East West Link Project

Tabled: 9 December 2015

3 Planning the project

At a glance

Background

The East West Link (EWL) project was one of the most significant investments ever proposed for the state in terms of impact, complexity and cost. In October 2011 the government approved funding for the development of a business case for the project. In April 2013, the government approved the eastern section of EWL to proceed as Stage 1 of the project, based on the March 2013 business case.

Conclusion

The business case, which is a critical step in any major project, did not provide a sound basis for the government's decision to commit to the investment because it did not clearly establish the need for the investment through a robust analysis of the costs, benefits and risks of reasonable options.

Findings

  • The business case did not provide a sound basis for prioritising the eastern section over other sections of the road.
  • There was insufficient information and evidence in the business case to demonstrate the accuracy and plausibility of the assumed wider economic benefits of the project, or the validity of underlying traffic modelling.
  • The business case did not address significant issues raised by peer reviewers.

Recommendation

That the Department of Treasury & Finance improves its business case development guidance material, the adherence to this guidance by agencies, and its quality assurance over key inputs to project business cases.

3.1 Introduction

The East West Link (EWL) project was one of the most significant investments ever proposed for the state in terms of impact, complexity and cost. In October 2011 the government approved funding for the development of a business case for the project. The business case was developed between late 2011 and mid-2013.

In April 2013, the government approved the eastern section of EWL to proceed as Stage 1 of the project based on a March 2013 business case. The business case was subsequently updated with the final version noted by government in September 2013.

The former Department of Transport and former Department of Transport, Planning and Local Infrastructure—now the Department of Economic Development, Jobs, Transport & Resources (DEDJTR)—were responsible for developing the business case, and were supported by the Linking Melbourne Authority.

3.2 Conclusion

The EWL business case did not provide a sound basis for the government's decision to commit to the investment. Gaps and weaknesses in the business case—including a failure to adequately address the issues raised by external reviews of key underlying information—meant that it did not clearly establish the need for the investment through a robust analysis of the costs, benefits and risks of reasonable options.

Further, the business case did not provide a sound basis for prioritising the eastern section over other sections of the proposed road.

These issues mean there was little assurance that the prioritisation of significant state resources for this project was soundly based.

The proposed project delivery approach was sound, however, the assessment of options appears to have given undue weight to the government's desire to begin work on the project prior to the 2014 state election.

3.3 Project planning and development timing

While no public commitments were made on the timing of the project in 2011 when the government agreed to fund the business case, it is clear that the government was focused from the outset on accelerating the planning and development of the project.

Figure 3A outlines key events in the project planning phase.

Figure 3A

Key events in the project planning phase

Timing

 

Events

October 2011

 

Government committed funding for development of a business case for the EWL project.

June 2012

 

Government approved a forward program for the project requiring:

  • the business case to be completed by the end of 2012
  • project statutory planning approvals to be finalised by the end of the first quarter in 2014
  • procurement to be completed by the fourth quarter in 2014
  • construction to commence in October 2014, before commencement of the caretaker period for the state election.

October 2012

 

Government was advised that the business case was on track for completion by the end of 2012 and that:

  • the eastern section was favoured as Stage 1 of the project
  • toll revenue for Stage 1 was expected to be significantly below the overall project cost
  • market soundings indicated very little private sector appetite for fully taking on the risk that actual demand for the road would not meet forecast demand—i.e. the traditional toll road model adopted for CityLink and EastLink.

March 2013

 

The business case was completed and this formed the basis for key government decisions on the project.

April 2013

 

The government considered the March 2013 business case and endorsed the base case and a number of complementary works including an Eastern Freeway upgrade and public transport enhancements to the north of the Melbourne central business district.

June 2013

 

The March 2013 business case was revised and finalised. The state publicly released an updated 'short-form' summary business case and presented a more detailed version of the short-form business case to Infrastructure Australia that did not include the analysis and assumptions underpinning the updated economic assessment.

September 2013

 

Government endorsed the final consolidated business case, which was an update to the March 2013 case considered by government in April 2013, and consolidated relevant work completed up until June 2013 for the purposes of preparing the publicly available short-form business case. This last business case included the final economic assessment, and related financing, tolling and procurement strategies.

