Could East Coast hitting the buffer signal the end for privatisation?
Bradley Gerrard
Updated
Stagecoach chairman Sir Brian Souter retains a large stake in the company he founded in 1980
Stagecoach’s East Coast debacle won’t be helping the investment portfolio of its multimillionaire founder Sir Brian Souter.
Roughly half of Souter Investments’ assets are made up of Stagecoach shares and the fiasco on the East Coast mainline is unlikely to be helping reverse recent earnings dips.
Sir Brian’s investment company suffered pre-tax losses of £84m in its 2016 financial year and £34m in 2017 and Stagecoach’s share price fall of more than a third in the past year could weigh the vehicle down again.
But critics of Stagecoach, whose 90pc-owned joint venture Virgin Trains East Coast will end its control of the East Coast mainline just three years into its eight-year contract, are unlikely to be sympathetic.
Souter Investments still boasted net assets of £366m at the end of March last year but the big question now is whether such heavy exposure to the company he, his sister Ann and brother-in-law Robin Gloag founded in 1980 with his father’s redundancy money will be a help or hindrance.
Virgin Trains East Coast, the 90pc-owned Stagecoach joint venture, is likely to hand the keys for the franchise back just three years into an eight-year contract
The political tide against the company is growing as the rhetoric ramps up. Labour is claiming the business has been bailed out because its premium payments to the Government of roughly £800m are well short of the £3.3bn figure which was due over the life of the franchise. This is extra diesel on the privatisation bonfire being stoked by the opposition, even though Stagecoach says it has lost £200m on the contract and invested £140m in improving the service.
The Government has criticised the company for “overbidding” for the franchise in the first place and Stagecoach itself has admitted getting its forecasts for passenger growth wrong.
Given that acknowledgement, the next couple of years could be crucial for Stagecoach as it vies to keep hold of the East Midlands and West Coast franchises and win Southeastern.
Transport Secretary Chris Grayling says the Government does not have the legal standing to ban the company from bidding for franchises but he also claims his department has now put in “safeguards against overbidding”.
Transport Secretary Chris Grayling says Stagecoach overbid for the East Coast franchiseCredit: Geoff Pugh/Geoff Pugh
These may have already kicked in given Grayling’s testimony to the Transport Committee last month that the South Western franchise out of London’s Waterloo to Devon was not handed to the highest bidder. Only two companies bid for the contract - Stagecoach and a joint venture between First Group and Hong Kong’s MTR - suggesting Mr Souter’s company might need to address its strategy having lost the route it had run since privatisation in 1996.
It is also telling the company announced this week it had sought permission from the DfT for French multinational Alstom to join its Southeastern bid, perhaps viewing the collaboration as a way of assuaging officials given the Scottish company admitted it had noticed a “hardening of the Department for Transport’s negotiating position” in recent months.
The fallout from the East Coast franchise has shone a light on other rail contracts and raised questions again about the value of privatisation.
Labour’s Daniel Zeichner, a former shadow transport minister who sits on the Transport Select Committee, said the decision over the East Coast franchise had been met with “fury” by his party.
“It is absolutely outrageous and it is the same companies who are walking away having handed back the keys and been given the next contract,” he says.
“The reason this is happening is because the Government is worried there won’t be any companies that bid for the franchises and so the public is being entirely held hostage.”
The East Coast franchise used to be run by National Express, which also stripped of the contract
Zeichner claims train operating companies and Network Rail spend “large amounts of money” arguing between themselves about where fault lies for delays and disruptions, proving in his view the franchise system “does not work”.
The committee Mr Zeichner sits on is in the process of gathering evidence on privatisation in the rail industry and is due to report its findings in the coming months. The MP for Cambridge believes privatisation has been purely “an ideological thing”, especially given the private train companies don’t own the trains, the stations or the track.
Some might think it would be intuitive for a Labour MP to call for privatisation but even rail industry analysts accept something needs to change - even if it is a tweak of the present system.
Damien Brewer from the Royal Bank of Canada, expects the DfT to have to make a decision on East Coast’s future soon but is “doubtful” it would be able to find another train operator to take on the contract at such short notice.
This could mean Stagecoach running the line on a not-for-profit basis which would likely see proponents of nationalisation ramp up their calls for an overhaul.
“Without change, UK Rail risks private commercial funds seeking returns elsewhere - and thus risking becoming even more beholden to the EU's state-owned operators - not UK ones,” Mr Brewer says.
Besides the fact the private train operators don’t really own the assets they use, there is also the irony that a growing number of firms running services in the UK are European state-owned entities.
Recent analysis by the Telegraph showed 18 out of 25 rail franchises are currently run by foreign state-backed operators. This figure was hit last year when Trenitalia bought the c2c franchise from National Express - which incidentally was the previous company to default on the East Coast Mainline.
National Express no longer operates any UK rail franchises, with management pointing to the thin profit margins as a key factor in its decision to focus on winning rail business elsewhere.
Anthony Smith, chief executive of passenger advocacy group Transport Focus, said there had not been a failure across the board of the franchise system.
He noted that while Virgin Trains East Coast might be handing back the contract early, the company had come out as the highest rated franchise operator by passengers in his group’s most recent survey.
“It is about the quality of the contract which is between two parties,” he says, emphasising the end of the sentence to suggest the Government which signed the East Coast deal has its share of the blame.
Smith notes this is the only franchise which has seen three companies default - the first being Great North Eastern Railway which was stripped of the contract in 2007.
The East Coast line is more reliant on leisure travellers than many other franchises and it is this factor which Smith identifies as a potential issue, given such customers are more easily deterred from spending money on travel when times are tough compared with business passengers and commuters.
Smith adds that while East Coast is a relatively small franchise it produces “a really high degree of premium payments” for the Government.
This could suggest it is the structure of this franchise which is at issue. It encourages high bids and the DfT is unlikely to select an option which makes it less money.
But Smith suggests a different structure, such as a profit share agreement, could be a better method. Under such a system, the Government and train operator would agree to take a percentage each of the profits generated by the franchise.
This would mean the Government bearing more of the risk, something it already does with Govia’s franchise which includes Southern Rail.
The Government says change is underway given the speech last year by the Transport Secretary to essentially regionalise Network Rail to enable the track operator to work more closely with train operators.
At present, the national body is being pulled in multiple directions simultaneously by the train operators and it is potentially this which leads to more delays and disruptions than there should be.
Stagecoach has previously called for such a move although it is difficult to know whether this model would have overcome one of the main things the company is blaming its early East Coast exit on - “sustained poor performance” by Network Rail and upgrades it claims were delayed.
While East Coast has hit the buffers, the debate about the future of how the UK’s rail system should work is far from over.
Transport Focus’s Smith says most passengers don’t care who runs the trains - they “simply want reliability and value for money”. But after the biggest hike in rail fares in five years in January - with prices rising an average of 3.4pc - the Government might find it has to become more involved in the rail system even if it doesn’t want to call this nationalisation.
