AS RAY O'Toole arrived at the National Express headquarters off London's Oxford Street on Wednesday morning, he received one almighty shock.
He was all geared up for his first day in the driving seat after he had received the call earlier that week to take over from chief executive Richard Bowker.
O'Toole was braced for the media frenzy which the industry veteran's departure to the Uni
ted Arab Emirates was expected to create. More importantly, he had been fully briefed to deal with an explosive statement to be delivered to the London Stock Exchange later that morning, which warned that National Express's East Coast Main Line franchise was in danger due to falling passenger numbers. He had plenty of ready-made answers up his sleeve about how Bowker's departure was "coincidentally" timed with the knock to the rail and bus operator's prized London-to-Scotland line.
But what the chief operating officer was not prepared for was a knife in the back from the transport minister Lord Adonis who, as O'Toole made his way to work, had come out all guns blazing on breakfast news and declared that the East Coast franchise was being snatched back into public ownership.
O'Toole, a usually cheery northerner from Salford, tried to keep his cool but as he set about his first day at the helm, he couldn't help thinking that the Government had dealt him a bad hand.
Just two days earlier he and his press team had met the Department for Transport to agree the wording of National Express's stock exchange statement. While the operator had intended to prepare shareholders for the possibility of losing the franchise if the recession did not improve in the second half of this year, O'Toole's heart sank as he watched a steely-faced Adonis declare that the line was being re-nationalised.
"He has jumped the gun," O'Toole later said. "Some of the statements have not been wholly accurate, which is sad really."
The dispute ended five months of fraught negotiations between National Express and the DfT as O'Toole and his predecessor Bowker tried every avenue to hold on to the prestigious franchise, which it fought tooth and nail to secure just two years earlier. It beat off rivals Virgin/Stagecoach, First Group and Arriva with a £1.4bn bid for the seven-year contract, which came up for negotiation early after the previous holder GNER failed to meet payments on its £1.3bn agreement.
Despite exceeding its 10 per cent passenger growth target in the first nine months, National Express hit the buffers as the recession took rail operators by surprise. Growth fell back to just 1 per cent and Bowker was forced to admit to the Government that it may not meet its own financial obligations. The company paid £82m in the year to March 2009, and was due to part with a further £125m this year.
For five months, hopes had been resting on a deal with Adonis that would allow National Express to ride out the rest of the recession. Negotiations within the walls of the DfT's imposing offices at Great Minster House revolved around the possibility of a state subsidy until passenger figures improved. Conscious that the Government would not allow taxpayers' money to be used to generate profits for a private company, Bowker and O'Toole tried to sweeten the transport minister with the promise that a subsidy would only allow its NXEC subsidiary, which holds the East Coast franchise, to break even.
But after opening negotiations in February, Adonis finally dug his heels in. Under pressure from the rail unions which have long lambasted the franchising process as a farce, the Government made it clear that it would not bail out an otherwise profitable rail operator. He also ruled out any reduction in the terms of the contract amid fears that every other franchise holder would soon be knocking on his door for a similar discount.
But as ticket holders arrive at London Kings Cross for the first train of the day at 06:15 tomorrow morning, questions are being asked about what the future will hold for the London-Scotland line. Where did National Express go wrong?
With the Government poised to strip a second operator of the franchise prematurely, is it time to rethink rail nationalisation?
O'Toole was in fighting mood on Friday as he spoke to Scotland on Sunday. He insisted that National Express had not yet thrown in the towel on the East Coast line and he was still praying for an economic upturn which would allow it to keep hold of the franchise. Despite the Government's statement on Wednesday morning, he argued that the company was not yet in default on its agreement.
"As part of signing up to this franchising agreement we agreed to put in a £40m subordinated loan and of that we have put in £17.5m a year to date, and we plan to inject a further £22.5m in the second half of the year. Now if it doesn't require any more and the business starts to recover, then there could be a scenario there where we would continue to run it. The Government can't suddenly come along and decide that they want to take it off us."
O'Toole is hoping the large number of Britons who are expected to holiday at home this summer will boost passenger numbers. Even if this fails, he says the line is not likely to be handed back to the Government before Christmas.