Source: Victorian Auditor-General's Office.

In April 2012, the government was advised of the risk of legal challenges to the progress of the project. Other advice to government on the project similarly highlighted risks to robust decision-making due to the emphasis on meeting the government's challenging time frame.

The government considered this advice but did not agree to allow additional time for project planning and development. In June 2012 the government approved a target forward program for the project that required construction to commence in October 2014, before the caretaker period for the November 2014 state election. This required concurrent activity on project development and statutory planning processes including approvals, procurement and contracting.

In addition, the government's target time line for the project was given undue weight by the then Department of Transport in arriving at their recommendation in the business case on the procurement and project delivery approach, and associated risk allocation.

3.4 The business case

The Department of Treasury & Finance (DTF) defines a business case as a 'document that forms the basis of advice for executive decision-making for an asset investment. It is a documented proposal that considers alternative solutions and identifies assumptions, benefits, costs and risks'. It is generally accepted that a robust business case is critical to the success of an investment.

The business case initially completed for the project in March 2013 formed the basis for government decisions. This business case was subsequently revised and finalised in June 2013.

The March 2013 business case indicated that the eastern section of the project had weak direct economic benefits arising from the core eastern section project scope and the investment merit relied on wider economic benefits (WEB).

A benefit cost ratio (BCR) of less than 1 indicates the benefits of the investment are less than the costs. Excluding complementary projects and WEBs, the direct BCR was 0.45. Including both WEBs and a range of complementary projects achieved a BCR above 1. This position was not significantly changed when the business case was revised in June 2013.

Figure 3B shows the BCRs disclosed in the March 2013 and June 2013 business cases.

Figure 3B

East West Link project (eastern section) benefit cost ratios

 

BCR

 

March 2013 business case

June 2013 business case

Base case(a)

Excluding WEBs

0.45

 

Including WEBs

0.84

 

Base case plus complementary projects(b)

Excluding WEBs

0.7

0.8

Including WEBs

1.2

1.4

(a) Comprised the eastern section and a package of integrated land use and public transport initiatives, but not complementary projects such as the Eastern Freeway upgrade.The BCR analysis excluded costs and benefits from urban renewal and public transport initiatives.

(b) Comprised the eastern section and a package of integrated land use and public transport initiatives plus complementary projects including the Eastern Freeway upgrade, public transport improvements and CityLink widening. The BCR analysis excluded costs and benefits from urban renewal and active transport initiatives.

Source: Victorian Auditor-General's Office.

DTF guidelines on economic evaluation for business cases acknowledge that traditional BCR analysis has limitations and is not recommended as the sole quantitative assessment tool for decision-making purposes because it is biased towards small projects and those with early returns.

The March 2013 and later updated business cases:

  • set out the strategic rationale for pursuing EWL over other transport investments
  • proposed the eastern section as the preferred option for Stage 1 of the project over the other sections—despite the western section likely having a higher BCR
  • presented a base case comprising a tolled motorway between Hoddle Street and CityLink, as well as additional options for complementary public transport works with the potential to deliver added benefits over the base case.

However, these business cases did not provide a sound basis for the government's decision to commit to the investment due to weaknesses in the:

  • rigour of the economic assessment—specifically the accuracy of the estimates of WEBs and the reliability of the traffic modelling
  • basis for prioritising the eastern section over other sections.

As a result the business case did not clearly establish the need for the project by robustly assessing the costs, benefits and risks of reasonable options.

3.4.1 Economic assessment

DTF's Investment Lifecycle guidance emphasises that robust economic evaluation of investment proposals is a vital component of the business case, to support informed investment decision-making by government.

The economic analysis underpinning the EWL business case was developed by a consultant in 2012 and updated during 2013. This analysis was subject to a range of qualifications and caveats due to its preliminary nature given the tight time frames for completing the business case.

Figure 3C summarises the results of the economic assessment in the March 2013 business case as well as the revised assessment in the June 2013 business case.

