FirstGroup says the performance of its huge yellow school bus business in North America is ‘disappointing’. Denis Gallagher, a major rival, agrees

One of FirstGroup’s main rivals in North America’s vast yellow school bus market has launched a stinging attack on the Aberdeen-based group’s performance. In an exclusive interview in this issue of Passenger Transport, Denis Gallagher, founder, chairman and CEO of 7,000-vehicle Student Transportation Inc, accuses FirstGroup of prioritising market share over service quality and sustainability. Instead of providing leadership for the sector, he says that 60,000-vehicle First Student subsidiary is “sinking”.

FirstGroup became the largest operator of yellow school buses in North America when it added market leader Laidlaw to its existing operations in 2007. This £1.9bn deal was supposed to unlock new synergies and opportunities for the combined 60,000-vehicle business. However, last month a FirstGroup profit warning revealed a “disappointing” performance at First Student, which accounts for around a quarter of the group’s £6.3bn annual turnover.

The business has come under pressure as its school board clients seek to reduce their costs. First Student’s operating profit margin is expected to fall to “around 8%” in the year to March 31, 2011. This compares to 12.6% in 2008/09.

But Gallagher believes that FirstGroup’s troubles are of its own making. He says that British groups FirstGroup and National Express – number one and two in North America’s yellow school bus market – have failed to understand the nature of a business in which he has worked for more than 30 years.

“They have viewed this as public transport,” he explains. “School buses are not public transport. It’s a different type of business.”

He says that Sir Moir Lockhead and Phil White, the former chief executives of FirstGroup and National Express, established their businesses by buying former public sector businesses and then acquiring a succession of similar companies. This “consolidation mentality” worked for them in Britain, but Gallagher believes it was misguided to transfer this model to yellow school buses in the US and Canada, where there are more than 4,000 competitors, many of which are very small “mom and pop” operations.

The 500,000-vehicle yellow school bus market in North America is very local business, often administered through individual contracts which may have individual terms. By applying the wrong model to the market Gallagher believes that First Student has failed to achieve the levels of synergies and growth that it had sought. The result, he says, is that the business is trapped in a cycle of decline: staff numbers are cut to reduce costs but this causes poorer service quality, and the resulting loss of income then requires further cost reduction.

At the same time Gallagher says First Student is taking on business at unsustainable rates to maintain its market share. He describes his rival’s business model as “full speed ahead – steady as she sinks”.

But Gallagher is not rubbing his hands together with glee at difficulties faced by his largest rival – he fears that the group’s poor performance is deterring more school boards from outsourcing their transport needs to private contractors. “The industry is looking for leadership, and it is not getting that from FirstGroup and National Express,” he says.

Unlike the UK, where public transport was privatised en masse, Gallagher says that the yellow school bus business in the US and Canada requires private sector operators to make the case for opening up the market – requiring skill, patience and a high quality of service. The outsourced market is opening up very slowly. It grew from 32% of the overall market in 2003 to 36% in 2008 – a 4% expansion over six years.

He questions their credentials as companies that can build a business organically. “Maggie Thatcher just gave them the business,” he says. “You have to prove yourself [in this market].”

Gallagher says that he dreams of what his company could achieve if the two biggest players in his market were FedEx and UPS, who he considers to be quality-driven companies, rather than FirstGroup and National Express.

However, Larry Plachno, editor of Illinois-based magazine National Bus Trader, is sceptical about the prospects for “conglomerates” like FirstGroup.

“Here in the US, bus operations tend to be more locally oriented,” he explains. “Many of the school bus operations started when the owner took his kids and their friends to school. Many of the charter coach companies survive because the owner attends the local Chamber of Commerce and Rotary Club meetings as well as a local church and hence knows everyone in his community.

“By comparison, he adds, “the national organisations typically have hired managers and less local involvement.”
Plachno believes that this puts conglomerates at a disadvantage now that school boards have less money to spend. He believes that smaller, more flexible operators are better positioned to benefit from this.

“Schools may well decide to contract with a local man who may have grown up in town and is available 24 hours a day, rather than the hired manager from the major conglomerate who is not a local guy and who works nine-to-five and then disappears,” he says.

‘We understand this market’

FirstGroup has strongly rebuffed criticism of its performance in North America’s yellow school bus market from Denis Gallagher, founder, chairman and CEO of rival operator Student Transportation Inc.

“We entered the school bus market in 1999 – nearly 12 years ago – so we do understand the ‘nature of the business’,” a spokesman for the group told Passenger Transport.

“In a presentation to analysts back in early 2000, we said “the total US school bus fleet is very large and highly fragmented … markets vary across the US and it is necessary to look at individual districts to understand opportunities. Each state is a
distinct market with unique factors.”

“We understood the dynamics of the school bus market in 2000 and we understand them now.”

Criticism of FirstGroup’s “consolidation mentality” was dismissed as hypocrisy. “It is worth noting that Student Transportation’s strategy is ABC (A = acquisition, B = bidding, and C = conversion),” the spokesman said. “If acquisitions are a key part of STI’s strategy then why is that wrong for FirstGroup and National Express?”

The spokesman denied that First Student is taking on business at “unsustainable rates to maintain its market share”, and claimed that the levels of synergies achieved have been higher than expected – $150m a year instead of the $70m expected at the time of the mammoth Laidlaw acquisition in February 2007.

“Finally,” he added, “we conduct an annual customer survey across North America. We’re just going through the most recent results but First Student’s scores are up … on every measure.”