Contracting Fixed-Route Bus Transit Service (2018)

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7 Introduction This chapter summarizes findings from a literature review related to contracting fixed-route bus transit service. Panel members suggested several information sources. A TRID search was conducted to aid the literature review, using the key word “contracting” and the filter “public transportation.” The TRID search focused on publications from the last 5 years because panel sug- gestions included many “classics” in this field. Reports are grouped under the following headings: • Overview of Contracting, • Decision to Contract, • Types of Contracting, • Guidance Regarding Contracting, • Contracting and Small Agencies, • Cost Outcomes of Contracting, • Service Quality and Customers, • Performance-Based Contracting, and • International Experience (not cited in other categories). The literature review informed the survey instrument used to gather input from transit agencies. The review also identified gaps in knowledge based on unclear or conflicting infor- mation in the literature and in the survey results. Overview of Contracting In the interest of learning more about contracting as a method of transit service delivery, TEA-21 called on TRB to conduct a study of contracting by recipients of federal transit grants (Transportation Research Board 2001). The act called for an examination of the extent and practice of transit service contracting and its effects on operating costs, customer service, safety, and other aspects of service quality and quantity. General managers of more than 250 systems, accounting for more than half of all federal aid recipients, responded to a survey addressing their experiences with contracting. Major survey findings from this 2001 study are summarized by area. Contracting Practices Many transit systems contract for some services but mainly for small amounts and typically for demand-responsive rather than fixed-route bus services. Transit systems that have experi- ence with contracting have found ways to exercise control over their contracted services and have sought ways to promote competition. Most contracted services are competitively bid and attract multiple bidders. C h a p t e r 2 Literature Review

8 Contracting Fixed-route Bus transit Service The Contracting Experience General managers of most transit systems are generally satisfied with their current approach to service delivery. Most have experience with more than one method of delivery. The main rea- sons transit systems contract for service, according to transit managers, are to reduce costs and increase flexibility to introduce new services. A main reason some do not contract is the desire to maintain control over services and operations. General managers of most transit systems that currently contract are satisfied with the cost savings achieved. However, many cite problems with the quality of the contractor workforce, employee turnover, and customer service as nega- tive side effects of contracting. Most general managers of transit systems that currently contract believe their contracting programs are fully (55%) or partially (38%) meeting expectations. Whether to Contract and How to Make It Work Anticipate the benefits and costs of contracting, and set realistic expectations. Establish a competitive procurement process that invites high-quality proposals and screens out unrealistic proposals and unqualified contractors. Clearly spell out all contractor responsibilities, closely monitor performance, and communi- cate with the contractor. Prepare an internal analysis of the cost of service contracting as a baseline for examining bids. Decision to Contract Frick, Taylor, and Wachs (2008) examined the “make” or “buy” decision in public transit: whether government agencies operate (make) transit service directly or contract with private firms (buy) to operate transit service. The focus in the study is on bus transit. Transit service contracting has proved most useful when publicly operated service is relatively costly or new or different types of transit services are under consideration. Conversely, contracting for transit services has proved less useful when agencies contract out to take advantage of the wage gap between private and public sectors by permitting substantially lower wages and benefits for private sector drivers. Agencies overlook the longer-term costs inherent in the bid and contract process in search of short-term cost reductions. Existing efficient and well-utilized in-house bus service is transferred to the private sector when negotiated changes to work rules can achieve similar cost reductions and there is an inadequate number of potential private contractors to bid on service contracts. Iseki, Ford, and Factor (2005) systematically examined agency decisions about contracting by interviewing managers and directors at 13 California transit agencies. The study was intended to fill the gap between the quantitative studies that report significant cost savings from contracting and qualitative studies that consider the political nature of an agency’s decision about contract- ing. In interviews with agencies of various sizes and blends of contracted and in-house services, it was found that agencies have responded differently to fiscal pressures and to contracting as a provision strategy. Some have readily adopted contracting to provide all services, whereas others have used different strategies, such as part-time labor and varying wage scales, to enhance their cost efficiency. Those responses are a result not just of economic analysis but also of the agency’s institutional environment, relationship with its labor union, and the political and economic con- texts in which it operates. This study broadens the current understanding of contracting as prac- ticed by transit agencies today—in particular, why agencies choose to contract or not and how agencies have used contracting and other means to respond to financial pressure. The findings reemphasize that it is important for an individual transit agency to assess carefully its service lines