Figure 3C

Economic assessments in business cases ($ million in present value terms)

Costs and benefits

March 2013

June 2013

Difference

Percentage difference

Costs

Capital costs

3 707

3 739

32

1

Recurrent operating and maintenance costs

293

339

46

15

Total costs

4 000

4 078

78

2

Benefits

User benefits

  • Travel time savings—car and commercial vehicle

1 083

2 079

996

92

  • Travel time savings—public transport users

5

240

235

4 700

  • Travel time reliability improvement

88

192

104

118

  • Vehicle operating cost savings

420

651

231

55

  • Corridor redundancy—interoperability of West Gate Bridge and CityLink tunnels

66

66

0

0

Externalities

  • Air emissions externality cost savings

33

27

–6

–18

  • Other externality cost savings

–41

–141

–100

–244

  • Crash cost savings

23

39

16

70

Avoided public transport costs

n/a

35

35

100

Residual value of assets

136

153

17

13

WEBs

  • Agglomeration benefits

1 514

2 153

639

42

  • Labour supply and competition benefits

31

61

30

97

Total benefits

3 358

5 555

2 197

65

Economic appraisal results

BCR

0.8

1.4

0.6

75

Net present value

–642

1 476

2 119

330

Note: The June 2013 business case was based on the final approved project scope which included a number of complementary projects.

Source: Victorian Auditor-General's Office.

Figure 3C shows significant increases between the March and June 2013 business cases in the value of estimated benefits in a number of important categories, such as travel time and reliability savings and WEBs. It is important to note that these increases were primarily due to the refinement and resolution of the project scope following the government's consideration of the March 2013 business case. Despite this, the June 2013 business case did not fully explain the basis for these increases in claimed benefits.

Wider economic benefits

The EWL business case relied heavily on the inclusion of estimated WEBs to support the assertion that the project was of net benefit. Without these WEBs, which were unusually high as a proportion of total benefits, the project cost was clearly higher than the expected benefits.

WEBs relate to economic benefits that are not typically captured in traditional cost-benefit analysis. Commonly considered WEBs include:

  • 'agglomeration' impact (an increase in productivity due to improved proximity to suppliers and labour markets)
  • the impact of transport on increasing competition
  • competition related user benefits.

The DTF guidelines indicate that WEBs are most relevant to transport and other large infrastructure projects. However, guidance materials from DTF and Infrastructure Australia indicate caution should be exercised when estimating and considering WEBs as part of the economic assessment of projects.

DTF's guidelines note that the extent to which WEBs exist over and above benefits counted in the standard economic evaluation is not yet clear, and will depend on the nature of the project under consideration.

The June 2013 business case does not provide sufficient information to explain the basis for the significant change in WEBs from the March 2013 business case.

This was important, because an external peer review of the March 2013 business case raised significant issues with the plausibility of the level of WEBs claimed for the project in terms of their ratio to total benefits. Specifically it stated:

  • 'initial observations are that the ratio between core travel benefits and WEBs is very atypical with the latter being much higher as a proportion of overall benefits than would normally be expected
  • a thorough review of the literature has confirmed our knowledge and experience that WEBs...typically represent around 10–40 per cent of the traditional benefits
  • the higher values are for CrossRail in London where WEBs have been estimated 40–50 per cent...mainly [due] to the ability of CrossRail to allow tens of thousands of additional workers to access high value jobs in more productive areas that would otherwise simply not have been possible. This is an extreme situation that is certainly not replicated in Melbourne with the East West Link'.

The peer review concluded that the relationship between the standard user benefits and the WEBs was so highly unusual that they warranted a detailed discussion and explanation if they were not to be discounted as implausible.

The final business case did not satisfactorily address this issue. It only provides a high‑level discussion of the approach used to calculate the WEBs and does not specifically address the issues identified by the peer review. As a result, the information included in the business case offered insufficient assurance about the robustness and reliability of the estimated WEBs for EWL.

Limitations of traffic modelling

Around 70 per cent of the estimated $3.2 billion in direct benefits from the project related to estimated travel time savings derived from traffic modelling undertaken in 2012 and updated in 2013 for the final June 2013 business case.

The then Department of Transport commissioned two peer reviews to examine the traffic modelling. A detailed peer review of the traffic modelling approach, inputs and outputs was undertaken in December 2012 and a broader peer review of the economic analysis underpinning the business case in March 2013 also commented on the traffic modelling.

