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Infrastructure - Due Care and Attention

Cost - effective infrastructure development is a keystone of sustainable growth

The demand for aviation connectivity is clear. In 2012, traffic grew 5.3%, in line with the historical average of 5% per annum. Airlines have responded to this by buying new aircraft—34,000 are on order according to Boeing worth $4.5 trillion. But capacity on the ground must match capacity in the air. While airport congestion is successfully managed by the World Slot Guidelines, the only viable long-term solution is additional capacity.

This doesn’t come cheap, of course, and aviation isn’t renowned for its deep pockets. Airlines operate on wafer-thin profit margins. In 2012, it was just 1.2%, which was higher than usual but pitifully low by any other standard.

Airports are hardly flush either. Airports Council International (ACI) reports some 70% of airports don’t make money. In Europe, as an example, the average Return on Capital Employed (ROCE) was just 4.3% in 2012. This is much better than the airlines but still below what is considered an acceptable return.

So what neither party needs is ill-considered and over-priced infrastructure development. The basic principles—consultation, transparency, cost-relatedness, paying for the investment only once it is used, and ensuring that all users pay their fair share for it—are more important then ever.

“Airlines and airports need to agree on what should be built and at what cost,” says Brian Pearce, IATA Chief Economist. “They would both benefit from providing customers with cost-effective infrastructure.”

Strong regulator

Deciding what should be built isn’t easy. Airports are challenged by the long-term nature of airport development, for example, while airlines are concerned that a monument to excess would bring higher charges. But the problem isn’t insurmountable.

“Since airline passenger and operation projections are inherently uncertain, the terminals require maximum flexibility,” says Mario Diaz, Director, Houston Airports. “That may be achieved by building for 10 years, designing for 15 years and planning for 25 years. It can be done in modular form or in phases with triggers that both the airport and airline agree would signal the need for additional capital investment.”

And although cost is an obvious concern for all parties, it shouldn’t be a deal-breaker either.
The ICAO principles are clear. Paying for additional infrastructure can’t involve pre-financing. From an airline or passenger point of view, pre-financing is totally unfair. Why should airline A or passenger B pay today for amenities that they may not use tomorrow? And even if an airline did want to carry on using new infrastructure another airline could decide to enter the market, benefiting from the development without having paid any pre-financing costs.

But pre-financing is not even necessary. Airports have good credit ratings that give them a number of financing options. “There has not been a better environment for borrowing capital at very attractive rates but the economics has to work for both the airlines and the owners’ capability to borrow,” says Diaz. “That’s a complex effort to balance all elements. Ultimately the cost per passenger is what determines the outcome.”

A private function

Privatization is an option to which many governments are turning to get critical infrastructure built, be it complete private ownership or a concession contract.

Lessons have been learned from the first wave of privatization, the most obvious of which is the need for effective, independent, and transparent regulation. London Heathrow is a case in point. The cost per passenger will have risen from $11.36 (£7.34) in 2004/5 to over $32.51 (£21) in 2013/14.

It has been recognized by the UK Civil Aviation Authority that Heathrow has significant market power and there are inefficiencies that need to be addressed. A new UK Civil Aviation Act strengthens the focus on the passenger but there is still scope for improvement with a challenging incentive regime. Tony Tyler, IATA Director General and CEO, notes that the latest proposal for a draft price cap 1.3% below the Retail Prices Index for 2014–2019 does not begin to address Heathrow’s cost problems seriously. “With such a weak price cap, we are missing an opportunity to do something meaningful,” he says. “Over the last decade, airlines continuously cut costs to survive, while the regulator allowed Heathrow charges to triple.”

Clearly, handing a monopoly to a private supplier is asking for trouble—especially if the regulator isn’t independent. One of the many problems at Delhi International Airport is that 46% of income goes to the government. The deals to privatize some of the Brazilian airports look equally questionable, with above-expected bids and the government being both regulator and part-owner of the facilities. In Asia-Pacific, government ownership of airports is the norm. But as governments often own the home airline too, infrastructure development is usually well planned.

Privatization is taking hold in some emerging economies, such as Vietnam, Cambodia, and the Philippines, where governments need extra capital for infrastructure development. “Our concern is that in many of these countries, regulatory oversight isn’t strong,” says Vinoop Goel, IATA Head of Infrastructure and Government Relations, Asia-Pacific. “Governments in the region generally understand the benefits of aviation, however. They just need to ensure they have the long-term strategy that takes into account the phenomenal growth in traffic in Asia-Pacific.”

Dedicated LCC terminals are also a growing trend in Asia-Pacific. It will be important that airport operators ensure that these terminals have the flexibility to handle full service carriers as well. Singapore’s Changi airport has decommissioned its LCC terminal and is developing a full-scale fourth terminal to cater to the needs of the wider industry.

The ultimate user

Airlines and airports must work together to solve these challenges. The benefits of aviation to a community can only be delivered and grow if the infrastructure keeps pace with demand.
Amsterdam Airport Schiphol consults with stakeholders in relation to the capital investment projects and investments are only reflected on airport charges once the project is finished and in use. And Hong Kong has engaged all stakeholders in its 2030 Master Plan and a third runway.

Pearce says the passenger and shipper are the ultimate users and beneficiaries of airport infrastructure. “It is therefore vital to provide the amenities and services they require,” he concludes. “It isn’t a straightforward task and we acknowledge the challenges of a massive capital project given the economic and environmental sensitivities. But infrastructure development must be cost-effective.”

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