Airport investors forsake secondary airport transactions for larger deals that attract credit rating
Not so long ago airports were being acquired by the private sector from the public one or changing hands in secondary or tertiary transactions as frequently as new low-cost airlines were taking to the skies.
But now LCC start-ups are confined to Asia, airport transactions have pretty well dried up in the last six months or so, at least in the non-primary categories.
This short report briefly examines the reasons for this dearth of activity and at what type of transaction still remains popular and looks at some of the investors who have quit the sector and why. It is a precursor to a forthcoming CAPA report: “The intelligent investors’ guide to investing in airports”.
Investor dichotomy grows between the desirability of primary and non-primary airports
Even a cursory glance at present and future transaction data in CAPA's Global Airport Investors Database makes it immediately evident that large scale airport investment deals are still being made and planned for, while smaller secondary and tertiary level ones have bottomed out.
Broadly speaking the reason for this may be that large individual airport or airport group transactions at the type of facility rated by the credit rating agencies attract the new wave of investor such as investment, pension, hedge and sovereign wealth funds and venture capitalists. These are as guaranteed as they can be to provide a satisfactory return on investment as hub and spoke travel comes back into fashion, undertaken by powerful carriers that are more prepared to pay the going rate to ensure they can operate at those airports.
In contrast, secondary and tertiary level airports, particularly in Europe, are feeling the pinch. What goes around comes around and there is a suspicion, at least in the mature markets, that service levels attained by some of the airlines that operate at these airports are no longer considered acceptable to many customers. Hence, perhaps, Ryanair’s decision to move ‘up market’.
Moreover, these airports are caught between the activities of the full service and network carriers, which are typically more concerned right now with expanding their long-haul product, which is usually inappropriate to these airports; the low-cost carriers, which often demand and get very favourable charging rates, and which in many cases have ceased growing at secondary airports in favour of primary ones where there are more business passengers as they ‘hybridise’; and regional carriers who may be more concerned with survival than any sort of expansion.
In consequence, new route openings are shrinking in volume regularly. In 2010 in Europe there were 1141 net route openings (new routes minus existing routes closed) but only 251 in 2013.
Many smaller airports are loss making and smaller investors are less obvious
What’s more, 44% of Europe’s airports are loss making, and the industry’s average return on invested capital (ROIC) stands at 5% – well below the cost of capital with the average ROIC for the global airport industry only marginally better at 5.9%. Airports in the Euro zone even underperform the European average at just 3.9%.
Dozens of small European airports, which expanded rapidly with the advent of no-frills flying, face cutbacks or even closure as traditional airlines become more competitive and, to make things worse, regulators clamp down on state aid.
At a global level the picture is even worse, with 67% of the world’s airports operating at a net loss according to ACI, which says that globally about 80% of airports handling less than one million passengers per year have average net losses of 6%.
It isn’t all bad, there are some success stories, but these figures are hardly guaranteed to attract investors.
So the typical investor in this type of secondary level facility (surface transport operators, real estate developers, small construction companies, industrial groups and individual entrepreneurs) – who were much in evidence a decade ago – is much less likely to participate now.
Europe is dotted with examples of failed investments at this variety of airport:
- the Canadian Vantage Group’s exit from management and investment in three northern England airports;
- the transfer of Cardiff and Glasgow Prestwick airports to the public sector;
- the sale of Manston Airport in southeast England to Lothian Shelf 710 Ltd, a vehicle used by Ann Gloag, once a mover and shaker in the Stagecoach Group (a bus company) that operated Prestwick Airport – and its rapid subsequent closure; and
- the insolvency filing of Luebeck Airport in Germany, it having been taken over by an entrepreneur only 16 months previously; to name a few.
The story is different for primary airports, where interest remains high
But transactions have been and still are taking place in the primary airport sector. Early in 2014 the concession arrangements for two more Brazilian airports in Rio de Janeiro (Galeão) and Belo Horizonte (Tancredo Neves) were completed, the respective concessionaires winning the contracts after exceeding the minimum bid price by a combined 251%, bidding a combined BRL20.8 billion (USD8.5 billion).
It is interesting to note that the consortia were formed out of well established players like Changi Airports and Flughafen Zurich, in co-operation with relative newcomers such as Flughafen Munich and Brazil’s Odebrecht and CCR, the three operators being in the mix for their operational capabilities as much as their money.
