STAGECOACH can’t be accused of lacking finance talent at the very top of the business. The chairman, chief executive, finance director and deputy chairman at the bus and trains operator all come from an accounting background. So when Ross Paterson was appointed as the transport group’s new chief financial officer in May – former CFO Martin Griffiths having moved on to the chief executive role – he might have expected all manner of backseat driving advice from his peers.
After 14 years working across Stagecoach’s finance function before taking on the top finance job, Paterson says his first CFO role is “not that dramatic a change”, given his experience working across financial reporting, treasury, corporate finance and as the group’s company secretary.
“Over the last few years, Martin was the FD but was acting more and more as the deputy to the chief executive. I was able to pick up the conventional FD role,” Paterson tells Financial Director.
Although “there was never anything formal” to guarantee Griffiths would be the CEO and Paterson would be Stagecoach’s next FD, he admits that the business was always planning on having internal succession options.
“It is very much an evolution of responsibilities. We get the best of both worlds,” Paterson says.
Griffiths, like many CFOs, had morphed into a deputy CEO during his stint as FD. But Paterson doesn’t see himself immediately following his predecessor in this regard and will be focusing on the primary activities of being an FD.
The challenge, he explains, will be letting go of his previous responsibilities.
“Being in the company as long as I have means that you know it very well and I have a very strong finance team below me. One of the challenges for me is to trust them and support them to do some of the things I used to do,” Paterson says.
However, he need only look at his own relationship with Griffiths for an idea of how to let go.
“I have known Martin for 20 years and we have worked together for 13 years, so we know each other well enough that we can challenge each other,” he says. “One of the reasons I got to where I got is that he allowed me take on more responsibility and trust me with that.”
On the face of it, the team must be doing something right. Since 2009, operating profit has increased to £235.4m from £202.4m, while sales have grown by around £700m to £2.8bn in the same period.
Indeed, according to figures for the first quarter of its financial year, like-for-like sales at its regional UK bus operations grew by 4.5%, with UK rail revenues up 6.5% and the business’ Virgin Rail joint venture – recovering from the government tendering debacle that saw its west coast mainline route handed to rival FirstGroup, before eventually being returned to Virgin – also experienced a 5.8% spike in sales.
Paterson describes the foul-up as a “sorry tale” but insists that there should be a positive outcome down the track.
“A new franchise model has emerged where risk allocation is more sensible. Often out of turmoil comes opportunity,” he says.
Yet the business’ most lucrative opportunity appears to be in North America, where sales at its Megabus budget coach operation surged 21.8% in the first three months of the financial year. The division, the fastest growing in the business, was helped by its expansion into California and Texas.
Though Paterson claims “tempting Americans out of their cars” is a “tall order”, the business has been incredibly successful since it acquired Megabus from Coach America, which was in a Chapter 11 insolvency process at the time.
Indeed, the company has a reputation for effecting successful turnarounds of failing assets, having re-entered the London bus market in 2010 when it bought back its London bus business, which had fallen into administration under its former ownership.
“In 2006, I led the management of the sales process and sold it for £265m. Buying it back for £60m is a good headline,” Paterson says. Nevertheless, a lot of hard graft was required to get the business heading in the right direction, such as working with trade unions to make the business more efficient and winning contracts on appropriate financial terms.
“Spare capacity was pushing pricing down so that the unit labour costs were uncompetitive. We renegotiated the terms and conditions with the trade unions on productivity,” he says. “Managing industrial relations is one of the key aspects.”
Paterson anticipates that the business will shrink in revenue terms as it sheds unprofitable services, but says most of the turnaround is done. The next stage, as with Stagecoach’s other bus, rail and coach operations, is to grow organically.
“You can grow the business by pushing prices up but you will run out of customers. It’s not sustainable,” he says.
The foundation of the company’s success owes much to its decentralised pricing model, flexible cost base, top-quartile cash management and investment in its fleet.
