference Case (2f1) Case (2f2) Case (3f1) Case (3f2) Case (2) Case (3) productivity Freight productivi (2) plus 30 (2) plus (3) plus 30 (3) plus improved services ty percent third-party percent third-party by labor policies improved additional freight train additional freight train restructurin by natural traffic by access from traffic by access from g program attrition 2025 year 2020 2025 year 2020 2017-2019 Staff in 2134 2134 2134 1768 2067 1313 2025(a) Staff 434 573 434 524 591 70528 productivity(b) Capital Cost(c) 90 90 90 90 90 90 Net operating 131 -3 258 58 -40 135 cost(c) Total Budget 221 87 348 148 50 225 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) B.3.5 Rail infrastructure investment policies Three development policies may be contemplated in FBH’s rail infrastructure sector depending on the level of investment that government is willing to fund. One policy is to sustain investments at the current level (as assumed in Cases (2) and (3)). A second policy is to increase investment levels giving priority to the creation of an improved train control system which would include overcoming the delays and heavy staffing currently associated with train operations. In the view of the Bank Team this is the highest priority capital investment need. A third policy is to add to the Train Control system improvements the additional investment necessary to achieve higher line speeds which have been represented as 27 In view of the huge losses it is unlikely that any third-party operator would wish to enter the passenger market without a passenger services contract. 28 This productivity is overestimated as it includes the traffic carried by new train operators on the system but excludes their staff. 45 BiH Railways Policy Note generally being 80 km/h for both passenger and freight services. Comparisons of budget impact are given in Table B8. Table B8 Impact of rail infrastructure investment policies Reference Reference Case (2i1) Case (2i2) Case (3i1) Case (3i2) Case (2) Case (3) (2) + (3) + (2) + productivity (3) + Infrastructure productivi Investment Investment Investment improved Investment investment ty in in in track by labor in track policies improved improving improving rehab to restructurin rehab to by natural the train the train increase g program increase attrition control control line speeds 2017-2019 line speeds system system Staff in 2134 2045 1914 1768 1684 2170 2025(a) Staff 434 452 648 524 549 572 productivity(b) Capital Cost(c) 90 126 574 90 126 574 Net operating 131 111 -33 58 38 -41 cost(c) Total Budget 221 237 541 148 164 533 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) B.3.6 Combined development policies When individual policies are combined, the range of policies implies a total budget impact range from BAM 20 million to BAM 769 million. Table B9 shows the budgetary impact for a range of combined policies. The most expensive in commitment of public resources would be to adopt a ‘business as usual’ approach and do nothing about existing low labor productivity, while investing in improving passenger services, and adopting the higher investment. The most cost-effective in terms of public resources is to pursue a labor restructuring program, replace most or all passenger rail services by bus services, and concentrate investment in improving train control systems to reduce operational delays to freight trains. Public expenditure must of course be judged by decision-makers according to their judgement of value for money and not just the absolute level. The choice of overall development policy is the responsibility of the government of FBH taking account of transport policy aims and budgetary constraints. The analysis suggests that an optimal order of decision making is as follows: first, whether or not to adopt an early labor restructuring program; second, whether to continue to fund a rail passenger services contract; third, when to implement an infrastructure access regime; fourth, whether to adopt the train control investment priority policy and how to finance it; and lastly, whether and how much to invest in attaining higher line-speeds. The last of these may itself be influenced by the availability of EU-sourced funding that might require even higher line speeds as a condition of financing. 46 BiH Railways Policy Note Table B9 Budgetary impact of combined policies Policy combinations29 Current passenger Labor restructure Medium network Current network Budgetary High passenger Labor attrition High network No passenger Current staff investment investment investment impact services services services 2016-2025 (BAM millions) Case 1 business-as-usual    347 Case 2 labor attrition    221 Case 3 labor    148 restructuring Case 1 + pax investment    769 Case 2 + pax investment    719 Case 3 + pax investment    600 Case 2 + no pax    151 Case 3 + no pax    20 Case 2 + train control   237 Case 3 + train control   225 Case 2 + high investment    541 Case 3 + high investment    533 No pax + train control    35 B.3.7 Policy Implementation Issues All the main elements of the new policy options require more detailed evaluation and planning prior to implementation, none more so than labor policy which could improve the performance of any other railway policy. The natural attrition option should be relatively straightforward to pursue in FBH as the company is already attaining a steady annual reduction in employees by this means. A labor restructuring program, if sanctioned by the FBH government, would give immediate productivity benefits but should be planned in the context of the longer-term commercial requirements. This would involve company managements undertaking a fundamental re-evaluation of their asset management strategies, operating and maintenance standards and methods, workshop needs, work practices, demarcation constraints, crew rosters, opportunities for competitive outsourcing, and other business processes using a ‘zero-based’ methodology to identify the most efficient labor force they actually need to meet the traffic commitments they can reasonably foresee. The resulting 29 All policies include third-party freight train operator access from 2020, which is an essential element of the EU railway acquis 47 BiH Railways Policy Note retrenchment program would also need to be able to demonstrate that it is fair and transparent, that full consultation with the workforce and Trade Unions has taken place, and that funding is available for satisfactory compensation packages and supporting social/retraining programs. Deciding the future of passenger rail services requires a more detailed review of public passenger transport demand and supply in the FBH corridors where passenger rail services currently run. The analysis carried out for the Policy Note has been strategic in nature, using service utilization data from ŽFBH. To fully appraise the option of discontinuing passenger rail services, an informed assessment would need to be made as to their social benefit and how the continuation of such benefits could be assured through adaptation of road-based public transport services. This would require more detailed passenger surveys to better define the precise markets for passenger rail service by origin-destination, journey purpose, age and gender, amongst other attributes. To gauge the passenger improvement policy option would require a wider potential catchment survey of passenger transport demand that might be attracted to an improve railway service as well as detailed economic, social and environmental appraisal of the investments required. A much more explicit Public Service Contract would also need to be developed with a verifiable costing procedure that meets EU approaches. The model estimates suggests the budget support for such contract would need to be at many multiples of what the government now pays. Third-party access is obligatory if the EU railways acquis is to be adopted, but many of the details of implementation and timing need to be properly prepared. Fortunately, there are numerous examples of Network Statements available from other EU Infrastructure Managers and available on the internet. Track Access charges will need to be structured in accordance with evolving EU guidance, however, if the freight traffic does not have to subsidize passenger traffic it could make a significant contribution to network infrastructure costs relative to many European countries. Track Access charges and conditions should also be harmonized so far as possible between Entities (discussed further in Section D). A decision would also need to be made when to fully implement the track access regime. There is a strong case to defer this until FBH has properly separated Infrastructure Manager from Operating Company, and the latter has been given the opportunity to become as efficient as possible in advance of competition. The assumption of implementation of track access in 2020, as used in the financial model, may be a reasonable target to aim at. The final network investment programs for the new companies under a new structure would be developed by the management of the FBH Infrastructure Manager. The programs would need to be within a budget envelope agreed with Entity governments who will ultimately need to fund them. The program should cover a duration of at least five years and be renewable. The Note has concluded at a strategic level that greater centralization of train dispatching and control and better (and safer) control of level crossings is the main priority but there are sections of Corridor Vc, particularly from Sarajevo to Zenica which are in very poor shape and the FBH section of Doboj-Tuzla. If sufficient funds are available (including international loans and grants) a joint train control and track rehabilitation program could be justified on these sections. A fuller investment appraisal could be used to optimize the line speeds and standards sought but this will demonstrate that these should be built around the needs of freight markets for sufficient capacity, end-to-end delivery times and reliability. It seems highly unlikely that the incremental investments to attain fast (100-120 km/h plus) 48 BiH Railways Policy Note passenger services necessary to compete with private cars or road coaches could be economically or environmentally justified in FBH’s passenger markets. 49 BiH Railways Policy Note PART C RAILWAYS OF THE R EPUBLIKA S RPSKA C.1. Current status of the railways in Republika Srpska30 C.1.1 Overview of railway Railway network The railway network in the Republika Srpska consists of 426 route-km of which 353 km are currently under traffic operations. It is one of the smallest networks in the Western Balkans region 31 , similar in size to Albania’s (Fig C1). Compared to land area, the network density is one of the lowest in the region (Fig C2), a little less than half of that of neighboring Croatia and Serbia because a significant proportion of those networks consists of lightly-used branch lines whereas most of the RS network consists of the Entity’s main lines. The backbone route in RS is the east-west line from the border with Croatia via Novi Grad, Banja Luka and Doboj. There it meets the Entity’s section of the north-south Pan- European railway corridor Vc. It also provides the western section of the link eastward from Doboj to the exclaved part of ŽFBH’s network centered on Tuzla. The operational network is standard gauge (1,435mm) predominantly single track (94 percent) and electrified at 25 kV (88 percent). The maximum rated design speed on the main line is generally 100km/h, and many sections have been rehabilitated to this standard. The rated design speed Doboj eastward is generally 40 km/h with short sections at 80 km/h. Commercial speed is lower than rated speed throughout mainly because of an obsolete train dispatching and control system, including some compulsory stops at unprotected level crossings (of the 278 level crossings on the ŽRS network only 23 are protected). Albania 423 Albania 15 Montenegro 239 Montenegro 17 FYR Macedonia 699 FYR Macedonia 27 ZRS 426 ZRS 17 ZFBH 600 ZFBH 23 Bosnia and Herzegovina 1,026 Bosnia and Herzegovina 20 Croatia 2,604 Croatia 46 Serbia 3,809 Serbia 43 Slovenia 1,208 Slovenia 60 Bulgaria 4,023 Bulgaria 36 Romania 10,770 Romania 45 18,942 Poland 61 Poland 0 20 40 60 80 0 5,000 10,000 15,000 20,000 Figure C1. Network route length (route-km), Figure C2. Railway network density, 2014 km/000 km², 2014 30 Details on the operational and financial performance of ZRS are provided in annex V. 31 The Western Balkan Region is defined for these comparisons as Albania, the Former Yugoslav Republic of Macedonia, Montenegro, Serbia, Bosnia and Herzegovina and Kosovo. 51 BiH Railways Policy Note Rail Freight Transport ŽRS freight traffic density is high compared to neighboring countries and is comparable to the EU average. Traffic density is about one million tonnes/route-km - about 80 percent of the EU average - taking into account the entire network and 1.2 million tonnes/route-km which equals the EU average considering only the network length currently in use. Table C1 provides regional and other benchmarks. More than 97 percent of ŽRS traffic task is freight. In 2015, it carried around 5 million tonnes for 428 million net tonne-km (ntkm), an average distance of 85 km.32 Freight traffic has been increasing modestly since 2005 other than a temporary drop in 2009 coincident with the global financial crisis (Fig C3). Domestic traffic (which for freight includes the inter-Entity traffic) comprised 1.9 million tonnes (38 percent), import and export traffic was 1.3 million tonnes (26 percent) and transit traffic 1.8 million tonnes (36 percent) (Fig C4). Freight is dominated by bulk cargo. The main commodities are iron ore, bauxite, aluminium, hydrated aluminium, alkali and coal. The iron ore is about 40 percent of the total 2015 volume by tonnes, with the main user of the iron ore (and the largest client of ŽRS) being Arcelor Mittal Zenica in FBH (2.02 million tonnes of iron ore were transported by rail from RS to FBH in 2015). Locomotives are sometimes changed at the boundary of the two railways but when necessary (for example, the receiving locomotives not available) are run through by mutual agreement. Other bulk commodities including coal, bauxite, aluminium, hydrated aluminium and alkali are transported on various routes, mainly to Alumina Zvornik Novi (0.46 million tonnes in 2015). 600 6.0 500 5.0 400 4.0 3.0 300 2.0 200 1.0 100 0.0 0 2007 2008 2009 2010 2011 2012 2013 2014 2015 Domestic Import Export Transit Figure C3. Freight traffic, million tonne-km, Figure C4. Freight transported, tonnes, ŽRS, ŽRS, 2005-2015 2007-2015 32 Because a substantial proportion of traffic is inter-entity the tonnes carried by each of BiH’s railway are not additive. However, the net tonne-km, a measure of traffic task within each entity, are additive. 52 BiH Railways Policy Note Rail freight prices applied by ZRS are high compared to neighboring countries33. In 2014 ZRS transported 425 million net tonne-km with an associated freight revenue according to the financial statement of 41.44 million BAM, which represents an average price of 0.097 BAM/tkm or 0.054 USD/ntkm. Average prices in ZRS are higher than in neighboring countries, with 0.038 USD/ntkm in Croatia, 0.0288 USD/ntkm in Serbia, 0.023 USD/ntkm in Slovenia, and comparable to Albania average of 0.057 USD/ntkm. ZRS average rate is also higher than the average rate applied by ZFBH which is 0.048 USD/ntkm. Rail Passenger Transport Passenger rail transport is marginal to the RS’s overall transport system, carrying only about 460 passengers/day. In 2014 as a whole, ŽRS carried 168,000 passengers for a total of 12 million passenger-km, an average distance of 71 km. Some 77 percent of passengers were classified as domestic (intra-entity), 14 percent international, and 9 percent inter-entity. All passenger groups have declined in recent years and train occupancy now averages only about 14 passengers/train34 equivalent to less than half a bus-load (Figs C5 and C6). Despite near negligible passenger numbers, around half of all train-km run by the company are of passenger trains. Passenger traffic density (passengers/route-km) is less than a tenth of most other countries in the region and less than 2 percent of the EU average. (Table C1). The two main domestic routes are Doboj – Banja Luka (4 pairs of trains/day), Doboj – Petrovo Novo (3 pairs of trains/day) and Banja Luka – Dobrljin (2 pairs of trains/day). Inter- entity trains run between Doboj and Sarajevo (2 pairs of trains/day) and Doboj and Tuzla (1 pair of trains/day) but they carry very few inter-entity passengers and most passengers are travelling intra-entity. There is an international train (1 pair of train/day) between Sarajevo and Zagreb that uses the ŽRS line, but most international passengers on the train are relatively short-distance cross-border trips. Table C1. Freight and passenger traffic density (2014, unless otherwise indicated) COMPARATOR Freight traffic density Passenger traffic density RAILWAYS (000 tonnes/route-km) (000 pass/route-km) EU average 1,240 1,870 Poland 1,690 626 Romania 912 420 Bosnia 1,277 33 ŽFBH 1,475 37 ŽRS 998 28 Croatia 814 356 FYR Macedonia 590 115 Montenegro (2013) 419 293 Serbia 680 162 Albania 95 18 33 The low share of transit traffic implies in more manipulations per ntkm in average, what may, at least partially, explain a higher price. 34 Passenger numbers are as counted in railway statistics and may exclude some travel involving fares evasion. 53 BiH Railways Policy Note 50.0 12.0 800,000 40.0 10.0 600,000 8.0 30.0 6.0 400,000 20.0 4.0 10.0 200,000 2.0 0.0 0.0 - Passenger traffic (million pass-km) Domestic route Inter-entity route % of the total traffic International route Figure C5. Passenger traffic in ŽRS, 2005- Figure C6. Number of passengers in ŽRS, 2014 2006-2014 Rolling stock ŽRS has acquired little new rolling stock in the last twenty years, with the exception of a fleet of wagons for the iron ore traffic. The locomotive and passenger carriages fleets are very old and in generally poor condition. Nevertheless, the fleets are far larger than is required for the current traffic task. Locomotive, freight wagon and passenger coach productivity (even excluding non-operational stock) are all relatively low by regional standards and a fraction of EU average levels (Annex V provides details). Human resources At end 2015, ŽRS had 3,160 employees. Labor productivity (average traffic units per total employee) in 2015 was estimated to be 146,000, lowest in the region (other than Albania) and about a quarter of the EU average. The company increased its employment levels until 2010, on the basis of its employment policies rather than commercial needs, and despite some attrition in numbers since then, ŽRS still has more employees than it had in 2005 and the highest number of employees/route-km of any railway in the region (Table C2). 54 BiH Railways Policy Note Table C2. Railway labor productivity by country (2014, unless otherwise indicated) COMPARATOR Staff productivity Total employees Number of employees RAILWAYS (000 traffic (000) per km of line units/employee) EU average 1069.0 613 5.1 Poland 90.0 490 4.7 Romania 45.1 318 4.2 Bosnia 7.0 193 6.8 ŽFBH 3.6 253 5.9 ŽRS (2015) 3.2 146 8.7 Croatia 9.3 329 3.6 FYR Macedonia 2.6 188 3.7 Montenegro (2009) 1.0 (est) 178 4.0 Serbia 17.1 188 4.5 Albania (2009) 1.1 42 2.7 C.1.2 ŽRS financial status ŽRS is not financially sustainable in its current role and form, operating with a large deficit in every recent year after receiving some support from the RS budget for passenger services and infrastructure. Total operating expenses of ŽRS exceeded total revenues for each year during 2007-2014 (Annex V provides details). The amount of total revenues, including budget support, was just about sufficient to cover cash operating expenses. Labor costs are a disproportionate component of the cost structure of ŽRS, not surprisingly given the very high levels of staff for railway of this length and traffic profile. In 2014, the wage bill was 64 percent of operating expenses35 and 108 percent of commercial revenues (excluding Entity subsidies). Depreciation is the second largest cost item, but ŽRS has had no commercial revenue or budget support to fund depreciation provisions as a source of finance for annual renewals or investment. Basically, all infrastructure O&M costs are funded from the budget. Most financing of major capital investment since the company’s formation was made available to ŽRS through foreign and domestic loans, servicing and repayment of which are basically funded by the RS government though channeled through the company’s accounts. Between 2009 and 2013 ŽRS invested on average BAM 56 million annually on rail infrastructure and rolling stock. Infrastructure investments (BAM 146 million in total for those five years) included mainly overhaul and rehabilitation of track and modernization of signaling and telecom system on some sections. Rolling stock investments totaled BAM 127 million during the 2009-2013 period and financed the purchase of new wagons and rehabilitation and overhaul of some existing rolling stock. Persistent financial losses prevented ŽRS from funding capital expenditure or fully servicing debt obligations from its own resources. As a result, the debt service payments were made on the behalf of ŽRS by the RS government but charged to the railway account. In addition to the loans, ŽRS received annual subsidies for infrastructure but this amount declined over the years from over BAM 28 million in 2008 to BAM 17 million in 2014. 35 Defined for this purpose as expenditures related to materials, fuel, electricity, salaries and allowances, outsourcing and other services, and depreciation. 55 BiH Railways Policy Note Despite the weak overall financial status, ŽRS actually earns a healthy surplus on freight operations relative to its operating costs. By contrast, there are substantial losses on passenger services, even allowing for revenue support from the budget. Table C3 provides Bank estimates of the performance by business sector, using a financial model based on commonly-used management accounting techniques used internationally for railway analysis. Even with RS budget support, passenger unit revenues cover around a third of direct expenses of passenger services and 16 percent of total operating costs (excluding depreciation). These estimates of losses are higher than internally estimated by the company but arise because of the costs attributable to the approximate half of all train-km that are passenger trains 36 . These represent a substantial net cost burden to the company (BAM 14.164 million) which consumes virtually the whole of the freight surplus that it earns (BAM 14.194 million). As a result the freight surplus is not available either to reinvest in the profitable freight business or to contribute to recovering the network infrastructure costs. The operations costs of network infrastructure are more or less fully funded from the budget. Table C3 ŽRS estimated financial performance by sector, BAM millions (201437) Income and Passengers Freight Network Total expenditure summary Direct expenses Labor 7.5 10.5 12.5 30.5 Materials 1.3 3.2 2.4 6.9 Fuel/energy 0.6 1.9 0.2 2.8 Other 0.4 4.3 0.8 5.5 sub-total direct expenses 9.9 19.8 16.0 45.7 Train control 5.6 6.4 0.7 12.7 Corporate 2.0 3.5 2.2 7.7 Total operating costs 17.5 29.7 18.8 66.0 Revenue 0.9 43.9 1.7 46.4 Budget support 2.5 22.5 25.0 Amortization 16.1 Deficit/surplus -14.2 14.2 5.3 -10.8 Financial income 0.4 Financial expenses 13.9 Other revenue 4.3 Other expenditure 13.8 Total Loss -33.8 Source: ŽRS financial statements and operational data and World Bank activity-based cost analysis. Total revenue, expenditure and loss of BAM 33.8 million reconciles to ŽRS financial statements. Note that both train control and corporate costs in the above table include significant labor components. 36 Although infrastructure costs are often considered to not vary with traffic volumes, there seems little doubt that very substantial costs in train control costs and corporate services could be avoided if passenger services ceased to run, so such costs are properly allocable to passenger services. 37 Expenditures in 2014 were about 10% above average for previous years due to the floods. 56 BiH Railways Policy Note C.1.3 Alignment with the EU railway acquis The railway policy framework in BiH needs strengthening in a number of areas to harmonize with the EU railway acquis. The areas that most immediately bear on responsibilities exercised by the Republika Srpska government (as opposed to the BiH level) are those related to institutional structure, track access, budgetary support for passenger services; budgetary support for infrastructure; and debt sustainability. The required actions (for which more details are given in Annex II) are:  the separation between the management of railway infrastructure and management of rail transport operations which are currently co-located and managed by one company;  the implementation of a compliant non-discriminatory track access regime with a Network Statement to facilitate access with a system of track access charges;  if passenger services will be continued, the provision of adequate compensation for passenger transport services via a public service contract (PSC) between the government and the service provider;  adequate budgetary support for the O&M of network infrastructure through a more rigorous (and preferably multi-annual) maintenance contract (MAIC38); and  a mechanism for government to assume or restructure unsustainable debt of its train operating company in order for it to be able to compete on a fair basis with third-party train operators competing under access arrangements. The Republika Srpska government is actively considering legislative actions to underpin the institutional and structural changes necessary. The following section now turns to the policy options that the RS government might wish to consider its deliberations. C.2. Rail industry structure options C.2.1 Industry structure alternatives There are various ways of harmonizing with the acquis, as evidenced by the variety of arrangements that EU member states have adopted for their own national railways. The Republika Srpska should consider which arrangements best suit the Entity’s circumstances. The main high-level structural choices faced by the RS government fall into four categories, relating to (a) the organizational form of the future state-owned railway enterprise (or enterprises); (b) if the state chooses to contract for passenger rail services with a state-owned rail user, where to locate this activity in the structure; (c) the exercise of state share-owning functions in such enterprises; and (d) whether to seek private participation in the Rail Operating company. These main choices are set out in Figure C7. Each of the policy choices has its own advantages, disadvantages and risks. The options are described below and the appraisal that follows seeks to delineate the key features of each choice. The Policy Note presents an opinion on options when, weighing all factors, this seems justified by both the local circumstances and international experiences. However, the Policy Note is not intended to be prescriptive and ultimately these key structural decisions are for governments. 