Rail contracts in South Africa: preparing for negotiations with Transnet

The liberalisation of the rail network and increased private sector participation, which South Africa's government has committed to as part of its economic reconstruction and recovery plan, offers opportunity for operators to capitalise on an optimistic economic outlook bolstered by a commodities boom in the mining and agricultural sectors and the country's record-high trade surplus.

However, operators are likely to have to first navigate a competitive bidding process and then negotiate an access agreement with Transnet that addresses risks to the smooth running of their services on the lines. Those risks include those relating to network maintenance, load-shedding and potential labour unrest.

Process for making the core railway lines available

In opening up the network, Transnet's ultimate aim must be to monetise those parts of the railway network that lie idle when not being used by it. As Transnet is a state owned enterprise and subject to procurement laws regulating not only the acquisition of goods but also instances where it disposes or partially disposes of its assets, the process of making parts of the core railway network open is regulated, and Transnet will be required to design a process that complies with that part of its supply chain management policy regulating leases or partial disposals.

There are various ways in which a state owned enterprise can make its assets available for commercialisation. In the past, Transnet conducted a competitive tender process in its programme to concession its branch lines in the 2000s. Typically, tenders are divided into sections or blocks of specific lines, and bids are evaluated on the basis of a combination of criteria. In the context of South Africa's economic policy and preferential procurement laws, we speculate that while a bidder's financial proposal will remain a key evaluation criterion, what will be equally if not more important is the job creation benefits offered by a bidder.

Negotiating the conditions of access

As with a concession agreement, the scope and extent of the right of access to the core railways line lies at the heart of the contracting arrangement. In its broadest form, Transnet will be granting a right of use over its property. Under South African law, that right can take a number of contractual forms, including a contract of lease or a concession agreement. The legal consequences of the nature of various types of use vary substantially.

For example, under a contract of lease the lessee is granted the rights of use and enjoyment over the leased property with the corresponding obligation to pay monetary consideration for its rights of use and enjoyment. Importantly, a lease right is regarded under South African law as a real right, enforceable against third parties including creditors and binding on the lessors successors in title. Long leases – those with a duration of over 10 years – must be registered to ensure that the right remains real for the term of the lease.

These legal consequences do no attach to other forms of property use agreements. For example, concessions are distinguishable from leases in that they grant the use right holder a personal right. In the context of open access rail, the right to use the rail track is one of a bundle of rights given to the operator to conduct its commercial operations on Transnet's railway lines. The form of the use is therefore critical to the nature of the legal contract and the rights and obligations conferred on the operator.

The access agreement must also clearly stipulate the nature of the state property to which the rail operator has access. Apart from regulating access to the railway track and the frequency of access, there are associated services and infrastructure which are critical for rail operations. For example, Transnet will presumably be responsible for providing signalling services, as well as giving the operator access to track-related infrastructure such as shunting yards for loading and offloading goods. As there has been an increase in the number of rail collisions in recent years due to compromised safety, signalling failures and a disengaged railway safety regulator, bidders would not be unreasonable to insist that Transnet meet both service and safety standards as a term of their contract.

Terms and conditions of operation and maintenance

There will be a number of matters that operators will want addressed in their access agreements.

From a commercial perspective, operators will need certainty as to network availability. Network availability is a core commercial consideration as operators will in turn have given their customers a commitment to move freight in a particular time period. Though Transnet will prioritise its own access to its railway lines, this will need to be disclosed upfront, and the contract should provide for penalties in the event that Transnet's fleet obstruct the line during "private access hours". This will certainly require more efficient management of the network by Transnet, and will require significant investment in resources and systems if it wishes to yield the benefits of commercialising its network.

An issue that will also need to be carefully drafted is the frequency of maintenance of the railway line by Transnet, both planned and unplanned. A process that enables operators to review and comment on Transnet's planned maintenance programme, before its finalisation, will need to be built into the operative clauses.

The maintenance programme will need to address all aspects of rail operations, from the track to signalling to overhead cabling, among other aspects of the rail network infrastructure. Similarly, the instances of when Transnet can undertake unplanned maintenance will need to be tightly controlled in the contract. Instances of cable theft are rife and are a primary reason for line closures and delays. Having a clear understanding of the security measures taken by Transnet to arrest cable theft to address the risk of endless unplanned maintenance and associated unavailability of the line and delays in transporting freight, must be a key part of the negotiation.

Other areas that an operator will need to monitor to prevent delays in the movement of freight are disruptions caused by load-shedding as well as labour unrest. Strikes are not uncommon in the rail sector, and a regime will need to be built into the access agreement placing obligations on Transnet to address this risk by undertaking to provide temporary replacement staff while a sector strike subsists.

With regards to liability, it is standard in government contacts for both parties to indemnify the other for losses, other than where the losses are as a direct result of its own conduct or those of its employees. As rolling stock owned or leased by private rail operators will be operated by its own train drivers, there is certainly potential for an operator being held liable for losses arising on the line. Careful thought needs to be given to interfaces between Transnet and several rail operators on one section of the line and how liability where several parties are involved is determined.

Operators will naturally have insurances in place for moving freight, and these policies will need to be carefully scrutinised to ensure that any liability arising from the access agreement for which the operator is responsible is adequately catered for under its package of insurances.

Payment of access tariffs or fees

The general basis for any rail access agreement is that Transnet will grant access to the network in exchange for a fee. As there is no rail sector regulator in South Africa who sets or approves tariffs, bidders will likely be required to propose a tariff and methodology for calculating their fee in their bids. The resultant access agreement will clearly outline the agreed upon costs and payment structures, which could be based on one of several tariff models.

Two common methods are:

• to charge the operator based on the volume of freight moved, usually measured as ton-km, and;
• a rate per kilometre of track used by the operator, usually measured as train-km.

Transnet may also elect to use a take-or-pay fee structure which could take the form of a combined fixed plus variable tariff – i.e. a minimum fee plus a usage based fee. Separate fees may be imposed to cover use of other infrastructure or facilities besides the tracks themselves such as provision of dispatch and signalling functions, power and fuel, and access to freight terminals and storage sidings, or marshalling yards.

Key regulatory considerations

To conclude an access agreement, prospective operators are likely to be required to ensure their safety permits are valid and up-to-date. During negotiations, rail operators will need to ensure that the terms of the contract do not violate any conditions in the permit relating to the term of validity, geographical considerations and the transport of specific freight.

South Africa's president, Cyril Ramaphosa, has made it clear that network services such as rail, energy and telecommunications lie at the heart of the South Africa's economic recovery plans. It is therefore just a matter of time before we see Transnet opening its network and rolling out an access programme. Private operators would do well to start thinking about how they want to shape those negotiations with Transnet and the terms of such access.