According to Paterson, the business needs to be agile in how it reallocates assets. Most of the costs (70%) vary with mileage, and outside of London – where the business is deregulated – it can decide which routes to operate, what the timetables should be, which buses to use, and how much to charge.
“We have income statements for each individual route. The beauty of buses is that they are mobile so if a particular route is underperforming and we can’t see a plan to get the return we expect, we can redeploy them somewhere else. We can change frequency based on that route P&L account,” Paterson explains.
“We bought businesses in the past that didn’t’ know how much they make on each route. It’s one of the things we embed in the business.”
Stagecoach’s biggest expense is staff. The most volatile cost, however, is fuel. In order to fight that, Paterson says the business hedges its exposure by buying fuel directly from the oil companies and using derivatives.
“At the moment, it is all swaps. We hedge on the underlying product and the currencies of whichever business we are looking at. We don’t try to speculate on the oil price,” he says. “As our prices are typically changed once a year, our managers have 12 to 18 months’ visibility on fuel costs when making pricing decisions.”
By his own admission, Paterson has “little involvement” in the pricing of individual routes. The business runs on a decentralised management structure, which is part of its strength, though it maintains a centralised finance function.
“We run local transport businesses and we don’t think it makes any sense to sit in a head office and say what the right pricing and network are in Southampton,” Paterson says, adding that finance is “a bit of a hybrid”.
“We have local finance people within every division to get that input but we try to balance that with the economies of scale you get from sharing services. In the UK, we have a shared service centre that deals with accounts payable, accounts receivable, payroll and cash management.”
Where the business really stands out is in its working capital management processes and it was picked out by working capital consultants REL as a top-quartile performer within the road and rail sector. Paterson says cash should be put to work. There is little benefit, he says, in leaving it to gather dust on the balance sheet.
“If we feel the group has become under-leveraged and we don’t have an opportunity to reinvest that cash, we return it to shareholders,” he says. “There is a danger – if you hold too much cash – that it engenders a lazy approach to management because you know you’ve got a cushion.” However, he adds that the business retains enough to remain investment grade for the purposes of funding and winning government contracts.
According to REL, Stagecoach was able to cut its days sales outstanding – a measure of the average number of days that a company takes to collect revenue after a sale has been made – by 12% to 15 days. Not bad, considering lower-quartile performers take upwards of 60 days to collect their cash, while the median for the sector is 24 days.
“If you look at our operating cashflow, our conversion rate is 100%,” says Paterson. “There’s no magic to it other than a strong focus on cash and attention to detail.”
The bus and train operator has a central treasury function that monitors its cash balances on a daily basis and forecasts cashflow over the short term – the next couple of weeks – and longer term – a year or more – while Paterson is charged with monitoring any variances between what the business expected and what happened.
“It’s something I have to be quite focused on. If we ever have a review meeting or a budget meeting with one of our companies and spend the whole meeting talking about the P&L account while not mentioning cash, I will always make a point back in terms of their expectations about cash,” says Paterson.
He also places a lot of emphasis on investment in Stagecoach’s fleet. While the business can stop buying vehicles for a year or two, bringing down debt, maintenance costs will invariably go up as a result.
“It sounds obvious, but companies that invest more in fleet have earned more returns. It does have an impact on revenue. Passengers like newer vehicles,” he explains.
“Ultimately, return on capital is what matters. But a large proportion of a capital expenditure is replacing existing fleet to maintain the high margins we see. I don’t think it is a coincidence that we see the highest investment, lowest fares, highest customer satisfaction and highest margins.”
IN BLACK AND WHITE
2013 – present Group finance director, Stagecoach
2007 – 2013 Group director of finance and company secretary, Stagecoach
2004 – 2007 Group financial controller & company secretary, Stagecoach
2000 – 2004 Group financial controller, Stagecoach
1999 – 2000 Group financial reporting manager, Stagecoach
1996 – 1999 Arthur Andersen
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