38 The railway acquis does not require that the infrastructure contract be on a multiannual basis but it is suggested in EU supporting papers as best practice. 57 BiH Railways Policy Note C.2.2 Basic organizational form of state-owned railway enterprises The Policy Note is guided by provisions of the informal agreement on the 4th Railway Package market pillar agreed by representatives from the European Commission, Parliament and Council in April 2016. The Agreement has still to be approved by the full Council and Parliament, and this is expected in late 2016. It implies that both the separated or group structures that exist in member states are acceptable but whichever alternative is used it should be designed to ensure impartiality of railway infrastructure managers in providing non-discriminatory access to tracks, allow them to pursue their own strategies for better use of rail infrastructure, and improve financial transparency in order to remove the risk of cross- subsidy between infrastructure managers and transport operators. Detailed rules on each of these matters are to be promulgated. Figure C7. Railway Industry Structure: The Main Options Key issue Structural Alternatives Basic organizational form of Separate Infrastructure Group structure with state-owned railway Management and Transport holding company enterprises Operating companies Subsidiary or Subsidiary in Independent freight Business Division Location of a passenger rail holding company and passenger of Transport management structure companies Operating Company A specialized Exercise of Entity share- Line Ministry Shared ‘ownership’ central agency or owning functions (MOTC) between ministries department Private participation in the Retain public Transfer to private state railway operator ownership owners/investors On balance, the Bank team considers the best way forward to be institutional separation of the infrastructure manager from the transport operating company, arguably the simplest and most clear-cut option for RS. The evaluation of options is described in more detail in Annex V. The evaluation was aimed at identifying a structure which, while capable of complying with the EU acquis, would also consider the efficiency of various elements of sector management, and the ease of implementation. Institutional separation would avoid the ambiguity and potential conflict of interest inherent in a group structure. The two companies would have a clear role and functions. Relations between the two companies would be governed by a contract for infrastructure access subject to the regulatory oversight of the BiH RRB regarding the access to each other’s network, in accordance with EU principles. The preference for separation is reinforced by the added weight the team gives to two factors in the evaluation criteria: first, there is the expectation under separation that clarity and focus in roles would lead to better management of the individual infrastructure and transport operating companies; and second it would enhance their ability to determine their own 58 BiH Railways Policy Note business strategies in the context of a European railway system in which each will have different opportunities and constraints, and sometimes different interests. Thirteen EU member states have separated structures: Bulgaria, Czech Republic, Denmark, Great Britain, Greece, Finland, Netherlands, Norway, Portugal, Romania, Spain, Sweden, Slovakia (See Annex III). However, a group structure is also a legitimate and compliant option that would maintain a measure of coordination between the state-owned components of the rail industry. Under this structure a holding company would be interposed between the RS government (and the other) owners and subsidiary infrastructure and operating company (ies). Four EU Member States have adopted group structures for their railways: Germany, Poland, Italy and Austria. It might be easier to implement in RS, requiring corporate reorganization of ŽRS rather than its division, and it might be easier for the line-ministry to deal with one holding company rather than two separate companies. However, it would create less clarity and focus in company roles and would create a greater regulatory compliance challenge because of the need to demonstrate management independence, competitive neutrality and financial transparency on the part of the infrastructure management subsidiary. The separate companies approach seems more suitable for RS and likely to deliver better performance at lower cost. The railway industry is not sufficiently large or complex to justify adding another institutional layer39 (in the form of a holding company) to a railway industry already characterized by an abundance of institutions. Moreover, in a group structure the best railway managers would tend to gravitate to the holding company instead of running the actual businesses where their skills are most needed. This would dilute the responsibility and accountability of the subsidiary managements. While in theory a group structure could provide some sharing of corporate services such as financial accounting and human resources management, putting these at holding company level would reduce management independence at the subsidiary level. It is also likely that with current low levels of productivity, significant costs can be saved anyway in all corporate functions during a well-planned separation process, a saving less likely if resources are simply regrouped into subsidiaries. C.2.3 Location of a passenger rail services in the structure If a holding company structure were to be favored it would be relatively straightforward to locate a separate passenger company within it. A small and separate passenger subsidiary company could be nested into a group structure, a PSC contract agreed between the government and the passenger subsidiary (possible with the assent of the holding company). The RS railway ‘group’ would then consist of a Holding Company, Infrastructure Manager, Freight Operating Company and a Passenger Operating Company. It would also be possible, but probably not very practicable, to establish an independent separate passenger services company. In this option, RS would establish three separate companies: Infrastructure Manager, Freight Operating Company and a Passenger Operating Company. However, a railway Passenger Operating Company in RS would be a very small enterprise to operate entirely independently, might suffer some diseconomies of very small scale, and be more or less totally dependent on and therefore vulnerable to fluctuations in budget funding (which would need to provide more than 95 percent of income). 39 The holding company would need to have separate management structure and supervisory boards, in order to prevent conflict of interest. 59 BiH Railways Policy Note The best option would seem to be to leave passenger services as subsidiary or special business division of the Operating Company. In view of the very small scale of RS passenger rail operations then it would be a sensible approach to retain passenger capability within the Operating Company as a division or subsidiary rather than having two new Operating Companies. (This presupposes that the RS government would choose to continue to own a passenger rail operation, a proposition that is evaluated in Section C3). If this option were preferred the EU railway acquis requires that separate accounts be kept for the passenger activities to verify and agree the costs of the Public Service Contract, and avoid cross-subsidy from freight to passenger sectors (as now occurs). This could be achieved by the division or subsidiary ‘buying in’ most of its services (e.g. crew, rolling stock maintenance) from other parts of the company at properly accounted transfer prices. C.2.4 Exercise of state share-owning functions When ownership functions in government transport enterprises are exercised by the line ministry (normally the transport ministry) this increases ministerial control but can lead to day-to-day intervention and undermining of management responsibilities. A line ministry has the responsibility for formulating overall transport policies in accordance with government social, economic and other aims, and bears the burden of public accountability for those policies. However, the shareholder functions in a corporate structure must be primarily concerned with the efficiency and commercial sustainability of the enterprise. In many countries exclusive line ministry oversight of enterprise share ownership has led to conflicts of interest between political and commercial aims, resulting in day-to-day political intervention in the management of enterprises despite adverse commercial impacts. The exercise of public ownership functions in state-owned enterprises by an agency or department not responsible for transport policy tends to give greater weight to the efficiency and commercial performance of the company. The World Bank’s Toolkit on Corporate Governance of State-Owned Enterprises (2014) suggests governments should consider moving away from traditional ownership models in which line ministries have ownership responsibilities, to centralized ownership arrangements. Similarly, OECD Guidelines on Corporate Governance of State-Owned Enterprises (2015) suggest: there should be a clear separation between the state’s ownership function and other state functions that may influence the conditions for state-owned enterprises… The exercise of ownership rights should be centralized in a single ownership entity, or, if this is not possible, carried out by a coordinating body. OECD reports that such vesting of the public share-ownership functions in State-owned Enterprises in a single, specialized agency or department is being increasingly adopted among OECD countries, including (but not limited to) some EU countries. Adoption of the EU railway acquis tends to support (but does not require) vesting the share-ownership functions in an agency or ministry separate from the contracting line ministry. However, under the EU model the relationship between a line-ministry and a railway enterprise should generally be governed by contractual arrangements that embody public policy aims, leaving managers freedom to manage enterprises commercially in how they meet the contracted targets. These contracts are the PSC contract with an Operating Company for passenger rail services and a MAIC contract with an Infrastructure Management Company for network infrastructure management. Following the implementation of new company structures, the customer/owner roles can then be separated, with the line-ministry being the party contracting with the companies in accordance with transport policies and a separate 60 BiH Railways Policy Note agency performing ownership functions. However, this option is clearly only feasible if the RS government were to create such an agency for a number of the enterprises owned by the entity. If not, a third ‘compromise’ alternative is to divide the share-ownership function between a line-ministry and a non-line-ministry (e.g. a ministry of Industry or Ministry of Finance) to try to give more balance of shareholder views between the corporate governance functions of an ‘independent’ government shareholder and the policy/contracting functions of the line ministry. C.2.5 Private participation in the Operating Company The Republika Srpska government currently holds majority ownership of rail freight operations and has no current plans for privatization. When the rail freight market becomes contestable under a non-discriminatory access regime the Operating Company will need to compete for freight traffic with possible new entrants, both public and private. It will be vulnerable to competition for the best of its few markets. The RS government should consider why it would wish to participate as a player in a freight transport market which in all other modes is dominated by the private sector. There is a serious risk that if it remains publicly-owned, the Entity’s Operating Company will be unable to grow into the high- efficiency, high-performing enterprise necessary to compete successfully both with the predominantly private road transport industry and the many operators in the emerging European rail freight industry. International experience and proposed market competition suggest the government should consider the option of privatization before access rights opens up the market. Private participation in rail freight has been successful in improving performance just about everywhere it has been tried. A World Bank review of rail freight privatization on three continents, Latin America (sample of 7 freight railways), Africa (12 freight railways) and Australia (5 freight railways), showed that privatization has almost always had a positive result on the pre-existing business efficiency and effectiveness in the rail freight sector. While acknowledging this must be a decision for Entity governments this option should be seriously considered before the market becomes contestable through track access rights. The value of the company will surely deteriorate once it is. C.2.6 Implementation Issues The most pressing of the structural issues is to determine and implement the desired future institutional structure of what is currently ŽRS. The most suitable approach for the railways of RS is that which creates the most straightforward structure, that is the creation of two separate companies, an Infrastructure Manager and a transport Operating Company. A supplementary decision is how to handle any residual passenger services and the simplest solution in practice is to retain it as a separately accounted division or subsidiary of the Operating Company, rather than trying to create an independent company in such a small and unpromising market. At the time of their formation, it is considered better, if the option is available, to vest the ownership of the government’s shares in the two rail enterprises in an agency or ministry that will not be responsible for negotiating the PSC and MAIC contracts. Given 61 BiH Railways Policy Note that a small proportion of shares in the integrated ŽRS are already independently owned, it would seem appropriate to encourage or incentivize such shareholders either to sell their shares back to government or to swap their shares in ŽRS for shares in the new Operating Company. This would leave the Infrastructure Manager, which will be greatly dependent on MAIC, as a fully publicly-owned company while the Operating Company would increase its proportion of private ownership with the future possibility of profitable freight operations and potential dividends. Increasing private participation still further should then be seriously considered, but any decision to do so beyond this should be deferred until the new Operating Company is up and running with a strong business plan and an audited set of accounts. If the RS government chooses the option of separating companies it should be well- planned and implemented and not just be a process of dividing out existing assets, liabilities and human resources. The intention of restructuring is not just to harmonize with EU structures but to create a more effective and sustainable railway industry. Separation of the two new rail companies appears likely to require a new RS Railway Law and the opportunity should be taken to establish the new companies on a firm commercial foundation. They would be obligated by law to implement those parts of the EU rail acquis that fall to the companies (for example, in the case of the Infrastructure Manager, the preparation and publication of the Network Statement and access terms and conditions) The new RS railway companies should also be established with a clear commercial mandate to operate their businesses in the most efficient and effective manner. Their opening balance sheets should carry only the assets they need and any obsolete or surplus assets disposed of as soon as possible. They should not be burdened with the transfer of unsustainable loan obligations which they are unable to service and repay and which are in practice funded from the budget. They should ideally only take over the staff they need to run the companies efficiently. Unless these issues are addressed prior to separation and a robust implementation plan adhered to, the new companies will simply inherit and share between them the current problems and inefficiencies, rather than having the opportunity to make a clean start. C.3. Railway development policy options C.3.1 Key policies Irrespective of structure, the Republika Srpska government has policy choices in four main areas of railway policy, each having very different budgetary impacts for the Entity. The strategies have been evaluated using the ŽRS financial model by estimating the total 10 year cost, expressed in 2015 constant prices, of capital outlay and net operating costs (operating costs less commercial revenues), which is essentially the amount that the Entity budget would need to pay to support the railway on a sustainable basis over that period through (using the EU framework) a combination of Public Services Contract, a Multi-Annual Infrastructure Contract and support of capital investment in passenger services and network infrastructure. In all cost tables in Section B3, this capital cost is the future cost outlay and excludes RS government payments of existing IFI debt service of about BAM 4 million/year. C.3.2 Employment policy options If the government of RS does nothing fundamental to change the way its railway industry is run then the total potential budgetary impact of its railway sector over the ten years 62 BiH Railways Policy Note would need to be about BAM 328 million. The capital support in this ‘business-as-usual’ approach would be about BAM 103 million (excluding existing debt servicing on behalf of railways) plus net operating cost support (passenger services contract and infrastructure O&M costs) about BAM 225 million. The business-as-usual case represents continuation of current policies and investment levels. Specifically it assumes: no change in total employment levels from a base of around 3065 employees; passenger and freight trains continue to be operated in RS much as now for the same traffic levels; and no competition from any third- party freight train operators. The overall results are shown in the Case 1, business as usual, line in Table C5. Figure C8. Railway Industry Policy: The Main Options Key issue Policy Choices Reduce employment Adopt an early Maintain current Productivity and employment through natural labor restructuring employment levels attrition policy Current service Invest in improved Discontinue rail Rail passenger public services level passenger services passenger services Contestability of freight No competition in Significant third-party freight competition market foreseeable future from 202040 Prioritize train Train control plus Investment in railway Current control and increased line network infrastructure investment levels associated speeds improvements An active policy of improving productivity through natural attrition of employment levels could reduce net operating costs by around 39 percent over the period. Capital spend would not be affected so that overall budgetary impact would reduce by about 26 percent to around BAM 241 million. The natural attrition policy could deliver a reduction of around 3-4 percent staff /year yielding a staff level of around 2172 after 10 years. The average labor productivity would improve to around 202,000 traffic units/employee but this would still be lower than most railways in this region achieve already despite lower traffic density than in RS. An early labor restructuring program would transform the performance of the railway and nearly eliminate the net operating cost deficit. The labor restructuring policy is represented in the financial model as a downsizing over the period 2017-2019 to about 1500 staff by 2020 with a gradual reduction thereafter to a total staff of around 1319 by 2025. Assuming labor compensation costs are treated as operational expenditures 41 the capital spend would not be affected so that overall budgetary impact would reduce by about 62 percent to around BAM 123 million. The average labor productivity in 2025 would improve to 40 If the EU railway acquis is adopted this is not a strategic choice as such but the two alternatives are included to illustrate what impact significant competition could have on sector finances. 41 In practice there is a strong case for treating labor restructuring as a form of investment because in overstaffing situations it yields returns on investment substantially higher than either rolling stock or infrastructure investment. 63 BiH Railways Policy Note about 333,000 traffic units/employee, comparable with productivity levels currently attained by railways in Croatia and Romania. Table C5: Impact of railway employment policies Reference Case (1) Case (2) Case (3) Passenger services Productivity improved by Productivity improved by policies ‘Business-as-Usual’ natural attrition (2016- labor restructuring 2025) program (2017-2019) Staff in 3065 2172 1319 2025(a) Staff 143 202 333 productivity(b) Capital 103 103 103 Cost(c)(d) Net operating 225 138 20 cost(c) Total Budget 328 241 123 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) (d) In all tables in Section C3 this capital cost is the future capital outlay and excludes Government payments of existing IFI debt service. The budgetary impact of the railway sector is clearly heavily influenced by railway labor productivity. ŽRS is heavily overstaffed partly as a result of policies to create employment so government support would be necessary to right-size the labor force. If the government of RS were to approve programs to improve railway efficiency through higher labor productivity then the net budgetary impact of any other railway development policy would be more favorable. More crucially, the government of RS must anticipate a future as part of an integrated European rail market: its Operating Company cannot be competitive with any third-party operators if it is not operating efficiently; and its Infrastructure Company will not be able to provide an attractive route if government support is funneled into job creation rather than infrastructure improvements. C.3.3 Passenger service policy Withdrawal of the requirement for ŽRS to meet a public passenger services contract would beneficially impact both the economics of ŽRS and the RS budget support required for railways. This policy has been represented in the financial model as a withdrawal of all passenger services from the year 2020. The fares revenue foregone would be minimal but the potential operating costs savings substantial. Table C6 shows the net impact compared with the labor strategies of natural attrition and of restructuring (Cases 2 and 3 above). It shows that after allowing for those productivity improvements, while under natural attrition of labor the need for budget support would be reduced by 15%, the labor restructuring scenario would eliminate the need for net operating support from the budget (by 2025 the freight only railway would be in overall operating surplus of BAM 27 million) and total budgetary impact would be only 40 percent of that from Case 3 (though still requiring Entity investment in infrastructure). At the same time the total staff of the (in this scenario) freight only railway would be reduced to around 925 employees and the productivity would soar to about 463,000 traffic 64 BiH Railways Policy Note units/employee, nearly as high as now achieved in Poland and about three-quarters of the current EU average. In contrast, the RS government could choose to invest in modern rolling stock and offer a higher level of service on the main passenger routes but the budget impact would be severe. This policy has been represented in the model as comprising government funded investment to operate a better frequency, inter-city service between major centers on main lines with new good quality rolling stock, starting in 2020. The policy would increase passenger numbers which, using conventional estimates of market elasticity, suggests an increase in passengers of about 65 percent. The new (more efficient) rolling stock would also provide some unit operating cost savings but these would be more than consumed by increasing service frequency to more attractive levels. The upshot is that the operating financial support required over the ten years would be BAM 42 million greater than the net cost under Case (3p1), with an increase in need for capital support to BAM 128 million, yielding an overall budgetary support requirement of BAM 143 million, about three times the budgetary cost if the rail passenger service were discontinued even allowing for much higher labor productivity in the comparison. Table C6: Impact of railway passenger services policies Reference Reference Case (2p1) Case (2p2) Case (3p1) Case (3p2) Case (2) Case (3) (2) + (2) + productivity (3) + (3) + Passenger productivi discontinue substantiall improved discontinue substantiall services ty rail y improve by labor rail y improve policies improved passenger passenger restructurin passenger passenger by natural services service g program services service attrition from 2020 levels 2017-2019 from 2020 levels Staff in 2172 2176 3043 1319 925 1389 2025(a) Staff 202 197 147 333 463 321 productivity(b) Capital Cost(c) 103 79 128 103 79 128 Net operating -27 138 126 214 20 15 cost(c) (surplus) Total Budget 241 205 342 123 52 143 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) The RS might wish to replace a rail public service contract with a bus service contract but the cost would be only a fraction of the total costs of running rail services. The RS has a very well developed bus industry that could readily absorb the small volume of rail passengers affected given reasonable notice. However, an alternative that might be favored to assure continuity of services to the public is for the Ministry of Transport and Communications to tender a transitional contract for bus replacement services paralleling the existing railway services. This simple measure is a way of assuring passengers who may be impacted by service withdrawal or line closure that they will receive continued public transport service at affordable price which can be done by establishing performance benchmarks service frequency, station stops, journey times and vehicle standards at levels equal to or ideally superior to those of the rail services they replace. 