CONNECTIVITY AND GROWTH ISSUES AND CHALLENGES FOR AIRPORT INVESTMENT - PWC
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www.pwc.com/capitalprojectsandinfrastructure
Connectivity
and growth
Issues and
challenges for
airport investment
2015 edition
November 2015
What’s inside:
Planning for sustainable
aviation growth p 3
Airport transactions: Airport
privatisation elevates deal
activity to higher altitudes p6
Is GDP growth still a reliable
indicator for future air travel
demand? p11
Converting emerging market
growth into investment
opportunities p16
Air connectivity: Why it
matters and how to support
growth p20
Keeping airport projects on
course in a turbulent world
p29
Airport infrastructure in Asia:
Coping with the demand surge
p33
Has the trend line shifted?
Sector trends and the impact
on airport valuations p40Introduction
Welcome to our latest edition of emerging market growth into Moreover, we explore how the airport
“Connectivity and growth”! This year, investment opportunities. And we transaction market and airport
we see a strong pipeline of airport have maintained our focus on the valuations have been affected as the
deals around the world, and there most pressing issues affecting global aviation market aligns to new patterns
should be an overall positive outlook aviation markets. The aviation sector of growth. Current high valuation
for the global aviation industry, thanks does not operate in isolation; on the estimates on some European airports
to low oil prices and an economic contrary, it is inextricably linked to coming to market suggest that our
recovery that is building (albeit globalisation, regional economic previous assumptions regarding airport
slowly). The aviation market appears development, tourism, and national valuation may merit re-examination.
to have turned a corner, with demand competitiveness. We take those links As the initial transactions from such
intensifying and airline profitability into account in all of our analyses. markets as Japan and the Philippines
returning. But, there are also some emerge, we hope to be able to test and
dark clouds on the horizon, given that Connectivity still receives significant further strengthen our valuation and
growth from emerging markets does attention this year, given that it lies at growth models.
not meet expectations. the heart of the value provided by the
aviation sector to the broader I hope you find this year’s new and
Of course, the aviation market has economy, and is a measure of the updated articles interesting and
always been cyclical – and many health of an airport, a city, and a provocative, and I look forward to
investors are concerned that current region. We make the case that new debating and discussing these issues
asset prices are nearing their previous players will continue to enter the with you over the coming year.
peak and may be susceptible to aviation infrastructure market,
correction if economic circumstances seeking to exploit regional
change. However, if fuel prices remain opportunities to expand their interests Yours truly,
comparatively low and if the tide of and reap the advantages that
demographic change in emerging connectivity brings.
markets continues, the long-term
prognosis for airport assets is strong. As in previous years, we also explore
This is especially true given the the relationship between GDP growth
scarcity of assets available when and traffic growth, and find that the
compared to the demand from various much-predicted delinking of GDP and
traffic seems to have less of an effect Michael Burns
investor categories.
than many observers assumed, Partner, PwC UK
In this year’s compendium, we have particularly in more mature aviation
updated our analyses for all key markets. In addition, we revisit Asia as
themes as well as offered two new a focal point, looking at the challenges
articles, one on the relationship and opportunities that rapid aviation
between GDP growth and traffic development continues to bring to
growth and the other on converting the region.
2 PwC | Connectivity and growthPlanning for sustainable
aviation growth
Dr Andrew Sentance
The global economic recovery remains lack of labour market flexibility, high
uneven but there is a clearer pattern of public spending and associated tax
growth now across the world burdens, and a less business-friendly
economy. After a surge in economic and business-like economic climate
growth in 2010 and 2011 as the major characterising the economies of North
economies bounced back from the America and northern Europe.
financial crisis, global GDP growth has
been relatively subdued since 2012. Third, the major emerging market
According to the IMF, world economic economies have seen more variable and
growth is expected to average 3.3% in uneven performance. China is the latest
the four years 2012-2015, slightly economy showing signs of slowdown,
below the 3.5% long-term average with independent estimates suggesting
since 1980. growth of 5% compared with official
estimates still running around 7%. But
Three main factors have contributed the slowdown in China has been partly
to this muted global growth offset by stronger growth in India,
performance. First, the major Western which PwC now expects to grow by
economies are experiencing a 7.5% this year. Outside Asia, though, a
disappointing recovery – as the number of other large emerging market
tailwinds of easy money, cheap economies have been struggling. During
imports, and strong confidence that 2012-2015, the IMF now projects that
were present before the crisis are no Brazil and Russia will both grow on
longer supportive of growth.1 average by just 0.4% a year. South Africa
is not doing much better, with around
Second, the poor performance of the 2% growth over the same period. A
economies of southern Europe and common feature of growth in Brazil,
France have exerted a downward drag Russia, and South Africa is that it is
on growth in the euro area and the heavily driven by energy and
European Union more generally. A commodities, where global prices have
substantial part of the European been weakening since 2012. We have
economy is going through a prolonged also seen political factors adversely
structural adjustment, and economic affecting growth to some extent in all
policies have been slow to correct the three of these economies recently.
underlying problems. These include
1
‘Rediscovering growth: After the crisis’ – http://londonpublishingpartnership.co.uk/rediscovering-
growth-after-the-crisis/
Planning for sustainable aviation growth 3Connectivity is at the heart of what makes
airlines successful.
But it is also possible to take a ‘glass is orders remain strong, and new orders 2000s, which compared with a 2-3%
half full’ view of this global growth continue to outpace deliveries. The historical average for the industry
environment. As Figure 1 shows, there current order books for the major prior to that date. Chasing volume
are three poles of growth in the world aircraft manufacturers imply a 50% growth supported by declining yields
economy that appear to have survived increase in the commercial aircraft has bought financial ruin and disaster
and rebounded since the global fleet over the next 7-10 years. to many airlines and their investors.
financial crisis: the Asia-Pacific So airlines need to undertake a careful
economies, North America, and But we have been here before. When evaluation of growth opportunities,
northern and eastern Europe the world economy and the air travel both in terms of new routes and
(including the UK). These three poles market turns up, airlines pile in orders additional frequency of service. They
(including Japan and Australia within and then the next downturn exposes a should not be seduced by the
the Asia-Pacific region) account for major capacity glut. How do we avoid optimistic forecasts presented to them
nearly three-quarters of total world such a feast-and-famine outcome in by aircraft manufacturers, which
GDP. Sub-Saharan Africa is another the next 5-10 years? How should the rarely mention the profitability of
dynamic region of the world economy, major players in the aviation industry growth opportunities.
forecast to grow by nearly 4% in 2015 plan for sustainable growth?