No more Brazilian airport privatisations for now
But that particular opportunity has dried up for now as Brazilian President Dilma Rousseff has declared the privatisation process to be closed for the immediate future in favour of a period of consolidation at the five airports (plus the greenfield Natal Aluízio Alves International Airport) that have been privatised to date. This despite pressure from several interested parties to speed up the process rather than slow it down.
In any case President Rousseff must be wary of any more money being thrown at airports in the near future, irrespective of where it came from, having endured a year of protesters rioting over the infrastructure cost of hosting the World Cup. Elections are due in Oct-2014.
Greece: The 30 to 35-year concession arrangements for a host of regional, mainly island airports (21 in all) plus mainland ones such as Thessaloniki, remain on hold, the potential revenue to be earned having been estimated to be very low. So, for that matter, does the IPO on Athens Airport that has been ‘pending’ now for many years. The improving economic position in Greece, where tourism in particular is picking up rapidly, indicates that these transaction may be back on the agenda fairly soon, which in Greece’s case means one or two years.
These Greek privatisations are separate to a project on Crete, a EUR800 million greenfield airport that will be one of the biggest public investments in the country after the crisis and which is scheduled to be completed by 2019. It will be operated on a 35-year concession.
Turkey: Across the Aegean Sea there is plenty of private sector airport activity with one of the world’s largest airports to be built at Istanbul by a consortium of Turkish construction firms and financiers which made the winning EUR26.14 billion bid (including VAT) to construct and operate a third airport in Istanbul. Turkey expects the airport will become one of the world's largest by passenger numbers, built in an area of 80 million square meters, with six runways and 1.5 million square metres of terminal and auxiliary plants.
Meanwhile the private sector firms that operate the existing Istanbul airports – Ataturk and Sabiha Gocken – either have made investments or intend to, in order to compete with the giant new facility when it is completed in 2018.
Investors now have few opportunities in the US
Following the collapse of the second attempt to privatise Chicago Midway Airport in 2013, four years after the previous attempt, observers could be forgiven for thinking that the entire airport privatisation ‘movement’ in the US has finally run out of steam.
Since 1996 there have been just two privatisations under the Pilot Programme that was introduced in that year, despite the number of ‘slots’ having risen from six to 10. One of them, New York State’s Stewart International Airport at Newburgh, was returned to the public sector after a valiant but ultimately unsuccessful attempt by a US division of the British bus company National Express to increase passenger numbers, just seven years into a 99-year lease.
The other one, the Luis Munoz Marin Airport at San Juan, Puerto Rico, was leased to Aerostar Holdings (Highstar Capital and Mexico’s ASUR) in Feb-2013 on a 40-year lease for an up-front payment of USD615 million together with a commitment to invest USD1.4 billion in the airport over the term of the lease. It is too early yet to assess the value of that deal.
There is only one Pilot Programme project still pending, a small airfield in Florida called Airglades Airport although a new terminal at New York’s LaGuardia airport will be built and operated by the private sector, a departure from the usual procedure by which airlines build and operate them (itself a method of ‘privatisation’ of course). Five years ago CAPA was aware of at least 15 airports that had investigated the mechanism of privatisation through the FAA and Transportation Department, of which many were seriously contemplating going ahead.
The reasons why the concept of privatisation of public transport utilities in general is so unwelcome in much of the US are well documented.
Despite the huge trough in public sector coffers since 2008 and the enormous bill for urgent essential airport infrastructure work (over USD70 billion) that was supposed to drive it forward, the fact that nearly all US airports of any size receive federal (FAA) grants, with conditions attached, basically precludes privatisation.
Also, a major disadvantage of leasing an airport under the present rules is the unequal tax treatment of airport revenue bonds. As of now, a privatised airport can issue only taxable revenue bonds, compared with tax-exempt revenue bonds routinely issued by government-owned airports. Then there is the discouragement of the diversion of airport revenues to private entities.
But these reasons preclude another important one that has arisen since the notion of airport privatisation became popular in the US in the mid 2000s; namely that the arrival of a privatisation movement rapidly concentrated too many public sector management minds on the loss of what had become their fiefdom to unknown outsiders; and more likely than not foreigners.
The US can be a surprisingly insular place. While the cancellation of the Midway privatisation, probably for ever, was attributed to only one bidder remaining after a series of pull-outs, one must wonder just how much the City of Chicago really wanted it, the new Mayor having expressed his distaste for it during the election campaign and a very tough Request for Proposals having been issued.
So we are left with the prospect of US investors now being far more likely to look abroad than at home for what opportunities there are, as witnessed for example by Alinda Partners investment into Heathrow Airport Holdings, CalPERS (California state pension scheme) investment into London Gatwick Airport and HAS-ADC, which describes itself as “The Only US-Based Global Airport Operator Platform”. But the sum total of projects these US investors will be attracted to is small and, in some cases, too risky.
