The UK Competition Commission (CC) will likely recommend that BAA Ltd., the commercial owner-operator of London’s three primary airports, be forced to sell at least two of them. The CC signals this strong leaning in its “emerging thinking” document published on April 22. The CC is in the middle of an investigation of whether BAA’s ownership of seven UK airports, including the three largest in the London area and the two largest in Scotland, creates adverse effects on competition. It took up the investigation in spring 2007 based on a referral from the Office of Fair Trading.
First, some background: several British airports were once run by the British Airports Authority. In 1986, as part of the Thatcher government’s privatization program, the agency was spun off as BAA plc (today BAA Ltd.) The government held a “golden share” in the firm until 2003, when the European Union ruled against it; in 2006, BAA was bought by Ferrovial Group, a major European airport infrastructure business. BAA both owns and operates seven British airports: Heathrow, Gatwick, and Stansted near London; Southampton; and Edinburgh, Aberdeen, and Glasgow in Scotland. It’s gotten in trouble lately for a failure to keep up with demand at Heathrow, with needed new terminals and runways decades from completion. BAA was further wounded by the Terminal 5 opening debacle at Heathrow, and it has been slowly bleeding customers–airlines and passengers–to much more up-to-date, larger, and expansible airports on the European continent. BAA’s finances are complicated by the fact that its landing fees are capped by regulation, which is why BAA invests so much in retail and other profitable commercial activity, as you’ll see if you ever wander around a BAA terminal.
BAA’s four airports in the southeast of England (especially Heathrow, Gatwick, and Stansted) account for 91 percent of traffic. In its document, the CC considers the extent to which common ownership affects competition, including its affect on responsiveness to customers, infrastructure investment, substitutability of demand, regulation, and capacity constraints and development.
What follows are the highlights from the CC’s 170-page report, with special reference to the London airports:
The users of BAA’s airports routinely report unfavorable experiences. “We have observed a powerful and consistent body of opinion that BAA does not adequately consult with its customers, and that at all three London area airports there is a lack of responsiveness to customers.” Many airlines say they are not sufficiently consulted about major projects, leading to situations like that at Heathrow today, in which BA enjoys a showcase terminal (5) paid for by landing fees from all airlines, whereas the Star Alliance remains assigned to the overcrowded and aging facilities around the main Heathrow terminal complex. “All airlines pay the same airport charges irrespective of the facilities used; the consequence is that the non-BA airlines have effectively contributed to the construction of T5 without the benefit of the more modern facilities.” BAA is currently beginning work on a replacement for the older terminals, but (as I will discuss more below) its institutional shortcomings will delay that process markedly.
The CC also notes that BAA has, in general, led its London airports to the bottom of rankings for airport quality.
One of the reasons for privatizing BAA was to ensure that there would be a sufficient financial resources for investment in major airport infrastructure projects: new runways and new terminals. But BAA has done this poorly. One reason, suggests the CC, is that it is institutionally capable of handling only one major project at a time, so when a terminal is built at Gatwick, Stansted and Heathrow have to wait. Separate owners would not face dueling internal pressures:
There has also been a tendency to undertake major development sequentially; thus, first the Gatwick North terminal; then the new terminal at Stansted; and only then the T5 development at Heathrow. The airlines told us that BAA was able to manage only one major development project at a time across its three London airports.
The common ownership of the London airports has also made BAA less aggressive at pursuing service for its airports, which separate owners would likely do as they competed among themselves.
The problem facing the CC is not that Heathrow or Stansted have failed to make needed improvements. BAA is a private company with no fiduciary duties to stockholders, and its failure to invest in any one of its airports should be of no concern to the government beyond academic inquiries. The problem is that BAA has inadequately invested in three London-area airports which handle virtually all traffic in the region. If it owned only one and had failed to invest while competitors had, BAA would have seen traffic migration and been compelled to invest. Since it owns all three, its failure to make needed investments adversely affects competition.
Heathrow’s preeminence as an international hub makes it hard to assess substitutability of demand, but the CC is able to conclude that much of the demand for air travel services, especially by leisure passengers and low-cost carriers, is substitutable between the major London airports — if there is competition.
Our current view is that there should be significant potential for competition between BAA’s south-east airports, including potential competition from Heathrow and Gatwick to Southampton. However, before we can form an overall view of how realistic this is in practice, we need to consider whether there are any constraints which might limit such competition or make it impractical. These might include the lack of spare capacity and possible other factors such as regulation.
Heathrow, Gatwick, and Stansted are operating at close to capacity, with Heathrow maxing out. But the CC argues that BAA has underestimated the extent to which capacity at these airports can be increased, even though it has beat expectations as it increased capacity over the past two decades. “The [BAA consultants’] analysis also appears to assume that there are binding constraints on all aspects of capacity at Heathrow and Gatwick. However, while the number of ATMs is tightly constrained, especially at Heathrow, it is far from obvious that the number of passengers is similarly constrained.”
Even so, the CC concludes that capacity constraints would limit the competition of separate ownership. But to what extent are capacity constraints attributable to BAA’s common ownership? Here the CC discusses the British planning process, a path long, complex, and fraught. Future estimates of airport capacity needs have been left to to the government. Its most recent statement of planning goals was the 2003 white paper on aviation, which recommended a third runway at Heathrow, a second at Stansted, and promised no new runway at Gatwick until 2019, per previous agreements.
BAA has been content to leave this to the government, but the CC is concerned that such a lackadaisical attitude toward the infrastructure development that BAA is supposed to pursue. “We have to consider, however, whether BAA has been insufficiently proactive in attempting to overcome planning restrictions, tending to await the outcome of Government policy rather than influence it, and also whether separate ownership could act as a greater stimulus to overcome planning restrictions to the benefit of users of the individual airports.” The CC compares BAA unfavorably to the owners of Amsterdam’s Schiphol Airport and Paris-Charles de Gaulle, both of which rolled over environmental and local planning challenges to build new runways in the 1990s and 2000s.
The CC does not absolve the government or the planning process of a role in the lack of capacity, but it does blame BAA nonetheless:
We are therefore minded to conclude that BAA’s actions throughout the 1990s exacerbated delays in the delivery of runway capacity in the South-East. Whilst the difficulties inherent in obtaining planning permission for such developments cannot be denied, particularly in the absence of specific statements of Government policy, they do not in themselves explain the reluctance of the company to press for more runway capacity.
The CC summarizes its view of BAA’s adverse effect on competition through capacity development thusly:
Common ownership, therefore, may well be a feature which prevents, restricts or distorts competition because of its effect on capacity development. Further, our current view is that there is scope for longer-term competition through separately-owned airports having greater incentive to expand and/or improve their existing capacity to meet demands of their users in order to attract traffic from other airports or to retain existing traffic. Separate ownership would also provide a greater stimulus to overcome development restrictions to the benefit of users of the individual airports.
A wild card in the CC’s assessment is government regulation — that is, the involvement of the government in setting maximum airport charges.
Some might say that only monopoly ownership can furnish BAA with sufficient resources to invest in long-term capacity increases at its airports. But the monopoly has proven the opposite. The CC has found thus far that BAA’s common ownership of the London airports generates several adverse affects on competition. Given its strong language in the emerging thinking document, the CC will likely recommend injecting a dose of competition into the London airport market.
Prepare for turbulence!
Photo credit: Flickr user James Cridland. Used through a Creative Commons license.