The December 2012 peer review identified a number of issues impacting on the reliability of the traffic forecasts, including assessments of wider congestion impacts. The peer reviewer concluded that it was more likely that the demand would be lower, rather than higher, than the traffic forecasts relied on in the business case. However, the reviewer indicated that the traffic model used was reasonable for that stage of the business case development process. The peer review made 21 recommendations for improving the model, however, these recommendations were not addressed in the final business case.

The later peer review also identified limitations in the traffic modelling and related business case analysis that were not adequately resolved or addressed in the final business case.

The external peer review in March 2013 noted that the business case did not provide detailed information on estimated traffic flows and that this omission was unusual in a transport project business case. The review stated that the information in a traffic model report appended to the business case was not comprehensive and in some cases was difficult to understand.

The peer review recommended that specific traffic numbers and illustrative diagrams be included in the business case. The review suggested that it would be useful if this section included a description of the effect of the project on public transport patronage and that it should include a detailed discussion of freight traffic. This was not done in the final business case.

Induced demand

There was limited consideration in the business case of induced demand—additional traffic created by improved roads and routes.

Our 2011 audit, Management of Major Road Projects, highlighted the significant risks associated with failing to adequately assess induced demand. That audit found that the failure to take induced traffic into account meant that major road projects tended to overestimate benefits and give false confidence to decision-makers about the capacity of the project and the surrounding roads to cope with future traffic flows.

There are six dimensions of induced traffic that need to be considered when assessing major road projects:

  • changing route—drivers make the same journeys but use the improved route
  • changing destination—drivers decide to travel to more distant destinations because the improvement makes the journey time acceptable
  • changing mode—public transport passengers switch to car because the improvement makes road travel more attractive than rail
  • changing time of travel—drivers decide to travel in the commuting peak period because the improvement reduces journey times to an acceptable level
  • making additional journeys—people are willing to make additional car journeys because of the improvement
  • relocated trip—people and businesses relocate to take advantage of the improvement and so make new journeys to the area.

The model used in the EWL business case only addressed the first three of these. The consultant acknowledged that its model did not capture the other elements and acknowledged that further research was required to accurately assess the potential impacts of these elements. There is no evidence that any further action occurred.

The terms of reference for the December 2012 peer review of the traffic modelling included examination of how the traffic model complied with VAGO's prior recommendations relating to induced demand. However, the report did not specifically address this issue other than in a footnote indicating this was considered by the reviewer.

DEDJTR advised that it has recently established a governance framework to oversee transport modelling and economic appraisal of projects and developed guidelines to support a standard approach to traffic modelling.

3.4.2 Prioritisation of stages

A strategic issue when considering potential investment in the EWL project was whether it should be constructed as a single project or in stages, and the order of any staged construction. This was acknowledged in advice to government in April 2012 which indicated that while the business case would examine the case for the entire EWL, it would also take into account the likely need for delivery in stages, given the scale of the project.

A review of subsequent advice to government indicated that a preference to construct the eastern section emerged during 2012, well before completion of the business case in 2013. The advice did not clearly demonstrate the basis for this preferred staging of the project. Relevant departments have advised that the decision to pursue the eastern section first was a policy decision of government.

The business case asserted that while the western section offered significant benefits in its own right, the eastern section would generate 'greater and more widely dispersed benefits' and was the preferred option for Stage 1 of the project. However, the business case did not support this assertion with sufficiently detailed evidence and analysis.

A March 2013 peer review of the business case economic appraisal supported this view. It noted that the absence of an economic analysis of the full road link, and of each of the related stages, was both unusual and an issue that reduced the transparency of the analysis and the decision-making.

The business case analysis included reference to previous cost-benefit assessments undertaken for the former WestLink project—discontinued following the 2010 election—which broadly covered the scope of the western section of the proposed EWL. An appendix in the EWL business case acknowledged that two separate cost-benefit analyses (CBAs) of the WestLink project commissioned by the state in 2009 and 2011 yielded positive and higher BCRs than the proposed eastern section of EWL, both with and without the inclusion of WEBs:

  • The 2009 CBA showed a BCR of 1.95 for the full EWL (2.35 with WEBs), and a BCR of 1.33 for WestLink (1.65 with WEBs)
  • The 2011 CBA showed a BCR of 1.5 for the western section (1.65 with WEBs).