Literature review 9 and various measures of increasing cost efficiency and maintain a cooperative relationship with its unions to determine an appropriate level of contracting for its own operating environment. Types of Contracting Iseki et al. (2011) examined two main research questions: the effect of a “delegated manage- ment” contract on efficiency and effectiveness within a single transit system, and the effects of a single private firm—contracted separately by more than one agency in the same region—on regional coordination, exploring the case in the Greater New Orleans region. The current situa- tion in New Orleans exhibits two unique transit service conditions. First, New Orleans Regional Transit Authority executed a “delegated management” contract with a multinational private firm, outsourcing more functions (e.g., management, planning, funding) to the contractor than has been typical in the United States. Second, the same contractor has been contracted by another transit agency in an adjacent jurisdiction—Jefferson Transit. Although the limited amount of available operation and financial data prevents more definitive conclusions, the findings of this multifaceted study provide valuable information on an atypical transit service contracting approach in the United States: delegated management. This study also identified a coherent set of indices with which to evaluate the regional coordination of transit service, the current status of coordination among U.S. transit agencies, and barriers that need to be resolved for regional transit coordination to be successful. Davis and Reich (2013) inventoried and synthesized previous work in the area of types of transit operating contracts in the United States and Europe, assessed the benefits and drawbacks of each general approach, and developed situational guidance for Florida Department of Trans- portation to help determine if a particular model could be appropriately considered. The char- acteristics of different contracting models are presented, but no one model is recommended. Parashar and Dubey (2011) noted that state transport undertakings in India (similar to public transportation agencies elsewhere) have almost always treated city bus operations as a liability as compared with rural and interstate services. Growing interest from the private sector in urban bus services during the last 5 years has resulted in the evolution of various public–private part- nership (P3) models for city bus operations. More than 20 cities in the country have started city bus operations with a P3 model in the last 5 years. After a successful inception year, however, most of the systems have not been able to sustain themselves on a long-term basis and have either been terminated or are merely surviving. Two basic models of P3 have been adopted over the years by cities for urban bus operations: the gross cost model (in which the operator is paid a specified amount to provide the specified service for a specified period while the authority col- lects all revenue and assumes the financial risk) and the net cost model (in which the operator provides a specified service for a specified period, retains all the revenue, and pays the authority a royalty per bus per month, thus assuming the financial risk). The study presents and evaluates case studies from Indian cities that have adopted one of these two P3 models. Problems faced by the public authority and private operator and the resulting impacts of the overall quality of the city bus service are evaluated with relation to the contracting framework. The study further documents best practices to establish a framework that makes the P3 model of city bus opera- tions more sustainable. In the course of this study, two individuals with extensive experience in contracting fixed- route transit service shared useful insights. One set of insights deals with types of contracts, similar to what was defined in the guidebook: We actually see three basic business models for contracting service. One would be full turnkey opera- tions where everyone is directly employed by the contractor and the contractor accepts all of the risk for accident liability and Worker’s Compensation, as well as such budget-sensitive factors as unscheduled

10 Contracting Fixed-route Bus transit Service overtime. The contracting agency usually supplies the facility and vehicles, but everything (and everyone) else is provided by the contractor. A second model is where the contractor establishes a sub-corporation to be the employer and to per- form the management contract. For example, among 1,100 employees, only 6 are directly employed by the contractor. The rest work for a subsidiary established under the contract. The sub-corporation mainly satisfies the requirements of 13(c) by allowing public ownership of the transit assets without affecting the status of private, unionized employees. Also, in such an arrangement, if one management company is supplanted by another, only the senior managers are replaced; the rank and file is simply re-employed by a new subsidiary. A third model is one in which a management company is engaged to provide senior management and related services to a public agency which employs the transit workers. In effect, the management company is supplying the general manager and some related services, but the agency could just as easily hire its own manager(s) and contract separately for other services. Guidance Regarding Contracting The United States Government Accountability Office (GAO) conducted a review, mandated by the Moving Ahead for Progress in the 21st Century Act of 2012, of issues related to tran- sit contracting (U.S. GAO 2013). GAO identified the extent to which public transit agencies contract operations and reasons agencies decide to do so; methods used to select and oversee contracted services; and potential benefits, challenges, and disadvantages of contracting out