Annual Report and Accounts 2008
Principal Risks and Uncertainties
The operation of a public company involves a series of risks and uncertainties across a range of strategic, commercial, operational and financial areas. National Express has a robust internal control and risk management process, as outlined in the Corporate Governance report, which is designed to provide assurance but which cannot avoid all risks. Outlined below are potential risks that could impact the Group's performance, causing actual results to vary from those experienced previously or described in forward looking statements within this document. These risks are monitored on an ongoing basis through the Group's risk management processes. Additional risks and uncertainties not identified may also have an adverse material effect on the Group.
Economic conditions
Whilst some of the Group's businesses have naturally defensive characteristics to the immediate economic environment (eg school bus), other parts are exposed and have significant gearing to changes in revenue (eg rail revenue has historically been correlated with GDP and employment and, given the high proportion of fixed costs in a rail franchise, deterioration in these can have a significant impact on profitability). Some of this risk can be mitigated through price sensitive revenue management systems, which adjust ticket pricing to maximise yield, and through active cost management;
Contract risk
Much of the Group's business is secured through new contracts, particularly in UK Rail, North America school bus and Spain. An inherent risk in contract bidding is that the bid assumptions prove to be undeliverable; for example, in UK Rail, if underlying economic growth proves to be lower than anticipated in the bid, passenger revenue is likely to be negatively impacted. The Group seeks to mitigate this risk by sharing revenue risk with the awarding body (for example, in rail revenue, risk is usually shared with the DfT after four years; in school bus, revenue risk is generally avoided as demand is fixed) and by careful economic modelling of new contracts;
Contract scale
Some contract-based businesses within the Group need to maintain a minimum number of contracts to retain their existing scale of operations. If that scale is not maintained, revenue and profitability could be impacted. The Group seeks to manage this risk by maintaining a competitive bid process and robust relationships with stakeholders;
Competition
Most of our businesses face competition with other modes of transport, such as cars and aircraft, and with other transport operators in the same mode of transport. The Group seeks to manage the risks of other modal competition through cost competitiveness (eg bus), service/reliability (eg rail) and lower carbon footprint (eg versus car). Transport markets remain intensely competitive and the Group seeks to offset risk of business loss through a combination of marketing, service quality and price;
Fuel costs
All of our businesses are exposed to fuel costs; primarily diesel for buses and coaches, and either gasoil or electricity for rail. Fuel prices are subject to significant volatility due to economic, political and climate circumstances. The Group cannot avoid this risk but seeks to reduce it through fuel hedging, which can reduce short term volatility and provide a known cost environment for our operations;
Political and regulatory changes
Some of our businesses are subject to significant regulation. Changes in political and regulatory environments can have significant impact on our public transport businesses. This risk is reduced by maintaining close relationships with key stakeholders and ensuring that the economic advantages of our businesses are fully understood and considered. For example, we have successfully delivered voluntary partnerships in UK Bus and are aiming to roll out further schemes within the framework of the new Local Transport Act.
Labour
Our businesses depend on delivering high quality, reliable services, cost efficiently. Service delivery therefore requires access to, and retention of, the right calibre of staff at an affordable cost (given that staff costs are the largest single cost component across the Group). This is managed through effective recruitment, training and retention strategies. For example, our North American business had its most successful start up to a school year in 2008, with sufficient drivers in place across the 16,500 bus fleet;
Operational incidents
Safety is at the heart of transporting passengers, yet the sheer number of vehicle movements creates a risk of safety incidents, potentially impacting the Group financially, reputationally and legally. Throughout the business, a strong safety culture prevails, led by the Board Safety and Environment Committee, which sets policy, reviews incidents, considers remedial actions and lessons learned. The transport sector is also exposed to a significant level of third party claims; given its scale, the Group 'self-insures' much of this risk, which can give rise to an adverse financial impact on settlement;
Organisational change
To reflect changing economic, market and technological conditions, significant organisational change initiatives occur from time to time. These can create uncertainty and increase risk of adverse operational and financial results. In 2008 this included UK integration, Spanish post-acquisition integration and North America Business Transformation. The Group seeks to mitigate these risks by structured programme and project management, including effective planning, quality assurance and external resourcing;
Business continuity
The Group is at risk of disruption from failure of network infrastructure availability (eg rail access), as well as unavailability of key systems/locations (eg to operate effective customer service systems). In some cases, the Group has protection - in compensation from infrastructure service providers - and also maintains operational continuity plans and insurance cover for larger losses;
Financial
The Group has committed financing in place but is dependent on maintaining sufficient EBITDA to support banking covenants, and, on access to funding markets when facilities approach maturity, failure to maintain which could force the Group to seek high cost debt funding, disposal of assets or further equity funding. The Group also operates a number of defined benefit pension schemes, the regulatory and funding environment for which could impact the Group, by requiring increases in future cash funding and restrictions on certain corporate activities (including disposals and return of equity capital). The Company has certain tax exposures, in addition to trading-related tax balances, totalling £41.4 million, which are provided for but which, in the event of an adverse finding by taxation authorities, could result in a substantial payment of cash.