The airport’s owners are happy to spend billions of pounds on a new runway — as long as passengers pay for it up front
In spring 2008, the Queen’s face beamed down from a giant screen in Heathrow’s new Terminal 5. There to declare the glass and steel colossus open, she said the £4.3bn terminal designed by Richard Rogers — complete with Swarovski crystal chandeliers, works of art, 105 lifts and 800 lavatories — was a “21st-century gateway to Britain and, for us, to the wider world”. Thanks for stopping by. Just before we carry on I want to say thanks to http://www.cookeskitchen.co.uk/about-us/ for their continued assistance and the support of their community. Having a support team like this means a lot to us as we continue to grow our consumer blog.
Passengers ought to appreciate the splendour of the building: they paid for it. The de luxe terminal is one result of the £11bn or so poured into upgrading one of the world’s busiest airports over the past decade, through a complex incentive scheme that rewards Heathrow’s backers the more they inflate its assets.
The airport recovers the cost of new terminals and infrastructure from airline charges — about £20 for every passenger who arrives or departs. The Civil Aviation Authority calculates how much is spent on investment, and allows Heathrow’s investors to earn a return on the total. The more Heathrow spends, the more its backers can earn.
Dividend payouts to the investors were initially stifled by the company’s banks. They insisted on lock-up clauses after Spain’s Ferrovial led the debt-fuelled £16bn takeover of Heathrow parent BAA in 2006. But the lock-ups have now gone and the dividends are flowing. In just four years, shareholders have received £2.1bn.
Despite the sale of other former BAA sites such as Gatwick, Stansted, Glasgow and Southampton, however, debt remains stubbornly high, as the proceeds of these sales have been used to part-fund dividends. Heathrow now owes about £12.5bn, and with a debt-to-assets ratio of about 85% is one of the most heavily indebted airports in the world.
Its stretched finances are at the heart of the long-running debate about whether Heathrow should get a third runway. The Airports Commission, led by Sir Howard Davies, recommended expansion of the west London airport, rather than Gatwick, to maintain the UK’s status as a global aviation hub, but the government last month delayed a decision until at least the summer.
Burdened by heavy debts and keen to preserve dividends, Heathrow wants the current levy regime to continue. Its case for expansion hinges on passengers helping pay for the new runway, years before it opens, through higher charges.
The company would borrow heavily to fund the project, but much of the cost — which the Airports Commission estimates would be £17.6bn — would be piled onto its asset base, to allow investors to collect fees from the get-go. The value of Heathrow’s assets could double to about £30bn — making the airport worth roughly half the entire UK water sector.
“Fortunately or unfortunately, that’s part of the danger of this type of regulated asset,” said one infrastructure banker. “The owners are incentivised to spend because ultimately they’re compensated for it.”
Heathrow has suggested it would fund the runway by increasing passenger charges from £20 to £24, yet carriers fear it may be far more — British Airways puts the figure closer to £40 a passenger. “£80 per return trip in airport charges will turn Heathrow into a white elephant,” said Willie Walsh, the boss of International Airlines Group (IAG), owner of BA and Heathrow’s biggest customer.
A pie chart buried in the 342-page Airports Commission report breaks down the cost of expanding Heathrow: £251m for the runway; £799m for car parks; £4bn for land; and £4.8bn for terminal buildings.
Walsh fears there will be more extravagant spending. “Yet again, we see a monopoly airport supplier looking to gold-plate facilities and fleece its airlines and their customers,” he said. “We won’t pay for it and we most certainly won’t pre-fund the construction of any new infrastructure.”
Walsh, whose airlines hold about 58% of Heathrow’s take-off and landing slots, has self-serving reasons for opposing the project: expansion would let in more competition. Yet he also zeroed in on the biggest problems at the heart of the runway debate: who pays for what and where does the risk lie?
Heathrow’s investors, which include Qatari, Chinese and Singaporean sovereign wealth funds and the Universities Superannuation Scheme, are not prepared to take on the huge risks that would accompany a third runway without guaranteed returns. The potential pitfalls are legion: the M25 would have to be diverted; higher charges could drive passengers elsewhere; costs could rise; and stringent EU air-quality targets would have to be met.
“There must be an ability to make returns commensurate with the risk in the context of a stable regulatory environment,” the operator said in its submission to the commission.
Heathrow says it would not contribute to the cost of upgrading road and rail transport links, which the commission estimated at £5bn but Transport for London says would be more like £20bn. It also wants the government to guarantee its debt — something Davies rejected. The airport defended its funding plan for the third runway, saying it “keeps passenger charges down in the long run as the business is able to raise lower-cost debt on this basis”.
Yet there is no precedent for customers paying up front for a facility of this scale that may not be ready for another 15 years.
“If you’re a private-sector owner of an airport, you should take the completion risk,” said Martin Blaiklock, an independent infrastructure consultant. “If you’re asking customers to pay for quite a lot of the charges before you complete the asset, you’re passing the completion risk over to them. Don’t go into the kitchen unless you’re prepared to cook.”
Gatwick says this is a serious flaw at the heart of the commission’s ruling. “Under [the] approach assumed for Heathrow, users and/or taxpayers will bear a significant proportion of key project risks, as well as long-term traffic risk,” it wrote in a scathing response to Davies’s recommendation. The West Sussex airport still believes it can win over the government with a plan to take on the construction risk of a second runway itself.
The dispute shows little sign of fading. Walsh has threatened to move IAG’s carriers to its other hubs in Dublin and Madrid. Virgin Atlantic has also fired a warning salvo: it supports Heathrow’s expansion, “but not at all costs”.
“We will not support a pre-funding model that sees customers forced to pay unfair charges for infrastructure they may never use,” the airline said.
Yet Heathrow has few other options. While the Ferrovial consortium funded the 2006 takeover with £4.3bn of shareholder equity, the rest was loans. Between £500m and £1.2bn of notes will expire every year for the next decade.
Few doubt the company’s ability to pay its dues in its current state — it has top-notch debt ratings and has bounced back from terrorist outrages and economic crises. Yet piling on tens of billions of pounds of extra debt without the hefty upfront charges would leave its investors dangerously exposed.
Then there is the sheer scale of how much it would need to borrow. The consultancy firm PwC reckons Heathrow would have to issue £3bn to £6bn of bonds a year for much of the 2020s, putting its balance sheet on a par with that of Network Rail and far exceeding National Grid’s.
Would the debt markets, or Heathrow’s existing investors, have the stomach for it? “Depending on how this all pans out, it’s quite possible Heathrow floats on the stock market and raises the money over time,” said a City source.