Economic Regulation - IATA

DEFINING AND VALUING
AN APPROPRIATE ASSET BASE
Another crucial influence on regulatory decisions and
outcomes is the scope adopted in defining and valuing a
regulatory asset base (RAB) on which an allowable return
is calculated. In accounting terms, the RAB represents
the capital investment in the business, for which a return
is required, and its depreciation represents the use of
capital over its life-cycle.
There are several different approaches to calculating
a RAB. However, each approach must ensure that the
RAB represents a true reflection of the capital invested
by the airport or ANSP operator and the risk that it takes.
It should not allow airports or ANSPs to exploit their
monopoly power by artificially inflating asset values in
order to increase their total returns.
For example, the standard approach adopted for utility
industries (including airports) in the UK and Ireland is
to calculate the RAB in accordance with the value that
investors initially placed in the company at the time of
privatisation, based on its enterprise (debt plus equity)
value.
If the assets were undervalued at the time of privatisation
it can result in a gain to the company (e.g. in terms of
a subsequent uplift in equity market capitalisation) but
not one that customers should be forced to pay for
through higher charges on a revalued asset base. The
RAB is changed for each regulatory control period on the
basis of incurred capital expenditure, depreciation and
expected inflation.
BOX 3: LAND REVALUATION
i) New Zealand:
Auckland International Airport Limited (AIAL) revalued its
own asset base in July 2006, increasing the valuation
by NZ$1.4 billion, or 123%. This asset revaluation led
to a corresponding increase in the “property, plant
and equipment revaluation reserve” included under
Shareholder Equity on the AIAL balance sheet, reducing
its gearing ratio from 66% to 33%.
The higher asset base and lower gearing ratio (that
increases the weighted cost of capital through a higher
equity share) are likely to be used as justification for
higher user charges. If these artificially higher values
were applied, airline charges could be expected to
increase by NZ$35-40 million (over 50%), despite using
the same assets and with no change in efficiency or
service quality.
AIAL is currently subject to light-handed regulation,
despite having previously been found by the NZ
Commerce Commission to have exploited its market
power. In the absence of formal regulation, the freehold
held by AIAL allows them to make the change through
accounting practice, with no protection against the
exploitation of market power over airline users unless
(and very unlikely in the current climate) the government
enacted new legislation to stop the revaluation.
ii) Australia:
Several of the price monitored Australian airports
attempted to raise their land values in keeping with
increases in land prices in surrounding areas, and to
reflect those higher values in higher aeronautical charges
from 2007 onwards.
The Australian Productivity Commission’s October 2006
Draft Report on its review of airports accepts that land
revaluations can represent unearned windfall gains
to airports but, due to it previously not having a stated
view, proposes that “revaluations made by airports up
to 30 June 2005…should be allowed to stand, but any
subsequent revaluations should be excluded.”
While IATA fully supports the PC’s stance that land
revaluations should not be used to justify increases in
airport charges, it does not see any justification for future
increases in charges that can be based on revaluations
made before 30 June 2005 (the last revaluation in the
Regulatory accounts). Land revaluations represent
unearned windfall gains. Its valuation should reflect the
value at the time of privatisation and while the land is
owned by government and/or restricted to an airport use
only there can be no land revaluations.
AIAL’s Earnings Before Interest and Taxation (EBIT)
margin was 66% in its fiscal year 2006, by far the highest
EBIT level among the top 50 airports in the world.