East Coast Rail Line is Nationalised

The government is taking the East Coast rail line that runs from London to Edinburgh and which has been operated by National Express into public ownership. National Express has struggled with falling revenues and higher costs that have contributed to rising losses on the line. In a press release, National Express said that higher hedged fuel costs added £11 million of cost in the first half of 2009, while increased pension costs cost the business a further £3 million.

The rail franchise also has suffered greatly from the huge financial commitments it made to the government when bidding for the franchise to operate the line and has a £1.2bn debt pile. Under the terms of the franchise agreement, National Express is required to pay the government £1.4bn to run the East Coast rail franchise until 2015, with the amount rising steeply from £85m in 2008 to £395m this year. This hike in annual payments has come at a difficult time for the business. In order to meet its targets, the franchise requires passenger revenue growth of about 10% per year, but turnover has been affected by the recession which has cut the volume of business travel and prompted many to trade-down from first class to standard class travel. In this sense National Express is no different to the problems facing airlines such as British Airways whose premium passengers have long been a key source of revenue.

National Express is bound by the terms of a bankers covenant which limits the amount that they can borrow to no more than 3.5 times its earnings before interest, tax, depreciation and amortisation (EBITDA). As a result the business is expected to raise fresh capital by a rights issue to existing shareholders, little wonder that the share price has fallen sharply in recent months. It has already been the subject of a takeover bid from rival transport operator First Group.

The government has refused to renegotiate the terms of the licence and it will run the company until it can find a new franchise for the East Coast line. Here is another example of the winners’ curse – where an auction leads to the winning bidder paying more than was viable to secure the franchise. The government may have to wait until economic conditions improve to find a buyer for the East Coast franchise; the expectation is that public ownership will last for about a year.