The BCR disclosed for the eastern section in the 2013 EWL business case varied from 0.4 to 0.8 without the inclusion of WEBs and up to 1.4 with WEBs included.

The BCR should not be considered in isolation when examining the relative merits of competing projects. However, the business case did not present a detailed comparative analysis of the results or any explanation of the differences. It is reasonable to expect that such an analysis should have occurred, given the significant scale of the proposed investment.

The economic analysis presented in the business case was restricted to options associated with the preferred eastern section of the full road only. The absence of such analysis for the other sections reduces assurance that significant state resources were being effectively prioritised to the area of greatest need or benefit.

The decision to prioritise construction of the eastern section was also inconsistent with information in the 2008 East West Link Needs Assessment (EWLNA) study which identified the eastern section as the second highest priority for development. The EWLNA study ranked the sections in order of priority as (1) inner section—i.e. Port to West Melbourne section, (2) eastern section and (3) western section. While the business case acknowledged the 2008 EWLNA study as context for the proposed project, it did not reconcile the difference in priorities.

3.5 Procurement and delivery model

In March 2013, the government was advised that the business case had explored all procurement models, with the view to maximising value for money for the state, and recommended an availability public private partnership (PPP) with the state retaining the toll revenue, and also the risk that demand might be lower than expected.

Analysis and advice on the project delivery model was robust and considered the relevant options including a traditional design and construct procurement approach. The choice of project delivery model was influenced by a reluctance in the market to take on full demand risk (the risk that actual demand for the road will not meet the forecast) and by the desire to sign the contract by November 2014.

The market sounding exercise undertaken for the project identified very little appetite for the traditional toll road model where full demand risk is transferred to the private sector, but some appetite for sharing with, or fully transferring demand risk to the state. This, together with timing considerations, was a key factor in recommending the availability PPP model under which the state fully retained demand risk.

The business case examined two main options, an availability PPP where the state retained full demand risk and a PPP approach where some demand risk was shared with the private sector. One of the reasons for dismissing the second option was the difficulty in implementing it within the government's target time lines.

3.6 Financial implications at planning stage

Development of the business case occurred during 2011–12 and 2012–13. In October 2011, the government approved $7.5 million to be provided to the then Department of Transport to commence work on a business case for EWL. A further $19.5 million was approved in December 2012 by the Treasurer for finalisation of the business case and to commence planning and development activities.

In May 2013, the government announced its intention to proceed with the eastern section at an estimated capital cost of $6 to $8 billion.

At the time of approving the final business case, the estimated project cost of the eastern section was $7.96 billion (in nominal terms) comprising:

  • $5.5 billion capital for the EWL road design and construction
  • $920 million for private financing costs
  • $385 million for state costs for property acquisition, project management and procurement
  • $400 million for other related complementary projects
  • $755 million for risk and contingency.

There was no budget allocation in April 2013 for the operation and maintenance of the eastern section, given that this initial budget was developed on the basis of state based, rather than PPP, delivery and for the capital component only. The submission on the project budget noted that the operation and maintenance, toll collection and other life cycle costs were not taken into account as they were expected to be offset by the future toll revenue. Operation and maintenance costs of $399 million in present value terms over the life of the agreement were noted in later advice to government (after contract signing), but there was no formal budget approval. This is in line with DTF's normal budgeting practices for PPPs and other capital projects.

In May 2014, the state announced its commitment to deliver the western section at an estimated capital cost of $8 to $10 billion with initial works commencing in 2015.

The project was to be funded by the Commonwealth Government, state government and by road users through tolling arrangements.

Recommendation

  1. That the Department of Treasury & Finance improves its business case development guidance material, the adherence to this guidance by agencies, and its quality assurance over key inputs by:
  • critically reviewing the analysis of options in business cases against the requirements of existing guidance material and providing feedback to agencies
  • developing further guidance on methods for transparently determining and quantifying wider economic benefits
  • strengthening its processes for reviewing and advising government on the adequacy of actions taken to address findings and recommendations arising from peer or other external reviews of key business case inputs such as economic and financial analyses, demand modelling, cost estimates and procurement options analyses.

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