65 BiH Railways Policy Note C.3.4 Rail freight policies In the freight sector ŽRS’s strategic imperative must be to try to hold onto the freight already carried. It has not been possible to discern any significant new commodity flows that the company could realistically target. Within the EU rail acquis freight rail services are to be competitive and financially self-sustaining without budget support for transport operations so strategic decisions are essentially for the operating company management rather than the RS government. The corresponding investment range is from maintaining the current level of investment in rolling stock to a modest increase to strengthen fleet quality, but such investments would be financed by the company not state-aided through the budget. However, budgetary impact will be influenced by when the RS rail market becomes open to competition by other freight train operators, and what the impact of such competition would be. For illustrative purposes it is assumed that an effective access regime is put in place on the RS network by 2020. Competitive markets are never predictable, but observing other European experiences and noting that ŽRS has a very concentrated market of a few large bulk customers it is evident that parts of this the market could be quite attractive to competitors or to major shippers either operating themselves or contracting to a third-party for rail transport services. Contestability would certainly impact freight rates but probably also the volume of traffic that a ŽRS freight company could retain. Naturally, if new operators win part of the freight market they will still pay track access charges for infrastructure and so the income of a ŽRS infrastructure company would remain constant. But the revenue of a ŽRS freight company would reduce. For illustrative purposes the evaluation assumes that the ŽRS average freight rates for the traffic they retain (which will generally be wagonload traffic unattractive to new operators) would remain constant compared to business-as-usual but that the ŽRS freight operator would lose 10 percent of its markets to private operators each year with a residual market of about 50 percent of the ‘without access’ case by 2025. In practice a sufficiently entrepreneurial management might preserve more of their pre- existing freight markets but equally it is possible that the impact could be greater. Based on the assumptions stated above, Table C7 shows that such an outcome would increase the operating support for the Entity-owned railways by BAM 55 to 60 million because the increased track access income from third-party operators would not compensate for the anticipated reduction in average revenue yield and the traffic lost to competition by a ŽRS freight operator. 66 BiH Railways Policy Note Table C7: Illustrative impact of third party track access by freight operators 42 Reference Case Reference Case Case (2f2) Case (3f2) (2) (3) Freight productivity (2) plus third-party (3) plus third-party services productivity improved by labor freight train freight train policies improved by restructuring access from year access from year natural attrition program 2017- 2020 2020 2019 Staff in 2172 2172 1319 1048 2025(a) Staff 202 202 333 41943 productivity(b) Capital Cost(c) 103 103 103 103 Net operating 138 199 20 65 cost(c) Total Budget 241 301 123 168 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) C.3.5 Rail infrastructure investment policies Three development policies may be contemplated in the infrastructure sector depending on the level of investment that government wishes to make in the railway network. One policy is to sustain investments at the current level (as summed in Case (3)). A second policy is to increase investment levels giving priority to the creation of an improved train control system which would include overcoming the delays and heavy staffing currently associated with train operations. In the view of the Bank Team this is the highest priority capital investment need. A third policy is to add to the Train Control system improvements yet higher investment so as to achieve higher line speeds which have been represented as 90 km/h for passenger services and 80 km/h for freight services, (compared to about 75 km/h at present). Comparisons of budget impact are given in Table C8. Modest investment in improving the train control system and operations is estimated to break even over the period but then deliver on-going annual benefits. Capital costs would increase by BAM 37 million but this is offset during the period by the net operating costs savings of BAM 33 million, with continuing benefits of BAM 5 million annually. By contrast, increasing line speeds has a much higher capital outlay by BAM 39 million that is not offset the lower operating costs of BAM 14 million during the period44. 42 In view of the huge losses it is unlikely that any third-party operator would wish to enter the passenger market without a passenger services contract. 43 This productivity is overestimated as it includes the traffic carried by envisaged new train operators on the system but excludes their staff. 44 Over a longer evaluation period than 12 years the ratio of benefits to costs would improve but given the pressing financial constraints the 12 year evaluation period clearly shows the economic priority of train control system improvements compared to line-speeds. 67 BiH Railways Policy Note Table C8 Impact of rail infrastructure investment policies Reference Reference Case (2i1) Case (2i2) Case (3i1) Case (3i2) Case (2) Case (3) (2) + (3) + (2) + productivity (3) + Infrastructure productivi Investment Investment Investment improved Investment investment ty in in in track by labor in track policies improved improving improving rehab to restructurin rehab to by natural the train the train increase g program increase attrition control control line speeds 2017-2019 line speeds system system Staff in 2172 1960 1826 1319 1142 1030 2025(a) Staff 202 224 240 333 384 426 productivity(b) Capital Cost(c) 103 140 179 103 140 179 Net operating 138 104 90 20 -13 -27 cost(c) Total Budget 241 244 269 123 127 152 impact(c) (a) number, (b) ‘000 traffic units /employee in 2025, (c) budgetary impact 2016-2025 (BAM millions) C.3.5 Combined development policies When individual policies are combined, the range of strategies implies a total budget impact range from BAM 52 million to BAM 342 million. Table C9 shows the budgetary impact for a range of combined strategies. The most expensive in commitment of public resources would be to continue to tolerate existing low productivity, while investing in improved passenger services and higher line speeds. The least expensive in terms of public resources is to pursue a labor restructuring program and discontinue passenger services: investment in improved train control would have a very small net negative budgetary impact during the 10 year period but positive financial benefits thereafter. The choice of overall development policy is the responsibility of the government of RS taking account of transport policy aims and budgetary constraints. Public expenditure must of course be judged by decision-makers according to their policy judgement of value for money and not just its absolute level. The analysis suggests that an optimal order of decision making is as follows: first, whether or not to adopt an early labor restructuring program; second, whether to continue to fund rail passenger services or replace with road-based public transport; third when to implement an infrastructure access regime; fourth, when to adopt the train control investment priority policy and how to finance it; and lastly, whether and how much to invest in attaining higher line-speeds. 68 BiH Railways Policy Note Table C9 Budgetary impact of combined policies Policy combinations45 Current passenger Labor restructure Medium network Current network Budgetary High passenger Labor attrition High network No passenger Current staff investment investment investment impact services services services 2016-2025 (BAM millions) Case 1 business-as-usual    328 Case 2 labor attrition    241 Case 3 labor    123 restructuring Case 1 + pax investment    335 Case 2 + pax investment    342 Case 3 + pax investment    143 Case 2 + no pax    205 Case 3 + no pax    52 Case 2 + train control   244 Case 3 + train control   127 Case 2 + high investment    269 Case 3 + high investment    152 No pax + train control    55 C.3.7 Policy Implementation Issues All of the main elements of new policy options require more detailed evaluation and planning prior to implementation, none more so than labor policy which could improve the performance of any other railway policy. The natural attrition option should be relatively straightforward to adopt and would provide gradually accruing benefits. A fuller labor restructuring program, if sanctioned by the RS government, would give immediate productivity benefits but in business planning terms should have a sound basis in future business needs of the Infrastructure Manager and the Operating Company. Company managements would thereby undertake a fundamental re-evaluation of their asset management strategies, operating and maintenance standards and methods, work practices, demarcation constraints, crew rosters, opportunities for competitive outsourcing, and other 45 All policies include third-party freight train operator access from 2020, which is an essential element of the EU railway acquis 69 BiH Railways Policy Note business processes using a ‘zero-based’ methodology to identify the most efficient labor force capable of meeting the traffic commitments they can reasonably foresee. The resulting retrenchment program would also need to be able to demonstrate that it is fair and transparent, that full consultation with the workforce and Trade Unions has taken place, and that funding is available for satisfactory compensation packages and supporting social/retraining programs. Deciding the future of passenger rail services requires a more detailed review of public passenger transport demand and supply in the RS corridors where passenger rail services currently run. The analysis carried out for the Policy Note has been strategic in nature, using service utilization data from ŽRS. To fully appraise the option of discontinuing passenger rail services, an informed assessment would need to be made as to their social benefit and how the continuation of such benefits could be assured through adaptation of road-based public transport services. This would require more detailed passenger surveys to better define the precise markets for passenger rail service by origin-destination, journey purpose, age and gender, amongst other attributes. To gauge the passenger improvement policy option would require a wider potential catchment survey of passenger transport demand that might be attracted to an improve railway service as well as detailed economic, social and environmental appraisal of the investments required. A much more explicit Public Service Contract would also need to be developed with a verifiable costing procedure that meets EU approaches. The model estimates suggests the budget support for such contract would need to be at many multiples than government now pays. Third-party access is obligatory if the EU acquis is to be adopted, but the details of implementation and timing need to be determined. Fortunately, there are numerous examples of Network Statements available from other EU Infrastructure Managers and available on the internet. Track Access charges will need to be structured in accordance with evolving EU guidance, however, if the freight traffic does not have to subsidize passenger traffic it could make a significant contribution to network infrastructure costs relative to many European countries. Track Access charges and conditions should also be harmonized so far as possible between Entities (discussed further in Section D). A decision would also need to be made when to fully implement the track access regime. There is a strong case to defer this until RS has properly separated Infrastructure Manager from Operating Company, and the latter has been given the opportunity to become as efficient as possible in advance of competition. The assumption of implementation of track access in 2020, as used in the financial model, may be a reasonable target to aim at. The final network investment programs for the new companies under a new structure would be developed by the management of the RS Infrastructure Manager. The programs would need to be within a budget envelope agreed with Entity governments who will ultimately need to fund them. The program should cover a duration of at least five years and be renewable. The Note has concluded at a strategic level that greater centralization of train dispatching and control and better (and safer) control of level crossings is the main priority but there are RS sections of Doboj to Zvornik where if sufficient funds are available a combined train control and track rehabilitation program could be a justified priority. A fuller investment appraisal could be used to optimize the line speeds and standards sought but this will demonstrate that these should be built around freight needs as there is no conceivable way that the incremental investments for fast (100+km/h) passenger services could be economically justified. 70 BiH Railways Policy Note PART D IMPLICATIONS FOR E NTITY GOVERNMENTS AND BIH D.1. Co-ordination between Entity railways and the role of BHŽJK The adoption of new structural arrangements to comply with the EU railway acquis presents to Entity governments and railways a coincident opportunity to reconsider how best to interact to mutual advantage in the European railway market. The implications of adopting the railway acquis for the future of BiH’s railway industry differ for the train operating companies and the infrastructure management companies. The implications for the train operating companies are the more profound, but in each case they will challenge Entity government thinking about what BiH level arrangements would be most likely to serve their policy interests. D.1.1 Entity Train Operating Companies The most critical impact of the acquis will be the effective dismantling of boundaries to rail transport operations. At present each railway has ‘de facto’ exclusive operating rights within its Entity boundaries 46 . In contrast, when the railway competition model is implemented, any train operating company licensed in the EU (including those of the two entities) will be able to cross between the tracks of the FBH and RS infrastructure management companies as of right, as already happens daily throughout the European Union. The two rail operating companies will therefore be faced with a new competitive paradigm and have choices in how they may react. Open access will create threats and opportunities. The threats are clear: pressure on end-user tariffs as customers exploit their ability to change supplier of rail services and on market share if they actually do change supplier. But there are some potentially offsetting opportunities. Each Entity may in principle choose to try and win traffic carried by the other Entity railway, but alternatively they could decide to pool their services and offer a seamless origin to destination service throughout BiH. Similarly each company might also choose to operate in neighboring countries and the larger geography offered by the EU rail market either as individual companies or in business partnership. It is likely to be in the mutual interest of the train operating companies to undertake both inter-entity and regional marketing and operations on a co-operative basis. Competing head-to-head in BiH is likely to reduce overall revenue without expanding the total BiH rail traffic task. By contrast, co-operating to provide seamless inter-entity service would tend to make it harder for third-party competitors to win these markets. Co-operation also has advantages in regional markets in that ‘going it alone’ by each Entity company from the relatively small resource base of each may well be to the advantage other, larger regional train operating companies. It is worth noting that each company should have a strong incentive to maximize its productivity and efficiency whether they choose to compete or to co-operate. 46 There is currently a degree of co-operation between ŽFBH and ŽRS at boundary stations and some through-running of locomotives and crews by agreement. 71 BiH Railways Policy Note D.1.1 BHŽJK and Entity Infrastructure Management Companies Upon adoption of the EU model, the physical interface between the two infrastructure management companies will become less important than the economic interface. The challenge will be to ensure mutually advantageous coordination of Network Statements, train control performance standards and track access charges. On the one hand, this is only one instance of the difficult challenge of harmonizing track access charges through this region where track access charges already differ markedly. But on the other hand, the better coordinated are the two parts of BiH’s railway network, the better positioned they will both be to support their train operator customers to attract traffic from road to rail transport and from other international routes to routes transiting through BiH. The inter-entity Agreement that established the Bosnia and Herzegovina Railway Corporation provides the most immediate channel for seeking the necessary co- ordination between the two infrastructure management companies. BHŽJK is a joint- structure between the entities and between their railways, with the fundamental purpose of furthering co-operation to facilitate railway traffic as well as harmonizing infrastructure standards and infrastructure access charges, and allocating train paths for inter-entity and international traffic. Although BHŽJK does not now perform all these functions it could do so. When the two infrastructure management companies are in place BHŽJK could, at a minimum, provide the technical resource and institutional forum for the Entity infrastructure managers to agree on key aspects of network statements where the two companies should be harmonized to mutual benefit. The Entities might also wish to consider institutionally strengthening BHŽJK’s role in the allocation of routes and the determination of charges for access to infrastructure as defined in the EU Directives and the agreement for BHŽJK’s establishment. A key role of BHŽJK is to ensure ways to improve inter-entity and international railway traffic and co-ordinate railway companies with the international requirements and investments. BHŽJK coordinates actions and investments to improve the efficiency on the two international lines, Corridor 5c (Mostar ~ Slavonski Samac) and the line Zagreb ~ Banja Luka ~ Doboj ~ Tuzla ~Zvornik. It was mandated to manage loans and grants from international lenders and act as a common international railway representative of the Entities and the railway sector in Bosnia and Herzegovina, respecting the particular membership of the railway companies in international organizations. An alternative existing in theory, but probably not in practice, would be for Entities to cede to BHŽJK the role of BiH Infrastructure Manager with the Entity networks being geographic divisions or subsidiaries. Combining the two infrastructure management companies in this way would have some theoretical attractions in co-ordination terms but from a practical viewpoint the potential benefits of merger may be elusive. For example, in theory, the most obvious administrative efficiencies from merger would be by the replacement of the two existing railway management centers (Sarajevo and Doboj) by either one or the other, but the political complications make any such decision unlikely. Similarly, decisions on issues such as labor restructuring, workshop rationalization to fewer locations or the location of network investments might be complicated rather than simplified by having two shareholders with conflicting interests. Improvements in efficiency are urgent in both railways, and while they would be mutually beneficial to the BiH transport system they are not interdependent in terms of implementation. 72 BiH Railways Policy Note D.2. The Role of the Rail Regulatory Board The regulatory capacity and effectiveness of BiH Rail Regulatory Board (RRB) will be critical to the future of railways in BiH. The RRB believes it is sufficiently empowered under the BiH Railway Law (2005) to perform licensing, economic regulation, safety regulation and other functions compatible with the EU railway acquis. Directive 2012/34/EU establishing a single European railway area provides that ‘the efficient management and fair and non- discriminatory use of rail infrastructure require the establishment of a regulatory body that oversees the application of the rules set out in the Directive and acts as an appeal body… also that the regulatory body should be able to enforce its information requests and decisions by means of appropriate penalties’. The RRB already performs a range of BiH-wide licensing, regulatory and safety functions under its legislation. RRB publishes various authorizations, instructions and rulebooks in conformity with the EU acquis. However since the rail market in BiH is currently essentially closed in both entities, the day to day regulatory tasks of RRB with regard to economic regulation are correspondingly narrowed. There is also a question regarding the independence of RRB as it is established within the BiH Ministry of Communications and Transport and reports through one Director to the Minister. But in BiH, ownership of infrastructure managers and government/railway contracts (such as for infrastructure development and passenger services) are with entity governments, so in practice RRB is substantially independent of those being regulated.   The regulatory burden implicit in the EU rail acquis is substantial and when the railway market in BiH is opened, the actual regulatory tasks of RRB will be fully performed. Among other tasks RRB will, under Article 56 of Directive 2012/34, need to (in summary): monitor the Network Statements of the FBH and RS infrastructure management companies to ensure they do not contain discriminatory clauses or create discretionary powers for the infrastructure managers that may be used to discriminate against applicants; ensure that charges set by each of the infrastructure managers are compliant with Directives and are non- discriminatory; supervise any negotiations between applicants for infrastructure access and the entity infrastructure managers concerning the level of infrastructure charges and intervene if negotiations are likely to contravene the Directive; consider and decide on any complaints and take action to remedy the situation; where appropriate, decide on appropriate measures to correct discrimination against applicants, market distortion and any other undesirable developments in these markets; be prepared to defend its decisions which will be subject to judicial review; carry out audits or initiate external audits with entity infrastructure managers, operators of service facilities and, where relevant, railway undertakings, to verify compliance with accounting separation provisions; draw conclusions from the accounts concerning state aid issues which it shall report to relevant BiH authorities dealing with state aid issues; regularly consult representatives of users of the rail freight and passenger transport services and take into account their views on the rail market; as necessary, request relevant information from the infrastructure manager, applicants and any third party involved within BiH. 73 BiH Railways Policy Note A good regulatory capacity and effectiveness is imperative to meet the EU acquis and provide for market access. According to RRB, it is sufficiently empowered under the BiH Railway Law (2005) to perform licensing, economic regulation, safety regulation and other functions compatible with the EU railway acquis. It already performs a range of BiH-wide licensing, regulatory and safety functions under its legislation. But when the railway market in BiH is opened, the actual economic regulatory tasks will include the access to the network and track access charges. Although the BiH railway sector is smaller than many in the EU, it also has a bigger freight market than many and two international SEETO Comprehensive Network freight routes of wider regional significance (north-south Corridor Vc and east-west route 9a). Moreover, RRB will effectively be regulator of two entity rail markets, two infrastructure managers and access administration and pricing issues pertaining to two separately-owned and managed networks. Although the number of access applications to BiH railway infrastructure may be limited, the RRB will still need to ensure compliance of the Network Statements and access regime and charges to ensure that the market conditions for any such application are adequate and appropriate. Moreover, under the 4th railway Package the task of monitoring compliance is likely to be increased, particularly in structures that do not have a clear institutional separation between infrastructure manager and transport operator (see Annex V). D.3. Railway infrastructure investment funding Transport investments in BiH are disproportionate towards roads, particularly given the predominant role that railways play in freight transport. Since 2005 the government of BiH have accessed loans from EIB and EBRD that together provided about EUR 160 million for investment in the railways but more than EUR 500 million for the road sector. While there is clear need for investments in the road sector, such imbalance leaves the railways with limited resources for investments. Adopting a multimodal approach to investment planning and/or raising additional investment funding for railways could help ensure that the balance is based on a proper comparative evaluation of projects and programs across modes. D.3.1 Adopting a multimodal approach to investment planning There is a multiplicity of interrelationships between the various modes of transport. Roads, railways, aviation and navigation can be alternatives in specific markets but can be complementary in others. Competition and complementarity both have a part to play in transport markets. Investment projects need to take into consideration the interaction between the different transport modes, their competitive advantage in serving the demand for freight and passengers, their role in the economy and impact on the environment. There is an international trend to move from budget earmarked funds by individual transport sub-sector to a multimodal investment planning approach. While the traditional approach implies often that planning, prioritization and budgeting are prepared by mode- specific agencies and rely on earmarked funds such as fuel levy for roads or state budget for railways, there is an international trend towards a multimodal approach for planning and budgeting. The multimodal approach implies that investment prioritization scrutinizes and may combine all transport modes and that budget is considered as a common resource irrespective of the source. 