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South West Trains, the UK’s busiest rail franchise, is to become the first in the country to offer passengers reductions on season tickets for travelling outside the busiest period of the morning peak after Stagecoach, the bus and train operator, on Friday won the contract to operate the franchise for another 10 years.

Stagecoach also became the latest train operator to agree to pay a significant premium to the government – £1.19bn over 10 years – for the right to operate a service. Sea Containers’ GNER subsidiary agreed early last year to pay £1.3bn to the government over ten years to run long-distance passenger services on the east coast main line, while FirstGroup agreed in December to pay the Department for Transport £1bn over 10 years for the right to run the Greater Western franchise running from London Paddington to Wales and the West Country.

Stagecoach beat Arriva, the bus and train operator, FirstGroup and a joint venture between National Express and Hong Kong’s MTR to retain the franchise, which was widely seen as vital for Stagecoach.

The new franchise combines the existing South West Trains franchise, which operates more trains per day than any other rail franchise, and Island Line, the services on the Isle of Wight. The franchise will run for 10 years from February next year, with the final three years depending on Stagecoach’s achieving service targets.

There were few details of how the system of discounts for travelling outside the busiest time would work, but the system is expected to be based on proposals put forward by Network Rail, the rail infrastructure owner and operator, in March. It said commuters should have electronic season tickets and receive discounts if they used trains arriving in London outside the busiest hour, between 8am and 9am. The network is already at full capacity at those times and rising demand can be accommodated only if passengers can be persuaded to switch some journeys to trains either side of the busiest period.

The system will need the introduction of new smart-card technology across the network.

Stagecoach said the franchise would bring in more than £530m a year in revenues and generate £15m-£20m operating profit and £3m-£4m finance income in the franchise’s early years.

Some observers expressed surprise at the narrow profit margins from the franchise – which were lower than the 4 per cent typically earned by rail franchisees. The annual operating profit will be substantially less than the £58.9m generated last year from the old franchise.

However, analysts and market watchers reacted positively to the news.

Gert Zonneveld, analyst at Panmure Gordon, said the win represented a coup for Stagecoach.

“This is very good news,” he said. “If they didn’t win this franchise, operating profit would have been zero. Now they have a franchise that is worth more than £500m.”

JP Morgan reiterated its ‘overweight’ stance on the stock, saying the renewal removed a ‘worry factor’ and it opened the way for inefficient capital structure to be addressed in the next six months.

Several analysts also noted that the win should put Stagecoach in a strong position to return a substantial amount of capital to shareholders.

Joseph Thomas, at Investec, said he expected Stagecoach to launch a share buyback of at least £250m.

Shares in Stagecoach gained by as much as 1 per cent in early trade before dropping 2¼p to 126½p.

Copyright The Financial Times Limited 2017. All rights reserved.
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