The push for greener travel and an overhaul of contract models is opening up investment opportunities in public transport, but long-standing and emerging operational challenges can’t be ignored.

Prior to the pandemic, public transport operators in both bus and passenger rail were attractive investment opportunities, but with returns often based on risks linked to the revenue liability that sat with operators. Historically, operators took significant commercial risk – the demise of the UK rail franchise model prior to the Williams-Shapps Plan in 2021 demonstrating that many of these models are no longer viable.

We are seeing new contractual models emerge across various European public transport markets. Coupled with a growing policy need to create better, cleaner public transport, this is re-shaping the future investment landscape in the sector.

Travel trends

Underpinning the investment prospects across Europe are several broad trends. Continuing urbanisation and an increase in road traffic comes at a time of reducing space and ever-increasing social and political urgency to act on the environment. This is placing renewed focus on public transport to use urban space more efficiently, boost zero emissions vehicle (ZEV) numbers, and reduce individual car use and ownership.

For this growing number of urban dwellers, their transport choices are also being influenced by high fuel costs and inconvenient congestion. However, they still need to be mobile, which will support demand for suburban intercity services, particularly where convenience, reliability, and punctuality can be delivered.

Policy push

While public funding diverts into public transport infrastructure on road and rail, and other policy measures – such as low emissions zones – encourage passengers out of their cars, the market conditions for operators is opening up.

The UK’s new rail strategy promises that “revenue incentives will be built into contracts to grow passenger numbers, foster a culture of innovation and introduce efficiencies that deliver real benefits for passengers.” Indeed, some of these changes are starting to emerge, with “demand-based-pricing” trials announced this month by the UK Government, taking inspiration from the aviation industry.

In addition to the shift to Passenger Service Contracts in the UK, the fourth railway package of legislation in the EU is making it easier for operators to provide rail services within a Single European Railway Area. These changes are doing away with market barriers and reducing some of the revenue risk for operators.

Public transport operations are now starting to look more like infrastructure assets with revenues tied to inflation; and that’s catalysed a sharp uptick in M&A activity.

At the beginning of 2022, Sweden-based operator Nobina was acquired by Basalt Infrastructure Partners; in June 2022 the formerly UK-listed bus operator Stagecoach Group was acquired by infrastructure investment manager DWS Infrastructure; that was shortly after Go-Ahead – a large UK bus and train operator – accepted a bid by a consortium made up of Australian operator Kinetic and Spanish infrastructure manager Globalvia. In addition, a number of the country operations of Arriva – such as in Sweden, Denmark, and Portugal – have also changed hands over this period.

This investment interest reflects the new opportunities investors (and rival operators) can see across European markets and we believe there are likely to be more deals.

Competitive constraints

While the business model starts to shift and the conditions relating to revenue risk are generally improved, competition for the contracts tendered by transport authorities will remain high. Furthermore, transport authorities will continue to be demanding, in particular around quality and service – Quality Incentive Contracts (QICs) are well established as a key feature of the Transport for London (TfL) contract model, something likely to be increasingly seen elsewhere.

Therefore, growth plans, capital investment, operating performance, operating models, and digital strategies all must be addressed to drive value for (new) owners.

  • Commercial Management – operators will need to be more discerning, not bidding at any cost, for the sake of market entry or market share, but rather based on having a robust commercial approach to bidding for a contract.
  • Operating efficiency – with the ability to drive value on individual contracts increasingly limited to cost and quality, operating efficiency will require greater focus.
  • Capital investment – the move to ZEVs changes the profile of future investments for public transport operators and transport authorities alike. Coupled with budgetary constraints, new financing models are likely to be seen in the future.
  • Operating models – renewed, more focused strategies (e.g., geography, mode, business model) and the inevitable change in capabilities required for ZEVs, will require new operating models to be considered.
  • Digital strategies – many operators will need to review their digital capabilities, to differentiate them commercially to support the efficiencies they seek and support the investment in new vehicle technologies, while often dealing with complex legacy IT estates.

Immediate focus on efficiency

This is a sector where some operational and business practices have stood still relative to other industries, so major improvements stand to be made and should be of immediate concern to the new owners of these transport assets, as well as the existing players having to compete with them.

Indeed, while the industry model continues to evolve, many core operational issues need to be addressed:

  • While rail-focused industrial action has hit the headlines in the UK, a broader (bus) driver shortage is affecting operators across Europe, increasing the focus on driver costs and related action required, from driver scheduling and allocation through to recruitment and retention.

  • With fuel costs still high, consumption and sourcing need to be well managed, hedging to minimise price risk and leveraging telematics and training for more efficient driving behaviour. Driver training can also reduce vehicle wear and tear and the risk of safety incidents.

  • Similarly, engineering improvements can be made through cross-site consistency in practices, while scrutiny of reactive vs preventative maintenance can reduce downtime and improve fleet utilisation.

  • Other opportunities for service and operational improvement, cost management, and profit growth include single IT estate strategies and bus procurement processes fit for ZEV investment, particularly factoring in Total Lifetime Cost of Ownership with battery electric vehicles in bus fleets.

While the ownership models of depots and garages vary from market to market, the property estate can be a further potential source of value – size and location need to be reassessed against the changing requirement of the operations.

As the public and politicians alike turn to public transport with renewed interest, the investment opportunities have opened up, with contract models offering healthier revenue dynamics and positive passenger outlooks to capitalise on. However, the shift to ZEV, funding constraints, and moribund operating models still mean that operational challenges – and opportunities – will need to be tackled head-on to fully realise the potential returns on offer.