He lays the blame for the crisis squarely on the recession. He says that in the first nine months of the franchise passenger growth exceeded forecasts, performance was up from 81 per cent to 87 per cent, and customer satisfaction grew by 5 per cent.
"In year one we were actually achieving 11 per cent so we were beating it (the performance target]. Unfortunately this dreaded world economy came along and the recession just crippled it really. It's one of those lines that's always the one that gets it first. It's probably the dynamics of where it runs from and to and the clientele that uses it."
The City appears to agree. Analysts argue that despite the usual passenger grumbles over cost cutting and service levels, National Express was simply the first franchise operator to fall victim to the recession. Its NXEC subsidiary has fallen £20m into the red this year at a time when the parent company is already struggling to contain debt. National Express has debts of £1.2bn.
As one City analyst explains: "The reality is that all of the rail companies thought they could continue growing passenger revenues very quickly and that has come back to haunt all of them now. It just so happens that National Express had more debt than most. The problem with the system of franchising is that it pushes people to bid aggressively."
The RMT union argues that this month's events call into question the whole issue of rail privatisation. RMT secretary Bob Crow says operators are so desperate to win the bidding war that they make unrealistic growth projections and end up overpaying for lines. While they might be able to make the figures work for a while, they have to slam on the brakes as soon as any economic glitch or other negative event throws a spanner in the works.
"The Government should have seen through their inflated bids," says Crow. "This is a waste of everyone's time, money and energy. This is privatising the profits and socialising the losses. As soon as you end up in a situation where the private company is struggling, they throw the keys back at you."
The RMT says the re-nationalisation of the East Coast Line, if it happens, should be the first step to full nationalisation of Britain's railways. It argues that at present, operators are allowed to throw in the towel on unprofitable lines while they continue to make money on other franchises. It is pushing the transport minister to also seize control of National Express's profitable East Anglia and c2c franchises.
Under the terms of franchising agreements, the union argues that if an operator defaults on one line this automatically triggers a default on its other agreements, whether it is meeting the individual terms of that contract or not.
National Express and the Government are currently locked in battle over its other franchises, which O'Toole insists cannot be taken back. He said the company has already hired a "leading" barrister and will be prepared to fight the Government "rigorously" if it seeks to take them under taxpayer control.
"We're not in default on any of those three franchises," he said. "Cross default does not apply and we would continue to operate those franchises. If anybody attempts to come and take them off us, we have got a leading QC who told us that we have got a very, very strong case and we will fight it rigorously."
But it is not only the unions who bemoan the current franchising system. Earlier this month, Brian Souter, the eccentric chief executive of Scots firm Stagecoach, accused the Government of "chaotic" and inconsistent behaviour over rail franchise subsidies amid a long-running battle over support for its struggling South West Trains business. Sir Richard Branson has also called for reform of the franchise system, pushing for longer, 20 to 30-year deals. He says operators need more time and the confidence to make investments that will make the lines pay.
However, the current difficulties with the system are unlikely to stop Branson from swooping on the East Coast line if and when it becomes available. The Government has signalled that the franchise would be up for grabs again towards the end of 2010, and sources within Virgin say Branson is likely to bid for a fourth time despite his lack of success in the past.
One Virgin source said: "We have put our hat in the ring on a number of occasions in the past. Subject to the terms of the deal, yes of course we would be interested in bidding for the East Coast again."
Branson is expected to face intense competition from Scottish transport giant FirstGroup, which made a surprise move to take the whole of National Express last week. National Express immediately rebuffed the "highly preliminary approach" but the City expects Sir Moir Lockhead, chief executive of FirstGroup, to mount a second attack. With National Express struggling to keep debts under control, some analysts expect O'Toole may not be able to be so hostile in future.
Gert Zonnefeld, analyst at Panmure Gordon, says that even without the East Coast Main Line, National Express's problems are far from over. It would cost the company £72m to forgo the franchise. "For a company with a market capitalisation of about £400m, £72m is still a huge number, and if the group is forced to hand over the other two franchises, that hit would end up being more than £100m," Zonnefeld said.
However, according to the RMT Union, O'Toole won't be the only rail boss facing a busy summer. "It's not out of the question that within weeks we could see the same situation on another line," Crow said.