To achieve profitable growth, airlines
and close to 5% in the next five years. If need to control costs and develop their
For airlines, the watchwords should be
Africa continues to perform well along networks by improving connectivity.
profitable growth, cost control, and
with the other three major growth Connectivity is at the heart of what
connectivity. Growth opportunities
regions, we will have robust growth makes airlines successful – finding
need to be profitable. The airline
across 75-80% of the world economy in new routes, either directly or via an
industry has been a low margin one
the second half of this decade. efficient hub-and-spoke network
for too long, and the more successful
This is an attractive prospect for the modern airlines now recognise this. operation. As new cities develop
global aviation industry – and it is When I was Chief Economist at British around the world – particularly in
reflected in the investments and plans Airways, we set ourselves a 10% Africa, Asia, and other emerging
being made for expansion. Aircraft operating margin target in the early markets – there will be many new
route development opportunities.
Airports face a different set of growth
Figure 1: Global growth prospects for 2015 issues. Unlike airlines, which can
Russia expand capacity quite quickly by
1.0 Canada
Germany
(5.0)
ordering a few more planes and
UK
1.5 finding new runway slots to operate,
2.5
Greece
airport capacity expansion is lumpier,
(1.1) requiring longer lead times as well as
Ireland
5.7
much more intensive stakeholder
US
France 1.1
discussion and dialogue. This is most
2.6
Japan noticeable in the major Western
Spain
3.1
0.9
economies. In the UK, we have had 15
Mexico China
6.9
years of discussion about new runway
2.3
Italy options at the major London airports,
and still no decision has been made
0.7 India
7.5
– let alone any concrete or tarmac
laid. The UK may be an extreme
Brazil South Africa
example, but similar issues exist in
(1.8) (1.0) Australia many other advanced economies
2.6
where there is great sensitivity about
the local and environmental impacts
x.x = GDP growth in 2015
of aviation expansion.
Source: PwC main scenario
4 PwC | Connectivity and growthIn developing and emerging markets, Figure 2: Global growth is a key driver of air travel
airport expansion appears easier – and
is often supported strongly by the Air traffic (RPKs) and World GDP – % per annum change
regulating authorities as a means of 8% 16%
providing strategic support to
economic growth in a region or nation. 14%
But that carries a different risk – of 6% 12%
over-ambitious expansion – akin to the 10%
problems that the airline industry has
experienced by over-investing in 4% 8%
capacity in the past. Also, alongside 6%
airports, airspace capacity needs to be 2% 4%
developed. In Europe and North
America, there is a high degree of 2%
capability in airspace management 0% 0%
that can be deployed in Asia, the (2%)
Middle East, and Africa as these
regions start to experience airspace (2%) (4%)
2010
2012
2014
1980
1982
1984
1986
1988
1990
1992
1994
1996
1998
2000
2002
2004
2006
2008
congestion around major cities and
airport hubs.
GDP (LH scale) RPKs (RH scale)
The final issue bearing on the aviation
growth agenda – which affects Source: IMF and ICAO/IATA
aircraft/engine manufacturers,
airlines, airports, and airspace The aviation industry worldwide has difficulties of expanding airport and
managers alike – is the environmental been remarkably resilient in the airspace capacity where it is most
challenges facing the expansion of the aftermath of the global financial crisis. needed; and the long-term
industry. At face value, the 50% The industry has coped much better environmental challenges of a rapidly
increase in the commercial aircraft than after 9/11, which created more expanding global aviation industry.
fleet represents a potential increase in financial distress and business Looking ahead, these are the big
aircraft noise, local air quality failures. As Figure 2 shows, airline challenges to the sustainable growth
problems around airports, and traffic rebounded more quickly after of the aviation industry.
greenhouse gas emissions. The the financial crisis than it did in the
aviation industry is dealing with all early 2000s. Another reason why
About the author: Andrew Sentance is a
these issues – but the pace of Senior Economic Adviser at PwC UK and is
airlines have coped much better this a former Chief Economist at British Airways
technological change will not counter time around is that there has been a (1998–2006) and a former member of the
the adverse environmental impacts of process of industry consolidation in Bank of England Monetary Policy Committee
future growth in all areas. A the more mature regions – US and (2006–2011). He is based in London
sustainable growth trajectory for the Europe. At the same time, there have
(andrew.w.sentance@uk.pwc.com, +44 (0)
aviation industry therefore requires an 20 7213 2068).
been significant growth opportunities
acceleration of effort to address the in Asia, the Middle East, and Africa.
environmental consequences of Key contact for Economics:
expansion – which will raise costs for Tim Ogier, Partner, PwC UK
But as the industry shifts from survival (tim.ogier@uk.pwc.com,
the industry and air travellers over the to expansion mode, there are new +44 (0) 20 780 45207).
longer term. issues emerging: the risk of over-
expansion in airline capacity; the
Planning for sustainable aviation growth 5Airport transactions:
Airport privatisation
elevates deal activity to
higher altitudes
Bernard Chow and Colin Smith
Your average airport investor is a pretty Peaks in deal activity
opportunistic, yet conservative sort:
people rarely make investments in The airports industry has been a
airports for short-term gain. hive of deal activity between 2012 and
Consequently, despite the shoots of 2013, with number of deals reaching a
economic recovery only starting to show peak of 20 in the second half of 2013,
in 2013 and 2014, airport investors were generating deal value of US$13 billion.
ahead of the curve – seeing transactions Deal volumes and value have since
rocket from a low point of US$3.5 billion fallen in 2014 to US$6.3 billion and 16
in deals in 2008 to about US$21 billion deals, which reflects a gentle breather
in 2012 and US$18 billion in 2013. before a further wave of airport
Airport transactions have subsequently privatisations in Japan and France, as
slowed to US$6.3 billion in 2014 with a well as airport exits in UK/Europe. As
pick up in the first half of 2015 to mentioned earlier however, the delays in
US$3.1 billion. (See Figure 1.) The some privatisation programmes may
slowdown reflects primarily delays in impact how quickly airport deal activity
privatisation of airports in Greece and takes off again.
