What will Nationalisation of the Railways mean for Passenger and Freight Operators?

What we know so far of the Labour party's plans are set out in its rail policy document 'Getting Britain Moving' published on 25 April 2024 (the "Rail Policy") and its general election manifesto published on 13 June 2024 (the "Manifesto"). In these documents, the Labour party has confirmed its intention to bring passenger services into public ownership within England and establish a new arm's length body - Great British Railways ("GBR") - to be a "directing mind" in charge of both infrastructure and operational services.

Ahead of our Top Table Lunch, we are releasing four briefing notes discussing key issues that remain to be explored and what it means for the rail industry. In our first note which you can find here, we looked at the funding of GBR, whether it could achieve the cost savings touted by the Labour party and what nationalisation could mean for the private sector. Our third note will look at how GBR will interplay with Labour's devolution agenda and what that means for levelling up while our final note will examine the pensions implications for existing passenger operators and for GBR.

This first briefing note examines the central cost and funding that we believe still require clarification and sets out three key areas on how GBR will be funded, how GBR will manage its costs and what opportunities may remain for private passenger service operators.

In this note we look deeper into the implications of GBR and nationalisation generally for both passenger and freight operators. Specifically: (1) what role there may be for private operators if passenger services are taken into GBR; (2) what are the opportunities and risks for open access passenger operators under the proposed GBR model; and (3) the tension between passenger service and freight service needs under the proposed GBR model.
 

1. Will there still be a Role for Private Operators if Passenger Services are taken into GB rail?

The Labour party plans to achieve nationalisation by taking over services currently performed under National Rail Contracts ("NRCs") either once they reach their contractual expiry date or earlier if the current operator fails to meet its NRC obligations. Notwithstanding this, the Rail Policy suggests that the party is open to GBR using private sector expertise in order to achieve improved and better value for money rail services for passengers.

Does a route remain open for concession or management contracts for passenger services?

Our first briefing noted that while both the Rail Policy and Manifesto talk of GBR as being "responsible for day-to-day operational delivery", neither document explicitly says that GBR will undertake operational delivery itself. In theory, this could hold the door open to a Labour government introducing a concession-based model under GBR control. However, structuring such a model would be challenging given that the Rail Policy also makes clear that as part of a reset of industrial relations with the rail unions, the Labour party wants GBR to be a "new, single employer" for all rail employees. Assuming that a workable structure could be established under which GBR retained the role of employer but seconded them to private operators, Labour may be unwilling to risk accusations from both other political parties and the unions that it is 'U-turning' on its commitment to nationalisation.

The rail unions would also undoubtedly oppose the use of management contracts, but a Labour government may have a stronger case for pushing back. First, with the first tranche of NRCs due to expire before legislation can realistically be passed to establish GBR, passenger operators will presumably have to pass to the operator of last resort ("OLR"), which already draws on the advice and support of external consultants to manage the four existing franchises that it currently runs (Northern Rail, SouthEastern, Transpennine and LNER). This means that the use of private sector support and partnership within a state-owned operator is not unprecedented and could therefore be politically defended by the government if it wishes to.

Second, it appears that the OLR may already be stretched in running its current franchises. It is therefore difficult to see how the OLR could adequately take on more franchises with its current resource. Crucially, any additional resource may not be forthcoming as Rachel Reeves has expressly committed to halving consultancy fee spend in Whitehall, promising to only use consultants where they bring value for money. Rather than buying in additional resource that would have to relearn what the private train operators already know about running those franchise areas, it may be better value for money to consider a management contract arrangement with existing operators. Private train operators and their owning groups already have (in some cases) decades of experience in running the franchises. As a result, they know what passenger expectations are, what can be delivered in a post-COVID environment and, thanks to their experience under the NRCs, how to manage costs within government constraints; they can therefore hit the ground running from day one of the transfer.