74 BiH Railways Policy Note Successful approaches have been applied to planning, approval and funding of transport infrastructure in Europe. For example, Germany prepares a multiannual “Federal Transport Infrastructure Plan” taking into account the total level of funding available for the rail, road and waterway modes for a 15 years period with regular reviews and updates. Projects are prioritized according to their priority level, where highest priority is given to ongoing projects. French transport infrastructure funds for roads have been significantly rebalanced in favor of rail and public transport. Following the adoption of the ‘Grenelle de l’Environnement’ the latest National Transport Infrastructure Plan (SNIT for the French acronym) sets as goals to (i) optimize the existing system to limit the creation of new infrastructure, (ii) improve the performance of the system in serving areas away from the major metropolitan areas, (iii) improve the energy efficiency of the system, and (iv) reduce the environmental impact of the system. Transport planning and investment looks across all modes and integrates a high level of public participation in the selection process. Sector plan integration represents a compromise between single sector and multimodal approaches. Between individual modal plans and integrated multimodal planning and funding scheme there is a range of possible approaches found in many countries in the regions such as Croatia, Bulgaria and Romania. These countries adopted a Master Plan which at a minimum is just a combination of different sector plans into a single document but can begin to make trade-offs between the different sector plans when overall budgets are constrained. Representing real progress in planning and responding to an EU condition to receive funds, such approach does not necessarily bring all the benefits of an integrated multimodal planning in particular in regard to multimodal prioritization and funding. Implementation of multimodal planning approach in Bosnia could lead to an alternative allocation of network infrastructure development funds between roads and railways. A multimodal approach in planning and financing transport infrastructure could put in perspective the comparative advantage of the railways, their critical role in Bosnia’s freight movements and environmental benefits. It could lead to a capital allocation towards railways. This is not to make specific recommendation for such reallocation but to create a transport budgetary approach that would enable decision-makers objectively to make such reallocation if such case were substantiated. D.3.2 Raising additional investment funding for railways Another and possibly complementary policy consists in raising additional funds that can be allocated to the railways. Such approach can either be applied under the current sector planning approach as dedicated funds for the railways or under a multimodal planning approach discussed earlier raising additional funds to be invested in all transport modes, but leading to higher investment resources for railways. There a number of possible options for raising additional funds for transport investments. Traditional approaches include fuel taxes, classic road tolls, electronic distance- based tolling, vehicle registration and licensing fees, and freight related fees. In particular, fuel levies and electronic distance-based tolling have been successfully applied in Europe to raise additional funds for transport investments. However, each mechanism has its advantages and disadvantages and must be studied in detail before any attempt of implementation. 75 BiH Railways Policy Note Electronic distance-based tolling is seen as a fair and acceptable way of charging for the use of road infrastructure. Electronic distance-based tolling can be applied for specific types of vehicles, on specific types of roads, can be modulated according to the level of pollution emission of the vehicles and can be associated to speed restriction controls. In Bulgaria, a recent World Bank study recommended that e-tolling should be applied only for heavy vehicles by means of an on board unit registering data based on GNSS and e-vignette for light vehicles covering all national road classes. Such system would generate revenues per year ranging from EUR 300 mi to EUR 750 M from 2018 according to the rates applied. Many countries are currently shifting from the traditional use of fuel levy to finance roads, to a broader application of funds covering the entire transport sector. In France, while the fuel levy finances the multimodal transport plan, the regions have the freedom to apply an additional tax to fund water and rail transport. Higher fuel prices are viewed as incentives to reduce fuel consumption, e.g. through purchase and use of more fuel efficient vehicles, a shift to non-motorized or public transport modes, fewer trips, and less motorized transport-orientated patterns of settlements. Differentiated fuel taxes can stimulate a shift towards cleaner fuels, for example electricity or sustainable biofuels. D.4. Towards an Action Plan A preliminary roadmap was provided by the Government of Republika Srpska in the options presented in this note. Railways Structural Alternatives The Government of Republika Srpska wishes to maintain an integrated railways structure for the time being. RS Government considers that before deciding on the final company structure, it is imperative to improve its efficiency. The RS Government wishes however to implement account separation from infrastructure, freight and passenger activities and implement Public Service Obligations Contracts for passenger services. Railways Industry Options Employment and productivity The RS Government wishes to initiate, with support from the WB, a labor restructuring process. Rail Passenger Services The envisaged option consists in identifying the most promising segments for passenger transport and provide services under Public Service Obligations Contracts to the level that can be afforded by the Entity. In addition, following the new RS Railways Law, the local governments will be able to provide financial contribution to service provision where there require it. 76 BiH Railways Policy Note Contestability of the freight market The RS Government wishes to delay the market opening to allow for efficiency improvement of the Entity owned railways operator. Investment in railways infrastructure Priority investments are being identified by RS Government to complement on-going investments and projects to be financed by the European institutions. The focus is to articulate infrastructure, train control and rolling stock investments to ensure an optimal use of the railways. World Bank stands ready to work with the Entity Governments to identify a detailed Action Plan to bring about the desired transformation of the railway industry. Such Plans would be pursued with each Entity individually, reflecting the fact that their structural and policy choices may well differ. However, it would also be important to ensure that such Action Plans cohere with the overall policy and institutional framework in BiH to provide the most beneficial adaptation of the EU railway acquis for BiH as a whole. 77 BiH Railways Policy Note - Annexes ANNEX I: Current legal and institutional framework I.1 Main Institutions The railway network and train operations in Bosnia and Herzegovina are governed by the Railway Law of Bosnia and Herzegovina and by Railway Laws of two Entities, Federation of Bosnia and Herzegovina and Republic of Srpska. The Railway Law of Bosnia and Herzegovina applies to the railway sector within the territory of Bosnia and Herzegovina, while the railway law of each Entity applies within that Entity to construction and maintenance of railway network, train operations, safety of railway transport, and establishment and management of each Entity-owned public railway company. Most governance functions in the railway sector are vested in the Entities. The Ministry of Communications and Transport of Bosnia and Herzegovina performs specific but limited roles at the state level. The Entity governments are majority (though not exclusive) owners of the railway system located within the Entity, and are responsible for its policy framework, performance oversight, and budgetary support. The Railway Public Corporation (BHŽJK) is intended to harmonize railway sectors at the inter-entity level. I.2 BiH Law on Railways (2005) and Railway Regulatory Board The Law on Railways of Bosnia and Herzegovina, adopted by the Parliament in June 2005 and issued in August 2005, comprises 28 articles. As the law was intended broadly to reflect European Union (EU) directives for railways, it provides for a degree of separation between railway transport services and infrastructure management, for a License and a Safety Certificate for train operators, the establishment of a Railway Regulatory Board, and introduction of the concept of a track access fee. The law indicates that its purposes are to ensure the development of a sound railway transport system with effective competition among train operators and with other transport modes, to ensure non-discriminatory access to railway infrastructure, to encourage efficient and transparent management of the railway sector, to follow prevailing international practices and applicable directives of the European Union, to promote a safe and efficient railway transport system, and to ensure fair and efficient regulatory decisions. Article 4 sets out the principles of railway transport and railway infrastructure management as follows: i. railway transport services shall be distinguished from railway infrastructure; ii. a train operator shall be granted an appropriate license and a safety certificate to provide rail transport services; and iii. an infrastructure manager shall be authorized a permit to manage public railway infrastructure. 79 BiH Railways Policy Note - Annexes Railway Regulatory Board Articles 5 to 10 describe the roles, the organization and functions of the Railway Regulatory Board (RRB) of Bosnia and Herzegovina. The RRB is established within the Ministry of Communications and Transport of Bosnia and Herzegovina and reports through one Director to the Minister. The Law gives RRB powers to: i. enact regulations and control the railway sector regarding EU directives; ii. issue, comply and revoke Licenses for a train operation, Safety Certificates for a train operator and Permits for an infrastructure manager; iii. issue instructions for the safety and interoperability of the railway system, monitor compliance with such instructions and approve railway equipment with respect to safety and interoperability; and iv. conduct inspections and investigations about railway accidents. The RRB reports annually to the Minister of Communications and Transport of Bosnia and Herzegovina on the overall operations and safety of the railway sector. Licenses, Safety Certificate and Permit The RRB has powers to license rail transport services and infrastructure management. Article 12 regulates conditions that each applicant train operator must meet to obtain a license, including financial soundness, adequate insurance coverage, good reputation with no history of bankruptcy and no serious criminal offence, and professional competence and technical equipment, including quality rolling stock. Article 13 requires the train operator also to obtain a Safety Certificate requiring that: i. the activities shall be organized in such a way that damages to personal property or injuries are prevented or mitigated; ii. an internal safety instruction is consistent with the safety instructions issued by the RRB; iii. safety related duties should be allocated to suitably qualified employees, who have had regular medical examinations to check their ability to perform duties allocated; iv. the train operator should have a procedure to report all accidents to the RRB in timely fashion. Article 14 requires the infrastructure manager to meet the following conditions to obtain a Permit for managing railway infrastructure: i. its main office should be located in the territory of Bosnia and Herzegovina, ii. the senior managers have not been convicted of a serious criminal offence and have not seriously or repeatedly violated any applicable laws governing customs, social security or employment, iii. it has the ability to meet liabilities in the next 12 months, iv. it should have skilled staff to implement its functions and responsibilities, particularly the train traffic control and maintenance and modernization of the railway infrastructure, 80 BiH Railways Policy Note - Annexes v. it must fulfill the safety and technical requirements for organizing and regulating railway traffic control, which is regulated by the RRB. Applicants who fulfil the conditions obtain a License, a Safety Certificate or a Permit from the RRB, issued for a 5-year period with a possibility of extension. The RRB annually reviews the conditions imposed on a License, a Safety Certificate or a Permit and monitors a change affecting the legal status of a train operator or an infrastructure manager such as a merger or a takeover, or significant changes or extension of activities. Article 16 requires a train operator to ensure transparency in its finances, including all financial compensation or aid paid by the Entity and separate accounts for passenger and freight transport services. A License for train operation may be revoked in the following cases: i. the train operator does not meet any of conditions for the License, ii. the train operator ceases to provide rail transport services for more than 3 months, iii. any legal proceedings have been started to liquidate the train operator actions. A Safety Certificate may be revoked if the train operator does not comply with the conditions for the Certificate or ceases to provide rail transport services for more than 3 months and has confirmed that it has no intention of restarting the services. A Permit for the infrastructure manager may be revoked if the infrastructure manager does not comply with the conditions. Management of Public Railway Infrastructure Articles 19 to 23 regulate the management of the railway infrastructure. The law states that infrastructure management shall be separated from providing railway transport services. In terms of accounting, an infrastructure manager is required to ensure the transparency of revenues and expenditures and to record activities by international accounting standards. Also, the annual financial statements must be audited by an independent auditing firm. The functions of the infrastructure manager include the issuance of the network statement, the maintenance and modernization of the infrastructure, the organization and regulation of the railway traffic control on the tracks, the granting of access to railway infrastructure for train operators, the allocation of train paths for all types of traffic, and the participation in the determination and collection of the infrastructure fees. Track access are required to be granted in a non-discriminatory manner and be based on a track access contract with a train operator, which contract regulates the mutual rights and obligations of train operator and infrastructure manager, the designated capacity and the infrastructure usage fees, and matters related to safety and environmental protection. According to the Article 23, a train operator can appeal to the RRB if it is not treated equally or has conflicts with an infrastructure manager as regards the infrastructure capacity allocation, the network statement, the infrastructure usage fees or the track access contract. According to the Law the governing bodies of the infrastructure manager shall be the Supervisory Board and Management. The Supervisory Board decides the annual budget and 81 BiH Railways Policy Note - Annexes the four year business plan, develops guidelines and policies to the Director regarding performance of activities and management, appoints Directors, and approves the organization and any borrowing proposed by the Director. The Supervisory Board shall be appointed in accordance with the law governing the establishment and operations of public companies. The Management will be composed of a Director appointed by the Supervisory Board and Executives appointed by the Director. Main assignments of the Director are preparation of the four year business plan, the yearly budget and the organization, recommendations to the Supervisory Board, implementation of the adopted four year business plan, issuance of business policies, management of business activities and programs, and proposal of financial borrowings. I.3 FBH Railway Law (2001) and status of FBH Railways Law on Railways of FBH (2001) The Law on Railways of Federation of Bosnia and Herzegovina regulates railway transport in that Entity, establishes the Entity railway company (ŽFBH) and relations between Bosnia and Herzegovina Railway Public Corporation (BHŽJK) and the ŽFBH. The law gives the ŽFBH monopolistic status as the only manager of railway infrastructure in FBH. It requires the work of the ŽFBH to be performed professionally and in market-oriented way with business efficiency and technological progress, specifying that the objectives of the company are: internal and international railway transport; maintaining, modernization and building of railway infrastructure; and services related to the railway traffic. In terms of vertical separation and competition, the law adopts some similar articles to the BiH law. Firstly, the article implies that competition in the railway market through entry of a new company is possible though ŽFBH, which is also a railway operator, decides whether a new company can use railway infrastructure or not. According to the law, the ŽFBH shall allow approved operators access to railway infrastructure without discrimination if operators accept designated railway routes and pay an adequate infrastructure fee to ŽFBH. An approved operator needs to acquire the requisite License and pay fees for infrastructure use. The law states that the fees for infrastructure use are determined by the BHŽJK. In addition, the law mandates accounting separation (but no other degree of separation) between infrastructure management and transport operations. Accounting separation is the lowest degree of vertical separation but can provide greater financial transparency and help facilitate further structural separation. The law emphasizes that the ŽFBH is to be operated on the basis of market principles to earn profits. In practice, many other political influences constrain this outcome. The FBH government has various rights of control over ŽFBH including consenting to Articles of Incorporation, appointing and dismissing the members of Managing Board, approving annual and development plans and business reports, providing funding for maintenance of infrastructure and passenger transport. The law provides a basis of compensation by the Entity government and Cantons to reimburse ŽFBH for loss-making railway passenger services. However, there is no specification of contract form, scale of compensation by the Entity government, or how to calculate the 82 BiH Railways Policy Note - Annexes amount of compensation other than as ŽFBH itself estimates the difference between overall costs of transportation and revenues gained. In 2012, the Federation of Bosnia and Herzegovina has adopted amendments to the Law on Railways of FBiH, published in the Official Gazette of FBiH, issue No. 25/12 whose objective was for the FBiH Railways to continue their operations as a limited liability company. The amendments reduced the number of members of the Supervisory Board (Management Board) from 11 to 7, and a new article was added, Article 21a, according to which the company is under obligation to act in compliance with the decisions of the Regulatory Board as determined in the Law on Railways of BiH. Status of ŽFBH ŽFBH is an Entity-owned joint stock company, with minor shareholders owning 9 percent of shares. As a vertically integrated railway company responsible for train operation and railway infrastructure management, ŽFBH provides railway transport services for passengers and freight on domestic and international lines; maintenance, modernization and construction of rolling stock for transport services; and maintenance, modernization and development of railway infrastructure. The organizational structure has a Managing Board and the Managerial Body. The Managing Board of the company has nine members: three representatives of the FBH government; three representatives of service users; and three representatives of the company’s employees. The Managing Board is intended to make decisions on adopting development and business plans, establishment of other associations, buying shares, profit-sharing, and regarding investments. It also appoints the Managerial Body with the concurrence of the FBH government. The Managerial Body ŽFBH is composed of the Director General (the Chief Executive Officer) and four Executive Directors for operations, infrastructure, economic affairs, and legal affairs and human resources. The company has five regional offices in Sarajevo, Mostar, Zenica, Tuzla and Bihać for train operations and infrastructure management. 83 BiH Railways Policy Note - Annexes Figure I.2 Organization Structure of ŽFBH Cabinet of Chairman of Board Project implementation unit Chairman of Board Development and Director General Investment Internal Control Internal Revision Operations Infrastructure Economic Affairs Legal Affairs and Human Resources - Realization of -Assurance and -Plan, Analysis and -Property Legal Affairs timetable Security of Traffic Distribution of -Organizations, Legal and - Passenger and -Electro-Technical Revenues Human resources affairs Freight Traffic section -Financial Affairs -General Affairs - Research of -Construction -Accounting -Regional Offices of Legal Market, Sales and Affairs -Control of Affairs and Human Promotion -Information, Revenues Resources (Mostar, Zenica, - Pulling a Train Communication, -Procurement and Sarajevo, Tuzla, Bihać) - Maintenance of Technologies Sale Rail Vehicles - Regional Offices - Regional Offices - Regional Offices of Infrastructure of Economic of Traffic (Mostar, (Mostar, Zenica, Affairs (Mostar, Zenica, Sarajevo, Sarajevo, Tuzla, Zenica, Sarajevo, Tuzla, Bihać) Bihać) Tuzla, Bihać) I.4 The RS Railway Laws (2001 and 2016) and status of ŽRS Law on Railways of Republic of Srpska (2001) The law regulates construction and maintenance of railway infrastructure, management of railway vehicles, railway transport, safety and working conditions. The law provides the basis of the establishment of the Railways of Republic of Srpska (ŽRS) vertically integrated as an infrastructure manager and a public railway transport operator. The law guarantees ŽRS exclusivity in rail infrastructure management and that the Entity provides the funds for construction and maintenance of railway infrastructure from its budget. The law allows ŽRS to establish new companies to perform its activity efficiently. ŽRS may also borrow on its own account and issue securities. It requires accounting separation between infrastructure and train operations. As infrastructure manager, ŽRS is to ensure access of train operators to railway infrastructure without discrimination. However, the Entity gives ŽRS a right to utilize the whole railway property. The law does not include regulations about authorization of new railway companies to enter the railway market and does not deal with track access regime or contracts for new operating companies to access the rail network. 