Securitization is likely to play a only minor role in the future of Britain's railways - despite the Government's intention to replace Railtrack with a non-profit company - according to a senior banker involved in drawing up restructuring proposals.
Robin Saunders, head of securitization and principal finance at West LB in London, said her team had been working "for months" on plans to refinance Railtrack's debt and obligations on the basis of equity participation. After Transport Secretary Stephen Byers announced the plan for a non-profit-making successor on October 16, however, Saunders said the West LB scheme would need to be adapted: "We will try to fit it in with their proposals."
Byers' announcement fuelled speculation that a huge structured financing along the lines of the GBP2 billion Glas Cymru transaction earlier this year, which funded the buyout of Welsh Water, was in the offing for the railways. However, asked if such a quasi-securitization could have a role to play in the future funding of the network, Saunders replied: "Yes, but not a massive one."
A huge undertaking
The problem with any such exercise is that it would require a massive and irrevocable undertaking from the Government, in that it would provide Railtrack's successor with the bulk of the annual revenues it would need to meet interest and principal on the debt over the duration of the deal.
The required investment in the rail network over the next 10 years is currently estimated at GBP60 billion - the Government was prepared to give Railtrack half this amount, with the balance to be raised from the private sector. To raise this balance from the capital markets - albeit through staggered issues - would oblige the Government to supplement the company's revenues to the tune of GBP2 billion to GBP3 billion a year.
The charges the train operating companies (TOCs) pay for use of the track each year - around GBP700 million - would not come close to meeting these obligations, and the Treasury is unlikely to countenance such a long-term burden on the Public Sector Borrowing Requirement.
A further problem is that the investment requirements are far from set in stone. They include the new West Coast Mainline, the cost of which has already rocketed from the original GBP2.1 billion estimate to over GBP6 billion, and the far potentially bigger investment of the new nationwide safety/signalling system to be installed in the wake of the fatal Paddington and Hatfield crashes.
Not only has it yet to be agreed what system will be installed, but the recent record of problems, delays and cost overruns on the installation of a much smaller system on London Underground's Jubilee Line Extension suggests that investors will be highly sceptical of any initial figure.
Government funding essential
Even those who see potential similarities to the Glas Cymru situation accept that the fundamental difference between the two is that the rail network's capital expenditure requirements exceed its organic cash flows by an order of magnitude more than applies in the water sector.
John Hatton, senior director for corporates at Fitch, said it would it would consequently be essential that Railtrack Mark 2 did not retain the project risk associated with the massive undertakings to improve the network. "It is hard to see how a proposed BBB entity could directly include a WCML risk profile," he wrote in a short paper earlier this month.
Hatton also pointed out, however, that once these giant new projects had been completed and fully tested - and the regulator had agreed what rate of return was permissible on them - they could then be refinanced via some form of asset-backed bond issue in the capital markets. "Once they are up and running, that is then an issue."
He said the other crucial difference with the water sector was that government subsidy would remain an indispensable source of the rail industry's cash flows. "There is a government income stream that is required. It's the only way that bondholders will invest in this new entity."
Saunders said that continued government support was also crucial to the restructuring proposals based on "risk sharing among a number of counter-parties related to the industry" that West LB had drawn up, as it was not possible to run a privately funded railway system without it. "You're not even to first base if you don't have Government involvement," she said. "There will be subsidy required, but to be kept to a minimum."
The logistics
If Railtrack's successor body was relieved of responsibility of the major projects and was restricted to operational maintenance of the network, Hatton said it should be able to quantify its capex and opex demands. With appropriate capitalization, it could then replicate the Welsh Water structure.
Whether the new entity will retain overall responsibility for the system is, however, open to question. The Government asked the train-operating companies to come up with proposals to take over the maintenance of tracks after it has forced Railtrack into administration, and Hatton agreed that this was a viable option: "The regular maintenance operation could go through the TOCs."
While this may look a neat solution on paper, however, there would be immense difficulties to overcome in running a series of such regional operations alongside the national entity that was responsible for the major projects in an integrated system that has to continue operating. While some of the projects - such as the fast rail link to the Channel Tunnel - are reasonably self-contained, others do and will intrude on existing operations. "There will be some interference with the operation of the network," Hatton added.
Hatton also said the necessary closures of certain sections of track while such work was undertaken - and the requisite compensation arrangements for operators who were deprived of its use - could be laid out in a possession regime, similar to the one that operated between Railtrack and the TOCs. However, it would be a nightmare for the bankers and others involved in structuring any type of securitized bond to work out the like incidence and implications of such disruptions. Any large securitization in the sector may have to wait until the upgrading of the network is substantially complete.