The main sticking points are that management contracts could not be put in place quickly and there would be a cost involved in switching to them. Unlike the OLR's consultancy arrangements, which are already in situ, the Department for Transport ("DfT") (in the first instance) and then once established, GBR, would probably need to run a procurement process before any contracts could be awarded, unless they could be structured to fall within existing direct award powers. There is an inevitable financial cost to this (including, ironically, consultancy fees) because the form of management contract would need to be drawn up, shared with the market and potentially amended in line with market comments and later on any bidder comments. There is also the cost of the procurement process itself and all the expertise that would need to be brought in to carry it out, including producing the relevant procurement documentation and managing the systems used to place and respond to queries. However, if the management contracts are prepared properly with the appropriate incentives, then these costs can be offset by long-term savings, particularly if the management contracts are designed to stimulate revenue growth and encourage cost efficiencies.

Although the time taken to carry out a procurement may well delay the timetable for transferring the NRC franchises to the public sector, this timetable is one with an inherent flexibility that can be managed. The Labour party has committed to nationalise contracts on their expiry but most NRCs generally have two expiry dates – a core term expiry date (up to which the DfT can only terminate the NRC in certain circumstances) and a final expiry date up to which the DfT can terminate at any time on three reporting period's notice. Labour may be better placed therefore leave the existing NRCs in place until the final expiry date to accommodate the procurement of new management contracts and still remain true to their Rail Policy and Manifesto commitment.

Other opportunities for private operator expertise

If neither a concession contract nor a management contract option comes to fruition, private sector operators may nevertheless be able to carve out an advisory role for themselves with GBR, albeit subject to the same procurement issues described above.

Ticketing is one area where the experience of private operators could be of significant benefit to GBR. In light of the continued drop in season ticket revenues (which the Office of Rail and Road ("ORR") announced have now fallen to their lowest level since records began in 1986/1987) and the Labour party's desire to increase revenue, the pressure will be on GBR to come up with innovative pricing to expand leisure travel. GBR will also need to continue to produce and evolve flexible ticket options for commuters, who are now used to hybrid working. Private operators have already had to get to grips with this as they operate the NRCs in a post-COVID environment. Indeed, it is one of the reasons they have been actively pushing for reform of the ticketing system – and so have carried out the necessary data analysis that would enable informed decisions to be taken. Given that the Rail Policy makes clear that the Labour party sees a significant role for technology when it comes to innovation within GBR and makes a point of discussing how the introduction of digital season tickets has only been managed by "fewer than half of rail operators", those rail operators who have successfully rolled it out have vital experience. This could help GBR to recognise and avoid bear traps while also identifying where practical improvements could be made, both in terms of cost and in passenger experience.

The experience gained by private operators from negotiating and rationalising rail fleets to stick with the DfT-set cost budgets during the NRC era will be relevant to the Rail Policy's objective of reducing maintenance and lease costs for GBR. Of particular use is the knowledge they have of the infrastructure restrictions and peculiarities within those franchises due to transfer to GBR. This will affect which rolling stock can be used on particular diagrams but also could be leveraged to identify where infrastructure upgrades (including in relation to digital signalling) would bring the most bang for the public buck. More valuable though is their understanding of the maintenance issues and challenges that exist in the rolling stock that will eventually transfer to GBR, which will be of strategic importance to GBR when it comes to GBR negotiating or renegotiating maintenance arrangements.

As we touched on in our first briefing paper, private rail operators could alternatively find a role in supporting GBR's back-office functions. Many of the existing operators have experience and owning group operations set up for functions such as payroll, delay/repay schemes (where the Rail Policy explicitly wants to roll out 'one click' delay repay compensation), and customer service (including queries). The caveat here is that such functions will also attract the attention of the major outsourcing players, e.g. Capita, which have large, established operations capable of generating economies of scale that would potentially make them cheaper in price than a private operator. However, given the controversies surrounding the quality of service offered by the major outsourcing players, it is not inconceivable that some may be open to forming tie-ups with private operator owning groups to demonstrate relevant industry experience and sensitivities and shore up a bid.

