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ATTACHMENT A
DTI PAPER ON IMPLICATIONS OF (A) A COLLAPSE OF THE
HORIZON PROJECT; AND (B) A SIGNIFICANT LOSS OF BENEFITS
AGENCY VOLUMES
This Paper addresses two scenarios:
Scenario A
the implications for Post Office Counters Ltd (POCL), for ICL and for Government
policy more widely of a collapse of the Horizon project but with Benefits Agency (BA)
payments through POCL remaining substantially at present levels; and,
Scenario B
© separately, either as result of the loss of Horizon or for other reasons, the implications for
POCL of a significant loss of BA volume (and therefore revenue).
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SCENARIO A : IMPLICATIONS FOR POCL, ICL AND GOVERNMENT POLICY
OF COLLAPSE OF HORIZON (BUT WITH BA PAYMENTS THROUGH POCL
REMAINING SUBSTANTIALLY AT PRESENT LEVELS).
L CONSEQUENCES FOR POCL OF COLLAPSE OF HORIZON PROJECT
1. In addition to providing a modern fraud resistant means of delivering BA payments
to recipients and providing BA with substantial administrative savings, the Horizon project
is designed to
© give POCL a powerful automated platform from which to develop new business
opportunities and to retain existing business;
© provide POCL with a powerful on line point of sale information gathering and processing
tool both for its own and clients’ business, and
provide counter clerks with comprehensive and continually updated information about a
wide range of transactions, enabling them to concentrate on the customer, rather than the
transaction.
2. Without Horizon:
¢ BA would forego £x m p.a. in administrative savings and up to £y m p.a. in fraud
savings (though an extension of the bar code checking system used in the London area
could be a cost effective means of reducing the latter - see para. 3 below). BA would
also forego the accountability for expenditure which could remove the auditor’s
qualification of their accounts each year.
© There can be little doubt that in the absence of Horizon, the case for rapid introduction of
compulsory ACT from the BA perspective would be overwhelming,
© Potential new clients of POCL will expect to receive sales and accounting information
about their product in a timely and convenient fashion, and will find POCL’s existing
paper-based methods unacceptable. A number of POCL’s existing clients have also
made clear that without the early introduction of Horizon they will be looking for
alternative outlets.
© More generally, the loss of these facilities will deprive POCL of the opportunity to
modernise and streamline its internal procedures and reduce costs in order to remain
competitive in the market place.
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¢ POCL will find its ability to take on an increasing range of new business - so as to at
least offset the attrition of existing core business as a result of social and demographic
changes - limited by the capacity of counter clerks to cope unaided by Horizon’s
electronic prompting with such a wide span of products with constantly changing prices
and specifications.
e POCL predicts that in the absence of Horizon, but with continuing benefit payment
trends, in the face of growing competition they will continue to lose business to the
point that by 2002-03 its present annual profitability of around £30 million will have
become an annual loss of around £30m p.a.; and there will be a loss of 1000 subpost
offices by that date. Reduced footfall in post offices will also adversely affect the
private side of the subpostmaster’s business.
3 A number of alternative technologies might help POCL offset the loss of Horizon:
e ALPS: A relatively simple and low cost point-of-encashment system introduced in the
London area and based on bar-code reading of benefit payment foils. ALPS proved itself
capable of reducing encashment fraud by up to 80%, and has proved highly
cost-effective. However, it leaves the benefit payment system entirely paper-based and
offers none of the accountability or administrative cost savings offered by Horizon.
e APTs: POCL already has some 8,000 of these automated payment terminals, with a
further 2,000 on order. They enable POCL to offer clients a modern, automated means
for customers to pay their utility and other bills at post office counters.
e EPOS: Essentially an electronic till capable of capturing a range of data at the point of
sale for subsequent centralised processing. A standard piece of retail functionality.