Deals are still pending in Asia Pacific, India and Spain
Asia Pacific deals are concentrated in Japan, Indonesia and The Philippines
Japan: In Japan a sort of privatisation fever set in, following the moves to privatise the Osaka airports. In Oct-2013 the New Kansai International Airport Co (NKIAC) acquired a 67.7% stake in Osaka International Airport Terminal Co Ltd, with a view to completing the concession in FY2014. It is the first concession of its kind in Japan, with bids expected from major trading houses, leading real estate companies, megabanks and other businesses. Spain’s Ferrovial, which is still very much in the business despite running down its interests in Heathrow Airport Holdings, is one airport operator to have taken a close look.
Other Japanese airports where a privatisation process has started or been discussed (out of over 90 mostly loss making ones that are slated) include Sendai Airport (to commence Mar-2016).
Over 20 business firms and groups have already made inquiries to the appropriate ministry, the MLITT, on the privatisation process, encouraged no doubt by the Japanese Prime Minister’s statement that he plans to triple to JPY12 trillion (USD123 billion) the use of public-private partnerships to fund airports, waterworks, highways and other projects in the next 10 years.
So there is no lack of interest in Japan, at least.
The same applies to Indonesia, Vietnam and The Philippines, in all of which places there are more airport investment opportunities for both domestic and foreign firms than there are in China despite the huge construction projects in that country. China has not been buzzing with private investor activity in its airport sector in recent years, even though it has attracted some big hitters in the past. There is a great deal of airport construction still but the government is more involved now in both the building and the financing than it was when the likes of Fraport, Copenhagen Airports, Vinci, Aeroports de Paris and BAA had a piece of the action in the 1990s and 2000s. The main exception is the new airport at Daxing where private investment will probably be needed to bolster government and Beijing Capital Airport funding streams.
Indonesia: The government admitted in Nov-2013 that it requires the support of foreign investors to create a competitive environment and improve services offered by the nation's transport infrastructure – particularly airports – through public-private partnerships. Recently, the rate of investment in the transport sector generally has been very low. Foreign investors will be allowed to operate airports and airport services fully through a public-private partnership and there was a proposal to increase the ceiling for foreign tourism investment to 70% from 49%.
In this instance there will be opportunities to invest in smaller regional airports rather than in existing or envisaged facilities in Jakarta.
The reality of the situation though is that for many western operators/investors Indonesia is still firmly outside their comfort zone and investment is far more likely to come from Indian or South Korean companies or home-grown investment firms.
Vietnam: The government may follow Indonesia’s example. The Director General of the CAA has proposed privatising Airports Corporation of Vietnam and opening up the country’s airports to international investment. Under the proposal, airports categorised as having significant international traffic or an important role in national security would continue to be primarily funded and managed by the government, while other airports would be opened to foreign investment and management.
The DG seeks “international investors with modern technology, experienced administrative management, and strong financial muscles." That is all well and good but those investors are more likely to be attracted to such a package if at least one of the big airports is included in it.
The Philippines: Here there is at least one cohesive project that both domestic and foreign investors have latched on to, namely the USD400 million PPP deal to expand and operate Macatan-Cebu International Airport. Seven prequalified groups submitted final bids.
The consortia include established players such Incheon Airport, Malaysia Airports, Zurich Airport and GMR Infrastructure (the eventual winner along with local company Megawide Construction) as well as a raft of newcomers.
Indian airport privatisations have been tainted by previous experience and another lengthy delay
In India, the next stage in the privatisation of airports is wending its weary path in much the same way as the process to privatise Delhi and Mumbai airports did in 2006. Six airports were initially nominated for privatisation in Sep-2013 – Chennai, Kolkata, Lucknow, Guwahati, Jaipur and Ahmedabad – and the longer term plan is to privatise 15 airports. But the deadline for submissions in response to the Request for Qualification was repeatedly postponed.
Eventually, the Airports Authority of India announced that the process had been deferred until after the general election in May-2014, leaving the matter for the new government to take up. The delays were due to a lack of preparedness with respect to the concession agreement and the revenue sharing and tariff structure framework. Unions have also raised objections to the privatisation plans and have threatened industrial action.
