Transport businesses cangenerate predictable cashflows due to the frequent, repeat nature of a commuter-based service combined with monopolised routes. This could be a boon for dividend investors. However, I worry that the franchise-bidding nature ofFirstgroup (LSE: FGP) and Stagecoach (LSE: SGC) leaves them vulnerable to sudden losses of business.
First Groupwas the biggest faller in the FTSE250 this morning, its shares losing 5.5% after a cloudy outlook overshadowed a 23% increase in profit last year.
The group, which carries around 2.2bn passengers a year, owns the world-famous Greyhoundbuses, the only national operator of scheduled intercity coach transportation services in the US and Canada.
The company also operates bus and train routes in the UK, commanding a fifth of the market outside London under the First Bus brand and operating the Great Western Railway, TransPennine Express and Hull Trains railway franchises.
The company has struggled to turn operations around for years now, but even a near-doubling of capital expenditure over the past few years has not done the trick. Profits still languish well below 2010 levels, so the markets reaction to yet more slow progress is unsurprising.
Cash generated from operations hit a five-year high at 520.4m, with strong free cashflow and the lack of dividend payment allowing the company to strengthen the balance sheet, with net debt reducing from 1,521m to 1,389m.
Theres certainly progress on view, but an investment in First Group could be risky. The company has a marred track record, an unclear outlook, significant debt and pays no dividend. Counterintuitively, the low oil price is bad for bus and rail operators, because while it reduces the utility bill, it also makes motoring a more attractive proposition to commuters, thus denting passenger numbers.
Furthermore, the attractive features of travel businesses, including those monopolies on certain routes and that predictable, repeat business, are undermined by the regular bidding wars held over certain franchises. Driverless cars could throw another spanner in the works, because I honestly have no idea how this will impact the industry over the coming years.
Given the long-term uncertainty and lack of exciting growth prospects, I feel the business does not warrant an investment at a PE of 16.5.
Stand and deliver?
Like First Group, UK number two travel group Stagecoach (LSE: ) has struggled over the last couple of years as low petrol costs have made the car a more affordable option again. Unlike First Group however, Stagecoach does deliver. It pays investors 5.7%, covered by free cashflow, to keep investors warm while they wait for capital appreciation. Whats more, the companys valuation is lower than its rival, at a PE of 12.3.
While First Groups sales are split fairly evenly between here and the US, Stagecoach derives the majority of revenues from the UK. Despite future potential like the lossmaking MegaBus Europe division possibly set tomove towards profitability in years to come after the disposal of the divisions retail arm, it has many of the same potential problems that affect its industry peer.
Im not madly keen on either business right now. Its true that over time, the UKs population looks likely to rise steadily and be a beneficial, if gradual, trend for transport companies. But I dont trust the stability of the franchised model enough to invest now. If I had to choose, Stagecoachs superior dividend, balance sheet and track record seem to represent the more attractive option, although Id prefer to fish in verydifferentwaters.
These companies aren’t going to help you retire early, buy that beach house overseas and achieve true financial independence. In fact, very few individual investments will. To succeed, you have to be right consistently over the years, and that requires a successful and repeatable process.