4 One advantage of such alternatives is that they represent standard generic
technologies, rather than the essentially bespoke approach of Horizon. They should
therefore avoid the development delays and cost over-runs that have emerged with Horizon,
and could also be expected to evolve more smoothly from one generation of technology to
the next. The disadvantage is that a number of disparate approaches of this kind would
necessarily lack important elements of functionality of a fully integrated system such as
Horizon. This loss of functionality might be offset in part by developing separately
“a black box” to integrate relevant data from various systems. But this would be to revert to
a bespoke solution, and as such would run the risk of delays and escalating costs for at the
end of the day, a less attractive and satisfactory system than Horizon.
5 If the circumstances of withdrawal from Horizon led to claims for compensation (of
perhaps £100-£200 million against POCL) the combined costs of withdrawal from Horizon
and development of new systems together with the associated delays would almost certainly
heavily outweigh those of continuing with the project
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Il. IMPLICATIONS FOR ICL
6. Horizon with 40 000 on line terminals capable of processing a wide range of
transactions, with input capabilities including keyboard, touchscreen, bar code reader,
magnetic swipe card and the new smart card technologies, together with the functionalities
described above, represents one of the most ambitious and complex iT projects ever
undertaken in Europe (even though there is little cutting edge “rocket science” in the
technologies employed). As such it is a key building block in ICL’s strategy to reposition
itself in the iT market place as a major service provider rather than as a manufacturer of
hardware. In addition, Horizon could prove an important “turn key” project for ICL, since a
number of foreign administrations - including notably Germany - have expressed strong
interest in acquiring similar facilities. The failure of Horizon would seriously damage ICL’s
and to an extent the UK’s reputation and credibility in this market. It would also lead
directly to the loss of 1000 jobs within ICL during the life of the project.
7. ICL has, with the backing of its Japanese parent, Fujitsu, already sunk in excess of
£100 million into the development of Horizon. A further substantial advance (perhaps
another £200-300 million ) will be needed to complete the project, and should be
forthcoming provided there is a reasonable prospect of at least some commercial light at the
end of the tunnel, almost certainly requiring some modification of the existing contract
terms. Fujitsu have publicly committed themselves to a flotation of (part of) ICL in 2000,
and for this will require its recent return to profitability to be sustained by a series of
improving financial results along the flightpath to flotation.
I. WIDER GOVERNMENT POLICY ISSUES
Effects on Fijutsu / Japanese Inward Investment to UK
8 In the absence of clear-cut technical evidence that the project is incapable of being
brought to an acceptable conclusion any decision by the UK Government to withdraw its
support for the Horizon project for short- term and parochial reasons would simply not be
understood in Tokyo, and would be regarded as akin to a breach of faith. Such a
conclusion could be expected to influence future decisions by Fujitsu - and probably other
major Japanese companies, especially in the iT field - on inward investment to the UK. The
difficulty of quantifying this risk does not make it any less real
Private Finance Initiative (PFI)
9 Horizon is arguably the largest public/private sector partnership iT project
undertaken in Europe, and as such is one of a small handful of high profile flagship PFI
projects. A much publicised failure followed by protracted legal wranglings could damage
the Government's reputation with the private sector as a reliable partner for such projects,
and so make partnerships harder to achieve for future projects.
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Government Direct/ Better Government
10. If Horizon were to fail, the Government would lose an electronic platform which
could be adapted for use in the delivery of government services in the context of Better
Government/Government Direct. This would be unfortunate given the potential benefits to
be gained from the reach of the network which far exceeds that of its competitors, its
popular brand image, and its potential trusted third party status.
Social Banking
11. Post Office Counters is already offering a limited number of banking services
nationwide in conjunction with the Co-Operative Bank, and is currently trialling others with
Lloyds TSB. Many of those who at present do not have bank accounts are regular customers
of the Post Office, and regard it as as a non-threatening honest and reliable environment in
which to conduct personal financial transactions. The Horizon infrastructure could with
some modification enable post offices to handle a wider range of banking transactions on its
own account or in conjunction with Girobank or other banks. Failure of the project would
restrict the potential for this.