public transit operations and other services. Findings (described in the following paragraphs) were generally similar to those of the 2001 TRB report. About 61% of the 463 transit agencies responding to GAO’s survey reported they contract out some or all operations. Fixed-route bus, heavy rail, and light rail service are most often operated by the transit agency. Operations are most frequently contracted out, followed by maintenance services. Transit agencies in the GAO survey most consistently cited reducing costs as a factor influ- encing their decision to contract. Transit agencies also frequently cited starting new service, improving efficiency, and allowing for more flexible service as reasons for contracting. State laws are generally not a reason for contracting. Transit agencies that do not contract most often cited one of these three reasons: desire to maintain control over operations, no reason to change from the transit agency’s providing service, or contracting was determined not to be cost effective. To select contractors, most agencies used competition with a request for proposals. For over- sight, transit agencies most commonly used periodic reports or meetings, on-site inspections, performance metrics, and real-time monitoring. About 84% of surveyed transit agencies that contract out services reported having a specific oversight unit. Several agencies used perfor- mance metrics to establish incentives and/or penalties in contracts. The GAO survey asked about benefits and challenges to contracting. Transit agencies reported that contracting is advantageous when starting or expanding services in order to avoid start-up cost. Contractors reported they could improve transit agencies’ operational efficiency by provid- ing the latest technologies and lower costs by providing more affordable insurance on vehicles. Transit agencies also cited some challenges to contracting, such as the agency’s loss of direct control over operations. Officials from national and local unions said that, although contracting may provide some short-term cost savings to transit agencies, in their view the savings are almost entirely from lower wages and benefits paid by the private companies to employees. The FTA developed Circular 4220.1F (Federal Transit Administration 2013) to assist its recip- ients and their subrecipients in complying with the various federal laws and regulations that affect federally assisted procurements. This guidance describes how a recipient or subrecipient of FTA assistance can comply with federal requirements. Chapter 6, “Procedural Guidance for

Literature review 11 Open Market Procurements,” is relevant for fixed-route bus service contracting. This chapter addresses the requirement for competition, solicitation requirements and restrictions, methods of procurement, eligible costs, incentive costs and payments, cost analysis and price analysis, evaluations, and contract award. Chapter 7, “Protests, Changes and Modifications, Disputes, Claims, Litigation, and Settlements,” is also of interest. In an unpublished dissertation, Iseki (2004) explored the political, institutional, social, and economic settings that surround transit agencies and make the decision making and the out- comes of contracting much more complex than the majority of empirical studies on the sub- ject from the 1980s and early 1990s have described. Transit agencies need to provide quality service to their customers and also provide decent jobs to their employees, prudently spending the public money from taxpayers. The effects on these three groups—riders, employees, and taxpayers—must be balanced in transit policy decision making. Contracting is not a panacea, but it can improve transit service cost efficiency when certain conditions are met and is likely to work best when policy makers, transit managers, employees, and union representatives work together toward better service operation, treating a contracting strategy as one of their policy options. The difference between partial contracting and full contracting is important. Full contract- ing mainly saves costs of overall service by taking advantage of the wage gap between drivers in the public and private sectors, but partial contracting improves the cost efficiency of in-house service by adjusting in-house operation size and improving flexibility of in-house operations. Agency size, the peak-to-base ratio, and bus operator wage gap influence the magnitude of the effects of contracting on cost efficiency. A lower wage rate is not necessarily better for transit service operation. Depending on the labor market for bus operators, a low wage rate at private transit firms may increase the turnover rate for bus operators and may result in a lower quality of service, affecting such things as on-time performance. Transit agencies also need to make this trade-off between cost efficiency and the quality of service to provide and may set a minimum wage that contractors must pay their operating employees. A contracting strategy is not the only way to achieve cost efficiency improvements. Large agencies are likely to use a partial-contracting strategy to reduce the size of their in-house opera- tions and gain economies of scale. These agencies are also likely to contract out bus lines that have a high peak-to-base ratio that are inefficient to operate. Contracting or merely the threat of contracting may offset union power, counter a strong union position, allow management to gain concessions, and lead to internal reform. Although a service contracting option may bring economic benefits for an agency by lowering wages and fringe benefits to its employees, it may also create hostility from unions and cause disturbance in service. It would be better for agencies to work with unions to find a way to change work rules to improve labor utilization efficiency and productivity without significantly hurting employees. A blanket policy—either federal or state—requiring transit agencies to contract out a certain proportion of service will not work for all agencies. Leaving a contracting decision solely to transit managers and board members of individual agencies is a better policy than a legislative requirement. Similarly, any blanket legislation that effectively prohibits transit agencies from making organizational reforms or operational adjustments to improve cost efficiency should not be encouraged. Contracting and Small Agencies The TCRP oversight panel’s interest in service procurement from the perspective of small transit agencies is recognized by the inclusion of a report (Edrington et al. 2016) and a guidebook (Edrington et al. 2014) that address challenges faced by small agencies in managing operating