Are there opportunities for private finance in nationalised rail world?

One area where the Rail Policy expressly welcomes the private sector is in relation to the use of private capital to leverage the value of unused, rail-owned land. Network Rail previously dipped a toe into this via the sale and lease back of its railway arches and certain other railway real estate, but the Rail Policy makes clear that the Labour party wants to go further and look at income streams via (among other things) the "sale of residential land plots with planning permission to housebuilders". Housebuilding is a central pledge within the Manifesto and the use of the existing rail estate for this purpose could well be regarded as an "easy win" for a Labour government, particularly where such real estate is on brownfield land. However, governments from both the red and blue sides of the political spectrum have faced criticism from parliamentary select committees and the National Audit Office for both failing to maximise the revenue from similar selloffs in the past and also failing to consider the long-term implications of such sell-offs on government (or in this case, GBR's) future strategic needs. In this respect, although private operators are not builders, they are familiar with the estates that they managed within their franchise and therefore well placed to advise on which sites could be disposed of without risking the long-term operational needs of GBR.

Finally, as we discussed in our first briefing note, given the potential political sensitivities around GBR's budget, it is open to question whether there may be a role for private finance in funding rail infrastructure itself. Neither the Rail Policy nor the Manifesto make any specific reference to this – unsurprising given that PFI and PPP have been heavily criticised in recent years in terms of long-term value for money. However, given the state of the economy that any Labour government may inherit, the party may well be tempted to look at opportunities for private investment in station construction as part of its Manifesto commitment of generating "large-scale new communities across England" – and this has been successfully achieved in the past. We identify stations rather than track or signalling infrastructure here as there are sound regulatory and integration reasons for wanting ownership to remain with GBR. That said, depending on the size and location of the station, there are potential retail and commercial income streams associated with station operation that may make them tempting to private investors looking for long-term returns.
 

2. What are the Opportunities and Risks for Open Access Operators ("OAOs") under the GBR Model?

The Rail Policy explicitly states that "wherever there is a case that open access adds value and capacity to the network" then OAOs "will be able to continue to compete to improve the offer to passengers", while the Manifesto goes a little further in describing OAOs as "an important part of the rail system". Admittedly this is not the most ringing of endorsements, but it does hold open the door for private sector passenger operations to continue in some form and as we pointed out in our first briefing note, Alstom, First Group and Virgin are all currently pursuing open access service applications.

The major issue for OAOs is that they will be competing with a GBR focused on maximising revenue and which will control access to track infrastructure as well as running its own passenger services. This creates an inherent conflict of interest for GBR as OAOs will be looking at routes within the more lucrative inter-city business and leisure markets. Even allowing for the ticketing reform promised by the Rail Policy, GBR's concern will always be that OAOs can abstract this revenue stream given that OAOs are free to set their own fares. GBR may therefore be tempted to use its infrastructure role as a reason to either refuse OAOs access to such routes or to charge an anti-competitive price for such access.

Although the Rail Policy seeks to reassure open access operators that the ORR will retain responsibility for approving or denying open access applications, it then makes clear that this will be subject to an "updated framework and guidance issued by the Secretary of State". While one hopes that any such framework or guidance would not be so crass as to force ORR to give precedence to GBR's own passenger service needs, it could nevertheless still skew competition for passenger services. This could be by either placing a greater weight on freight access over OAOs or for allowing higher access fees to be charged to private operators along lines that are of strategic national importance where capacity restrictions have a knock-on impact for local services (e.g., the West Coast Mainline). Such a move would still have the effect of allowing GBR to block access and thereby restrict competition.

This capacity point is an important one as the industry has long acknowledged the problem and yet neither the Rail Policy nor the Manifesto make any statement about whether a Labour government would be looking to invest in new lines. In fact, it is noticeable that neither the Rail Policy nor the Manifesto makes any reference to the cancellation of HS2's phase two route between Manchester and Crewe. Despite the best efforts of Manchester's mayor Andy Burnham to try and revive this route, at the time of writing the Labour party has not made any comment about doing so during its General Election campaign.