SCENARIO B: IMPLICATIONS FOR POCL OF A SIGNIFICANT LOSS OF
BA VOLUMES
Summary
12. This scenario looks at the consequences for the nationwide network of post offices of
a substantial loss of BA volumes and associated revenues, and at possible management
strategies to minimise the impact. The conclusion is that even after drastic pruning of
the network to reduce costs, AND the injection of a continuing subsidy of some
£150-£200 million a year, there are serious doubts about whether the network could be
stabilised at its reduced level, or whether by then it would already have embarked on
an irreversible spiral of decline. The social and political implications of a significant
reduction in the network, particularly on rural and urban deprived areas, are considered.
Background
13 BA work currently accounts directly for some £410 million (including £40 million
for the encashment of unemployment “green” Girocheques) of POCL’s income of £1.1
billion, It is also estimated to attract a further £60 million of business to the network through
the so-called footfall effect (thus a customer entering a post office to draw his or her pension
may at the same time pay a telephone or other bill over the counter rather than put a cheque
in the post). There is likely to be a further significant and beneficial footfall effect on the
private side of the shop, contributing to the overall viability of the enterprise.
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Without Horizon
14. Without Horizon, BA’s preferred strategy would be to migrate as many benefit
recipients as possible as quickly as possible to accept payment directly into their bank
accounts (ACT). POCL believe that such a policy could result in the loss of up to 70% of
BA business volumes by 2002-03 leading to an overall loss of income (from both direct and
indirect effects) of some £400 million a year - against current profits of around £30 million.
(In earlier years there would be additional “one off” costs of closure - redundancy,
compensation etc.). The precise profile of the impact on POCL's income would depend on
the rate of uptake of ACT. There would also be a substantial and in the end unpredictable
network effect.
Management Response to Loss of BA Volumes and Revenues
15. I POCL have modelled the impact on the network of two courses of action (Models A
and B), each designed to take costs out of the network in response to either a 70% or a less
drastic 50% reduction in BA business volumes. The tables at Annex A show the results
(which should certainly be regarded more as orders of magnitude than as precise forecasts)
on the post office network of these exercises. In practice, POCL unless instructed
otherwise would be likely to choose a path which fell some way between these two
options. The models are based exclusively on the impact by 2002-03 of the removal of BA
business volumes and associated post office business losses as compared with a 1997-98
base year. Other financial benefits and liabilities (examples are described at Annex A)
which are expected to occur between now and 2002-03 are ignored.
Model A (with 70% reduction)
© Under this model POCL would close around 500 Crown (main) post offices (leaving a
core of around 100 offices). Their remaining work would migrate to the larger urban
subpost offices. However, the loss of volume and thus income in the remaining urban
sub offices would cause 4 000 of these offices to close by 2002-03
e A high proportion of the smaller rural subpost offices are protected by a guaranteed
minimum level of payment and would therefore be likely to continue provided that the
payments could continue to be financed. Nevertheless, under this model some 500 rural
offices could be expected to close. This model removes £200m of costs from the
network (against a £400m loss of income) and an annual subsidy of at least £200m would
therefore be needed to attempt to stabilise the network at this level. It is estimated that
around 17 000 jobs would be lost
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Model B (with 70% reduction)
¢ Alternatively, POCL could achieve the same level of cost reduction without management
action on Crown offices through a combination of managed and ‘natural ‘ closures of
some 10 000 subpost offices. This reduction in the network would be fairly evenly split
with some 4 500 urban and 5 500 rural offices predicted to close by 2002-03. Again an
annual subsidy of at least £200m would be needed to attempt to stabilise the network at
this level. It is estimated that around 25 000 jobs would be lost.
16. The geographical impact on the post office network of a removal of 70% of Benefits
Agency transactions handled by POCL under Models A and B is illustrated at Annex B.