84 BiH Railways Policy Note - Annexes The law has many articles related to the standard and structure of railways and safety including intersection of railways and roads, and management and safety of rolling stock. The law also regulates the organization of railway transport, railway traffic management, signalization system and obligations in emergency situations. Other articles are related to railway workers, including professional training and examination, entitlement to drive a traction vehicle, health conditions, working hours, duties and responsibilities of workers and security measures. Draft Law on Railways of Republic of Srpska (2016) The draft law was published on the website of the Ministry of Transport and Communication on March 2016. The main objective of the draft law is to harmonize the railway law with the EU rail acquis. The draft law also proposes to restructure ZRS to promote its financial stability, and for the railway network to be integrated into the European network. The draft law contains various articles related to principles of railway transport, roles and responsibilities of the government and the infrastructure manager, and train operations. Firstly, the draft law divides roles of the entity government, the infrastructure manager and the train operator, introducing vertical separation in railway transport. The Ministry of Transport and Communication (MOTC) develops policies for railway infrastructure including the interoperability of railways (Article 3). The infrastructure manager prepares each annual program of construction, reconstruction and maintenance of infrastructure (Article 4), regulates railway transport providers, provides railway infrastructure to train operators and protects public railway infrastructure (Article 5). The infrastructure management and train operations should be separated functionally. The law states the railway infrastructure is owned by the Entity and managed by the only infrastructure manager in RS, which is ZRS. The infrastructure manager should separate its financial accounting from the train operation (Article 8). The train operator should have a license to use railways from the infrastructure manager and a safety certificate issued by the RRA. The infrastructure manager’s investment program should be approved by the government (Article 9). Secondly, the draft law introduces similar articles to those of the railways law on Bosnia and Herzegovina for infrastructure management and train operations. The infrastructure manager has responsibility to provide the railway for continuous and safe use and can suspend the use of the railway with government approval if a train operation for passenger or freight becomes unprofitable. The railway infrastructure can be used by any registered train operator which holds a license to transport and a certificate for safety. The train operator should contract for the use of railway infrastructure with the infrastructure manager four months before the effective date of the new timetable. The infrastructure manager publishes the Network Statement which includes general provision, terms and conditions for using use railways, technical characteristics, principles of allocation of infrastructure capacity, types of services and infrastructure charges. Articles 20 to 26 indicate the infrastructure user fees as compensation for, at a minimum, application processing costs, track access and the use of other railway facilities. However, the draft law does not include principles for calculating these charges; or for calculating subsidies from the government to support infrastructure maintenance in the case of shortfall of 85 BiH Railways Policy Note - Annexes revenues from infrastructure fees. As regards railway infrastructure, Articles 27 to 36 regulate the construction, maintenance and capacity improvement of railways and Articles 37 to 68 regulate standards and management of railway track and facilities. Thirdly, the draft law regulates train operations and safety. The transport of passengers and goods on the railway can be performed by a public operator holding a license for transport, and a certificate for safety of transport, based on market principles and railway infrastructure use contracts (Article 69). The conditions for a license to be issued by the government include good reputation, financial ability, competence and civil responsibility. Article 79 introduces the concept of the public service obligations which can be defined by criteria like the existence of public interest, the availability of other transport modes, the cost of replacement by other transport modes and ability of train operators. The obligation and compensation for the public service are regulated by the contract between the government and train operators. Additionally, the draft categorizes the railway lines into main lines, regional lines and local lines (Article 38), and railway transport into international, regional, suburban and urban passenger transport (Article 78). However, the articles do not suggest the reason for categorization of railway lines and transport, not referring, for example, to any differences in infrastructure fees or conditions for licenses. The draft law tries to introduce similar articles with the BiH railway law in terms of separation of infrastructure management and train operations, and the permit and license system. However, the draft law of the Entity may conflict with the national law because the latter gives the power to authorize the infrastructure manager and train operator to the RRB (Railway Regulatory Board) and the draft law of RS gives the powers to the Entity government. The 2016 draft law does not have articles related to the organization and functions of ZRS. It is possible that the ZRS would remain as an integrated organization because the draft only requires accounting separation between infrastructure management and train operation. The law also does not state detailed procedures for a new train operator to enter the railway market other than the general right previously mentioned. To conclude, the draft law focuses on harmonization with the EU rail acquis but does not provide any blueprint for corporate structural reform or change to ZRS. It is possible that a separate legislative instrument would be needed for fundamental changes in organizational structure. Status of the ŽRS ŽRS is a majority Entity-owned, vertically integrated joint stock company. Some 65 percent of shares are owned by the Entity, 10 percent by an Entity Pension Fund, 5 percent by the Restitution Fund of RS, and 20 percent by private shareholders. The private ownership of the stocks was obtained by a voucher offer or subsequent trading on the Stock Exchange. The company is responsible for both train operation and railway infrastructure management and provides the following services:  transport services for passengers and freight in domestic and international traffic; 86 BiH Railways Policy Note - Annexes  traction of trains and maintenance of locomotives, electric multiple units and vehicles;  maintenance of railway tracks and technical surveillance of tracks; and  maintenance of devices and facilities related to the railway. ŽRS is empowered to raise income from operations, the Entity budget, financial loans, issuing and trade of securities, and investments of domestic and foreign persons. In practice, the company generally depends on commercial revenues (dominated by freight income) and Entity budget support for its operations, and loans from International Financial Institutions for its investments. The company has a Director General and four Executive Directors for infrastructure, railway operations, economy affairs, legal affairs and human resources. I.5 Bosnia and Herzegovina Railways Public Corporation Background of Establishment The Bosnia and Herzegovina Railways Public Corporation (BHŽJK) was established on the basis of ‘the agreement between the Federation of Bosnia and Herzegovina and Republic of Srpska on the establishment of a joint railway public corporation as part of transportation corporation (the Agreement on the Establishment)’ and in response to Annex 9 of the General Framework Agreement for Peace in Bosnia and Herzegovina (1995). The Agreement on the Establishment stated that the Entities intended to institutionalize cooperation to permit a smooth, safe and regular inter-Entity and international railway traffic, a condition of international assistance to restore railway transport. Mandates and Functions The establishing Agreement empowers BHŽJK to harmonize train operations between Entities by adopting suitable standards of railway network and rolling stock and exercising measures to protect inter-entity train operations. Article 3 states that BHŽJK shall examine and decide upon the following issues:  the allocation of train paths for inter-entity and international traffic, and the establishment, publication and dissemination of inter-entity timetables;  the harmonization of signaling, safety, telecommunications and other systems and of the rules and criteria used on the railway network of two Entities;  the harmonization and determination of infrastructure fees, reflecting the transport policy for the different types of traffic and the maintenance cost of the railway infrastructure;  the settling of accounts between railway companies as to the division of income collected between operations and infrastructure;  the overall supervision of the compliance by the various actors involved in railway infrastructure and/or operations with the regulations on inter-entity and international traffic. 87 BiH Railways Policy Note - Annexes BHŽJK was also required to examine ways to improve inter-entity and international railway traffic and co-ordinate railway companies with the international requirements for efficient traffic on the two lines, Corridor 5c (Mostar ~ Slavonski Samac) and the line Zagreb ~ Banja Luka ~ Doboj ~ Tuzla ~Zvornik. It was mandated to manage loans and grants from international lenders and act as a common international railway representative of the Entities and the railway sector in Bosnia and Herzegovina, respecting the particular membership of the railway companies in international organizations. However, as a matter of practice, each Entity railway is a separate member of the International Union of Railways. Organization The Management Board is composed of three members appointed by the Board of Directors, the General Manager for administration and finances, the Deputy General Manager for operations and the Deputy General Manager for infrastructure. BHŽJK headquarters are in Sarajevo, but corresponding departments of two Deputy General Managers are located in Doboj. Article 4 specifies the Board of Directors to be composed of the following 12 members: 6 ex-officio members; 3 representatives elected by the main railway trade union; and 3 members designated to represent railway customers. The Board of Directors determines the policy and rules of the BHŽJK, adopts the budget, and approves the financial statement. Budgetary sources of the BHŽJK are set out to include part of infrastructure fees from the railway companies and subsidies paid by the Entities. Figure I.3 Organization of BHŽJK Relationship between the BHŽJK and Railway Companies of Entities Article 8 of the Establishment Agreement sets out the relationship between the BHŽJK and the railway companies BHŽJK and provides that the Entities shall take whatever measures are necessary so that their railway companies, and particularly the infrastructure managers, act 88 BiH Railways Policy Note - Annexes in conformity with the decisions of BHŽJK, maintain the railway infrastructure up to the standards required by the regulations issued by the Institutions of Bosnia and Herzegovina, and abstain from taking any action that may be detrimental to railway traffic between the Entities. BHŽJK- The allocation of train paths for inter-entity and international traffic, in a non-discriminatory manner - The harmonization of signaling, safety, telecommunications and other systems on the railway network of the two Entities - The setting of accounts between railway companies - Allocation and managing with donations that are donated or borrowed I.6 EU-Bosnia Stabilization and Association Agreement (2015) The Stabilization and Association Agreement (SAA) signed by EU member states and Bosnia and Herzegovina (BiH) aims to support the country towards becoming a member of the EU by integrating BiH into the mainstream of Europe and improving its status to fulfil criteria set for EU membership by the European Council. The Agreement identifies priorities for action to support efforts of BiH to integrate more closely with the European Union and develop trade and investment, economic restructuring and modernization. PROTOCOL 3 on land transport Article 59, Protocol 3, lays down the rules on land transport applicable to the relationship between BiH and EU members. The scope of the protocol covers transport infrastructure, market access, essential legal and administrative supporting measures, cooperation in developing a transport system in alignment with environmental needs, and a regular exchange of information on the development of the transport policies. Articles 7 to 10 of Protocol 3 relate to rail and combined transport. The Parties agree to adopt mutually coordinated measures for the development and promotion of environmentally- friendly rail and combined goods transport. The Protocol suggests development of combined transport of goods 47 by development or building of terminals, tunnel loading gauges (dimensions that allow fully interoperable loaded intermodal freight wagons) and capacity as the railway is modernized. The Parties recommend that their railways step up cooperation to improve the quality and the safety of transport services. The Protocol provides for BiH to encourage consignors to send freight by rail rather than road on a basis of fair competition between modes, and for BiH to prepare the participation in the implementation and future evolution of the Community acquis. The Parties also agree to adopt mutually coordinated measures to develop a multi-modal transport network for freight through BiH, particularly on Pan-European Corridor Vc and the River Sava connection to Corridor VII. The EU may make financial contributions to infrastructure works which may take the form of credit from the European Investment Bank 47 In EU terms, intermodal or combined transport generally means the transport of goods between Member States where the vehicle uses the road on the initial or final leg of the journey and, on the other leg, rail or inland waterway or maritime services where this section exceeds 100 km as the crow flies. 89 BiH Railways Policy Note - Annexes and any other form of financing. The Parties also undertake to take all the steps necessary to encourage the development of combined transport. The purpose of such measures is specified to be: i. to encourage the use of combined goods transport by users and consignors; ii. to make combined transport competitive with road transport, in particular through the financial support of the Community or Bosnia and Herzegovina in the context of their respective legislation; iii. to encourage the use of combined transport over long distances and to promote, in particular the use of swap bodies, containers and unaccompanied transport in general; iv. to improve the speed and reliability of combined transport; v. and, in general, take any other appropriate action. Article 10 on the role of the railways states that, in connection with the respective powers of the States and the railways, the Parties shall, in respect of both passenger and goods transport, recommend that their railways: i. step up cooperation, whether bilateral, multilateral or within international railway organizations, in all fields, with particular regard to the improvement of the quality and the safety of transport services; ii. try to establish in common a system of organizing the railways so as to encourage consignors to send freight by rail rather than road, in particular for transit purposes, on a basis of fair competition and while leaving the user freedom of choice in this matter; iii. prepare the participation of Bosnia and Herzegovina in the implementation and future evolution of the Community acquis on the development of the railways. Article 59 of the Agreement has provisions with regard to supply of transport services between the European community and BiH to ensure unrestricted and non-discriminatory transit traffic across BiH and the EU with progressive harmonization of the transport legislation. BiH undertakes to adapt its legislation and administrative rules to those of the EU in the transport field for mutual access to markets of the Parties and facilitation of the movement of passengers and goods. Article 106 provides that cooperation in the field of transport focuses on the Community acquis, aiming at restructuring and modernizing the transport modes. Moreover, cooperation between Parties is to improve the free movement of passengers and goods, enhance access to the transport market and facilities, and support the development of multi-modal infrastructure in connection with the main Trans-European networks, notably to reinforce regional links in South East Europe (in line with the Memorandum of Understanding on the development of the Core Regional Transport Network). The cooperation may facilitate operating standards comparable to those in the Community, develop a transport system compatible and aligned with the Community system and improve the protection of environment in transport. 90 BiH Railways Policy Note - Annexes ANNEX II: Summary of EU acquis in the railways sector and status of implementation in Bosnia and Herzegovina II.1 The EU Rail Acquis Market access developments in the European Union (then the European Community) railways sector started in the late sixties with the elimination of exemption of the transport sector from the application of competition rules48 and the issue of regulation of public service obligations in transport by rail road and inland waterway, which should comply with the concepts of being essential in order to provide adequate transport services, and with adequate financial compensation to the operator. In 1970, the cases and circumstances under which state aid would be compatible with the Treaty on the Functioning of the European Union were defined. During the 1980’s and 1990’s the rail mode was losing market share to road transport, impelling the Commission to launch a set of proposals to boost the railways market, aligned to the 1985 Commission White Paper on completing the internal market. One of the proposals led to the seminal Directive 91/440/EEC establishing some key principles for the sector: i. accounts to be separated between rail infrastructure and train operations; ii. public money for one of these sectors not to be used to cross-subsidize the other; iii. the railways to be managed on a commercial basis, driven by market demand, and at arm’s length from government; and iv. mandatory non-discrimination in access to railway infrastructure. The member states were also required to address the problem of the historical debt of the railway companies and to take all necessary measures to develop national railway infrastructure. This directive was complemented in 1995 by Directive 95/18/EC on the licensing of Railway Undertakings (basically, providers of rail transport services) 49 and Directive 95/19/EC on the allocation of railway infrastructure capacity and the levying of charges. II.2 The First EU Railways Package Based on experience of the implementation of Directive 91/440, in 2001 the EC issued what is known as the First Railway Package, to be implemented by the member states by March 15, 2003. It focused on introducing a wider competition framework for freight transport, initially limited to the Trans-European Rail Freight Network (TERFN - representing 50 percent of EU railway networks and 80 percent of traffic) and to be extended to the entire network in a later stage. The Package also set the requirements concerning the relationship between the state and the Infrastructure Manager, and between the Infrastructure Manager and Railway 48 Exempting certain agreements, decisions and concerted practices from the application of Article 101(1) of the Treaty on the Functioning of the European Union. 49 A Railway Undertaking is any public or private undertaking licensed according to Directive 2012/34/EU, the principal business of which is to provide services for the transport of goods and/or passengers by rail. 91 BiH Railways Policy Note - Annexes Undertakings. It singled out some essential functions, such as granting licenses and deciding on allocation and charges, which could not be carried out by any organization or firm providing rail transport services. However, it still allowed vertically integrated companies to continue to operate with accounting separation of infrastructure and train operations. It also required separate accounting for freight and passenger services. The components of the First Railway Package were: (i) Directive 2001/12 amending Directive 91/440, (ii) Directive 2001/13 amending Directive 95/18, and (iii) Directive 2001/14 for infrastructure capacity allocation and charging, and safety certification. Directive 2001/12/EC was designed to: i. open the international rail freight market; ii. establish a general framework for the development of European railways; and iii. clarify the formal relationship between the State and the Infrastructure Manager and between the Infrastructure Manager and Railway Undertakings (railway operators). Directive 91/440/EEC was designed to facilitate the adaptation of the Community railways to the needs of the Single Market by ensuring management independence of Railway Undertakings. Directive 2001/12/EC amended Directive 91/440/EEC by: i. separating the management of railway operation and infrastructure from the provision of railway transport services; ii. improving the financial structure of undertakings; and iii. ensuring access to the networks of Member States for Railway Undertaking engaged in international intermodal transport of goods. More specifically, Directive 2001/12/EC requires: the Infrastructure Manager must have responsibility for its own management, administration and internal control, and must have established a business plan that includes the investment program and that is designed so as to ensure financial equilibrium and optimum use of infrastructure. Capacity allocation, infrastructure licensing and charging must be undertaken by an organization that does not provide transport operations to help assure non-discriminatory access to infrastructure. The Member States must also ensure that compliance with safety standards are verified, rolling stock and Railway Undertaking certified, and accidents investigated. Concerning the financial statements of Railway Undertakings, revenues from Public Service Obligation (PSO) must be shown distinctively and not be transferred to another item. Directive 2001/13/EC sets out the conditions freight operators must meet to be granted a license to operate services on the European rail network, and amends council Directive 95/18/EC. Directive 2001/13/EC states that the license-issuing body must be independent from Railway Undertakings—and a Railway Undertaking can also refer to the commission if it claims that the national requirements are applied in a discriminatory manner. In case of such an appeal, the Commission must issue a statement. Directive 2001/14/EC introduces a defined policy for capacity allocation and infrastructure charging. It replaces Directive 95/19/EC. It defines the conditions for capacity allocation for infrastructure capacity and management—and for access charge rules—and applies to the entire network. According to the directive, the Infrastructure Manager must publish a Network Statement that describes the condition and limitation of the network, details of the charging 92 BiH Railways Policy Note - Annexes scheme, rules governing the capacity allocation, and priority rules that apply in case of conflicting demand. The Infrastructure Managers must also co-operate to ensure the effectiveness of cross Member States transport operations. Member States must also establish a charging framework and its specific rules. The calculation of the charge and the collecting of that charge must be performed by the Infrastructure Manager, which will receive the track access fees and will use them to fund its business. If the Infrastructure Manager is not independent from a Railway Undertaking (that is, a service operator), these functions other than the collection of the fees must to be performed by an independent body. Finally, Member States must also establish an independent regulatory body with the responsibility to receive claims and appeals to the decisions of the Infrastructure Manager. This directive also introduces compulsory safety certificates for Railway Undertaking. II.3 The Second EU Railways Package By the end of the transposition period in 2003, compliance with the First Package measures was low. There were examples of absence of independence between Infrastructure Managers and Railway Undertakings, as well as inadequate regulation of national authorities and of setting of charges. In 2004, the Commission launched the Second Railways Package, providing full liberalization of freight service access from 1st of January 2007 (by Directive 2004/51/EC, replaced later by Directive 2012/34/EU). Increased competition and a small improvement in modal share of rail freight has been observed since 2001. The Second Railway Package also enhanced safety and interoperability, primarily by establishing the European Railway Agency (ERA) to oversee technical standards on these matters. The components of the Second Railway Package are: i. Directive 2004/51 further amending Directive 91/440; ii. Directive 2004/49, the safety directive; iii. Directive 2004/50 amending interoperability Directives 96/48 and 2001/16; and iv. Regulation 881/2004 establishment of the ERA. The Package also contains a recommendation covering the accession of the European Community to the Intergovernmental Organization for International Carriage by Rail (COTIF). The organization is responsible for further development of rail transport law in areas such as contracts of carriage for the international carriage of passengers and goods and procedures for the technical admission of railway vehicles and other railway material used in international traffic; and for the removal of obstacles at international rail borders. Directive 2004/49/EC (the Railway Safety Directive, now amended by Directive 2008/110/EC) develops a common approach to rail safety. It lays down a clear procedure for granting the safety certificates that every railway company must obtain before it can run trains on the EU network. It harmonizes safety levels by, among other things, specifying what Infrastructure Managers need to do in order to receive safety authorization. It also obliges each Member State to establish binding national safety rules. Member States must annually collect standard safety indicators and must establish a safety authority independent from any Railway Undertaking, Infrastructure Manager, or applicant and 93 BiH Railways Policy Note - Annexes procurement entity in charge of issuing, renewing, and amending the safety certificates. Moreover, Member States must also establish an investigating body independent from any Railway Undertaking, Infrastructure Manager, or charging or allocating body. It must investigate any serious accident and publish an annual report. Finally, any Railway Undertaking must hold a standard safety certificate defined in the same directive, and any Infrastructure Manager must obtain a safety authorization also defined in the same directive. Directive 2004/50/EC amended Directives 96/48/EC and 2001/16/EC on the interoperability of the European high speed and conventional rail systems respectively and is now updated by Directive 2008/57/EC (the Interoperability Directive). This directive harmonizes and clarifies interoperability requirements. These requirements concern the design, construction, placing in service, upgrading, renewal, operation and maintenance of the parts of this system placed in service after April 30, 2004, as well as the qualifications and health and safety conditions of the staff who contribute to its operation. Directive 2004/51/EC opens up both national and international freight services on the entire EU network from 1 January 2007, and amends Directive 91/440/EEC. The Commission expected these measures to lead to gains in terms of modal shift and the development of international rail freight, and improve the efficiency of railways relative to other modes of transport. The measures were also intended to facilitate sustainable transport between and within Member States by encouraging competition and allowing entry of new enterprises. Regulation (EC) 881/2004 (now amended by Regulation (EC) 1335/2008) sets up a steering body to co-ordinate groups of technical experts seeking common solutions on safety and interoperability. The Agency is a driving force in the policy for modernizing the European railway sector. The range of often conflicting technical and security regulations among the twenty-seven Member States handicap the development of the railway sector. The Agency will work to gradually align these regulations and establish common safety objectives. II.4 The Third EU Railways Package The Third Railway Package was adopted in 2007, aimed at opening the market for international passenger services by 2010, including rights of cabotage (the right to collect and drop off passengers at any station, in any country). It also regulated the conditions for awarding public service contracts50, granting exclusive right and/or compensation in exchange for discharging PSOs. The duration of public service contracts was given upper thresholds by the Regulation. It also established rules for the awarding of the passenger public service contracts by means of transparent and non-discriminatory competitive procedures which might be subject to negotiation. Low level or budget contracts were, however, exempt from these rules. Member States should provide the Commission with all the information necessary to determine whether the compensation allocated is compatible with this Regulation. Member States were meant to implement the Regulation gradually, as the end of the transition period was fixed at December 2019. This third package is composed of Directive 2007/58/EC, Directive 2007/59/EC and Regulation (EC) 1371/2007. Directive 2007/58/EC of the European Parliament and of the Council of October 23, 2007 amends Council Directive 91/440/EEC on the development of the Community‘s railways and Directive 2001/14/EC on the allocation of railway infrastructure capacity and the levying of 50 A public service contract is a written contract whereby a service provider provides services to a contracting authority in return for pecuniary consideration. 