Its trading position has been made worse by its parent firm, Sea Containers, staggering under a mountain of debt which it appears unable to pay.

According to industry sources, another UK train operator has made an opportunistic approach to Sea Containers to take over GNER.

The identity of the operator is not known but industry sources believe it is likely to be one of FirstGroup, Stagecoach, Virgin, or National Express.

Sea Containers will this week meet shareholders in New York in an attempt to draw up a new financial structure to avoid impending financial collapse.

Investors and the company will discuss options for GNER, which include a sale, cost-cutting, asking the government for a discount on GNER's franchise payments and handing back the franchise.

Sea Containers, headed by Bob MacKenzie, last week issued a bleak assessment of GNER's prospects. The operator has been hit by slower than expected passenger growth, electricity price rises and higher payments to Network Rail. Any remaining profits are expected to be wiped out by revenue lost to rival operators Grand Central and Hull Trains, and further energy price rises.

Sea Containers is looking at a range of options, including a trade sale. Previous reports have suggested private equity groups are interested in GNER because it is a cash generative business. But GNER may struggle to attract a price which would make a difference to Sea Containers's financial problems because of its declining profitability.

MacKenzie, who is also executive chairman of GNER, is understood to favour negotiating a reduction in the £1.3bn which the operator must pay to the Department for Transport over the next 10 years.

Officially the DfT, headed by transport secretary Douglas Alexander, will not renegotiate railway franchises.

But GNER could argue that the assumptions made in its franchise application have been seriously undermined by events such as last year's terrorist attacks on London, soaring fuel prices and the unexpected decision by the Office of the Rail Regulator to let rivals run trains on the east coast.

An industry source said: "There cannot be a re-negotiation, but there are many ways of skinning a cat and it is not beyond the DfT to think if a way that this can be done without breaking the rules."

If GNER cannot get the DfT to change the terms of its franchise, it may simply hand it back. That would incur a penalty of £15m, which could be less than the losses made by GNER over a few years.

Such a move could prove embarrassing for the government, as GNER rode a wave of political and celebrity support when it won the franchise last week. It was regarded as the UK's best quality rail franchise operator.

The source said: "If GNER hands back the franchise, the other potential operators will look at the £1.3bn which GNER offered, look at the open access issue, look at higher electricity costs and lower revenues and may offer just £700m. That would be a £600m loss for the government."

GNER may seek to raise fares, although on its routes to Scotland it competes with airlines which in many cases already offer lower fares. The company is also looking to cut costs, but admits that regulatory and safety requirements mean that any benefits are likely to be limited.

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Transport firm in crisis talks with creditors

The Sunday Times: August 13, 2006
Business, Dominic O'Connell

EXECUTIVES at Sea Containers, the embattled transport group, will begin talks with creditors in New York this week over a financial restructuring that may include a debt- for-equity swap.

More than 50 financial institutions, holding about $390m of Sea Containers bonds, have registered their interest in meeting Bob MacKenzie, the corporate doctor who stepped in as the company’s chief executive earlier this year.

Sea Containers set out its financial plight in detail on Friday, including a depressing assessment of its GNER subsidiary, the train operator that runs services between London and Scotland.

The company said revenue growth at GNER was running at only one-third the rate forecast when it signed an ambitious new 10-year franchise that should see it pay back substantial sums to the government.

Negotiations with the Department for Transport on the future of the franchise were under way, but “the timing and the outcome of these discussions are uncertain, as is the future value of the GNER franchise to Sea Containers”, the company said.

Sea Containers was founded in 1964 by transport tycoon James Sherwood, who left the company in March. In its heyday it was an eclectic mix of businesses, including such trophy assets as the Hotel Cipriani in Venice, the Orient Express train service, a half share in Harry’s Bar and the Hoverspeed fast ferry company.

It has since slimmed considerably — with the Orient Express hotel and train business spun off into a separate company — and is now struggling against a crippling debt burden. Uncertainty over its accounts has meant MacKenzie has delayed filing last year’s figures for several months.

The statement on Friday said Sea Containers had $42m in “free cash”, but $610m of outstanding debt. Its next big repayment comes on October 15, when it is due to pay back a $115m bond.

MacKenzie said there was an “anticipation” that it would not be able to meet the payment, or payments of bonds that fell due in successive years. This “puts a critical time pressure on the restructuring process”, he said.

MacKenzie is expected to meet a group of shareholders in New York before meeting the bondholders, who have set up an ad hoc committee to negotiate with the company. The committee will be advised by the restructuring specialist Houlihan Lokey and law firm Bingham McCutchen.

City sources said an obvious option for the company was a debt-for-equity swap, in which the bondholders exchange part of their debt for a stake in the business. But is not known whether shareholders, now principally American hedge funds, would entertain the idea.