12 Contracting Fixed-route Bus transit Service costs. The report examines the drivers of operating costs, approaches to containing costs, transit agency priorities for tools needed to better contain costs, and methodology used to develop the guidebook and workshop. Researchers found that transit agency staff indicated a priority need for guidance and training in the following topics: managing staff, maintenance and state of good repair, buying and managing fuel, contracting for service, and innovations in technology and service design. Researchers also found a need to provide information on fundamentals of report- ing, allocating, and tracking costs. The guidebook is a resource for rural and small urban transit agency managers to use in better understanding, predicting, and managing operational costs. Doing so can improve the efficiency, effectiveness, and sustainability of public transit in the community served. The guide is a frame- work for assessing current transit agency operating costs and tools to predict future costs and is presented in three parts. Part 1 introduces the fundamentals of transit operating costs and discusses what drives them. Using real-world examples, part 2 looks at the impact of component costs on an agency’s bottom line to help managers prioritize where to optimize spending to get the biggest bang for their buck. Part 3 provides practical tools to help managers allocate costs by service type and conduct market analyses to improve services offered consumers. The guidebook describes different types of contracts. In a management contract, the transit agency contracts with a private company to serve as the general manager for transit services. The private company provides an experienced general manager and, in some cases additional key staff, to oversee the public transit system. The transit district retains ownership of the vehicles, and public employees operate the transit system. Financial risk remains with the transit district; the public entity directly pays all operating and capital expenses as well as the cost for the man- agement contract. In a transit services contract, the transit agency contracts for services with another public entity, a nonprofit organization, or a private company. The contractor is responsible for managing, supervising, and operating transit services with the company’s employees. Financial risk is shared with the contractor within the terms of the agreement. The contractor provides the tran- sit services typically for a fixed price (e.g., cost per hour), whereas the public entity provides the transit vehicles and often the operations and maintenance facility. Variations on the concept of a contract for services include a contract for operations only or a contract for vehicle main- tenance only. Under a turnkey contract, the contractor is responsible for managing, supervising, and oper- ating the transit services, and also provides the vehicles and the operations and maintenance facility. The contractor assumes the financial risk to operate transit services within the price set by the contractor agreement. The guidebook also describes favorable and unfavorable circumstances for contracting and summarizes recommended best practices when considering whether to contract and best prac- tices for procurement. The guidebook notes the need to maintain overall control of strategic planning, service requirements and levels, and performance standards to ensure control over the quality of service and cites other reports regarding best practices in this area. Cost Outcomes of Contracting McCullough, Taylor, and Wachs (1998) examined the impacts of contracting on the cost per vehicle hour of fixed-route bus services to determine the medium-term effectiveness of contract- ing out transit services. A national sample of operators was studied, including some that contract out none of their routes, others that contract out all of their routes, and some that contract out a portion of their service. The effects of contracting on costs are examined for the years between

Literature review 13 1989 and 1993. The findings show that bus services operated under contract are sometimes, but not always, less costly than directly operated services. A regression model is used to test the influ- ence of a variety of factors on cost per vehicle hour, and contracting is found not to be the most significant variable influencing operating costs. The findings indicate that vehicle and labor use have far more influence on cost efficiency than either wages or contracting arrangement. It is concluded that cost efficiency can be achieved in many different ways, depending upon local conditions, and contracting should not be assumed to be the most appropriate strategy in every situation. Iseki (2010) examines how the cost efficiency of providing fixed-route bus transit service varies by the degree of contracting. Despite the importance of the economic effects of transit service contracting, the literature on the subject has been limited to only a few studies since the mid-1990s and is inconclusive owing to problems with the nature and methodology of the past studies. The analysis results show that the combined effects of contracting lower operating costs by $4.09 and $2.89 per vehicle hour for partial and full-contracting agencies, respectively, in the average