There is slightly better news concerning the greenfield Navi (New) Mumbai airport site with RFQ documents issued in Feb-2014 after a delay of several years. Although a Request for Proposal document is not expected to be sent to short-listed parties until at least Sep-2014. The airport will be constructed as a PPP between the Government of Maharashtra, the AAI and private sector partners that will hold 74% of the equity. It appears to be an attractive proposition for foreign investors in India’s leading commercial city and big hitters such as Flughafen Zurich are believed to have expressed interest, amongst 20 parties that have pre-registered.
However the project continues to face a number of challenges. These relate to land acquisition, the need for complex preparatory earthworks at the proposed site and the absence of convenient surface connectivity between Greater Mumbai (home to the majority of the residents in the Mumbai Metropolitan Region) and the airport. Cost estimates continue to be revised upwards – they have already quadrupled to over USD2.3 billion – as the complexities of the project become more apparent.
Another issue for interested bidders is that the private operator of the current airport, Mumbai International Airport Limited (MIAL) has first right of refusal on the project. In the event that MIAL's bid is within 10% of the highest offer it has the option to match it and to be awarded the project.
This may be quite a disincentive especially when bidders look back at the 2006 privatisation procedure at which time some bidders felt that the ‘goalposts were shifted’ late in the day.
Earlier this year India’s then Civil Aviation Minister, Ajit Singh said the Indian airports sector is expected to attract investments worth USD12.1 billion during the 12th Plan period (2012-17), including USD9.3 billion from the private sector for construction of new airports, expansion and modernisation of existing airports and development of low-cost airports. While noting that Indian air traffic density is low compared to other countries, Mr Singh said that as many as 236 million domestic passengers will be handled by Indian airports by 2020 along with 85 million international passengers.
Those are impressive figures but foreign investors in particular with the operational experience to handle change management and to build up business at a new range of low-cost airports (no longer the easiest of tasks) look to the degree of co-operation they will receive from governments and the level of bureaucracy they are likely to encounter as well as just totting up the (gu)estimated numbers.
Similarly, Fraport tried to sell its 10% minority stake in Delhi International Airport several years ago, claiming that there is little influence that can be brought to bear with such a small equity stake. Fraport has said it wants to invest further in India but it closed a marketing office there because of “lack of prospects”.
It will be interesting to see the type and calibre of foreign investor that commits to these privatisation and PPP projects.
AENA’s privatisation going ahead at last – but less enticing now to investors than it was before?
The previous concession-led (Madrid and Barcelona) privatisation fell apart late in 2011 in anticipation of a change of government following a general election. But AENA was still ‘corporatised’ in that year, enabling some form of privatisation to take place at a later date. The need to raise funds remains in a country that still has a huge deficit despite positive export figures, while there is intense and ever-increasing competition to domestic flights from a comprehensive high-speed rail network that has decimated air traffic on routes such as Madrid-Barcelona and Madrid-Malaga.
After much vacillation, political lobbying, industrial action and hand-wringing, AENA's partial privatisation was approved by Spain's Council of Ministers in Jun-2014, with the government set to retain a 51% stake in the operator and the State will continue to hold a majority on the board of directors of AENA Aeropuertos.
The remaining 49% of the capital will be structured between 28% traded on the stock exchange through a public offering, and 21% will be put to tender to ensure a stable core of compatible shareholders that will be selected through a public procedure. The government ideally wants up to six investors (or consortia) each with a portion of the 21% allocated to them, and investors rather than operators.
But that proportion has shrunk, from a figure of 30% that was suggested by a Competition Commission document that was published in 2013. So, a smaller piece of the cake for serious investors/operators, with the government retaining the lion’s share (presumably with a veto on projects or management initiatives it doesn’t care for) and the balance of the equity going to institutional investors and the public, who often have eyes only for a killing. That is not an enticing prospect either.
At least AENA is profitable now, having recorded a net profit of EUR308 million in 2013, against a EUR68.9 million loss in 2012.
The process is expected to take place in 3Q2014 and 4Q2014 and will be the largest privatisation project seen in Spain in over a decade, with AENA's valuation potential reaching EUR16 billion, assuming it is priced at a (conservative in the light of recent experience) ten times EBITDA. The government could raise as much as EUR2.2 billion through the privatisation.
The selection of private investors for AENA will take place in Sep-2014 and a public listing is planned in Nov-2014. The decision for AENA to remain under majority state control was made to minimise opposition to privatisation among unions, members of the government and regional tub-thumpers, all of which have hitherto been extremely vociferous, and thus potentially speeding up the process. But these protesters will not easily be diverted away. The unions fear privatisation will lead to higher airport charges, cuts in unprofitable routes and reduced service quality while regional governments and commercial concerns in the Balearic and Canary Islands in particular demand autonomous operation of their airports. There is a lingering desire in the Catalunya region for something similar at Barcelona and Andalusia sees no benefit to the region from the privatisation.