Southeast Asia. Airport deal activity has historically
On top of investor foresight, been driven largely by European
governments have finally come to grips transactions, particularly in the UK,
with the requirements of privatisation which has by far the most developed
deals, with assets sold in Portugal, private marketplace for airport assets.
Spain, Brazil, North America, and In the first half of 2011, UK/Europe
Turkey, and with Japan, Greece, and airport deals accounted for 83% of
France launching processes. We expect deal volume.
this trend to continue, with 22 countries However, the UK market is becoming
currently looking to concession at least saturated (and stunted to a certain
40 assets. extent by its inability to decide on the
Whilst deal activity has risen location of new runway capacity). As a
significantly, optimism in the investor result, investors have cast their nets
base has not followed suit. Values have further afield, with fund managers
risen much more cautiously, with looking for opportunities to invest in
average deal multiples in UK/Europe growth; direct investors focusing on
recovering a little, but not reaching the more stable, reliable assets; and
heady pre-crisis heights. Some recent strategic buyers focusing on assets
deals suggest that the competition for that complement existing portfolios.
assets may be starting to intensify,
particularly for attractive assets, which
may drive deal multiples upwards – we
will continue to watch developments
with interest.
6 PwC | Connectivity and growthThe first half of 2012 saw the first real Figure 1: Global airport deals by region
emerging market activity, with Brazil
leading the charge (the US$9.5 billion 18 25
Guarulhos International Airport and
16
US$2.2 billion Viracopos International
20
Airport privatisations). The UK and 14
Europe responded in kind, taking a 12
No. of deals
70% share of deal activity in the 10
15
second half of 2012 and first half of
$bn
2013. Notable European deals in that 8
10
period were the ANA privatisation 6
(US$4.1 billion) and Heathrow finally 4 5
saying goodbye to Stansted
2
(US$2.3 billion), whilst Manchester
Airport Group sold a stake in itself to 0 0
H111 H211 H112 H212 H113 H213 H114 H214 H115
fund the Stansted acquisition
(US$1.4 billion). Together with UK Europe North America APAC
Ferrovial’s sale of chunks in Heathrow Russia South America Other e.g. Turkey, KSA Deal volume
4 to pension and sovereign wealth
funds (US$1.5 billion) and Hochtief’s Source: Infranews, PwC analysis
eventual disposal of its airports
division (US$1.5 billion), the glut in
European activity over the 12-month
period was compounded.
Privatisations
South America has been the main Notable in its absence was the
region for airport privatisations since anticipated liberation of US airports
January 2012, accounting for US$16 from government and state control.
billion of the US$20 billion globally Only Puerto Rico managed to get off
from January 2012 to December 2014. the ground, with Chicago Midway
In Brazil, five airport concessions were again falling by the wayside. Going
awarded in Sao Paulo, Rio Grande do forward in the US, a terminal
Norte, Distrito Federal, and Belo concession-based model appears more
Horizonte. Colombia and Panama also likely than full airport privatisations,
saw airport privatisations. Outside of which may limit interest from
South America, the main privatisations mainstream airport investors.
were in Saudi Arabia, Turkey, Puerto
Rico, and Croatia.
Airport transactions: Airport privatisation elevates deal activity to higher altitudes 7Stable growth in valuations Figure 2: UK airport traffic and European transactions
Despite market conditions appearing
to set the stage for a valuation bubble, 350 35.0 x
evidence suggests that investor 30.0 x
300
caution has prevailed for most assets, 2006-2008
EV/EBITDA multiple
Avg. 22.4x 25.0 x
albeit with some exceptions.
Pax (million)
250 2003-2005
2000-2002 Avg. 17.1x 20.0 x
Avg. 15.0x
As explored in our airport valuations 200 15.0 x
review later in this document, average 2012-2015
10.0 x
150 2009-2011
deal multiples have increased – Avg. 14.2x Avg. 14.8x 5.0 x
particularly in Europe – with EBITDA 100 0
1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016
multiples of 14-18 for faster growth
regional airports and 10-14 for UK terminal pax Average transaction multiple
mature, larger airports. Source: CAA, DfT, PwC analysis, Press
The trendline suggests that valuations
are unlikely to see a rapid, sustained
return to the heady heights of 2006-
2008, when multiples of 20-plus were not Figure 3: Global refinancing activity
uncommon. (See Figure 2.) That said, 14
some emerging market deals are bucking
12
Deal value ($bn) and volume
the trend, with investors banking on 10.2
strong growth from new airports with 10
untapped commercial potential. 8
6.2 6.4
6 5.1 4.9
Refinancing activity – Alongside a 3.1
4
return of airport deals, we also note a 2.0
1.5
2
resurgence in refinancing activity, 0
largely to replace acquisition debt 0
H111 H211 H112 H212 H113 H213 H114 H214 H115
raised pre-crisis, as airport owners
take advantage of improved trading Value ($bn) Volume
conditions driven by recovery in air Source: Infranews, PwC analysis
travel and increased availability of
debt financing. (See Figure 3.)
8 PwC | Connectivity and growthThe investor landscape Figure 4: Global pipeline airport privatisations
As highlighted earlier, we expect
privatisation activity to continue 35
growing apace, as airport sales remain 30
attractive to governments seeking to
25
realise cash through asset sales. Airport
Pax (in millions)
privatisations also serve as a strong 20
mechanism to encourage investment 15
and stimulate economic growth.
10
(See Figure 4.)