Whilst there are good reasons for GBR to fear competition from OAOs, given that the Rail Policy makes clear its desire for GBR to drive "innovations and improvements in the experience of passengers" it should also welcome the challenge in terms of driving its own performance. For example, the competition first from Hull Trains and Grand Central, and then the arrival of Lumo on the East Coast Mainline arguably helped LNER to look at how to improve its passenger services and customer offering, which led to the development of its app and loyalty scheme and its 2023 order of new trains.
 

3. How will passenger services be balanced alongside freight services given network capacity constraints?

The Rail Policy rightly makes the point that freight services are frequently sidelined on the network to allow passenger services to overtake them, resulting in reduced productivity and extended freight journey times. To counter this, GBR will have a specific duty to "enable the growth of rail freight alongside passenger services" and will be tasked with setting "clear and meaningful targets for rail freight growth". In order to reduce complexity for freight operators, the management of freight contracts will be brought within GBR and a central, single point of contact team set up to enable freight growth to be achieved. The Labour party clearly sees rail freight as being a vital part of meeting its net zero commitments and also an important contributor to the overall United Kingdom economy rather than just to London and the South East.

All of this is to be commended, but what is missing is any detail about the same issue faced by OAOs, i.e. if GBR is running its own passenger services and needs to maximise revenue growth, what is to stop it from deciding to sideline freight services to allow passenger services to overtake them? Freight operators would have the same rights of challenge to the ORR as OAOs would do, but this carries additional costs that freight operators – already lean operations – may well be anxious to avoid. It would be more useful if there was some kind of stick by which GBR could be held accountable for missed rail growth targets, e.g. penalty payments (preferably payable to freight industry bodies and participants rather than back to the government) but as we touched on in our first briefing note, depending on how GBR is funded, there may well be resistance to such a model from a Labour government.

As with OAOs, capacity remains the elephant in the room when it comes to freight and enabling faster freight journeys. Part of the justification for investment in HS2 was that it would create capacity for an additional 144 freight trains per day, which explains why the Rail Freight Group condemned the phase two cancellation as "the worst possible outcome for rail". Similarly, if the Labour party is serious about its net zero commitments, then consideration should be given to developing and improving rail freight routes to airports and warehouse parks as well as ports in order to reduce the amount of carbon in the supply chain. This would require investment and as we noted in our first briefing note, there simply may not be governmental or GBR money available to fund this.

Ultimately, there is a real risk that freight operators could in fact be worse off under the GBR model than under the existing system because GBR will be responsible for infrastructure access but also for providing its own passenger services. The rail freight industry needs more than warm words and empty targets in order to grow as a sector, but without committed funds and obligations for growing and improving capacity it is difficult to see that it will get the support that it needs.

So What does Nationalisation of the Railways mean for Passenger and Freight Operators?

Although the Labour party's headline nationalisation policy is clear, the careful wording of both the Rail Policy and the Manifesto means that it would be foolish to completely rule out private sector involvement in passenger services. For all the arguments – good and bad – that can be made about the performance of privatisation of the railways, the private sector has built up a wealth of experience and expertise that cannot simply be picked up overnight by a new, publicly owned entity. Rail is an expensive business and one that is, in the United Kingdom, particularly politically charged. The caution shown by the Labour party in their campaigning to date and particularly the way in which they have specifically courted the business and investment sectors suggests that there may yet be a pathway for some kind of management or advisory role.

For rail freight operators there are green shoots of hope but again, the devil is in the missing detail. The Labour party are certainly saying the right things about the importance of rail freight for the wider economy and its environmental targets, and a centralised GBR team dedicated to freight growth could well help smooth out administrative kinks that can slow down freight operations or increase their costs. However, the lack of any mention of funding to support freight operation is a big concern, as is the failure of either the Rail Policy or the Manifesto to make any comment on the scale of infrastructure investment needed to make a genuine difference.

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