AENA’s president José Manuel Vargas has explained why the time is now ‘right’ for privatisation as "the market situation is not the same today as it was two and a half years ago. Now there is strong demand for infrastructure and also financial products and investment in infrastructure. Debt is not a problem right now in AENA's accounts to the extent that EBITDA is high and the outlook is positive."
However, while AENA has reduced its debt-to-earnings ratio by about half over the past five years, it still exceeds EUR10 billion. To Mr Vargas that means, “It is not possible, given the company’s financial structure and commitments to creditors, to split or break up the Spanish network of airports…it would immediately require paying back the funds used to build the airports.”
It is debatable whether the ‘strong demand for infrastructure’ he mentions should really include the airport sector as many investors have chosen to look elsewhere in the last three or four years. There must be something to his argument however for even Ryanair (one of around 25 airline investors in airports according to the CAPA Global Airport Investors Database) has said it is considering acquiring a stake in AENA.
Indeed, Ryanair thinks the government should sell out 100% of AENA, but then again it would, so it could lower what it charges itself at its Madrid hub to zero. Ryanair has a history of getting involved in these matters, notably so when London Stansted Airport was being prepared for sale, and these statements cannot be taken too seriously.
So, in many ways the AENA privatisation has come to epitomise the dilemmas facing airport investors nowadays. AENA has some airports that any serious investor would covet, especially Barcelona, and also Madrid if it continues to haul itself back up off the floor after the airlines charges debacle of two years ago and assuming Iberia reinstates some of the lost Latin American services or Air Europa picks up more of them with new airlines such as Norwegian helping push up passenger figures at its latest hub.
Also the main coastal airports such as Alicante and Malaga, and of course Palma de Mallorca, AENA’s third busiest airport. But AENA also carries a lot of dead wood, some of which are airports that could arguably be closed down. Ironically, one of them could well be Mahon Airport on Menorca, a neighbouring Balearic island to Mallorca, which made a EUR10 million loss in 2013.
They will not go down without a fight from local communities though, and as Mr Vargas says, they cannot simply be hived off to whoever is prepared to take a chance on them (assuming there is anyone). And then the investors’ share of the equity is perhaps unworkably insignificant when split between consortia members.
Could AENA become an investor again?
Ironically, a newly privatised AENA could itself become an investor again. There is speculation that AENA (Aeropuertos) Internacional, which already operates widely across Central and South America and the UK could seek to acquire more airports in the Americas and Europe in what AENA considers to be its ‘natural markets’ once AENA’s privatisation is complete.
The theory is that the sale of a minority stake in AENA should transform it into a “global company” by providing a currency for overseas acquisitions – in the form of shares.
AENA has been here before and was a major player in the 1990s, long before many of its contemporary rivals. But is it not more likely that its new private sector owners will want to see its own problems put well and truly behind it first but speculating on obscure airports on other continents?
In conclusion it can be seen that there is still investment activity in primary airports even if conditions are changing for the worse in too many instances for investors. But as mentioned previously that is not really the case in the secondary/tertiary market where some airports have had the ‘for sale’ sign hanging outside for longer than a run-down colonial townhouse occupied by drug dealers and vagrants in inner city Detroit.
There are some examples of this variety of facility that do have genuine value and which can possibly be sold quite easily, including the Southampton, Glasgow and Aberdeen airports in the UK (Glasgow could have a case for being described as primary even if it is quickly becoming subservient to nearby Edinburgh Airport). These airports may be sold this year by Heathrow Airport Holdings but it helps when the leading bidder is Ferrovial, a 25% shareholder in HAH and which presumably is quite conversant with their pros and cons.
The next part of this report contains a listing of some of the individual secondary airports in CAPA's Database that are currently for sale/lease/concession or where deals have been completed, during 2014.
- The bigger transactions are still around but they have shrunk both in number and in size & scope
- Smaller transactions have dried up badly for many reasons
- Airport privatisation in the US may have reached its conclusion
- Asia remains a hot-spot but for western investors in particular parts of the region are still considered to be too risky
- The delayed AENA privatisation has come to epitomise the uncertainty that remains in the business in large parts of Europe
- Funding remains hard to come by as it is, but even worse is the fact that so many of the world’s airports are unprofitable, creating a negative impression of a moribund industry sector