5
Greece, France, Japan, Brazil, and
0
Ireland have all announced separate Domodedovo
Bordeaux
Sheremetyevo
Fukuoka
Nice
Greece – 2nd phase
Guararapes
Amman
Kotoka
Hiroshima
Shannon
Rostov
Takamatsu
Newcastle Williamstown
Mutiara Sis
Fatmwati
Babullah
Komodo
Puerto Princesa
privatisation drives between 2014 and
2016. This is likely to be pushed out
further to 2017 as privatisations have
not progressed as quickly as first hoped.
In Europe, the first wave of Greek and
French regional airports received Source: Various news sources, PwC analysis
investor bids in September/October
2014. However, the Greek regional Figure 5: Global pipeline airport privatisations – current and projected pax
airport transaction is yet to be growth rates
completed following ongoing
negotiations between the new 35
government and the preferred investors.
30 Domodedovo
Sheremetyevo
The Japanese Ministry of Transport
meanwhile highlighted four airports 25
for its first wave of privatisations, Prince Mohammad (S.Arabia)
Pax (in millions)
starting with Sendai Airport and 20
followed by New Kansai, its third Fukuoka
largest airport, and Osaka. As of the 15
date of this article, the Sendai Airport Nice Vnukovo
Greece regional (Ph 1)
concession was awarded to a Tokyu 10
Lyon Mactan
Corp led consortium while Vinci Greece regional (Ph 2)
Amman Guararapes
Airports and Orix Corporate 5 Bordeaux Nairobi
consortium are the front runners for
Rostov
the New Kansai airport. The
government is looking to concession 0% 2% 4% 6% 8% 10%
two further airports between 2016 and
Projected Pax CAGR (2013)
2019, followed by a further 16 airports.
Source: IATA Country forecast, PwC analysis
(See Figure 5.)
Note: Projected pax growth is based on IATA’s forecasts for the country rather than the airport specifically.
Airport transactions: Airport privatisation elevates deal activity to higher altitudes 9Other opportunities Figure 6: Building a strong consortium
Notwithstanding the fact that airport
privatisations are likely to dominate
the headlines and deal activity, airport Construction and development
investors’ interests should remain • Experience in airport
construction projects
piqued by private investment activity. • Value engineering
In the UK alone, London Gatwick, • Airport planning and design
London City, Bournemouth,
Doncaster, and Leeds Bradford Operators Financial investors
• Experience with infrastructure
airports are all expected to see Passenger/Terminal
investment
• Appropriate airport experience
transaction activity over the (e.g. size, type of operations) • Able to demonstrate value-add
foreseeable future, kicking off with • Experience in development of Consortium through management input
commercial revenues • Low cost of capital and access
London City, with bids due before to funds
Christmas 2015. With closed-ended Cargo • Structuring
• Operations
infrastructure funds looking to realise • Third-party logistics
value, deal volumes should stay
healthy, although the proliferation of
Advisors
off-market deals looks set to continue. • Financial • Strategy/
Recent examples include Ferrovial’s • Legal business planning
concurrent stake sales in Heathrow • Capex • Operations
• Retail and • Tax/accounting
and its and Macquarie’s acquisition of other non-aero
Heathrow’s regional airports
(Aberdeen, Southampton, and
Glasgow) and Ontario Teachers’
pre-emptive acquisition of Macquarie’s
stake in Bristol airport.
On privatisations, credible that airports are not homogeneous
consortiums are the key to success, as assets, and not all are worth investing
How has the investor governments look for a combination of in, unless the price is right.
market changed? price and trusted airport operators.
(See Figure 6.) However, coming In particular, smaller and regional
With an established infrastructure airports have a habit of developing
together to execute a successful
investor base ranging from private winners and losers, and getting the right
acquisition is the easy part: aligning
funds and publicly listed vehicles to team on board to execute a transaction
ongoing interests between financial
major municipal pension funds and is likely to maximise chances of on-deal
investors and operating parties will
trading houses, airport investments and post-deal success.
prove more challenging, as will giving
have unsurprisingly also become
management a clear view of the
more specialised.
post-acquisition business plan. About the authors: Bernard Chow is a senior
member of PwC’s Transaction Services
Major capital-city airports will attract
Infrastructure Team, based in London
no shortage of pension fund and Final thoughts (bernard.chow@uk.pwc.com,
sovereign wealth bidders, whilst +44 20780 48741).
smaller and regional airports will With no shortage of airport opportunities
attract investors who believe they can ahead, the market rightfully seems an
Colin Smith leads PwC’s Transaction Services
help management teams execute attractive one to infrastructure investors, Infrastructure Team in London.
ambitious business plans and drive who continue to attend industry
value through improved performance conferences in numbers. Key contact for Transaction Services:
throughout the business. Colin Smith, Partner, PwC UK
With economic turbulence subsiding (colin.d.smith@uk.pwc.com,
but not disappearing altogether, +44 (0)20 7804 9991).
airport investors would be wise,
however, to exercise a degree of
restraint. The recent economic
downturn made it abundantly clear
10 PwC | Connectivity and growthIs GDP growth still a reliable
indicator for future air
travel demand?
Edmond Lee, Andrew Copeland, and Hayley Morphet
Global air passenger traffic has grown Historically, as the global economy
substantially (70%) in the past decade.1 grows, people and businesses tend to
Innovations in the aviation market, have more disposable income that
such as greater airspace liberalisation could be spent on flights, to facilitate
in the developed economies and the their leisure plans or business
increasing prominence of low-cost activities. On top of this, the increased
carriers (LCCs) in intra-regional connectivity between regions that
routes, have helped spur this growth. were not before connected as well as
Propensity to fly has also been domestic connectivity – which has
positively driven by global economic proved increasingly important as
growth; in particular, rising incomes people’s time has become more
in the emerging markets. valuable – have helped push up global
air traffic demand.
Air traffic demand growth is more
impressive in the last decade, given For investors and stakeholders, it is
that it has been characterised by important to understand what lies
structural challenges and economic ahead for the consideration of both
volatility. The 2008 financial crisis opportunity and remediation in the
and the ensuing recession has also set aviation industry. Investment
passenger demand back temporarily. opportunities with strong growth
In Europe and China, airlines face prospects require an understanding of
increasing competition from high- trends in the forces that ultimately
speed railways over short distances. affect revenue growth.
