Euro Tunnel

Topics: Channel Tunnel, Cost overrun, Construction Pages: 9 (3136 words) Published: November 27, 2010
Case Study:
Eurotunnel: “One of the world’s greatest engineering success stories” Based on the case materials specifically identify the key judgemental errors made by the private parties involved with the project:

During the period of 1987 to 2005 there are 3 changes of the Board of Directors of Eurotunnel. Most of the behavioural finance that listed below incurred during the first management period. Overconfident

Overconfident behavioural is a well-established bias in which someone's subjective confidence in their judgments is reliably greater than their objective accuracy, especially when confidence is relatively high. Management’s overconfident seen through overestimate the chances of success and underestimate the associated risks of its decision. The management’s overconfidence reflected from following evidences: * Management overestimate the chance of project success as stated in Eurotunnel prospectus of 1987. The justification was that “Whilst the undertaking of a tunnelling project of this nature necessarily involves certain construction risks, the techniques to be used are well proven. The directors believe… that 10%... would be a reasonable allowance for the possible impact of unseen circumstances on construction costs.” In reality the tunnel project was delayed and cost double as much as estimated from £4.9bn in 1987 to £10.1bn in 1994. * The project estimated the tunnel to be opened in June 1993 but in reality it was delayed about 12 months due to construction problems and cost overruns, and finally opened in 6 May 1994. The tunnel full operation also delayed about 4/5 months due to safety regulation. * Management was underestimate their competitors hence the Eurotunnel unable to achieved its forecasted market share and revenues. * In the beginning, Eurotunnel thought that it will be the market leader soon after the tunnel operated and will gain 2/3 of market share. While the Tunnel was being built, the ferry companies had invested heavily in new large efficient vessels in preparation for the opening of the Tunnel and had introduced various efficiency measures. The unpredicted price war launched by ferries in summer 1995 with ferry prices 30% lower than 1994. * Eurostar also has to struggle against fierce competition from airline companies. * Management also underestimated the complexity of the system. In particular, the number of fail-safe elements in the system made it very difficult to operate partially. If someone was working on an element, an alarm would go off which would shut the system down. This was compounded by the fact that a central part of the commissioning is the training of operative staff, so system shutdowns could not be overridden as this would have effectively trained staff to ignore warning signals. Over optimism

Over-optimism bias is the demonstrated systematic tendency for people to be over-optimistic about the outcome of planned actions. This includes over-estimating the likelihood of positive events and under-estimating the likelihood of negative events. Through the Eurotunnel projects this bias seen through these facts: * The traffic and revenue forecasts for Eurotunnel have proved to be over optimistic. * In 1987 prospectus predicted only moderate fall in cross-Channel prices due to opening of the Channel Tunnel. In 1990 projected average revenue per car was £64.5, then in 1993 was £56 then the actual revenue/car to be £49.5 in 1995 and £34.4 in 1996. (Anchoring and adjustment???) * Passenger use was forecast at 16 million when it was actually 6 million, freight volume at 7 million tonnes when it was actually 1.7 million tonnes. * Need introduction………. “The directors intend that dividends will be paid to shareholders as soon as possible. As shown in the projections, good operating performance by the Group should allow a first dividend to be paid in 2006…. Should the outcome be better than that indicated, Eurotunnel may be...
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