Downward Spiral of Decline
17. _ Itis difficult for POCL to model the precise impact on the network given the
instability of the business which would flow from loss of the principal source of income for
the business. POCL have taken a prudent approach in their estimates. These do not take
account of any potential income POCL might gain from offering an ACT type facility
possibly in conjunction with Girobank which would, of course, involve the business in
additional capital expenditure. Nevertheless, there can be no guarantee that even at the
levels of subsidy described above the network under either model could be maintained
in a steady state.
18. The models do not take into account potential loss of business due to client and
customer dissatisfaction which would result from a reduction in network provision and
quality of service at remaining outlets. A reduction in the network will inevitably increase
the pressure on the remaining outlets resulting in a deterioration in the quality of service
provided at many outlets and potentially unmanageable levels of business at some. This
may be particularly felt in areas which have lost Crown offices under Model A. This will in
turn discourage the establishment of new business, and put at risk POCL’s ability to retain
existing clients. It will also affect the ability of Post Office Counters to provide universal
access to some Royal Mail and in particular Parcelforce services.
19 The resultant loss of reach and the negative impact of closures on the integrity of
POCL's brand image will in their view result in further ongoing closures as the network
becomes unstable and a spiral of decline ensues. Loss of BA work will result in reduced
footfall affecting the volumes of both transactions in the post office and the private side of
the subpostmaster’s business (post offices are generally operated alongside a private
business).
Impact on Girobank
20. Girobank’s business is fundamentally built around the cash handling market, and
depends on post offices taking in cash in the form of small retailer deposits which it then
recycles as cash payments on behalf of BA. POCL estimates that 70% loss of BA volume
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would lead to a loss of 75% of Girobank’s business and its probable withdrawal from the
cash handling market. This could in turn call into question Girobank’s future viability as a
business.
Rural Areas/ Deprived Urban Areas
21 A significant reduction in the network would be particularly unwelcome to less
mobile customers, in particular elderly and disabled customers, and would inconvenience
businesses, especially SMEs and small retail outlets who use Girobank cash deposit
facilities. Any reduction in the post office network is likely to be felt particularly keenly in
tural areas and deprived urban areas.
22. The Government in its manifesto stated that:
“ Public services and transport services in rural areas must not be allowed to deteriorate.
Conservative plans would mean higher charges for letters and put rural post offices at
threat.”
23. A significant reduction in the rural post office network, as predicted under Model B
where with a loss of 70% of BA volumes about 5 500 rural offices are lost (out of a total of
around 9 000 rural offices), would be met with strong political opposition. (The previous
Government’s privatisation proposals for Royal Mail and Parcelforce foundered amidst
fears about the future of the rural post office network.) The combined village post office
and store, is often the only retail outlet in the community, and as such constitutes an
important element of the infrastructure of rural communities who often suffer from poor
public transport provision and the absence of banking facilities. The Rural Development
Commission in their 1997 survey recorded that 91% of rural parishes do not have bank or
building society services in their area. It is also widely quoted that 60% of villages have a
post office whilst less than 5% have a bank
24. Under Model A (with a loss of 70% or 50% of BA volumes and 500 Crown office
closures) 90% of the 4 500 sub post offices predicted to close themselves will be in urban
areas. Under Model B, which preserves the Crown office network, the 10 000 sub post
offices which would be lost divide roughly equally between urban and rural areas. Urban
offices will be more severely affected than rural offices by higher levels of loss of BA work
given the greater dependence of many (especially in deprived areas) on this for their
livelihood and the fact that they will tend not to have the protection of the fixed minimum
payment which will help to protect smaller rural offices.
25 Loss of post office facilities is likely to be felt particularly acutely in deprived urban
areas where these already suffer from a lack of retail facilities. With the closure of many
branches of the high street banks, particularly in deprived areas, post offices are often the
only source of basic personal banking services for residents in those areas. It has been
estimated that 55% of households in very run-down areas do not have a bank account and
for these the post office is often the only way to receive payments, pay bills and cash
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cheques.' Whilst the transport infrastructure may be better than in rural areas, more
complicated journeys may be unwelcome to those with limited means and with mobility
problems.