94 BiH Railways Policy Note - Annexes charges for the use of railway infrastructure. Railway Undertakings established in Member States must by January 1, 2010 be granted the right of access to the infrastructure in all Member States for the purpose of operating international passenger service. Railway Undertakings must also in the course of an international passenger service have the right to pick up passengers at any station located on the international route and set them down at another, including stations that are located in the same Member State. Directive 2007/59/EC lays down conditions and procedures for the certification of train crews operating locomotives and trains. More specifically, it introduces an EU-wide driver license allowing train drivers to circulate on the entire EU network (the certification of cross-border drivers is foreseen as from 2009, and of all other drivers as from 2011). Drivers have to meet basic requirements concerning their educational level, age, physical and mental health, specific knowledge and practical training of driving skills. It also specifies the tasks for which the competent authorities of the Member States, the train drivers and other stakeholders in the sector, the Railway Undertakings, Infrastructure Managers and training centers are responsible. Regulation (EC) 1371/2007 on rail passengers' rights and obligations ensures basic rights for passengers in such areas as insurance, ticketing, and passengers with reduced mobility. While long-distance travelers will enjoy a wider range of rights, minimum quality standards will have to be guaranteed to passengers on all lines. Regulation (EC) 1371/2007 establishes quality standards in the following areas: non-discrimination toward handicapped travelers or persons with reduced mobility; liability in case of accidents; availability of train tickets; and personal security of passengers in stations. This regulation sets minimum requirements for information to be provided to passengers relative to their journey, contract conditions, and the liability of Railway Undertakings in cases of accidents, delays or cancellations of services. II.5 Further developments and the Fourth Railway Package In 2008, a recast of the texts concerning railway interoperability was made by Directive 2008/57/EC.50. The new Directive established the conditions to be met to achieve interoperability within the Community rail system. In particular, it regrouped the procedures for developing the technical specifications for interoperability concerning conventional and high speed rail. It also clarified the relationship between the ERA’s Technical Specifications for Interoperability (TSIs) and EU standards. The conditions encompass the design, construction, placing in service, upgrading, renewal, operation and maintenance of the parts of this system as well as the professional qualifications and health and safety conditions of the staff who contribute to its operation and maintenance. In 2010, following a European Parliament Resolution which stressed the shortcomings in the application of the First Railway Package in the Member States and the lack of effectiveness of its measures, the Commission made a proposal to recast the package. The purpose was to improve the transparency of rail market access conditions and access to rail-related services – for example, station, freight and maintenance facilities. A merging of the first three Directives of the package was proposed, along with the clarification of some of the terminology and an update for the legislation to accommodate new market conditions. In its turn, the recast Directive, whose transposition time elapses in June 2015, is already subject to the amendment proposals of the Fourth Railway Package. 95 BiH Railways Policy Note - Annexes The main objectives of the recast were largely focused on three areas: competition issues and the need to improve transparency of the rail market access conditions; strengthening the power of national rail regulators and establishing the obligation on these bodies to cooperate with their counterparts on cross-border issues; and supporting the financial structure to encourage investment. Directive 2012/34/EU54 is intended to complete the creation of a single European railway area. The efforts of the Commission to put forward proposals to enhance competition in the transport sector had led to the adoption in 2011 of a new White Paper, conceived as a roadmap, which included 40 concrete initiatives to create a true single European transport area through a competitive and efficient transport system. For the railways sector, the major objectives were the creation of an internal market for rail transport and an increase of the modal share of rail transport in the market. Despite earlier attempts of the Commission to establish an internal market for rail and improve rail efficiency, the modal share of rail remained modest. This is partly due to comparative economic advantage of road transport but also, according to the Commission, because of obstacles to market entry in railways hampering competition and innovation, with insufficient incentives for European and intermodal cooperation. With the Fourth Railway Package, the Commission’s main goal is to remove obstacles to the efficient operation of Infrastructure Managers, and thus complement the TEN-T policy, the new proposal for Connecting Europe Facility (CEF) and the existing rules on Rail Freight Corridors (RFCs). The ultimate goals are: to increase rail's capacity, efficiency and attractiveness for customers; to encourage modal shift from road and air; and to complete the circle of market opening already achieved in the freight, international passenger and other transport markets. The proposals of the Commission are structured around a so-called technical pillar and a governance pillar. The technical pillar covers updates to three important pieces of existing legislation. The aim of the changes is to cut administrative costs for rail operators and make it easier for new operators to enter the rail market. One of the main changes concerns the ERA. At the moment, it plays a key role in promoting interoperability and harmonizing technical standards for the whole EU market. However, national technical and safety rules remain alongside the EU ones drafted by ERA, creating complexity for rail operators. The proposed revisions would make ERA the sole body responsible for issuing vehicle authorizations and safety certificates across the whole EU. Alongside the changes in responsibilities for ERA, the 4th Railway Package also includes updates to existing legislation on interoperability and rail safety. These changes aim to remove the remaining administrative and technical barriers to the creation of a single European rail area. In addition to technical revisions, the governance pillar of 4th Railway Package proposes reform in the areas of governance and market opening. These changes are covered in proposals to update two existing pieces of legislation and to repeal a third legislative act which would be incompatible with the changes. The aim is to open up domestic rail passenger markets to competition, to attain improved quality and efficiency. One of the main proposals is to introduce mandatory competitive tendering for public service contracts for railways. This would make it easier for new companies and rail operators to enter 96 BiH Railways Policy Note - Annexes the market by offering competing commercial services or bidding for public service rail contracts. Alongside this, the governance pillar of the 4th Railway Package also proposes to strengthen the governance of Infrastructure Managers. Infrastructure Managers and rail operators are often still part of the same integrated structure, for example through holding company arrangements. The proposed changes would separate Infrastructure Managers from rail operators, except in specific circumstances where there are sufficient safeguards in place. The European Council agreed on the proposals of the governance pillar on 8 October 2015. The proposals will allow train companies non-discriminatory access to rail networks in all EU countries to run domestic passenger services, either in open access or by bidding for public service contracts. The final trilogue meeting between representatives from the European Commission, Parliament and Council concluded seven months of discussions to reach a compromise between the amendments to the Commission’s draft legislation previously adopted by the Parliament and Council. A provisional agreement was reached on April 19 2016. This was subsequently endorsed by the Coreper committee of member state representatives on April 28, and formal ratification by both bodies is expected by autumn 2016. The provisional agreement reached on April 19 aims to introduce a number of changes to the proposals:  to ensure impartiality of railway infrastructure managers, to guarantee non- discriminatory access to tracks for new railway companies, and to ensure better use of rail infrastructure;  to improve financial transparency in order to remove the risk of cross-subsidy between infrastructure managers and transport operators;  to open domestic rail passenger markets from 2020, so that railway operators can provide services across the EU. More competitive pressure is expected to lead to more frequent trains, and higher quality services better in tune with customer needs;  more competition and performance targets for public service contracts, so as to improve cost-efficiency and get better value for money for taxpayers. Competitive bidding would become the norm from 2023 for the award of public service contracts to provide passenger rail services, which currently make up a large share of all rail services. Any contract awarded directly would need to meet specific performance and service quality targets. The fourth package includes the following legislation:  Proposed Directive on railway safety  Proposed Directive on the interoperability of the rail system within the European Union  Proposed Regulation on the European Union Agency for Railways, repealing Regulation 881/2004  Proposed Regulation amending Regulation 1370/2007, concerning the opening of the market for domestic passenger transport services by rail 97 BiH Railways Policy Note - Annexes  Proposed Directive amending Directive 2012/34, as regards the opening of the market for domestic passenger transport services by rail and the governance of the railway infrastructure  Proposed Regulation repealing Regulation 1192/69 on common rules for the normalisation of the accounts of railway undertakings II.6 Status of implementation in Bosnia and Herzegovina As described in Annex I.6, under the EU-Bosnia and Herzegovina Stabilization and Association Agreement BiH undertakes to implement the Community acquis on the development of the railways and its future evolution. In February 2016, BiH submitted its application to join the EU. Table II.1 summarizes the broad compliance of the two BiH railways with the EU rail acquis. Although BiH has started the process of implementing the EU railway acquis, in particular creating the Railways Regulatory Body which is working with support from ERA to adopt the common approach to safety and interoperability, many key aspects in particular regarding the governance in the sector lag significantly. Railways Regulatory Body has the role of economic regulator while the Public Railways Corporation, BHŽJK, is in charge of setting the track access charges. However in practice they do not perform these roles. On the separate management of Infrastructure and rail services, in both BiH railways these activities are simply divisions of the same unitary companies. The railways of both Entities have only an accounting separation between infrastructure and operations, and not a very rigorous one. Also, no mechanism to reduce unsustainable debts of the rail operators, in order for them to compete on a fair basis with third-party operators, has been implemented. According to the railways laws of both entities (Annex I) third party access in permitted in principle but it is not seriously implemented. Each railway has maintained effective exclusivity of network use, neither Entity railway publishes a Network Statement and charge system to encourage access, and track access charges effectively only an internal transfer in the financial accounts from the rail operating division to the infrastructure division. The EU railway acquis also requires clarity in the formal relationship between the government and the Infrastructure Manager. This is often done via a Multi-annual Infrastructure Contract (MAIC)51. As access charging is required to be based on marginal cost pricing, the access income does not cover all costs and the deficit is paid from the public budget. Stable budget funding may be assured through MAIC’s which are also required to set incentives to the Infrastructure Managers to reduce the costs of the infrastructure service provision and the level of access charges, and to maintain and improve the quality of the infrastructure services. A contract of this type is in place for ŽFBH but in practice has not provided the agreed level of funding. There is no such contract for ŽRS. A notion of budget recompense for passenger services is in in place in both entities, but in neither case is the EU acquis well reflected. In ŽRS annual lump-sums are paid from budget that are not related to any level of service. Levels of service are specified in ŽFBH but the amount paid does not reflect the net cost. In both Entities the accounting systems do not 51 The EU railway acquis does not require that the infrastructure contract be on a multiannual basis but it is suggested in EU supporting papers as best practice. 98 BiH Railways Policy Note - Annexes clearly show the allocation of the financial support and the Bank’s analyses shows that in both cases the payments estimated and received are far less than a reasonable allocation of costs of providing passenger services. 99 BiH Railways Policy Note - Annexes Table II.4: Summary of status of implementation of key policies of the EU acquis Key elements of Federation of Bosnia and Republic Srpska EU rail acquis Herzegovina RRB BiH exists, but concentrating on licensing, safety and international Railways Regulatory operability with minimal role in market regulation (e.g. track access) Body BHŽJK plays a technical but not economic regulatory role for inter-entity traffic Vertical separation No. Single corporation with cost No. Single corporation with between Infrastructure allocation to separate financial cost allocations to separate accounts. Manager and Rail financial accounts. Undertaking. Standardization of Yes. Yes. accounts Contractual agreements between Yes (but sums agreed in contract Entity government and No not fully paid) Infrastructure Manager (MAIC) Legally permitted. No enabling Access for third-party Legally permitted. No enabling framework. No Network rail operators framework. No Network Statement. Statement since 2009 Legally recognized. Currently Legally recognized. Currently exists exists as an intra-company Track Access Charges as an intra-company transfer in transfer in ŽFBH financial ŽRS financial statements. statements. Public Service Partially, with subsidies defined as Services specified but Contracts / lump-sum without service compensation by government compensation for specification. Compensation falls falls far short of net costs and Public Service far short of net costs. Canton contributions zero. . Obligations Unsustainable debt obligations Unsustainable debt obligations Mechanisms to reduce remain in Entity railway accounts. remain in railway accounts, indebtedness of rail In practice Entity MoF takes (though MoF takes responsibility incumbents responsibility for funding for funding repayments of railway repayments of railway IFI loans IFI loans) EU common approach to interoperability and Under implementation by RRB Under implementation by RRB safety 100 BiH Railways Policy Note - Annexes ANNEX III: Evaluation of Organizational Forms of Rail Enterprises III.1 Introduction This Annex provides more detail on the evaluation of organizational forms, the results of which are summarized in the Main Report sections B.2.2. (FBH) and C.2.2 (RS). The aim is to present options and recommend a structure which, while compliant with the EU rail acquis, appears best suited to the conditions that exist in each entity. III.2 Structure of state-owned railway companies among EU member states Railways and railway industries around the world are organized in many different ways in regard to their scale, transport role, ownership, competition between train companies, and degree of separation by geography, traffic specialization or between infrastructure and operations (World Bank Railway Reform Toolkit 52 ). The Bank does not advocate any one particular international model of railway organization, either that of the EU or any other model. The Bank recognizes that policy objectives, governmental structures, transport markets and geographical factors vary markedly between countries and will influence the options that may be available and which of those may work best in the circumstances. However, under the terms of EU-Bosnia and Herzegovina Stabilization and Association Agreement (2015) BiH has agreed to harmonize sector policies with the EU railway framework of directives and regulations (the ‘EU railway acquis’) and this is therefore the focus of railway policies explored in this Policy Note. Two impulses have driven the evolution of the EU railway acquis since 1991: first, to create an integrated European railway area from the individual railway systems of each member state, previously protected (and thereby isolated) to a greater or lesser extent through geographic, institutional, economic and technical barriers; and second, to offer better performing rail services and higher market share through the incentive of competition between railway operators who might be either publicly or privately-owned. Arguably the most fundamental principle underpinning the EU railway acquis is that access to the European railway network should be provided on a non-discriminatory basis and to this end Infrastructure Managers should be ‘independent’ of Rail Undertakings (rail transport service operators). However, there is not only one way of achieving this. The relevant EU directives have been transposed differently into national laws of different member states. A recent report of the European Parliamentary Research Service (March 2016)53 summarizes the alternative arrangements in place into essentially three main alternative approaches, which to adapt and paraphrase are: i. Separate Infrastructure Management and Transport Operating companies: with this structure the infrastructure manager and the service provider are fully institutionally and organizationally independent, with the Infrastructure Manager undertaking the infrastructure capacity allocation function. Countries adopting this 52 The Railway Reform Toolkit can be accessed at: http://www.ppiaf.org/sites/ppiaf.org/files/documents/toolkits/railways_toolkit/ch3_4_3.html 53 European Parliamentary Research Service, Members' Research PE 579.088 (March 2016) 101 BiH Railways Policy Note - Annexes alternative include Bulgaria, Czech Republic, Denmark, Great Britain, Greece, Finland, Netherlands, Norway, Portugal, Romania, Spain, Sweden, Slovakia. ii. Group structures with holding company: an integrated governance structure, where the infrastructure manager allocating track capacity and the rail operator are legally separate companies, fulfilling accounting separation requirements, but nevertheless remain within the same institutional structure, for instance within or as subsidiaries of a holding company. Countries adopting this alternative are Austria, Germany, Poland and Italy. iii. Synthesized structures: these include a number of specific arrangements but generally characterized by the establishment of an Infrastructure Manager responsible for (if it is independent) capacity allocation functions or (if not independent) subject to the directions of a separate capacity allocation agency: in some structures functions such as infrastructure maintenance or train control are contracted to the state-owned rail operator. Countries adopting variants of these structures are Belgium, Estonia, France, Hungary, Latvia, Luxembourg and Slovenia. There have been many claims by competitors that institutional links between infrastructure and operating entities in the EU have contributed to unequal or discriminatory treatment. But irrespective of the merits of specific claims of discrimination, the European Court of Justice in a ruling in 2013 found that, in itself, the holding company model (as applied in Germany) satisfied the EU requirements then applying for ‘independence’ of the Infrastructure Manager. Nevertheless, because of the European Commission’s continuing concerns about possible discrimination, the Commission intended as part of the 4th Railway Package to strengthen Infrastructure Managers’ role and independence through a stricter separation (that is, towards alternative i. above). In the face of opposition from a number of countries who prefer other arrangements, including Germany and France, the call for separation was dropped from the final agreement on the 4th Railway Package (see below). Separation certainly provides the most transparent and least conflicted environment for encouraging non-discriminatory access and competition between rail operators, though it doesn’t guarantee it. Conversely, those supporting more integrated alternatives point to the benefits of closer coordination between provider and main users of infrastructure, keeping infrastructure managers ‘closer’ to final markets, better reflection of the interdependence of infrastructure and rolling stock investment decisions although it is difficult to see how either party gains such benefits in a group structure without some degree of interdependent management and decision-making. Nevertheless, there is no clear weight of empirical evidence in favor of any one of the three alternatives over the others in terms of overall economic merits. Indeed there is great diversity of external circumstances within the EU and it may well be that flexibility in transposition models provides a superior outcome to a ‘one- size-fits-all’ approach. In addition, it seems likely that the quality of governance and management of the individual state-owned rail entities in any country will have a much greater impact on their performance than the nature of institutional links between them. The informal agreement on the 4th Railway Package market pillar by representatives from the European Commission, Parliament and Council in April 2016 has still to be approved by the full Council and Parliament, and this is expected in late 2016. The Policy Note is essentially based 102 BiH Railways Policy Note - Annexes on its provision that that, while the existing alternatives applied in EU member states shall not in principle be considered non-compliant, whatever alternative is used should ensure impartiality of railway infrastructure managers in providing non-discriminatory access to tracks, allow them to pursue their own strategies for better use of rail infrastructure, and improve financial transparency in order to remove the risk of cross-subsidy between infrastructure managers and transport operators. Detailed rules on each of these matters are to be promulgated. III.3 Evaluation of alternatives for application in BiH The evaluation is aimed at identifying a structure that would be capable of complying with the EU acquis while taking account also of the need to improve the financial sustainability of the sector in BiH, the efficiency of various elements of sector management, and the ease of implementation. There are eight criteria on which these options have been assessed, for each of the entities, which are summarized in Table F1, and are rated from three stars (best fit with criterion) to one star (least good fit to criterion). This is a subjective ranking but based on judgement and experience of the Bank team preparing the Policy Note. The evaluation is judged equally applicable to each entity. Table F1: Evaluation of EU-compliant Structural Alternatives (*** = best fit: *=least good fit) Full separation Synthesized of Group structure structure plus Criteria Infrastructure with holding Capacity Manager company Allocation /Operator Authority Ease of implementation ** *** * Impartiality of infrastructure manager with regard to non- *** * * discriminatory access Clarity and focus of roles *** ** * Ability of infrastructure manager and operating companies to determine own business *** ** * strategies Protection of coordination benefits ** *** * Administrative efficiency (ministry) ** *** * Management efficiency (railways) *** ** ** Regulatory efficiency (ministry and RRB) *** ** ** * assumes a separate infrastructure capacity allocation agency and that the Infrastructure Manager may contract the infrastructure maintenance and train control functions to the operating company. 103 BiH Railways Policy Note - Annexes  Ease of implementation: On this criterion, the group structure is ranked over separation while least highly ranked are more complex synthesized options, particularly if these require the establishment of an independent capacity allocation agency to interact with both infrastructure managers and operating companies. However, all three alternatives would appear to require new legislation (or legislative amendments).  Impartiality of Infrastructure Manager: This criterion favors the separation option which eliminates formal links that may affect partiality (though that does not actually eliminate the possibility of partiality). A group structure is ranked lower because it contains in-built enticements to partiality that would need actively to be suppressed. The synthesized alternative, if it has an independent capacity allocation agency, minimizes the likelihood of partiality in allocating capacity but if the infrastructure manager contracts track maintenance and train control to an incumbent operator that operator can exert partiality between itself and other operators in numerous day-to-day operational decisions. The latter two alternatives are therefore ranked equally.  