A question of private railways
Safety, profits, jobs, maintenance; the issues are many. Peter Rodgers provides some answers
Wednesday 17 April 1996
A: The company expects a stable rather than declining market from now on. This is borne out by recent passenger figures.
Certainly, the railways are losing money and they are already subsidised to the tune of pounds 2bn a year, which is expected to continue for the indefinite future.
However, the Government has set up the privatised rail industry specifically to ensure that Railtrack, as a stand-alone company operating the infrastructure, is profitable.
The subsidies are being given not to Railtrack but to the train operating companies that run services on Railtrack's lines. They have contracted to pay Railtrack an access charge each time they run a train. The charge over the next few years has already been set at a level that makes Railtrack profitable.
Q: Who decides what Railtrack can charge the train-operating companies?
A: The rate is fixed by John Swift, the rail regulator, who has considerable independence from government.
Q: What happens if the train-operating companies go bust, and no one else wants to run a service?
A: Ultimately the Government, through the Office of Passenger Rail Franchising, could take the services back from the franchisees.
Q: Does Railtrack have any assets it can sell profitably, or any room to diversify its business?
A: There is little room to diversify. But the company has property ranging from hotels to office blocks valued in the prospectus at pounds 230m, some of which will be developed or sold.
Q: Does it have a free hand in cutting its operating costs?
A: The main business costs are wages for the 11,000 staff, a number certain to be sharply reduced. Debts have been cut by more than pounds 1bn ahead of privatisation, but the company has agreed with a syndicate of banks that it can borrow up to pounds 2.35bn to finance new projects. The company claims that its debts will remain at a reasonable level, nevertheless - certainly below 100 per cent of its equity.
There is also a large backlog of repairs and a pounds 1bn a year investment programme for which Railtrack says it has already made provisions.
Q: So how will Railtrack make profits?
A: There are four ways in which Railtrack will raise its profits for shareholders beyond those already envisaged by the rail regulator when he set access charges.
First, there are job cuts. Second, Railtrack will benefit from greater efficiency as its new investment goes in - for example in signalling, where the number of boxes will be slashed. Third, there will also be cost savings each time a repair or renewal contract comes up for renegotiation. Maintenance and renewal of tracks, bridges and stations will be contracted out to specialist private companies, which will compete with each other so prices should be forced down. Finally, the golden scenario - which few yet believe - is that privatisation will increase use of the railways.
Q: I hear that Railtrack's own managers are warning that the safety procedures have been weakened in order to save money?
A: This argument has been running for a long time. Some staff claim the pressure to make profits is undermining standards. Defenders of privatisation say the risk of expensive disruption and of lawsuits is an added incentive towards safety. At this stage, you will have to take your pick between these arguments. It is worth remembering that Railtrack itself is responsible for the regulation of safety.
Q: I was surprised to see the Government is planning to sell the whole company, after saying they were selling 51 per cent last month.
A: They said they would sell at least 51 per cent. This was probably a tease for Labour, which could have renationalised cheaply by buying 2 per cent. Government advisers always expected virtually the whole to be sold.
Q: What happens if a new Labour government comes to power? Can they, will they renationalise Railtrack, or will they regulate its charges so that it cannot make a decent profit?
A: Labour says it will take the railways back into public ownership and control, but nobody believes that means renationalisation of Railtrack because it would be too expensive. The most serious political risk in buying Railtrack shares is that Labour is talking tough about making the regulator more accountable to ministers, so there could be political interference.
Labour has suggested that it would like to take the pounds 2bn subsidies away from the train-operating companies and direct them through Railtrack, to exercise greater control over the company. However, Labour has also promised it will not cancel any contracts with the private sector without agreement. The most important contracts are the franchises to operate trains, which are being sold to the private sector.
It would be difficult for a Labour government to impose any dramatic changes on the flow of subsidy to the train-operating companies, if it keeps its promise not to cancel the contracts. That in turn should protect the flow of access charges to Railtrack during the seven- to 15-year life of the franchises.
Labour also says it will revise the arrangement under which Railtrack keeps 75 per cent of any excess property development profits. But property profits have been much exaggerated. Rental and development profit of pounds 1bn is expected over the next six years, but the rail regulator has already taken this into account in setting track access charges.
This means the sharing mechanism only comes into play if there are excess profits above that level. Even if Railtrack's 75 per cent share is taken away, it may not be a very large amount.
Q: What happens if the price of the shares in future falls below the price investors pay next month? Will they have to pay the second instalment in 1997 regardless and is it worth their while to do so?
A: They could sell their partly paid shares in the market and get some of their money back, rather than pay the second instalment.
Q: How should I decide whether to sell as soon as trading begins, or to hang on and wait for the incentives?
A: There will be a handsome dividend income on the partly paid shares, whose first instalment is 190p. By next February dividend payments of about 11-12 per cent of the partly paid price will have been made, in two dividends payable in October and February. The first is a sweetener costing pounds 69m, paid - unusually - out of last year's profits, when Railtrack was state-owned. Together, the dividends make the short-term yield immensely more attractive than any building society, though of course the capital value of the shares could fall and wipe out the income gain.
The amount of the second instalment will not be known until the shares are priced next month. But whatever it is set at, there will be a 15p a share discount on the second instalment payment for the first 800 shares or a one-for-15 bonus share on the first 1,200 shares allocated.
The only reason to sell early would be if the price rose very sharply but you thought it was only temporary. Otherwise, the issue is designed to persuade people to hang on for a year and take the dividends and discounts. Furthermore, the second instalment is payable in June 1997, so investors can use two years' worth of PEPs tax allowances if they choose to hang on.
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