Effect on Other Retail Outlets
26 In some areas, the effect of closure of a post office may well extend to the businesses
in its immediate vicinity both as a result of loss of ‘footfall’ and the removal of a facility
which hands over cash to its customers who may well spend it in the adjacent shops.
Better Government
27. Reductions in the network resulting from removal of BA work, even if at some date
POCL were to be equipped with an alternative electronic platform, would reduce the reach
of the network for providing delivery of government services by electronic means in the
context of Better Government/Government Direct. As noted previously, this would be
regrettable given the significant potential value of the network as a service provider in this
area.
Union/ Public Reaction
28 If POCL were to manage network decline by closing Crown post offices with
resulting compulsory redundancies they believe industrial action organised by the
Communication Workers Union (CWU) would be likely in the Counters and other Post
Office businesses. A national campaign for Government intervention to support offices at
risk would no doubt be organised by the union with ready public support given past
experience of public reaction to the conversion of individual Crown post offices to agency
status and to the campaign by the union “Save our Post Office“ in the context of the
previous Government’s proposals to privatise Royal Mail and Parcelforce. The National
Federation of Subpostmasters (NFSP) also led a very public campaign to save post offices in
reaction to the trial by DSS in 1993 of new application forms for pensioners some of which
effectively removed the Post Office option. It is likely that the NFSP and the CWU would
cooperate in any campaigns.
29. Subpostmasters are eligible under their existing contract with POCL for
compensation for compulsory closure of their post office, equivalent to 26 months
remuneration. However, there is no provision to compensate subpostmasters for loss in
value of a post office or associated private business. The NFSP would be bound to lobby
for the latter, which if conceded, could add greatly to Post Office costs.
' Source: “The Social Responsibility of Credit Unions in the European Union’ 1997 Malcolm Lynch solicitors
sponsored by DGXXII, European Commission and others.
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Social Banking
30. As previously indicated, the Horizon infrastructure could with some modification
enable POCL offices to handle a wider range of banking transactions on its own account or
in conjunction with Girobank or other banks. However, using existing technology POCL is
already able to undertake limited banking facilities on behalf of the Cooperative Bank and
Lloyds TSB. There is in principle therefore no reason why benefit recipients who at present
choose to receive their payments through the Post Office should not be able under
compulsory ACT to use POCL as the outlet for withdrawing cash from their accounts. Such
a facility, might also be welcomed by many existing ACT beneficiaries. However, POCL
believe that the volume of business which would remain with post offices under a social
banking type solution would in no way compensate for the loss of business which would
migrate to other banks or building societies with whom around 80% of existing benefit
recipients already have accounts
Payment of Subsidies
31. As noted above, the scenarios of Models A and B imply continuing annual subsidies
of at least £200 million. This paper does not address the difficulties and disadvantages of
subsidy at this level. Such a massive infusion of state aid on a continuing basis could not
fail to attract the attention of the Brussels competition authorities. At a domestic level, there
would also be issues of competition policy - for example where one shop in the village
received a subsidy whilst the second, which did not have the post office counter, did not
32, A traditional weakness of such subsidies is that they tend to reward inefficiencies
and high costs, unless specific measures to counter these tendencies can be put in place.
This would be one aspect to be kept in mind in deciding the delivery mechanism - national
or more local - and the subsequent monitoring arrangements. Many of these same
considerations would also apply to the financial assistance that could be needed to cover the
transitional costs of closure, redundancy and compensation.
Postal Services Directorate/DTI
31 March 1998
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ANNEX A
BACKGROUN
Current POCL profits £ 32m p.a. Current POCL revenue £1 100m p.a.
POCL’s revenue from BA work £410m p.a.