Clarity and focus of roles: This criterion favors a clean separation between infrastructure manager and operating company. Each company would be accountable to its own Board for a distinct function, either infrastructure management or transport operations. A group structure would provide less clarity because a competent holding company management can influence distribution of management responsibilities and decision-making powers, and (through management advice or intervention) how actual decisions are made. The synthesized options appear to provide least clarity: they could be designed to create clear divisions such as by establishing an independent capacity allocation body but at the expense of creating a third institutional unit alongside the infrastructure manager and operating company (whether separate or grouped). Moreover, if an infrastructure manager then contracts train control and maintenance back to the operating company it would be creating a contractor/client relationship alongside a supplier/ customer relationship, which seems likely to create at least fuzzy edges in roles.  Ability of infrastructure managers and operating companies to set own business strategies: An extension of the benefits of clarity and focus in roles is that they also allow the companies independence to determine their own business strategies. This is important to an infrastructure management company seeking optimum use and development of its railway network for all potential users. It is equally important to the train operating company which under EU structures will no longer be confined to the existing network but can compete for traffic, on its own or in partnership with others on a regional basis, and may wish to increase external equity participation to do so. The ranking here is adjudged the same as for clarity of focus and role, though it is harder to judge between the group structure and the synthesized alternative as it would depend on detailed design. On balance, if capacity allocation and utilization issues are taken outside of the company supplying the infrastructure this must be seen as detracting from management responsibilities.  Protection of coordination benefits: In principle, a group structure would best preserve any coordination benefits that exist. The separation and synthesized options rank lower, though it is difficult to distinguish which might be best. 104 BiH Railways Policy Note - Annexes  Administrative efficiency (ministry): For the line ministry responsible for railways the group structure may look to be most efficient as it only has to deal with a single corporation rather than an infrastructure manager and an operating company. A countervailing risk is that the holding company will be better resourced and more powerful than the line- ministry and by default may end up ‘competing’ with the ministry with regard to dealing with rail policy matters. The synthesized alternative would require the line ministry to establish an infrastructure allocation agency in some form and this could be an unwelcome administrative challenge for a lightly resourced ministry.  Management efficiency (railways): Separation is ranked as being best alternative. The railway industry in BiH’s entities is not sufficiently large or complex to justify adding another institutional layer (in the form either of a holding company in a group structure or an infrastructure capacity allocation unit in a synthesized structure) to a national railway industry already characterized by an abundance of institutions. In a group structure the best railway managers would tend to gravitate to the holding company instead of running the actual businesses where their skills are most needed. This would dilute the responsibility and accountability of the subsidiary managements. While in theory a group structure could provide some sharing of corporate services such as financial accounting and human resources management, these would reduce management independence at the subsidiary level. It is also likely that with current low levels of productivity, significant costs can be saved anyway in all functions during a well-planned separation process, a saving less likely if resources are simply regrouped into subsidiaries. In a synthesized structure, the infrastructure access agency or unit would draw off infrastructure utilization skills from the infrastructure manager.  Regulatory efficiency (ministry and RRB): Regulatory efficiency refers to the burdens on the entity governments and the RRB to ensure compliance with the EU rail acquis. While the final rules of compliance have yet to be promulgated it is likely to be more onerous to demonstrate and monitor compliance with impartiality and financial transparency requirements in a separated system than in either a group structure or a synthesized alternative. The FBH and RS entity government transport officials have better knowledge of their own institutional and market environment and may legitimately assign different ratings to those above, or ascribe different weightings to the individual criteria. However, it seems clear that the separation and group structure alternatives are both superior to a synthesized alternative which does not really perform better than one of the other alternatives on any criterion. On the balance of evaluation criteria the Bank team expresses a preference for institutional separation, arguably the simplest and most clear-cut solution. It is reinforced in this view by the added weight the team gives to two factors in the evaluation criteria: first, that separation will lead to better management of the infrastructure and transport operating companies; and second it will enhance their ability to determine their own business strategies in the context of a European railway system in which each will have different and sometimes different interests. However, the evaluation recognizes that a group structure is a legitimate and compliant option, and both alternatives are presented in the Main Report. 105 BiH Railways Policy Note - Annexes ANNEX IV: Operational and Financial Performance of the Railways of Federation of Bosnia and Herzegovina IV.1 The role of railways in FBH Railway length and density The railway network in FBH extends for about 600km and it is one of the smallest networks in the West Balkan region54, similar in size to FYR Macedonia’s. Compared to land area, the network density is a little less than half of that Croatia and Serbia, largely because the latter two railways have a more extensive network of lightly-used branch lines. By contrast, most of the FBH operational network consists of the main north-south trunk line. Albania 423 Albania 15 Montenegro 239 Montenegro 17 FYR Macedonia 699 FYR Macedonia 27 ZRS 426 ZRS 17 ZFBH 600 ZFBH 23 Bosnia and Herzegovina 1,026 Bosnia and Herzegovina 20 Croatia 2,604 Croatia 46 Serbia 3,809 Serbia 43 Slovenia 1,208 Slovenia 60 Bulgaria 4,023 Bulgaria 36 Romania 10,770 Romania 45 18,942 Poland 61 Poland 0 20 40 60 80 0 5,000 10,000 15,000 20,000 Figure III.1. Network route-km, 2014 Figure III. 1. Network density, km/000 km², 2014 Passenger Traffic In 2014 ŽFBH carried 355,000 passengers for a total of 22 million passenger-km (an average distance of 62 km) with the average train occupancy of 21 people55. Traffic gradually grew from 2005 until 2008, when ŽFBH was carrying 528,000 passengers and 39 million passenger-km, and remained near that level until 2011. During 2012-2014 passenger numbers again declined significantly, reaching the level of 2005 in 2014. As a result, its share of FBH total non-urban traffic has also reduced from 5 percent in 2012 to 2 percent in 2014 with transfer to road-based public transport and private vehicle use. This reduction has occurred in both segments of the rail market (domestic and international) with the greatest decline being in the international market. In 2014, domestic (incl. inter-entity) routes accounted for the largest share of passengers transported - 98 percent (or 349,000 passengers/year) followed by only 2 percent (or 6 thousand passengers/year) on international routes. The main domestic routes are Sarajevo- Zenica (4 pairs of trains per day), Sarajevo-Capljina (2 pairs of trains per day) and Sarajevo-Konjic 54 The West Balkans Region is defined as an area in Southeast Europe that comprises Albania, the Former Yugoslav Republic of Macedonia, Montenegro, Serbia, Bosnia and Herzegovina and Kosovo. 55 As measured by passenger-km/train-km 107 BiH Railways Policy Note - Annexes (2 pairs of trains per day). Inter-entity trains run between Doboj and Sarajevo and Doboj and Tuzla once and twice per day in each direction respectively, but they carry very few inter-entity passengers and most passengers are intra-entity. FBH is served by two international passenger rail routes – Sarajevo- Zagreb and Sarajevo - Ploče, but most passengers on international trains are relatively short-distance cross-border trips. 50.0 6.0 600,000 40.0 5.0 500,000 4.0 400,000 30.0 3.0 20.0 300,000 2.0 10.0 200,000 1.0 0.0 0.0 100,000 - Passenger traffic (million pass-km) % of the total traffic Domestic route International route Figure III. 2. Passenger traffic, million pass- Figure III. 3. Number of passengers km, ŽFBH, 2005-2014 transported, ŽFBH, 2007-2014 Freight Traffic In 2014, ŽFBH carried 8.5 million tonnes for 885 million net tonne-km (ntkm) (an average intra- entity distance of 104 km). Freight traffic has been increasing marginally since 2005 other than a temporary drop in 2009 coincident with the global financial crisis. Domestic traffic comprised 5.4 million tonnes (63 percent of the total) and 236 million ntkm (27 percent of the total). Import and export traffic totaled 3.1 million tonnes (641 million ntkm) and transit traffic 0.05 million tonnes (8 million ntkm). 1,200 10.0 1,000 8.0 800 6.0 600 4.0 400 2.0 200 0.0 0 2007 2008 2009 2010 2011 2012 2013 2014 Domestic Import Export Transit Figure III. 4. Freight traffic, million tonne- Figure III.5. Freight transported, tonnes, km, ŽFBH, 2005-2014 ŽFBH, 2007-2014 Traffic density 108 BiH Railways Policy Note - Annexes Freight traffic density in FBH - at about 1.4 million tonnes per route-km - is the highest among the all countries in this region and nearly a fifth more than the EU average. However, passenger traffic density is very low – under a tenth of most other South East European countries and less than 2 percent of the EU average. Table 5. Freight and passenger traffic density (2014, unless otherwise indicated)   Freight traffic density Passenger traffic density (000 tonnes/route-km) (000 pass/route-km) EU* 1,240 1,870 Poland 1,690 626 Romania 912 420 Bosnia 1,277 33 ŽFBH 1,475 37 ŽRS 998 28 Croatia 814 356 FYR Macedonia 590 115 Montenegro (2013) 419 293 Serbia 680 162 Albania 95 18 * - excluding Croatia IV.2 ŽFBH Network assets The operational network is standard gauge (1,435mm) and the majority is single track (89 percent of the total). More than 85 percent of the network is classified as D4 in terms of UIC load categories, allowing maximum loads of 22.5 tonnes per axle. Around 73 percent of the network is electrified at 25 kV. The only non-electrified part is located in the north-eastern part of the country, around Tuzla. The maximum designed speed on the network is generally 100km/h, however operational speed is much lower and averages to 33km/h due to a mixture of traffic conditions, low- performance train dispatching and control including train stops at level crossings. There are over 100 level crossing on the ŽFBH network, out of which only 26 are actively protected with lights and/or boom gates. IV.3 ŽFBH rolling stock ŽFBH has acquired little new rolling stock in the last twenty years, with the exception of a fleet of freight wagons and Talgo passenger train-sets in 2008, the latter of which were arranged at the government level with finance from Spain, and which have never been used in service. As a result, the locomotive fleet and passenger carriages are very old and their condition is generally poor. The number of locomotives in operation is small relative to the total stock. Out of 97 locomotives only 40 are operational, reflecting the age structure - with the majority exceeding 40 years. There are in total 2129 freight wagons owned by ŽFBH, of which 1372 are currently in operation and 27 passenger coaches, of which only 15 cars are in operation. 109 BiH Railways Policy Note - Annexes Locomotive productivity, measured as traffic units per operational locomotive, stood at 22.68 million in 2014. This level of productivity is highest among all countries comparators in the region though lower than the EU average by about 30 percent. Similarly, productivity of the freight car fleet, measured as freight traffic units per total number of operational wagons, is the highest among all neighboring countries, but also somewhat below the EU average (by 18 percent in 2014). Passenger coach productivity in 2014 was only around 33 percent of the EU average and one of the lowest in the region. Serbia 12.80 Serbia 0.34 Montenegro (2009) 10.15 Montenegro (2009) 0.28 FYR Macedonia (2012) 16.19 FYR Macedonia (2012) 0.56 Croatia 12.72 Croatia 0.43 ZRS 8.09 ZRS 0.36 ZFBH 22.68 ZFBH 0.65 Bosnia 14.30 Bosnia 0.51 Romania 9.59 Romania 0.34 Poland 16.40 Poland 0.60 EU* 32.68 EU* 0.79 0 0 0.0 10.0 20.0 30.0 40.0 0.0 0.2 0.4 0.6 0.8 1.0 Figure III. 6. Locomotive productivity (2014, FigureIII.8. Wagon productivity (2014, unless otherwise indicated) unless otherwise indicated) Serbia 1.12 Montenegro (2009) 1.98 FYR Macedonia (2012) 1.94 Croatia 1.95 ZRS 0.63 ZFBH 1.47 Bosnia 1.00 Romania 1.94 Poland 2.28 EU* 4.48 0 0.0 1.0 2.0 3.0 4.0 5.0 Figure III.9. Coach productivity (2014, unless otherwise indicated) IV.4 ŽFBH Human resources In 2014, ŽFBH had 3,572 employees. Labor productivity has generally been trending upward since 2005 as gradual staff reductions through attrition have coincided with some freight increase. But the average traffic units per employee in 2014 was 253,000 – about 40 percent of the EU average and lower than in most neighboring countries except Albania and Serbia. 110 BiH Railways Policy Note - Annexes Table III. 6. Labor productivity by country (2014, unless otherwise indicated)   Staff productivity (000 Number of staff per km Total staff (000) traffic unit/staff) of line EU* 1069.0 613 5.1 Poland 90.0 490 4.7 Romania 45.1 318 4.2 Bosnia 7.0 193 6.8 ŽFBH 3.6 253 5.9 ŽRS (2015) 3.2 146 8.7 Croatia 9.3 329 3.6 FYR Macedonia 2.6 188 3.7 Montenegro 1.0 (est) 178 4.0 Serbia 17.1 188 4.5 Albania 1.1 42 2.7 300000 4.1 250000 4.0 3.9 200000 3.8 150000 3.7 100000 3.6 3.5 50000 3.4 0 3.3 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 Staff productivity (traffic units/staff) Total staff (000) Figure III.10 Labor productivity, ŽFBH, 2005-2014 IV.5 ŽFBH Financial performance The financial performance of ŽFBH remains poor with financial losses incurred each year. Total operating expenses of ŽFBH exceed total revenues for each year during 2007-2014, even after factoring in the support from the Entity’s budget. The level of total revenues, including this support, was sufficient to cover just cash operating expenses (the working ratio was 83 percent in 2014). 111 BiH Railways Policy Note - Annexes Table III. 7. ŽFBH - Financial Performance (BAM millions) YEAR 2007 2008 2009 2010 2011 2012 2013 2014 Total Revenue 110.61 134.37 100.92 114.79 125.15 134.05 118.47 121.69 Passenger 2.12 2.72 2.40 2.52 2.61 2.71 1.59 1.43 Freight 58.17 75.18 59.63 70.71 80.94 66.39 70.57 77.70 Other 17.29 20.19 15.04 16.75 16.07 20.86 20.95 16.23 Total operating revenues 77.58 98.09 77.06 89.98 99.63 89.95 93.11 95.36 State operating 33.04 36.29 23.86 24.81 25.53 44.10 25.35 26.33 contribution Passenger 2.00 2.00 1.67 1.70 1.70 1.70 2.00 2.00 Freight 0.50 0.42 0.40 0.40 0.40 0.10 0.10 Infrastructure 23.10 25.90 17.32 19.24 19.24 19.24 19.24 19.24 Other 7.94 7.89 4.46 3.47 4.19 22.76 4.01 4.99 Total expenditure 151.10 174.06 162.49 155.48 166.64 174.15 152.63 151.20 Materials 8.80 8.04 6.44 3.27 7.23 4.47 6.36 5.19 Fuel, electricity 9.05 11.78 9.32 9.73 11.78 13.88 10.72 11.44 Salaries and allowances 67.12 82.97 82.00 80.44 78.73 83.46 81.74 79.83 Outsourcing and other 8.59 9.32 6.86 6.64 7.77 5.67 4.65 4.46 services Depreciation 45.49 39.37 37.67 26.75 25.51 24.52 22.62 29.59 Total operating 139.05 151.49 142.30 126.83 131.02 131.99 126.09 130.51 expenditures Non-operating 12.05 22.57 20.19 28.65 35.62 42.15 26.54 20.70 expenditures Net income With Entity (40.49) (39.69) (61.57) (40.69) (41.48) (40.10) (34.17) (29.51) contribution Without Entity (73.53) (75.97) (85.43) (65.50) (67.01) (84.20) (59.52) (55.85) contribution Working ratio With Entity 1.21 1.14 1.36 1.11 1.06 1.19 1.11 1.06 contribution Without Entity 0.85 0.83 1.04 0.87 0.84 0.80 0.87 0.83 contribution Labor costs are a substantial share of the cost structure of ŽFBH. In 2014, the wage bill was 61 percent of operating costs and 84 percent of commercial revenues (excluding Entity subsidies), growing in absolute terms by 19 percent during 2007-2014. Depreciation is the second largest cost item, but ŽFBH had no commercial revenue or budget support actually to fund depreciation provisions as a source of finance for annual renewals or investment. Basically, any infrastructure O&M costs are funded from the budget, which has not provided sufficient in practice to avoid deteriorating assets. During 2007-2014, ŽFBH earned a surplus on freight operations but made substantial losses on their passenger operations, for which the traffic volumes sharply declined. Based on railway cost allocations, ŽFBH unit revenues for freight transport increased from 9.4 fening in 2007 to 10.2 fening in 2014. Unit cost remained only a fraction of unit revenues, however the margin got slightly smaller – from 30 to 27 percent measured as fraction of unit revenues during 2007-2014. ŽFBH unit cost for passengers, at 99.2 fening in 2014, far exceeded unit revenues. Even with the budget support passenger unit revenues were not sufficient to fully cover unit 112 BiH Railways Policy Note - Annexes operating costs (the gap was 68.3 fening per pass-km in 2014). It should be noted that World Bank estimates of passenger costs and losses (see Main Policy Note) are significantly higher than those of the company. 120 11.3 11.0 10.4 10.8 10.8 9.9 10.2 100 9.4 9.5 8.5 8.5 80 7.6 7.4 6.6 6.9 6.7 60 40 20 0 2007 2008 2009 2010 2011 2012 2013 2014 % of operating costs 2007 2008 2009 2010 2011 2012 2013 2014 % of operating revenues (excl budgetary support) Freight unit total revenue (fening/ton-km) % of total revenues Freight unit operating cost (fening/ton-km) Figure III.11 Wage Bill Indicators, ŽFBH, Figure III.12 Average revenue and cost per 2007-2014 freight unit, ŽFBH estimates, 2007-2014 99.2 67.3 52.2 51.4 43.0 42.7 45.3 46.3 19.5 18.7 18.8 21.2 25.0 21.8 17.6 18.6 2007 2008 2009 2010 2011 2012 2013 2014 Passenger unit total revenue excl support (fening/pass-km) Passenger unit operating cost (fening/pass-km) Figure III.13 Average revenue and cost per passenger unit, ŽFBH estimates, 2007-2014 IV.6 ŽFBH Financial Model The World Bank team developed a financial model of ŽFBH to evaluate alternative future strategies over the next 10 years (2016-2025) and to estimate the total amount that the FBH budget would need to pay to sustain the railway financially though a combination of capital outlays and net operating deficit. This section describes the structure of the proposed business plan financial model inputs used for the analysis and the sources from which they have been derived. The model generates consolidated financial statements of ŽFBH and profit and loss statements for its three main sector components (passenger, freight and infrastructure). 113 BiH Railways Policy Note - Annexes ŽFBH Model Inputs The inputs fall into five groups:  general economic data  traffic data and growth rates  operating data  financial data (operating costs and opening balance sheet)  investment and funding data The following sections describe each group of inputs in turn. Economic Data This data consists of forecasts of inflation, growth in annual real wages and changes in the exchange rate between 2015 and 2020. Inflation: The model presents results in nominal terms (in the Policy Note section B3, these are converted to 2015 constant prices) Real wages: Growth in real wages is a major factor driving the operating cost projections, which combine changes in unit labor costs with assumptions on changes in physical productivity. Exchange rate: The exchange rate between the Euro and BAM affects both the cost of any project and the cost of servicing any Euro-denominated debt. Traffic Data and Growth Rates The base traffic data consists of the 2014 volume, task and revenue for each of the passenger and freight sectors, together with annual growth rates. The base projections were made following discussions with ŽFBH. Passengers: The forecasts are based on the train patterns for 2014 and assume no growth unless there is major investment to improve service levels. Freight: The projections also assume no growth unless there is major investment to improve freight service levels: however, a scenario showing impacts of ŽFBH winning additional market share (e.g. bulk oil products in Corridor Vc) is provided in the Policy Note. Infrastructure revenue: 114 BiH Railways Policy Note - Annexes This includes a number of items which are associated with infrastructure management, such as rents, sale of scrap etc. These are assumed to remain a constant proportion of transport revenue. Infrastructure revenue also includes track access charges paid by the passenger and freight businesses to the infrastructure company. These have been set at rates which are comparable with other railways in the region. Government compensation: ŽFBH is assumed to continue to receive direct Government public service contract payments for passenger services and contractual payments for infrastructure maintenance and servicing of historic debt to international financial institutions. The PSC payments are calculated from the cash deficit on the passenger and infrastructure businesses (excluding debt service). Operating Data Operating data includes the main parameters which enable traffic projections to be converted into the operating resources (car-km, train-km etc) which drive the operating costs. These have been derived from ŽFBH operating statistics. Financial Data The financial data consists of three components:  current annual operating costs, which form the basis of projected expenditure  projections of changes in operating costs  opening balance sheets for ŽFBH as a whole and for the three sectors: freight, passengers and infrastructure. Current operating costs: Current operating costs were derived from the ŽFBH management accounts for 2014, supplemented by special analyses of rolling stock maintenance costs. Future operating costs: The projected changes in operating costs have two elements:  changes in the unit cost of performing particular activities e.g. unit fuel costs, unit labor maintenance costs, etc.  changes in the number of units of work required due to changes in the traffic task or operating plan, which affect operating costs through the assumed cost driver relationships. 115 BiH Railways Policy Note - Annexes Opening balance sheet: The model includes a balance sheet for the consolidated accounts of ŽFBH, based on the closing balance sheet for 2014, together with notional balance sheets for the passenger, freight and infrastructure businesses derived by splitting the consolidated balance sheet and ignoring inter-business payables and receivables. Investment and Funding The projections allow for investment in both rolling stock and infrastructure. This is assumed to be funded by government grant, although the model also has the facility to assume loans, in which case it calculates interest and debt service payments. Model Assumptions Table III.4 summarizes the input assumptions used. For some variables only a single set of assumptions was used while for others, such as labor productivity, several sets were used. The precise combinations for the various scenarios are given in the Policy Note main text. 116 BiH Railways Policy Note - Annexes Table III.4: Summary financial model input assumptions ŽFBH 2016-2020 2021-2025 General Real wages 0 per cent pa 0 per cent pa Exchange rate Depreciate against Euro by 1 per cent p.a. in Depreciate by 0.6 per cent p.a. 2016 decreasing to 0.6 per cent p.a. in 2020. against Euro. Euro inflation 1.5 per cent in 2016, increasing to 1.9 percent in 1.9 per cent p.a. 2020 FBH Inflation 2.5 per cent p.a. 2.5 per cent p.a. Traffic and revenue Passenger traffic Base demand 0 per cent pa growth 0 per cent p.a. Improved service – demand 0 per cent p.a. to 2019, 8.7 percent in 2020 8.7 per cent p.a. throughout Service withdrawn 0 percent p.a. to 2019, -100 percent in 2020 No traffic Average trip length Constant Constant Average real yield Constant Constant Freight traffic Base demand Demand constant, yield reduces at -1 percent As 2016-20 p.a. Improved infrastructure Demand constant to 2017, 5 percent p.a. for 5 percent p.a. for ‘other’ freight ‘other’ freight to 2020 throughout Average freight haul Constant Constant Average freight yield Reduces at -1 percent p.a. for Base, constant Reduces at -1 percent p.a. for after 2015 for ‘improved infrastructure’ case Base, constant for ‘improved infrastructure’ case Infrastructure revenues Constant proportion of transport revenue As for period to 2020 Non-cash revenues omitted Government payments Calculated in model as amount needed to cover As for 2015-20 deficit in working expenses Operations data Train operations Derived from operating statistics for 2014; As for 2015-20 passenger load factors and rolling stock utilizations kept constant except for high passenger investment Train operations – high Kept constant to 2020. Passenger load factors doubled passenger investment between 2020 and 2025 Track –km Constant Constant Financial data Costs by activity Derived from 2014 management accounts, with some estimation and disaggregation for detailed cost items. Reduction in unit labor costs based on productivity scenarios. Labor productivity Base Labor force held constant As for 2015-20 Medium 3% p.a. reduction in staff to 2020, As for 2015-20 independently of traffic task High Doubling of labor productivity by 2020, Improvement of 6% p.a. in unit together with variation with traffic volumes labor productivities where appropriate Access charges Train-working and usage-related track costs As 2015-20 charged to both passenger and freight. Passenger Euro 1.50 per train-km +0.50/000 gtkm Freight Euro 2.00 per train-km+1.00/000 gtkm Third-party access Market share of 100 per cent to 2019. Access is Market share reduces by 10 per assumed from 2020 when ŽFBH market sharer cent p.a. to reach 50 per cent in reduces to 90 per cent. 2024. Constant thereafter. Investment 117 BiH Railways Policy Note - Annexes Passenger Base BAM 3.5 million p.a.