Shares in National Express soared by almost 10 per cent yesterday after it rejected a bid approach from FirstGroup.

Combining two of Britain’s biggest transport operators would transform the industry, creating a bus, coach and rail group running almost half of London’s commuter lines and hundreds of local bus services and that would also have a sizeable presence in North America.

Richard Bowker, chief executive of National Express, said that it would be inappropriate to discuss a deal while his company was holding talks with the Department for Transport regarding the terms of its East Coast Main Line franchise, which operates trains between London and Edinburgh. The company is also trying to restructure its balance sheet, with the City expecting a £400 million rights issue.

National Express will update investors on both issues in a trading update tomorrow. Its shares closed up 27p at 302¾p yesterday. FirstGroup slipped 4¾p to 366p.

FirstGroup is best known for its First Great Western rail franchise that operates services between Paddington and the West Country, is understood to be considering whether to pursue a deal. Despite the rejection by National Express, FirstGroup said that it “continued to believe that there is significant industrial and commercial logic in a combination of the two companies”.

Martin Gilbert, chairman of FirstGroup, floated the proposal of an all-share deal in a letter to John Devaney, his counterpart at National Express, on June 19. It is thought that the letter contained little detail on the rationale for a merger.

Many observers doubt that a deal will materialise, given the issues surrounding the East Coast franchise, the levels of debt carried by both groups and potential competition concerns.

Despite suggestions that the Government had rejected initial approaches from National Express to renegotiate the terms of the East Cost franchise, it is understood that the group is still in talks with the Department for Transport.

National Express beat tough competition to win the route two years ago, promising to return £1.4 billion to the Government over eight years. However, the recession has left the group struggling to make money from the franchise. The health of the East Coast franchise is crucial; if it fails, its owner will be stripped of all its other routes.

FirstGroup’s management is believed to be confident that a solution to the franchise issue can be found and hopes the Government may even endorse a takeover of the route, thus removing one of the biggest uncertainties surrounding a potential deal.

Regardless of this, City analysts worried over how FirstGroup would cope with the extra debt that a deal would entail. FirstGroup already has £2.5 billion of borrowings and National Express is weighed down by £1.2 billion of debt.

Analysts said that the company would have to tap investors for up to £500 million should a deal materialise to pay down part of National Express’s borrowings.

Douglas McNeill, an analyst with Astaire Securities, said that the timing would not be ideal for FirstGroup, given its debt and its previously stated intention to focus on organic growth. However, Mr McNeill said: “On the other hand, opportunity knocks at a time of its own choosing and here’s an opportunity to expand significantly in both the UK and the US.”

Competition regulators would also be stirred by a combination of the two companies because it would control a huge number of significant commuter routes into London and a sizeable coach business, seen as an alternative to taking the train.

News of the FirstGroup approach will spark speculation of consolidation throughout the transport industry, with suggestions that National Express may seek a defensive merger with another British operator or one of a number of larger European groups considering expansion in the UK.

On the buses

National Express Employees: 43,000

Buses: Operates services in Birmingham and West Midlands

Coaches: Services more than 1,000 destinations in the UK, while its Eurolines division goes to 500 European destinations

Trains: Operates services between London King’s Cross and the North East and Scotland; Liverpool Street and East Anglia; c2c, the Essex commuter service from Fenchurch Street; and the Stansted Express

Overseas: Transports more than one million children to school daily on yellow buses in the United States and Canada; coach and bus services in Spain

FirstGroup Employees: 137,000

Buses: Britain’s largest bus operator, with 9,000 buses carrying three million passengers every day in 40 towns and cities

Rail: The UK’s largest rail operator carrying 285 million passengers a year on First Great Western, First ScotRail, First Capital Connect, as well as freight services

Overseas: Operates school and transit buses in North America; Greyhound inter-city buses transport more than 24 million passengers annually

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