The tables which follow (pages 11 and 12) represent a steady state position at 2002-03. The volume impact of
BA loss is taken on projected steady state from 1997-98
(It should be noted that POCL will shortly be facing a number of significant financial liabilities which are
ignored in these calculations. For example, introduction of the Euro with a one-off cost of some £22m and
following its establishment an annual profit reduction of £5-10m. In addition, if notes held to order status were
lost this could result in a profit reduction of £8-40m. Year 2000 compliance is estimated to cost POCL £16.8m
at constant prices in the period 1998-99 to 2000-01. Abolition of Advanced Corporation Tax credit and
payment of family credit through taxation will also impact on POCL’s profitability.)
SCENARIO A: IMPACT OF LOSS OF HORIZON ON POCL PROFITS AND
POST OFFICE NETWORK
Steady state Year 2002-03 (as compared with 1997-98)
BA Volume Loss as % of Total POCL 4%
Business Volume
Related Business Loss as % of Total 1.5%
POCL Business Volume
Subpost Office Closures 1000
Loss Of Volume as a Result of Network 1%
Reduction
IMPACT ON POCL PROFITS -£30m
Note: The business volume loss % figures and post office closures shown above are cumulative to 2002-03.
The impact on POCL profits is steady state.
SCENARIO B: POST OFFICE NETWORK NUMBERS WITH LOSS OF 70% OF
BENEFITS AGENCY VOLUMES UNDER MODELS A AND B
Steady state 2002-03 (Volume impact of BA loss taken on projected steady state from 1997-98)
Estimated No’s Estimated No’s
Current No’s under Model A under Model B
Crown Post Offices 600 100 600
Urban Sub Post Offices 9 281 5 281 4781
Rural Sub Post Offices 9 139 8 639 3 639
Total Network No’s 19 020 14 020 9 020
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SCENARIO B: IMPACT ON POST OFFICE PROFITS AND NETWORK OF LOSS OF BENEFITS AGENCY VOLUMES
UNDER MODELS A AND B
MODEL A
Steady state at year 2002-03
Management action to close 500 Crown offices
Unplanned closures of urban and rural subpost offices
MODEL B
No Crown post office closures
Managed and unplanned closures of urban and rural subpost offices
Steady state at year 2002-03
LOSS OF BA VOLUMES
10%
50% LOSS OF BA VOLUMES 70% 50%
BA Volume Loss as % of Total BA Volume Loss As % Of Total
POCL Business 16% 12% POCL Business 16% 12%
Related Business Volume Loss as Related Business Volume Loss as
% of Total POCL Business 6% 4.5% % of Total POCL Business 6% 4.5%
Crown PO Closures 500 500 Crown PO Closures 0 0
Urban Sub PO Closures 4000 4000 Urban Sub PO Closures 4500 3900
Rural PO Closures 500 500 Rural PO Closures 5500 5100
Loss of Volume as a Result of Loss of Volume as a Result of
Network Reduction ™% ™M% Network Reduction ™% ™M%
Job Losses 17 000 17000 Job Losses 25 000 23 000
IMPACT ON POCL PROFITS ~£193 -£139 IMPACT ON POCL PROFITS -£197 -£143
Assumptions
- Volume impact of BA loss is taken on projected steady state for 1997-98.
- Assumes % loss of benefits is market share of benefit volumes. This is then converted into volume of transactions and income is based on the price mix in
the contract immediately before automation contract agreed i.e. no floor levels on income etc.
- Transition costs modelled on 70% loss given below not included.
- Impact of possible customer and client loss due to deterioration in Qof S, client withdrawal due to reduced network/change in mix or holes in network is not taken
into account.
Transition costs (prior to 2002-2003) include:
- Model A:
Compulsory redundancies 7500 staff
Disengagement costs from leased Crown properties
£50m
£40m
- Models A and B: Compensation for subpost office closures (in line with existing contracts) @ 70% loss = £250 m @ 50% loss = £220m
(ie. no account taken of potential additional claims)
Lost POCL rental income due to closure of subpost offices.
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