In the same period global GDP has This article aims to shed some light on
grown by 28%2 in real terms. A high whether there has been a breakdown
proportion of this growth has been in the relationship between GDP and
driven by the developing economies. air passenger demand and attempts to
This has been associated with a highlight any variables pulling the two
swelling of their middle class, along apart. We employ econometric and
with higher demand for both business forecasting techniques coupled with
and leisure flights, contributing to the our industry expertise to evaluate the
increase in global air traffic flow. hypothesis of a weakening relationship.
1
Increase from 2004 to 2014 based on World Development Indicators data (Worldbank) for world air
passengers carried.
2
Increase from 2004 to 2014 based on World Development Indicators data (Worldbank) for world GDP
(constant 2005 US$).
Is GDP growth still a reliable indicator for future air travel demand? 11The GDP-air passenger This article aims to bring new ideas to passengers using the three largest
demand relationship the table, particularly around variability airports in London had reacted to
in strength of the correlation. changes in GDP.
It is widely appreciated that GDP and
air traffic demand have, historically, Both GDP and air passenger traffic are
exhibited a strong positive A view from the UK: an known to be seasonal; that is, they
relationship; increases in GDP were econometric case study exhibit certain cyclical behaviours
associated with increases in passenger We start our analysis with a case study over the year. For example, air traffic
traffic and vice versa. As such, GDP of the link between national income is significantly busier in the summer
growth has been used as a key and air travel in the UK. The Civil months as there is more demand for
explanatory variable in forecasting Aviation Authority (CAA) maintains a leisure travellers. In order to focus on
future air travel flows in numerous detailed monthly database of number of the long-term relationship between
studies in government, industry, passengers passing through UK airports. GDP and air passenger traffic, we first
and academia. National income can be measured by remove seasonal effects from the air
GDP, which is available quarterly. passenger series with the X-12-ARIMA
However, over the past number of package developed by the U.S. Census
years there has been some debate In this case study, we will first explain Bureau. We may also de-trend the GDP
around this relationship and a the methodology we have used, and and air passenger time series and
question of whether it is still as relevant what it reveals with regards to the focus on how they move together. In
as it once was. Most notably, the 2008 GDP-passenger demand relationship. Figure 1 below, we present the time
financial crisis appears to have caused We will also forecast how UK series of air traffic in UK airports
a structural break in the series, passenger demand may evolve in the before and after seasonal adjustment.
distorting the once clear relationship. near future. Finally, we will have a
closer look at how the number of
There is some previous literature that
robustly illustrates the relationship
between economic growth and air
traffic demand. Studies have focussed Figure 1: UK air passenger traffic before and after seasonal adjustment,
on two main aspects of the 1999Q3 – 2015Q1
relationship. The first is causality; that
is, do changes in GDP cause changes in
80
Millions
air traffic, or do changes in air traffic
cause changes in GDP. From a
70
theoretical standpoint, arguments for
either case are plausible. The second
60
aspect is the degree to which one
factor affects the other.
Passenger per quarter
50
Mukkala and Tervo (2012) have
40
shown that there exists a relationship
between air traffic and economic
30
growth based on analysis of the
European market. Similar conclusions 20
have been reached by a number of
other studies providing substantive 10
evidence that there is, at the very
least, a positive link between GDP and 0
air passenger flow. However, while 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
some studies such as Ishutkina and
Before seasonal adjustment After seasonal adjustment
Hansman (2009) found evidence that
supports a two-way causality, some Source: CAA, PwC analysis
others (e.g. Green 2007) have been
seemingly stumped by the direction
of causality.
12 PwC | Connectivity and growthWe could then apply an Error There are various reasons why this has
Correction Model (ECM) to the been the case. For example, it is
adjusted time series. The ECM plausible that post-2008 economic
approach allows us to disentangle two recovery has been driven by growth
distinct relationships from the data: around London, where air capacity is
on one hand, it estimates (i) the more constrained; it is also possible
long-run relationship between that the growth between 2002 and
GDP and air traffic; on the other, it 2008 has largely been driven by the
also allows for (ii) short-term growth of low-cost airlines, whose
dynamics such as deviations from business model has become more
the long-term trend, and estimates mature in the last five years. This is an
how quickly these deviations would be area where further investigation may
‘corrected’ or revert to the mean. The shed more light.
ECM forms the basis of many aviation
forecasting models, such as the Figure 2: Backtesting the model: what if we applied our methodology
National Air Passenger Demand Model in the past?
that has been maintained by the UK
Department for Transport (DfT).
70
Millions
Our ECM model shows a continuing
relationship between GDP and
Passenger per quarter, seasonally adjusted (historical
60
passenger demand. However, we also
found a one-off downward level shift
50
in the wake of the 2008 global
financial crisis. Figure 2 shows the
central case of forecasts we would 40
and forecast)
have obtained if we had applied the
same methodology at the beginning of 30
a certain year. For example, to obtain
the ‘2007 vintage’ forecast, we applied 20
our methodology on data up to the end
of 2006. We then made projections for 10
passenger level based on the
estimated parameters and actual GDP
0
that has materialised. 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
We found that over the last five years, Actual passenger level 2007 vintage 2008 vintage 2009 vintage
the actual passenger level has been 2010 vintage 2011 vintage 2012 vintage
consistently below the forecasts of
2007 and 2008 vintage by around 4-5 Source: CAA, PwC analysis
million people per quarter. On the Note: The thick burgundy line represents the actual quarterly passenger level, seasonally adjusted. The thinner lines
other hand, actual passenger level represent the central scenario of different ‘vintages’ of forecasts we would have obtained if we had carried out the
analysis at the beginning of each year between 2007 and 2012.
broadly followed the 2010, 2011, and
2012 vintages of our model forecasts.
This suggests that while the
passenger-GDP relationship held out
well for most of the period we studied,
it is likely that a one-off shift in the
trend has taken place after 2008.