case. These average cost savings translate into 7.8% and 5.5%, using the average oper- ating cost per vehicle hour of $53.06. However, this improvement is not universal because the effects of contracting on cost efficiency vary by factors such as peak-to-base ratio, agency size, the wage gap between bus operators in the public and private sectors, and agency type. Kim (2005) examined the impacts of contracting out fixed-route bus services on labor by inves- tigating the compensation packages of drivers. The study covers 12 operators of three types from 1995 to 2001: private contractors, public operators with no contracting, and public operators who contracted out for some or all of their service. The variables taken into account for such an enterprise included hourly wages, drivers’ compensation packages, paid absences, and overtime and other extra payments. Drivers for private agencies were found to be paid, on average, between $6 and $8 less per hour than their public counterparts, with annual earnings nearly 34% lower. Privately hired drivers are likely to receive fewer benefits, valued at only 25% of their yearly com- pensation, compared with 35% for public drivers. Privately contracted drivers also work between 100 and 200 more hours per year than do public transportation employees and receive one-fifth the number of days of paid leave. A higher rate of driver turnover and poor safety records at private operators caused more spending on various forms of insurance and training. Overall, private contractors paid 52% less in driver compensation, although their hourly operating costs were 43% less. In sum, it appears that cost savings are achieved from contracting at the expense of labor but not necessarily with an increase in genuine productivity. Nicosia (2002) finds significant cost savings attributable to contracting based on a panel of more than 300 U.S. transit firms operating motor bus services from 1993 to 1998. Cost savings are estimated at 15% to 19% of operating costs. Agencies are more likely to contract when inter- nal labor is highly unionized relative to external private labor and when the contractor’s bargain- ing power is low. Diseconomies of scale also play a role in the decision to contract. However, transit agencies are not primarily concerned with profit maximization or cost minimization. Rather, their focus is on the social goal of maximizing ridership subject to budget constraints. Contracting may be at odds with this goal. An analysis of service quality levels indicates that motor bus vehicle miles decline by as much as 16% as a result of contracting. Safety on motor buses suffers as well: road calls increase by 36% and collisions by 70%. The results support the hypothesis that there is a trade-off between incentives for cost savings and quality. More importantly, the findings reveal considerable side effects owing to contracting that limit both its applicability and value to the mass transit industry. Morales Sarriera, Salvucci, and Zhao (2017) examine the impact of productivity growth or lack thereof, union bargaining power, and contracting out on cost escalation. The authors draw from a 17-year (1997–2014), 438-agency panel of 8,276 observations by mode (bus versus rail)

14 Contracting Fixed-route Bus transit Service and type of operations (directly operated by the agency versus contracted out). The report has three main findings. First, the unit cost increase in public transit sector is worse than what the Baumol’s cost disease predicts (i.e., more than the growth rate that would occur if transit wage rate increases were equal to those prevailing elsewhere in the economy). Second, contracting out tends to reduce unit costs, suggesting that the costs savings from private operations are partly explained by lower wages to workers. Third, unique transit labor laws are a likely driver of the unit cost growth above inflation. Overall, these factors reflect inherent characteristics of the transit sector, such as the nature of low productivity growth and union bargaining power related to the need for public subsidy. They drive increase in both transit fares and public subsidy at rates higher than inflation and play an important role in the deterioration of transit agencies’ financial sustainability. Smirnova and Leland (2014) examine the empirical evidence regarding the assumption that contracting is a mechanism to cut costs. The evidence indicates that there are little savings in con- tracting out owing to transaction costs. Public transit agencies exhibit path-dependent behavior, following a path based on past decisions even though past circumstances may no longer be rel- evant. In the case of contracting, there are tangible conversion costs that may preclude changing the provision of services. As such, public managers should consider the provision of services care- fully because it may set an agency on a long-term trajectory that will be difficult to change owing to both conversion and transaction costs. Reich and Davis (2011) examine the potential for and issues surrounding private sector par- ticipation in providing public transportation in Florida. A comprehensive review of past studies and reports on the topic of contracting for service provides a valuable historical overview of data and trends as well as best practices employed by agencies to evaluate contracting fixed-route bus service. The potential benefits of purchasing service as well as reasons to contract are discussed to provide transit managers with a thorough understanding of all aspects of contracting. An annual comparison of directly operated and purchased fixed-route service from 1998 through 2009 iden- tifies trends that have occurred in privatization over at least the past ten years in the United States, particularly Florida. A detailed comparison of operating costs for three service metrics in 2008 versus 1998 illustrates how cost-effectiveness can vary by size of agency, area of the country, and type of service—directly operated or purchased. Service