- based on current level. ROI As 2015-20 0% (i.e. maintains current operating costs) Low 50 per cent of Base Case. Increase in operating As 2015-20 cost equivalent to ROI of -1% to reflect inadequate investment High Base investment of BAM 5 million p.a. BAM 10 Investment of BAM 5 million million p.a. additional from 2018 to 2021 for p.a. except for 2021 with purchase of new rolling stock. ROI of 2% p.a. additional BAM 10 million for BAM 90 million p.a. between 2017 and 2020 to new rolling stock increase line speed to 80 km/hr. Freight Base BAM 3.5 million p.a.- based on current level. ROI As 2015-20 0% (i.e. maintains current operating costs) Low 50 per cent of Base Case. Increase in operating As 2015-20 cost equivalent to ROI of -1% to reflect inadequate investment High BAM 7 million p.a. to reflect purchase of new As for 2015-20, BAM 7 million locos and rolling stock. ROI of 3% p.a. p.a. Infrastructure Base BAM 5.5 million p.a.- based on current level. ROI As 2015-20 0% (i.e. maintains current operating costs) Moderate BAM 9 million for 2017-20 to reflect BAM 5 million p.a. with ROI of investment in switches and train control. ROI of 6% p.a. 6% p.a to reflect operating cost savings High BAM 11 million p.a.to 2020 to reflect BAM 9 million p.a. ROI `of 5% investment needed to operate high-interval p.a. passenger service. ROI of 5% p.a. 118 BiH Railways Policy Note - Annexes ANNEX V: Operational and Financial Performance of the Railways of Republic of Srpska V.1 The role of railways in RS Railway length and density The railway network in RS extends for about 426km, of which 353 km is currently under traffic operations. It is one of the smallest networks in the West Balkan region56, similar in size to Albania’s. Compared to land area, the network density is a little less than half of that Croatia and Serbia largely because the latter two railways have many more lightly-used branch lines. Most of the RS network consists of the Entity’s main lines. Albania 423 Albania 15 Montenegro 239 Montenegro 17 FYR Macedonia 699 FYR Macedonia 27 ZRS 426 ZRS 17 ZFBH 600 ZFBH 23 Bosnia and Herzegovina 1,026 Bosnia and Herzegovina 20 Croatia 2,604 Croatia 46 Serbia 3,809 Serbia 43 Slovenia 1,208 Slovenia 60 Bulgaria 4,023 Bulgaria 36 Romania 10,770 Romania 45 18,942 Poland 61 Poland 0 20 40 60 80 0 5,000 10,000 15,000 20,000 Figure IV.1 Network (route) length (km), Figure IV. 7 Railway network density, 2014 km/000 km², 2014 Passenger Traffic In 2014, ŽRS carried 168,000 passengers for a total of 12 million passenger-km (an average distance of 71 km). Traffic has steadily declined from its peak in 2008, when ŽRS was carrying 727,000 passengers and 39 million passenger-km. As a result, its share of RS total non-urban traffic has also reduced from 8 percent in 2005 to 3 percent in 2014 with transfer to road- based public transport and private vehicle use. This reduction has occurred in all three segments of the rail market (domestic (intra-entity), inter-entity and international) with the greatest decline being in the domestic market. In 2014, domestic routes accounted for the largest share of passengers transported, some 77 percent (or 134,000 passengers), followed by inter-entity routes at 9 percent (or 15,000 passengers), and international routes at 14 percent (25,000 passengers). The main domestic routes are Doboj – Banja Luka (4 pairs of trains per day), Doboj – Petrovo Novo (3 pairs of trains per day) and Banja Luka – Dobrljin (2 pairs of trains per day). Together these routes in 2014 carried 91 percent of all domestic rail passengers with the average number of passengers being estimated to be 14-25/train. Although inter-entity trains run between Doboj and Sarajevo and Doboj and Tuzla once and twice per day in each direction respectively, they carry very few inter-entity passengers and most passengers are intra-entity. Because of low utilization and 56 The West Balkans Region is defined as an area in Southeast Europe that comprises Albania, FYR Macedonia, Montenegro, Serbia, Bosnia and Herzegovina and Kosovo. 119 BiH Railways Policy Note - Annexes high costs, the number of international routes was reduced from four in 2006 to one return trip daily between Sarajevo and Zagreb, with most international passengers being relatively short-distance cross-border traffic. Average train occupancy on the international routes is low (about 16 in 2014)57 and most trains are correspondingly small (typically one or two coaches). 50.0 12.0 800,000 40.0 10.0 600,000 8.0 30.0 6.0 400,000 20.0 4.0 10.0 200,000 2.0 0.0 0.0 - Passenger traffic (million pass-km) Domestic route Inter-entity route % of the total traffic International route Figure IV. 8. Passenger traffic, million pass- Figure IV. 9. Number of passengers km, ŽRS, 2005-2014 transported, ŽRS, 2006-2014 Freight Traffic In 2015, ŽRS carried 5.0 million tonnes for 450 million net tonne-km (ntkm) (an average intra- entity distance of 90 km). Freight traffic has been increasing marginally since 2005 other than a temporary drop in 2009 coincident with the global financial crisis. Domestic traffic comprised 2.3 million tonnes (46 percent of the total) and 331 million ntkm (74 percent of the total). Import and export traffic totaled 1.0 million tonnes (32 million ntkm) and transit traffic 1.7 million tonnes (87 million ntkm). 600 6.0 500 5.0 400 4.0 3.0 300 2.0 200 1.0 100 0.0 0 2007 2008 2009 2010 2011 2012 2013 2014 2015 Domestic Import Export Transit Figure IV. 10. Freight traffic, million tonne- Figure IV. 11 Freight transported, tonnes, km, ŽRS, 2005-2015 ŽRS, 2007-2015 Freight traffic is dominated by bulk cargo. The main commodities include iron ore, bauxite, aluminium, hydrated aluminium, alkali and coal. The iron ore is about 40 percent (or 2.26 million 57 As measured by passenger-km/train-km 120 BiH Railways Policy Note - Annexes tonnes) of the total 2015 volume by tonnes and is transported on two routes Omarska-Zenica (in ŽFBH) and Omarska-Volinja (on the Croatian border) for onward shipment to (mostly) Kosice in Slovakia. The main user of the iron ore and the largest client of ŽRS is Arcelor Mittal Zenica (2.02 million tonnes transported in 2015). Other bulk commodities including coal, bauxite, aluminium, hydrated aluminium and alkali are transported on various routes, mainly to Alumina Zvornik Novi (0.46 million tonnes in 2015). Freight moving via ŽFBH to and from the port at Ploce includes coke and coal for GIKIL Lukavac Novi. The general freight includes steel products from Zenica Steel Mill to a range of destinations, plus relatively small volumes of timber, scrap iron and chemical products, cereals, oil and oil products, sugar and fertilizers; the total volume of these general freight transported by ŽRS in 2015 was 0.69 million tonnes. Traffic density Freight traffic density in RS - at about 1.0 million tonnes per km of route - is relatively high compared to neighboring countries, and about 80 percent of the EU average. However, passenger traffic density is very low – under a tenth of most other South East European countries and less than 2 percent of the EU average. Table IV. 1 Freight and passenger traffic density (2014, unless otherwise indicated)   Freight traffic density Passenger traffic density (000 tonnes/route-km) (000 pass/route-km) EU* 1,240 1,870 Poland 1,690 626 Romania 912 420 Bosnia 1,277 33 ŽFBH 1,475 37 ŽRS 998 28 Croatia 814 356 FYR Macedonia 590 115 Montenegro (2013) 419 293 Serbia 680 162 Albania 95 18 * - excluding Croatia V.2 ŽRS Network assets The operational network is standard gauge (1,435km) and the majority is single track (94 percent of the total). More than 90 percent of the total active network is classified as D4 in terms of UIC load categories, allowing maximum loads of 22.5 tonnes per axle. Around 320km is electrified at 25 kV with the only non-electrified sections located in the east of Doboj. Some sections are non-operational due to cessation of services or temporarily leased to other parties. The maximum design-speed on the network is generally 100km/h, however operational speed is lower on some branch-lines (Novi Grad – Blatna, Omarska – Tomašica) and on the section between Šamac – Doboj These sections are either industrial lines requiring only slow speed, lines with curvatures that lower average speeds, minimum use lines or temporary restrictions that require long term solutions. There are in total 278 level crossing on the ŽRS network, out 121 BiH Railways Policy Note - Annexes of which only 23 are protected. The protection system (signaling & safeworking) is colored light signalling on the mainlines with one exception being on the Doboj to Zvornik where train orders are used, but with colored light protection at stations. This protection is mainly of the manual variety (station master invoked) but with some stations having been converted to interlocked automation. On lesser used lines train orders are used except around stations. Regardless of protection system, stations still use “pointsmen” to monitor entry and exit of trains at the turnouts, but this practice is more and more difficult to implement due to the lack of staff. Ultimately there should be no need for this function once more sophisticated signalling is installed. V.3 ŽRS Rolling stock ŽRS has acquired little new rolling stock in the last twenty years, with the exception of a fleet of wagons for the Omarska iron ore traffic. As a result, the fleet, especially the locomotives and passenger carriages, is old and its condition is generally poor. In addition, the fleets are generally far larger than is required for the current traffic task. The number of locomotives in operation is small relative to the total stock. Out of 73 locomotives only 54 are operational, reflecting the age structure - with the majority exceeding 40 years. The operational fleet includes 22 electric class 441 locomotives, with the remainder being diesel (Classes 661, 643 and 642).There are 2438 freight wagons in total owned by ŽRS, of which 1167 are currently in operation and 69 passenger coaches, of which only 11 cars are in operation. Locomotive productivity, measured as traffic units per operational locomotive, stood at 8.09 million in 2014. This level of productivity is lower than in all neighboring countries and all countries comparators with the exception of Albania. Productivity of the freight car fleet, measured as freight traffic units per total number of operational wagons, is comparable to all neighboring countries in the region, but well below the EU average (by 54 percent in 2014). Coach productivity seems even less favorable if to compare to the performance of other railways. In 2014 its level of 0.63 million was only 14 percent of the EU average and one of the lowest in the region. 122 BiH Railways Policy Note - Annexes Albania (2009) 1.89 Albania (2009) 0.11 Serbia 12.80 Serbia 0.34 Montenegro (2009) 10.15 Montenegro (2009) 0.28 FYR Macedonia (2012) 16.19 FYR Macedonia (2012) 0.56 Croatia 12.72 Croatia 0.43 ZRS 8.09 ZRS 0.36 ZFBH 22.68 ZFBH 0.65 Bosnia 14.30 Bosnia 0.51 Romania 9.59 Romania 0.34 Poland 16.40 Poland 0.60 EU* 32.68 EU* 0.79 0.0 10.0 20.0 30.0 40.0 0.0 0.2 0.4 0.6 0.8 1.0 Figure IV. 7. Locomotive productivity, million Figure IV. 8. Wagon productivity, million TU/locomotive (operational) (2014, unless freight TU/wagon (operational) (2014, otherwise indicated) unless otherwise indicated) Albania (2009) 0.48 Serbia 1.12 Montenegro (2009) 1.98 FYR Macedonia (2012) 1.94 Croatia 1.95 ZRS 0.63 ZFBH 1.47 Bosnia 1.00 Romania 1.94 Poland 2.28 EU* 4.48 0.0 1.0 2.0 3.0 4.0 5.0 Figure IV. 9. Coach productivity, million passenger TU/coach (operational) (2014, unless otherwise indicated) V.4 ŽRS Human resources At end-2014, ŽRS had 3,160 employers, of whom 2,099 were in the operations department, 739 in the infrastructure department and 222 in general departments (finance, personnel etc). The average traffic units per total employee in 2015 was 146,000 - considerably lower than in the EU and all other neighbouring countries except Albania. After increasing for a few years after 2005, labor productivity has been declining since 2010. ŽRS has the highest number of staff/route-km of any railway in the region. 123 BiH Railways Policy Note - Annexes Table IV.2. Labor productivity by country (2014, unless otherwise indicated)   Staff productivity (000 Number of staff per km Total staff (000) traffic unit/staff) of line EU* 1069.0 613 5.1 Poland 90.0 490 4.7 Romania 45.1 318 4.2 Bosnia 7.0 193 6.8 ŽFBH 3.6 253 5.9 ŽRS (2015) 3.2 146 8.7 Croatia 9.3 329 3.6 FYR Macedonia 2.6 188 3.7 Montenegro (2013) 1.0 (est) 178 4.0 Serbia 17.1 188 4.5 Albania 1.1 42 2.7 160000 3.7 140000 3.6 120000 100000 3.5 80000 3.4 60000 3.3 40000 20000 3.2 0 3.1 Staff productivity (traffic units/staff) Total staff (000) Figure IV.10. Labor productivity, ŽRS, 2005-2014 V.5 ŽRS Financial performance The financial performance of ŽRS remains poor with financial losses incurred every year. Total operating expenses of ŽRS exceed total revenues for each year during 2007-2014, even after factoring in the support from the Entity’s budget. The level of total revenues, including this support, was sufficient to cover just cash operating expenses (the working ratio was 93 percent in 2014) and it remained relatively stable over the period mainly due to adjustments in the level of budgetary support. 124 BiH Railways Policy Note - Annexes Table IV.3. ŽRS Financial Performance (BAM millions) YEAR 2007 2008 2009 2010 2011 2012 2013 2014 Total Revenue 65.12 72.14 66.51 72.06 77.08 71.39 69.77 71.38 Passenger 1.87 2.13 1.87 2.09 1.58 2.24 1.79 0.85 Freight 32.65 33.81 27.74 35.04 38.84 41.51 40.91 41.44 Other 3.11 3.71 4.42 2.94 4.26 2.64 2.07 4.09 Total operating 37.63 39.65 34.02 40.06 44.68 46.39 44.77 46.38 revenues State operating 27.49 32.49 32.49 32.00 32.40 25.00 25.00 25.00 contribution Passenger 6.93 3.93 3.93 3.78 3.65 2.81 7.04 7.89 Freight 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 Infrastructure 20.55 28.55 28.55 28.22 28.76 22.19 17.96 17.11 Total expenditure 79.52 87.82 94.13 96.07 101.13 98.85 96.78 110.53 Materials 7.23 7.86 8.00 5.57 4.91 5.20 5.28 5.58 Fuel, electricity 4.88 5.06 4.33 4.89 5.91 6.01 4.84 4.38 Salaries and 41.07 47.13 52.57 55.49 59.35 54.04 53.47 50.02 allowances Outsourcing and other 9.70 7.15 7.45 9.89 6.57 8.13 6.10 6.51 services Depreciation 13.37 14.63 14.34 12.51 11.59 12.11 12.00 15.68 Total operating 76.25 81.83 86.70 88.36 88.33 85.49 81.69 82.17 expenditures Non-operating 3.27 5.99 7.43 7.72 12.79 13.36 15.08 28.37 expenditures Net income With Entity (13.79) (14.57) (26.51) (20.33) (18.51) (21.37) (23.06) (33.80) contribution Without Entity (41.21) (47.06) (58.99) (52.33) (50.91) (47.37) (48.06) (58.80) contribution Working ratio With Entity 0.97 0.93 1.09 1.05 1.00 1.03 1.00 0.93 contribution Without Entity 1.67 1.69 2.13 1.89 1.72 1.58 1.56 1.43 contribution Labor costs are a substantial share of the cost structure of ŽRS. In 2014, the wage bill was 64 percent of operating costs and 108 percent of commercial revenues (excluding Entity subsidies), growing in absolute terms by 22 percent by 2014. Depreciation is the second largest cost item, but ŽRS had no commercial revenue or budget support actually to fund depreciation provisions as a source of finance for annual renewals or investment. Basically, any infrastructure O&M costs are funded from the budget. During 2007-2014, ŽRS earned a surplus on freight operations but made substantial losses on their passenger operations, for which the traffic volumes sharply declined. Based on company estimates, ŽRS unit revenues for freight transport increased from 8.8 fening58 in 2007 to 11.1 fening in 2014. Unit cost remained only a fraction of unit revenues, however the margin got smaller – from 40 to 11 percent measured as fraction of unit revenues during 2007-2014. ŽRS 58 BAM 1 = 100 fening 125 BiH Railways Policy Note - Annexes unit cost for passengers, at 64.3 fening in 2014, far exceeded unit revenues. Even with the budget support passenger unit revenues were barely sufficient to fully cover unit operating costs in 2014 (negative gap during 2007-2011 being as high as 60 fening). It should be noted that World Bank estimates of passenger costs and losses (see Main Policy Note) are significantly higher than those of the company. 200 10.6 11.1 10.2 10.1 9.9 9.6 8.9 150 8.8 8.8 8.5 7.0 6.8 6.7 6.6 100 5.5 5.9 50 0 2007 2008 2009 2010 2011 2012 2013 2014 % of operating costs 2007 2008 2009 2010 2011 2012 2013 2014 % of operating revenues (excl budgetary support) Freight unit total revenue (fening/ton-km) % of total revenues Freight unit operating cost (fening/ton-km) Figure IV.11. Wage Bill Indicators, ŽRS, Figure IV.12 Average revenue and cost per 2007-2014 freight unit, ŽRS, 2007-2014 84.9 70.4 64.3 57.4 57.2 41.1 37.8 35.0 5.2 5.5 6.9 8.3 6.9 6.8 6.4 7.1 2007 2008 2009 2010 2011 2012 2013 2014 Passenger unit total revenue excl support (fening/pass-km) Passenger unit operating cost (fening/pass-km) Figure IV.13. Average revenue and cost per passenger unit, ŽRS, 2007-2014 During 2009-2013 ŽRS invested on average 20 million BAM annually on rail infrastructure and rolling stock. Infrastructure investments (66 million BAM in total for the six years) included mainly overhaul and rehabilitation of track and modernization of signalling and telecom system on some sections. Rolling stock investments were slightly more modest – 50 million BAM during the 2009-2013 period and financed purchase of new and rehabilitation and overhaul of the existing rolling stock. The financing was made available to ŽRS through foreign and domestic loans. 126 BiH Railways Policy Note - Annexes Persistent financial losses prevented ŽRS from funding a substantial share of its capital expenditure and also servicing fully its debt obligations. As a result, the debt service payments were made on the behalf of ŽRS by the Entity government but charged to the railway account. In addition to the loans, ŽRS received annual subsidies for infrastructure however this amount declined over the years from over BAM 28 million in 2008 to BAM 17 million in 2014. V.6 ŽRS Financial Model The World Bank team developed a financial model of ŽRS to evaluate alternative future strategies over the next 10 years (2016-2025) and to estimate the total amount that the RS budget would need to pay to sustain the railway financially though a combination of capital outlays and net operating deficit. This section describes the structure of the proposed business plan financial model inputs used for the analysis and the sources from which they have been derived. The model generates consolidated financial statements of ŽRS and profit and loss statements for its three main sector components (passenger, freight and infrastructure). Model Inputs The inputs fall into five groups:  general economic data  traffic data and growth rates  operating data  financial data (operating costs and opening balance sheet)  investment and funding data The following sections describe each group of inputs in turn. Economic Data This data consists of forecasts of inflation, growth in annual real wages and changes in the exchange rate between 2015 and 2020. Inflation: The model presents results in nominal terms. (In the Policy Note, section C3, these are converted to 2015 constant prices) Real wages: Growth in real wages is a major factor driving the operating cost projections, which combine changes in unit labor costs with assumptions on changes in physical productivity. Exchange rate: The exchange rate between the Euro and BAM affects both the cost of any project and the cost of servicing any Euro-denominated debt. Traffic Data and Growth Rates 127 BiH Railways Policy Note - Annexes The base traffic data consists of the 2014 volume, task and revenue for each of the passenger and freight sectors, together with annual growth rates. The projections were made following discussions with ŽRS. Passengers: The ŽRS forecasts are based on the train patterns for 2014 and assume no growth unless there is major investment to improve service levels. Freight: The ŽRS projections also assume no growth. Infrastructure revenue: This includes a number of items which are associated with infrastructure management, such as rents, sale of scrap etc. These are assumed to remain a constant proportion of transport revenue. Infrastructure revenue also includes track access charges paid by the passenger and freight businesses to the infrastructure company. These have been set at rates which are comparable with other railways in the region. Government compensation: ŽRS is assumed to continue to receive direct Government public service contract payments for passenger services and contractual payments for infrastructure maintenance and servicing of historic debt to international financial institutions. The PSC payments are calculated from the cash deficit on the passenger and infrastructure businesses (excluding debt service). Operating Data Operating data includes the main parameters which enable traffic projections to be converted into the operating resources (car-km, train-km etc) which drive the operating costs. These have been derived from ŽRS operating statistics. Financial Data The financial data consists of three components:  Current annual operating costs, which form the basis of projected expenditure  projections of changes in operating costs.  opening balance sheets for ŽRS as a whole and for the three sectors: freight, passengers and infrastructure. Current operating costs: 128 BiH Railways Policy Note - Annexes Current operating costs were derived from the management accounts for 2014, supplemented by special analyses of rolling stock maintenance costs. Future operating costs: The projected changes in operating costs have two elements:  changes in the unit cost of performing particular activities e.g. unit fuel costs, unit labor maintenance costs, etc.  changes in the number of units of work required due to changes in the traffic task or operating plan, which affect operating costs through the assumed cost driver relationships. Opening balance sheet: The model includes a balance sheet for the consolidated accounts of ŽRS, based on the closing balance sheet for 2014, together with notional balance sheets for the passenger, freight and infrastructure businesses derived by splitting the consolidated balance sheet and ignoring inter-business payables and receivables. Investment and Funding The projections allow for investment in both rolling stock and infrastructure. This is assumed to be funded entirely by government grant, although the model also has the facility to assume loans, in which case it calculates interest and debt service payments. Model Assumptions Table IV.4 summarizes the input assumptions used for the ŽRS financial model. For some variables only a single set of assumptions was used while for others, such as labor productivity, several sets were used. The precise combinations for the various scenarios are given in the Policy Note Section C3. 129 BiH Railways Policy Note - Annexes Table IV.4. ŽRS Financial Model: Summary input assumptions 2016-2020 2021-2025 General Real wages 0 per cent pa 0 per cent pa Exchange rate Depreciate against Euro by 1 per cent p.a. in Depreciate by 0.6 per cent p.a. 2016 decreasing to 0.6 per cent p.a. in 2020. against Euro. Euro inflation 1.5 per cent in 2016, increasing to 1.9 percent in 1.9 per cent p.a. 2020 RS Inflation 2.5 per cent p.a. 2.5 per cent p.a. Traffic and revenue Passenger traffic Base demand 0 per cent pa growth 0 per cent p.a. Improved service – demand 0 per cent p.a. to 2019, 8.7 percent in 2020 8.7 per cent p.a. throughout Service withdrawn 0 percent p.a. to 2019, -100 percent in 2020 No traffic Average trip length Constant Constant Average real yield Constant Constant Freight traffic Base demand Demand constant, yield reduces at -1 percent Demand constant. p.a. Improved infrastructure Demand constant to 2019, 3 percent p.a. for 3 percent p.a. for ‘other’ freight ‘other’ freight in 2020. throughout. Average freight haul Constant Constant Average freight real yield Reduces at -1 percent p.a. for Base, constant for Reduces at -1 percent p.a. for ‘improved infrastructure’ case Base, constant for ‘improved infrastructure’ case Infrastructure revenues Constant proportion of transport revenue As for period to 2020 Non-cash revenues omitted Government payments Calculated in model as amount needed to cover As for 2015-20 deficit in working expenses Operations data Train operations Derived from operating statistics for 2014; As for 2015-20 passenger load factors and rolling stock utilizations kept constant except for high passenger investment Train operations – high Kept constant to 2020. Passenger load factors doubled passenger investment between 2020 and 2025 Track –km Constant Constant Financial data Costs by activity Derived from 2014 management accounts, with some estimation and disaggregation for detailed cost items. Reduction in unit labor costs according to productivity scenarios. Labor productivity Base Labor force held constant As for 2015-20 Medium 3% p.a. reduction in staff to 2020, As for 2015-20 independently of traffic task High Doubling of labor productivity by 2020, Improvement of 3% p.a. in unit together with variation with traffic volumes labor productivities where appropriate Access charges Train-working and usage-related track costs As 2015-20 charged to both passenger and freight. Passenger Euro 1.50 per train-km +0.50/000 gtkm Freight Euro 2.00 per train-km+1.00/000 gtkm Third-party access Market share of 100 per cent to 2019. Access is Market share reduces by 10 per assumed from 2020 when ŽRS market sharer cent p.a. to reach 50 per cent in reduces to 90 per cent. 2024. Constant thereafter. Investment 130 BiH Railways Policy Note - Annexes Passenger Base BAM 3 million p.a.- based on current level. ROI As 2015-20 0% (i.e. maintains current operating costs) Low 50 per cent of Base Case. Increase in operating As 2015-20 cost equivalent to ROI of -1% to reflect inadequate investment High BAM 2 million p.a. to 2020, then BAM 8 million As for 2020, BAM 8 million p.a. p.a. to reflect purchase of new rolling stock. ROI of 3% p.a. Freight Base BAM 4.5 million p.a.- based on current level. ROI As 2015-20 0% (i.e. maintains current operating costs) Low 50 per cent of Base Case. Increase in operating As 2015-20 cost equivalent to ROI of -1% to reflect inadequate investment High BAM 9 million p.a. to reflect purchase of new As for 2020, BAM 9 million p.a. locos and rolling stock. ROI of 3% p.a. Infrastructure Base BAM 5 million p.a.- based on current level. ROI As 2015-20 0% (i.e. maintains current operating costs) Moderate BAM 9 million for 2017-20 to reflect BAM 6 million p.a. with ROI of investment in switches and train control. ROI of 6% p.a. 6% p.a to reflect operating cost savings High BAM 9 million p.a.to 2020 to reflect investment BAM 9 million p.a. ROI `of 4% needed to operate high-interval passenger p.a. service. ROI of 4% p.a. 131 BiH Railways Policy Note - Annexes 132