Is GDP growth still a reliable indicator for future air travel demand? 13In Figure 3, we applied our Figure 3: Forecasting UK airports’ passenger level
methodology to forecast UK passenger
number between mid-2015 and the 90
Millions
end of 2020, based on GDP forecasts Historical data Forecasts
Passenger per quarter, seasonally adjusted
80
from the UK Office for Budget
Responsibility (OBR). Our median 70
case, shown in a dark solid line,
60
suggests that the air passenger level
would increase year-on-year by 50
around 3.3% – slightly above the 2.7%
40
year-on-year growth that IATA
forecast the UK to achieve. 30
Uncertainty around our forecasts
20
would increase as we move deeper
into the future. To reflect this, we also 10
present the margins of error of our
0
central estimates with different shades
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
of orange in Figure 3.
We then turn to the passenger levels in Source: CAA, PwC analysis
individual airports and their Note: The fan around the central estimate is calculated with GDP growth forecasts from the UK Office for Budget
relationship to GDP of the whole UK. Responsibility (OBR), which set out their view on the UK economy under optimistic and pessimistic cases.
Figure 4 shows the extent that
passenger levels in three major
London airports have, over the long
budget airlines as they move some is typically a downwards trend in air
run, reacted to changes in the UK’s
operations from Stansted into the fares’. As the budget airline market has
GDP. We found that Heathrow,
more preferred Gatwick. As a result, it become more mature, we may expect
London’s principal international
is perhaps not surprising that Stansted air fares to take a more stable path in
airport where most long-haul flights
benefits most from the additional the near future, resulting in a gentler
are based, has been most resilient to
passenger flow that a stronger growth path for air traffic.
fluctuations in GDP, followed by
economy brings, and is most affected
Gatwick, the second busiest airport of We have to some extent touched on
by an economic downturn.
the UK. On the contrary, passenger the effect that crises can have on
level at Stansted, an airport traffic growth; our analysis shows a
dominated by low-cost carriers, is Further considerations clear downward shift following the
significantly more responsive to the While we feel our analysis provides 2008 financial crisis. Other crises such
economic cycle. some interesting and relevant insights as the Ebola outbreak and war can
into the GDP-air traffic demand have the same effect. It may not be
There are two plausible explanations
relationship, it should not be surprising that Syria experienced a
behind this. Firstly, Stansted is
considered exhaustive. While we have decline of 30% per year in air traffic
dominated by low-cost carriers. They
modelled the impact of GDP on air during 2010-2014, a result of ongoing
have a higher proportion of leisure
traffic demand, there may be other tensions in the country.
passengers, who are more sensitive to
fluctuations in the business cycle. important factors that may affect air
Demography can also have a notable
Secondly, when demand for air traffic and should be taken into
impact on air traffic demand. At the
transport decreases during an account.
most basic level, increases in
economic downturn, it might not In particular, the level of air fares may population could increase air travel by
necessarily affect all airports equally. be a valuable addition to our model. It raising airport catchment area
The airline industry may choose to could be argued that at least part of populations and generating more
absorb the decrease in demand by the growth in air traffic in the past trips. This is definitely a space worth
cutting capacity in a less preferred two decades has been driven by the watching in the UK, especially given
airport without coordination: for rise of low-cost carriers and the recent migration issues around the EU
example, the full-service carriers may decrease in air fares associated with and Syrian refugees.
scale back their Gatwick operations them. Indeed, the DfT observed ‘there
that started as Heathrow overspill.
These slots may then be taken up by
14 PwC | Connectivity and growthMarket maturity is another important Figure 4: Estimated relationship between passenger growth and GDP growth
factor. In effect, this describes the fact
that markets tend to reach saturation 4.0
points in terms of trips per capita. The
Estimated relationship between passenger level
marginal effect of a growing economy on 3.5
propensity to fly diminishes as the market
with regards to GDP changes
3.0
matures and approaches saturation.
2.5
Geographical features of a country
also play a key role in air traffic 2.0
demand. Propensity to fly tends to be
higher in island countries, countries 1.5
with relative isolation and limited land
transport, and countries that are long 1.0
and thin, as land transport such as
0.5
high-speed rail would be more
challenging or costly to implement. 0.0
This is one of the key drivers for air Heathrow Gatwick Stansted
traffic demand in the UK; from this
island country, travellers to the
European continent have limited Source: PwC analysis
options other than to travel by air with Note: We present our point estimate in solid orange dots, with the 95% margin of error (confidence interval) in a paler
shade around it.
the exception of the channel tunnel
and ferries for Western Europe.
In the past decade or so, competition Conclusion Having studied in some detail some of
has had a huge impact on shaping the the dynamics of UK aviation growth,
In this short study, we have examined we concluded that while the 2008
aviation market. The increase in LCCs
what drives global air traffic growth, financial crisis appears to have caused
has accounted for a significant portion
focussing on what is arguably the most a structural break in the series, the
of the increasing air traffic demand
important factor, economic growth. GDP-passenger relationship still bears
globally. However, when considering
From our analysis, it is clear that some significance in practice. Ideally,
the case of the UK, LCCs’ impact looks
economic growth in the UK greatly similar analysis may be carried out on
to have diminished. Our analysis may
influences the underlying sentiment of a wider range of countries with
suggest that while the LCC boom
air traffic growth in the country. inclusion of additional variables
drove UK traffic in the mid-2000s, the
Additionally, we have directed mentioned to further strengthen
reversion back to pre-crisis levels has
attention to the apparent breakdown understanding of the dynamics and
been slow, with LCC penetration
in the relationship between GDP and drivers of the aviation market.
having a much lower effect as a result
passenger growth and alluded to the However, the analysis on a mature
of relative market saturation.
heterogeneity in airports; that is, no market such as the UK gives us a
A final consideration is that of the hub one single airport can be viewed in the flavour of the sort of trends investors
status of an airport. Hubs such as same light as another, even within a and other stakeholders should be
Singapore and Dubai offer air country such as the UK where airports paying attention to in the
connectivity far out of proportion to in London all face their own coming years.
their size, owing to the availability of challenges. This illustrates the
air services and geographical location. For potential magnitude of variances About the authors: Edmond Lee is an
the UK, Heathrow continues to act as a across global air traffic drivers. We economist, Andrew Copeland is an
hub but still faces competition, particularly also subsequently highlighted some of aviation analyst, and Hayley Morphet
the other key issues that should be is an air traffic forecasting specialist.
from the Middle East (e.g. Dubai). (edmond.sp.lee@strategyand.uk.pwc.com,
seriously considered when analysing +44(0)20 780 46804, andrew.i.copeland@
an airport as an investment uk.pwc.com, +44(0)28 9034 6717, and
opportunity, such as competition, air hayley.e.morphet@uk.pwc.com,
fares and demography. +44 (0) 20 7804 9032).