Quality and Customers Grisé and El-Geneidy (2017) present a new method to spatially evaluate customer satisfac- tion survey data through examining satisfaction with bus service across neighborhoods of vary- ing levels of socioeconomic status (SES). Using customer satisfaction survey data collected by Transport for London between 2010 and 2015, multilevel regression modeling estimates the relationship between overall satisfaction and social deprivation of the area in which bus routes were operating. The results indicate lower levels of satisfaction along routes serving low SES neighborhoods, which appears to be attributed to low satisfaction with service characteristics related to an individual’s experience and quality of the bus and to conditions of the bus stop and shelter. Findings from this article show the importance of including cleanliness and bus internal quality as one of the performance indicators when contracting bus services to ensure that all customers receive the same quality of service in the region regardless of their SES. The aim of research by Rojo et al. (2015) is to amend the current contracting system to improve the quality of interurban bus services in metropolitan areas and thereby increase demand and reduce externalities. A methodology is proposed for tendering transport contracts and applied in the Spanish region of Castile and León. New incentives are proposed to encourage the operating companies to make improvements in the quality of service they provide on their metropolitan

Literature review 15 bus routes. The main contribution made by this research is the incorporation of the subjec- tive value of time and willingness to pay in exchange for improvements in service quality. This information is used to determine the optimal formula for public subsidies. The results show that, without any increase in costs for the administration, the amount of the subsidy due for underuse of the service could be reduced by increasing demand through providing a more attractive public transport service. It has also been shown that improvements in quality could be profitable, not only for society at large but also for the operating companies themselves. Schaaffkamp (2014) examines reasons tendered contracts appear to be weak in motivating the operator to care for passengers and create opportunities for expanding the market share of public transport. Notwithstanding obvious improvements of the technical quality of contracts, many authorities are not fully satisfied with the outcome of their tendered contracts. Dis- satisfaction with ridership growth and focus on the customer is widespread. Drawing on pro- fessional experiences gained in a 15-year period, this study analyzes the interaction between the authority and the operator and the role of individuals in contract regimes, and develops conclu- sions for the next generation of contracts and suggestions for further research. The conclusions envisage new contractual relationships that strengthen the motivation to care for customers. Wallis and Bray (2014) address the context and outcomes of implementing competitive tendering for bus services in Sydney and Melbourne after many years of “grandfathering” (con- tinuing rollover of negotiated contracts with long-established private operators). All bus services in Adelaide and some services in Perth, which were previously competitively tendered, have also been retendered. The empirical evidence assessed shows that procurement through competitive tendering has reduced the costs of service provision, substantially so where the services were pre- viously provided by government monopoly operators, and rather less so, but still significantly, where contracts were previously negotiated with incumbent private operators. In both cases, improvements in service quality and delivery have also been achieved, resulting in increased patronage. The authors’ assessment reinforces the need for robust operator procurement pro- cesses and for mechanisms and incentives for operators to develop their services to better match market needs. The learnings from the recent experience are relevant to further developments in procurement/contracting policy for urban bus services in Australia and internationally. Hensher (2014) develops a framework within which a cost–service quality relationship is quantified and then implemented to identify benchmark targets for cost efficiency improve- ments required to achieve a predefined service quality performance target. The author uses data from metropolitan and nonmetropolitan bus operators in New South Wales to demonstrate the way the method can be used in contract negotiation and ex post monitoring of performance leading up to contract renegotiation or tendering. Merkert and Hensher (2013) compare recent experiences in contract negotiation and sub- sequent commitment in public air services with the bus industry. The heart of the article is a survey of European and Australian regional airlines, which the authors mirror with revealed experiences of bus companies. The authors identify elements in the contract agreements lead- ing to ambiguity and significant gaps in what the contracting agencies expected and what the contractors (airline or bus operator) believed they were obliged to deliver. In terms of simi- larities, one of the surveyed contract details that had a perceived high clarity in both industries was “payment procedures,” and among those with rather poor clarity in both industries was “incentives to improve performance and grow patronage.” The authors also show differences between regional air services and bus operations with regard to performance measurement and prespecified obligations. Because of the strong safety culture around air services, regulation and trusting partnerships are even more important to aviation than to the bus sector. Because of the high level of trust but also because of simpler and more complete contracts in aviation, there is much less (re-)negotiation occurring compared with the bus operations.