Is GDP growth still a reliable indicator for future air travel demand? 15Converting emerging
market growth into
investment opportunities
Hayley Morphet and Andrew Copeland
Identifying investment opportunities Many growth opportunities lie in the
with strong growth prospects requires emerging economies where the
an understanding of trends in the aviation market is still very much
forces affecting revenue growth. For developing. However, significant
airport infrastructure this is driven passenger growth does not always
primarily by passenger growth. convert into opportunities for investors.
Globally around 500 commercial This article aims to explore some of the
airports have some form of private- opportunities and challenges to
sector participation,1 and many of these investors looking into emerging
are larger airports in mature markets markets and identify where the most
such as Europe and Australasia. promising investment opportunities
Investors have traditionally formed may lie in the future.
their analysis on developed markets
when crafting their infrastructure Figure 1 summarises global air traffic
investment strategies; however, more growth in the past eight years and
recently there has been increasing forecasted passenger growth for the
interest in emerging markets. next decade.
Figure 1: Historical and forecast growth in each region of the world
Europe
3.1%
IATA North
Forecast Am erica
Passenger 3.6%
CAGR
2014-2024
Africa Asia
5.2% Pacific
5.9%
Middle
East
5.4%
Latin
Am erica
Legend 4.8%
CAGR 2006-2014
>20%
10 to 20%
5 to 10%
0 to 5%Asia-Pacific has experienced high Figure 2: Estimated annual investment in airports by region
levels of growth in the past decade.
China’s passenger traffic, for example, Cumulative Incestment in Airports by Region
grew at a remarkable 10.3% per year 90
while Indonesia grew at an even
greater 11.3% per year since 2006. 80
Cumulative Investment (USD billions)
However, these sky-high growth rates 70
are not expected to continue; the next
decade is forecast to bring about more 60
modest growth. The Asia-Pacific
50
region is looking at a growth rate of
5.9% per year over the next decade. 40
This is reflected in both China and
30
Indonesia’s forecasts, with China
looking at a 6.9% annual growth rate 20
while Indonesia’s growth is expected
to be around 4.8% per year. 10
0
The Middle East has also seen huge
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
2011
2012
2013
2014
2015
2016
2017
2018
2019
2020
2021
2022
2023
2024
2025
passenger growth in the past decade
of 8.7%, aided by its central location
on the globe and the increasing North America South America CEE CIS Africa MIddle East Asia Pacific Europe
prominence of hub airlines and
airports. Its outlook remains Source: PwC and Oxford Economics
optimistic, although slightly Note: USD million, current prices, constant 2014 exchange rates
diminished, with expected annual
growth of 5.4%.
Capital Investment in account for over half of this, with
Africa and Latin America are expected Airport Infrastructure expectations that it will invest over
to show strong growth with passenger US$150 billion from 2015 to 2025.
In the coming decade there is a vast Indonesia, a country where airport
forecasts of 5.2% and 4.8% per annum,
amount of planned capital investment infrastructure spend has picked up
respectively, over the next decade.
in airport-related infrastructure, with strongly in the last few years, is
Mature markets such as North global growth in airport investment expecting to see expenditure of around
America and Europe are expected to estimated at 2.6% per annum. This US$25 billion over the next decade.
see more modest growth of 3.1% and amounts to a cumulative investment of
3.6% per annum respectively, with US$750 billion between 2015 and Central and Eastern Europe and the
Europe’s growth bolstered by stronger 2025. Figure 2 shows the estimated Commonwealth of Independent States
growth in Eastern Europe. annual level of investment in airports (CEE CIS) is primed to burst with
by region based on a study conducted infrastructure investment this coming
by PwC and Oxford Economics.2 decade, similar to what was seen in
China in the previous decade. It is
Despite passenger growth in the expecting annual growth of 8.1% in
Asia-Pacific region being more modest infrastructure investment during
than has been observed in recent 2015-2025, amounting to cumulative
years, the need for significant spend of US$30 billion.
infrastructure investment remains in
order to facilitate current and future The level of airport infrastructure
demand. The Asia-Pacific region is investment in the Middle East is
expected to see the highest level of estimated at US$94 billion over the
investment in airport infrastructure in next decade compared with US$84
the coming decade, with an estimated billion in the last decade.
cumulative investment of US$275
billion. It is anticipated that China will
2
PwC and Oxford Economics, “Assessing the global transport infrastructure market: Outlook to 2025”.
Converting emerging market growth into investment opportunities 17Challenges for investors New market participants Central and Eastern Europe
On the face of it, the path to aviation Despite the challenges, there is clearly Central and Eastern Europe (CEE) are
growth seems relatively straight- opportunity to be seized in these rapidly catching up with Western
forward. However, achieving this is developing aviation markets. Europe with optimistic forecasts
not without its challenges. Established heavyweights such as TAV across the region. During 2015-2025,
also have an eye for developing Albania, Serbia, and Slovenia are
We expect to see emerging markets’ aviation markets with airports in expected to see some of the highest
development arriving through Tunisia, Macedonia, Georgia, and growth rates in the region, with traffic
investment in new infrastructure and Turkey. In this space we are also increases per year of 6.9%, 6.6%, and
privatisation of airport assets. While seeing an array of new bidders who 6.3%, respectively. LCCs have had
airport privatisation is nothing new, appear more comfortable with higher great penetration into the CEE
there exists a huge capacity for more risk investments. Many of these new aviation market, increasing
of this to be carried out in the non- bidders have appeared as a result of competition by offering competitive
OECD countries, where a large markets moving towards privatisation fares, and we expect to see this trend
proportion of airports are still state- and are therefore more likely to invest continue. We are also seeing
owned and operated. Emerging in higher risk assets compared to increasing activity in privatisation
markets stand to gain greatly from what one would typically see with with the recent privatisation of
international expertise in running and investors from OECD countries. For airports in Ljubljana, Slovenia, and
managing airport assets effectively. example, following privatisation in Zagreb, Croatia, and upcoming
Airport concessions are an South America, privatisations of Belgrade Airport in
increasingly common type of deal; Serbia and the Lithuanian Airports.
Brazil and the Philippines are • Argentina’s Corporación America
examples of those governments has stakes in almost 30 airports,
currently in the process of privatising predominantly in Latin America
a number of their previously state- although also with some interests
owned airports. in Italian airports including
Florence Peretola, and Trapani
National regulation and lack of Birgi Airport. The company has
regional coordination continue to also demonstrated their higher risk
create difficulties for international threshold in bidding for a number
investors. We see an increasing of regional airports in Greece
appetite for aviation infrastructure during the privatisation last year.
investment as evidenced by the
• ASUR is another big player in
projected expenditures for the coming
emerging markets, with interests in
decade. (See Figure 2.) However, some
a host of Mexican airports, while
of these key investment markets,
Brazilian CCR own an airport in
remain reluctant in opening up
Brazil and Ecuador.
opportunities to international
investors and operators. Some of the • Agunsa, a Chilean developer and
biggest investment markets such as investor, has stakes in four airports
China, Indonesia, and the Philippines in Chile and is currently bidding on
still have stringent ownership an airport in Colombia.
regulations, limiting scope for foreign In the sections that follow, we take a look
investment. We believe that greater at some interesting growth opportunities.
corporatisation and privatisation is
needed to bring new stock to the
investor market.
Furthermore, whilst privatisation has
certainly had its moments of success in
the past, a level of caution must be
taken around such deals. In particular,
governance, economic regulation, and
ownership structures must
complement the long-term growth
strategy of the airport.
18 PwC | Connectivity and growthAsia Indonesia presents another South-East Conclusion
Asian country primed for significant
Globally, India has one of the highest airport infrastructure investment. With There are a wide range of factors
forecasts for airport infrastructure strong forecasted traffic growth of 4.8% affecting decision-making around
investment; it is expected to see an per year until 2025, the archipelago is airport investment attributable to the
average annual increase in planning to invest US$1.7 billion in significant degree of heterogeneity
infrastructure spend of 15.4%, 2015, rising to US$3 billion by 2025, a across global aviation markets. As we
amounting to around US$14 billion rate of 5.8% per year. A wide range of have explored, one asset cannot be
over the next decade. Given Asia’s high opportunities for infrastructure viewed in the same light as another.
economic growth (7.4% in 2014) and investment lie in the country around Privatisation, competition, and
expanding population, such traffic the expansion and redevelopment of regulation are some of the core actors
growth is not surprising. airports in addition to opportunities in currently at play in both emerging and
Subsequently, India’s outdated airport refurbishment of air traffic control developed markets.
infrastructure is undergoing serious assets and ground handling. Foreign
redevelopment to facilitate the Despite investors’ bearish outlook on
investment encouraged by the emerging economies, these countries
anticipated traffic growth, reflected in government aims to spur this growth.
the high investment forecasts. The are continuing to present interesting
loosening of controls on foreign China currently hosts more than and potentially fruitful opportunities
investment and privatisation of two-thirds of the airports now under within the aviation market. The
airports should facilitate meeting of construction globally. However, this exponential traffic and investment
these targets. growth is not without its challenges. growth experienced in the past decade
The first challenge is the fact that by countries such as China is now
Vietnam is expecting high growth in China’s armed forces control most of being passed on to other developing
air traffic; forecasts predict a CAGR of the nation’s airspace, estimated at aviation markets such as CEE. That
10.1% in Vietnamese air traffic during around 70-80%. Routes are said, opportunities still remain
2014-2024. Vietnam is expecting to see particularly restrictive above and through continued growth in what are
a cumulative spend on airport around cities, leaving very narrow now more mature markets, provided
infrastructure of US$16 billion from corridors for civil flights to operate that other factors such as regulation
2015-2025. These predictions within. Secondly, air-traffic controls in are more favourably balanced towards
come amid the privatisation of the China require landing aircrafts to have international investment.
state-owned Airports Corporation of a wider cushion between each other,
Vietnam, easing of visa requirements It is evident that the aviation market is
as much as 6-10 miles in contrast to tied in to many aspects of the global
for visiting the country, and high GDP around 3 miles in the US. As a result,
growth (6% in 2014). economy, which is what makes it such
the capacity of the restrained airspace an interesting sector. This link
around major airports is lower than in highlights the significance of its role in
the US and Europe. Added to this are economic and social development,
direct challenges to investors – whilst particularly in emerging markets. For
the Chinese government is investing investors, the development of these
hugely in airport infrastructure, countries brings exciting and
airports in the country are still largely potentially fruitful opportunities that,
state-owned. In conclusion, for Chinese if managed effectively, can lead to
skies to accommodate the nation’s economic and social gain for both
ambitious expansion plans, authorities investor and consumer. Understanding
will have to adopt more flexible and overcoming the underlying
regulations and air control methods. challenges in these markets may
afford one the opportunity to pioneer
the aviation market of the future.
About the authors: Andrew Copeland
is an aviation analyst and Hayley
Morphet is an air traffic forecasting
specialist. (andrew.i.copeland@uk.pwc.
com, +44(0)28 9034 6717 and
hayley.e.morphet@uk.pwc.com,
+44 (0) 20 7804 9032).
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