16 Contracting Fixed-route Bus transit Service Based on a South African case study, Mokomyama and Venter (2013) use data collected from a group of passengers who have personal cars but choose to use public transport and a control group of passengers who only use their cars, in the same corridor as the user group, to estimate a service quality conjoint model. The model is used to evaluate the effect of different public transport service packages, defined in terms of different combinations of service attributes, on passenger satisfaction. The article confirms the need to classify service attributes in terms of their relative impact on passenger satisfaction at the service design stages, where performance in respect of some attributes has a disproportionate impact on satisfaction, especially where public transport is competing directly with private transport. Practical applications and limitations of the methodology are also discussed. Performance-Based Contracting Hensher and Stanley (2003) proposed performance-based contracting (PBC) as the best way to deliver social and environmental outcomes consistent with government policy, recognizing the need for appropriate incentives for bus operators to deliver value for the subsidy dollar. One distinguishing feature of PBC is that payments above community service obligation levels are based on social and environmental benefits rather than primarily on commercial considerations. A reward system for bus operators is proposed that combines payment for delivering a minimum level of service that meets government community service obligations plus an incentive regime that rewards operators for patronage increases above minimum level of service patronage levels. The patronage incentive is based on expected user and external benefits deriving from service improvements and patronage increases. To ensure remuneration is based on efficient cost levels, it is essential to benchmark costs at relevant best practice levels. The article argues that a PBC approach is consistent with maximizing social surplus from public transport provision across a geographic area for any given budget constraint and regulatory-imposed minimum service levels. One alternative to PBC, competitive tendering, is considered and rejected as being less desirable in terms of securing the maximum social surplus to the community given the total amount of subsidy support available, although competitive tendering is an appropriate noncompliance con- dition. Case studies from Norway and New Zealand provide models on how a performance-based quality contract could be structured. Hensher et al. (2013) have continued to explore performance-based contracting through design of a simplified performance-linked payment (SPLP) model that can be used as a reference point to ensure value for money given the accumulation of experiences throughout the world which have revealed substantive common elements in contracts. Whether the payment to the operator is framed as a payment per passenger or as a payment per service kilometer, the SPLP identifies efficient subsidy outcomes that are linked to a proxy indicator of net social benefit per dollar of subsidy. The authors illustrate how the SPLP model can be applied to obtain the gross (subsidy) cost per passenger (or per passenger kilometer) from measures of gross cost efficiency and network effectiveness. This model can be used as part of a benchmarking activity to identify the reference value of money prospects with respect to the passengers-per-dollar subsidy outlay by adjusting for influences not under the control of the service provider. A single framework to identify contract payments to operators and assess (i.e., benchmark) operator performance on critical key performance indicators (KPIs) is provided by internalizing KPIs in the design of the SPLP. The proposed SPLP model is sufficiently general to be independent of the procurement method (competitive tendered or negotiated, for example) and treatment of revenue allocation (net or gross based contracts), with the additional advantage of being able to assess value for money for government. Recently, Hensher (2015) has addressed one feature of the contracting environment that has not been given sufficient consideration: the complementary role that noncontracted services,

Literature review 17 such as charter activity, can play in improving the cost efficiency of contracted services. This study investigates this phenomenon in the context of Sydney (Australia) bus service provision, aligned to the literature on output-based incentives, and shows that operators who participate in greater noncontracted services while also delivering contracted services have higher cost efficiency (in terms of cost per contracted in-service kilometers). Although this can be explained in part by the quality of such operators, who are often more entrepreneurial and better manag- ers, the evidence suggests that if operators can be encouraged (or allowed) to use contract assets to gain supplementary revenue (without incurring the same unit rate of costs per kilometer), the negotiated (or tendered) prices are likely to be lower than they would be otherwise. Making this opportunity explicit is equivalent to adding an element of increased incentive compatibility. Kavanagh (2016) reviews academic research over the past decade, in particular research devel- oped for and presented at Thredbo Series Conferences, that examines how public transport and particularly bus services should be procured in the context of a discussion about service cost and quality. The article outlines the successful implementation of negotiated performance-based contracting (NPBC) in Victoria, Australia, with respect to its bus network, and concludes that there is no reason competitive tendering should be viewed as the most appropriate method of procurement in each and every instance or even be considered the “default position.” Indeed, when there are existing private providers of such services, NPBC appears to be a better alterna- tive to tendering. International Experience Several international studies have been cited in previous sections of the literature review. This section includes additional international studies related to contracting. Bray and Mulley (2013) report on the results of a workshop in Australia on successes and failures in transit contracting. From the point of view of the agency, a contract with an operator is a tactical level mechanism to achieve the strategic objectives of government. Management of contractors translates the requirements of contracts into operational practices to guide the day- to-day work of staff for the delivery of services. Much can go wrong with contracts for the provi- sion of public transport services. Workshop participants identified and ranked 25 potential risk factors related to objectives, tender assessment, allocation of risks, financial viability, and dispute management, all of which were examined based on the 11 papers presented to the workshop. Hensher (2010) draws on recent experiences in contract negotiation and subsequent commit- ment in the bus sector to identify what elements of the contracting regime have exposed ambigu- ity and significant gaps in what the principals expected and what the agents believed they were obliged to deliver. A series of regression models are developed to investigate the extent of dis- crepancy between the principals’ and the agents’ perceived understanding of contract obligations. The empirical evidence from a sample of bus operators is used to identify the extent of perceived incompleteness and clarity across a sample of bus contracts. A noteworthy finding is the impor- tant role that a trusting partnership plays in reducing the barriers to establishing greater clarity of contract specification and obligations and in recognition of the degree of contract completeness. Currie (2016) explores the experience of developed countries that have introduced greater private sector involvement to traditionally government owned and run urban public transport industries. Such reforms have generally been driven by a desire to reduce taxpayer costs and improve services for travelers. Reform options of full open competition, alternative tendering models, and negotiated PBC are considered. Just as the possible models for reform are diverse, so too have been the outcomes from reforms across different contexts. Case studies from bus reforms in the United Kingdom and rail and tram reforms in Melbourne, Australia, provide

18 Contracting Fixed-route Bus transit Service several lessons for other jurisdictions considering reforms in urban public transport. In particu- lar, the evidence suggests that cost savings and service improvements are achievable through corporatization of public agencies and the introduction of service tendering, although savings tend to be one-offs and are subject to excessive optimism. Caution is also urged in the introduc- tion of open competition in markets that are not commercially viable. PBCs that involve arm’s length cooperation between the government and operator when combined with the threat of competition can achieve a good balance between the desire for quality and network flexibility from government with the commercial imperatives of the operator. Camén and Lidestam (2016) conducted a study to deepen the understanding of underlying reasons for the increasing cost of public transport in general and bus services in particular in a Swedish context. Data were collected through in-depth interviews with managers at the bus operators as well as the authority organizations. The authors identify nine categories that can be the dominating factors behind the increasing costs of public bus services in Sweden. The identified categories of cost drivers are: traffic appearance (peak times), greening of buses, age requirements, the contract period, the accessibility customization, special requirements on buses, collective agreements (working time regulation), tendering and contracting process, and counterproductive political governance. It can be concluded that many of the cost driv- ers originate from the circumstances of the process of public procurement, such as different demands for different regions in Sweden as well as the trade-off between the bus operators’ wishes for higher flexibility in the contracts and the traffic authorities’ fear of more risks and thereby higher bids in the end. Pedro and Macário (2016) use a large set of public transport service contracts from across the world to review general practices in contracting for public transport services, including bus rapid transit (BRT) systems. The database covers approximately 50 contracts, including contracts set up under various institutional regimes, with various forms of risk allocation and many kinds of awarding procedures. The authors found differences in planning, procurement, contracts, quality payments, management, and other dimensions of BRT compared with con- ventional bus services. Kim and Shon (2011) address the challenges newly faced after the Seoul Bus Reforms 2004 that created highly regulated private operations with fixed-price contracts and propose strat- egies to ensure better bus operation. Overall, the reforms were a success in many aspects, resulting in the increase of patronage of urban transit, a dramatic drop in bus accidents, and the introduction of exclusive median lanes. Unfortunately, the previously small, family- owned, inefficient bus companies were transferred to monopoly franchises under the reforms, thus institutionalizing a noncompetitive supply situation. The exclusive operating right-of-way is still protected as a judicial precedent set by the Korean Supreme Court. The current non- competitive bus contracts, such as a sole-source negotiation procurement, must be modified into competitive tendering in the long run, and the major obstacles to this strategy and the detailed scheme are reviewed. Further, short-term strategies were proposed, including the devel- opment of a more sophisticated standard cost model incorporating a route structure and/or the patronage change, introduction of yardstick regulation, and extended incentives and penalties. Sakai and Takahashi (2013) examine the impact of the deregulation of the local bus market in Japan in 2002 on the market structure and the operators’ cost efficiency over the last ten years. First, the authors perform a qualitative before-and-after-deregulation analysis of Japan’s bus market, finding that there has been little change in the structure of the Japanese bus market. Second, the authors investigate the effectiveness of the deregulation and internal organizational factors by using a data set of publicly owned (municipal) bus companies. The authors estimate the total cost frontier functions in order to examine their effects, showing that it is the inter- nal organizational factors (i.e., governance structure) that affect the operator’s efficiency, not

Literature review 19 deregulation. The coefficient of subsidies to companies is positive, with statistical significance, thereby suggesting that cost efficiency decreases as the subsidy ratio increases. The authors pro- vide an account of how contracting out clearly improves operators’ cost efficiency. Veeneman et al. (2014) carry out a sophisticated economic study for the Netherlands, where Dutch public transport provision has been competitively tendered out increasingly since 2001. Except for the Amsterdam city bus services, all bus transport in the country is carried out under a competitively tendered contact. This study expands the data set with regional data as well as customer satisfaction and patronage data. This article represents the first analysis of 10% of the concession years since 2001. It shows some unexpected outcomes, such as tendering not bringing the higher efficiency expected. In addition, it also shows expected results, such as the efficiency costs of quality incentives.