The battle of Britain's airports
February 12, 2006
The Sunday Times
Copyright 2006Ferrovial’s daring raid on BAA sent the airport group’s shares soaring as it fights the threat of Heathrow and Gatwick falling into foreign hands, reports Dominic O’Connell
Mike Clasper, BAA’s genial chief executive, spent last Saturday afternoon in a corporate box at Twickenham, roaring on the England rugby team as they thrashed Wales. In business terms, it was the equivalent of Sir Francis Drake’s famous game of bowls before the arrival of the Spanish Armada.
Unbeknown to Clasper as he sang Swing Low, Sweet Chariot during the England victory, an invasion force was gathering with his company as the target.
Ferrovial, an aggressive construction and infrastructure group run by one of Spain’s richest families, had decided to do what many in the business world had thought nigh impossible: mount a bid for BAA, the group that owns seven of the UK’s largest airports, including Heathrow, Gatwick and Stansted.
Instructed by chairman Rafael del Pino, a group of Ferrovial executives had for months studied a host of possible airport deals. Del Pino and his fellow directors were convinced that the current global wave of airport privatisations and sales presented a once-in-a-lifetime opportunity to grab prime position in what would be a rapidly consolidating and lucrative industry.
Ferrovial’s resolve hardened at the end of last year after it lost out to BAA in a tough bidding battle for Budapest airport. The British group paid top dollar to win, the price of £1.2 billion setting a new international benchmark for airport valuations. With its adviser, the global banking giant Citigroup, Ferrovial decided to go straight for the biggest airport deal of all, BAA.
Unfortunately for the Spanish, their secret got out. On Tuesday afternoon Clasper was attending a parliamentary reception thrown by Singapore Airlines. As he mingled with MPs and airline executives in a Commons dining room, dealers in City trading rooms a few miles to the east were watching with astonishment as BAA shares began to soar.
The following morning, fuelled by rumours sweeping the Madrid bourse, BAA shot up again in the first hour of trading. At 9.30am Ferrovial was forced to issue a statement to the Stock Exchange. It said it was looking at a consortium bid, and if it went ahead it would pay cash. BAA shares took off, putting on nearly 20% that day, and closing last week at 779p, having started the week at 642p.
Even if Ferrovial did not bid, analysts said, BAA was now in play, with cash-rich private-equity groups circling. Star Capital, KKR and the Australian bank Macquarie were all mentioned as potential suitors.
BAA executives were stunned, and they were not alone. Aviation analysts, airline bosses and rival airport chiefs freely confessed their amazement at the Spanish group’s audacity. Not only was there a mismatch in terms of size — Ferrovial’s market capitalisation was just £6.2 billion compared with BAA’s £8.4 billion — but there was an implicit assumption that BAA was somehow immune to takeover.
Not only was the company heavily regulated, with price caps in place at its three showcase London airports, but it had a gargantuan capital-expenditure programme that should have made it unattractive to raiders.
To set the seal on the defence, much of that capital expenditure resulted from the company putting into action the government’s airports policy. BAA and the government were moving hand in hand, the industry wisdom said, which meant the company was the corporate equivalent of the mafia’s “made man” — an untouchable.
Industry wisdom was wrong. As some analysts and bankers perceptively pointed out, BAA had been a takeover target ever since the government relinquished its golden share in the company in 2003.
In September of that year, one week after the golden share was given up, The Sunday Times revealed that several City banks were drawing up proposals for a leveraged buyout of the airports group. The plans differed in detail, but had one unifying theme — that BAA’s finances were not stretched, as some claimed, but in fact were very conservative. By loading it up with debt, in the way water companies and other utilities have been increasingly leveraged, billions of pounds could be returned to grateful shareholders.
At the time, Clasper did not agree. “We are too heavily regulated and have too onerous a capital investment programme ahead of us to make a bid likely,” he told The Sunday Times. But company sources say the recent run of bids for British infrastructure companies, such as the Dubai offer for ports group P&O, had put the company on its guard. Clasper, who declined a request for an interview last week, will hope that, like Drake, he is able to fight off the Armada after fulfilling his sporting engagement.
ON a clear night the skies above London provide graphic evidence of the attractiveness and earning power of BAA’s assets. Aircraft circle like fireflies above the capital, waiting their turn to land at Heathrow, the world’s busiest international airport and the jewel in BAA’s crown.
For most of the day, an aircraft lands and takes off at the London hub every 90 seconds. Runway slots — the right to take off and land at a particular time of day — change hands for more than £4m a pair.
For the past 50 years Heathrow has been the crossroads of international aviation, ideally placed to connect Europe with Asia, America and Africa, and to suck up big-spending business passengers from London’s financial powerhouses. Airlines love it. According to some estimates, yields at the airport are often six times those on comparable routes from other hubs; BAA’s regulatory accounts show that Heathrow represented 63% of the group’s profit’s in the 2004-5 financial year.
But the company’s ownership of such assets comes at a price. With Heathrow, Gatwick and Stansted in its portfolio, it is all but a monopoly provider of airport infrastructure in the southeast. When BAA was floated on the stock market in 1987, a regulatory regime was put in place to stop the company using its powerful position to overcharge its airline customers. The regime is still in place, and may play a decisive role in the looming takeover battle.
Every five years, the Civil Aviation Authority (CAA) sets strict price limits on how much BAA can charge customers at the three “designated” London airports, Heathrow, Gatwick and Stansted. Prices are linked to movements in inflation; at Heathrow, for example, BAA was last year able to raise its prices by 6 percentage points above the Retail Prices Index (RPI), a large increase to reflect heavy spending on a new fifth terminal at the airport.
This regulatory lockstep has left BAA closely linked to government airport policy. As one senior BAA manager said last week, the group has become “a private company with some public duties”. When the government’s landmark white paper on aviation policy was published in 2003, BAA’s role was seen as vital — and the company duly signalled its commitment to deliver the cornerstone of the plan, a new runway at Stansted.
The close relationship with Whitehall led some to pour scorn on the idea of a bid for BAA. But aviation experts point out that the removal of the golden share, which coincidentally came just two months before the white paper, removed the airports group’s last shred of protection against an aggressor.
With the next price review already in motion, Clasper and his fellow directors will find it difficult to mount a normal bid defence. “The review is all about BAA trying to convince the CAA it has done all it can in terms of efficiencies and capital investment — in the nicest possible way, they have to mug the regulator,” said one transport banker.
But a defence against Ferrovial will require Clasper to go for broke, cutting costs to the bone and trimming capital expenditure in an attempt to give more value to the group’s shareholders.
The CAA will be watching like a hawk, and hold BAA to any such promises when it comes to calculating its next set of airport prices. “It is a Catch-22 situation. BAA wants the regulator to be as generous as possible, but it needs to show its shareholders it can be just as tough as Ferrovial or any other bidder. They are damned if they do, and damned if they don’t,” said the banker.
FERROVIAL has happy memories of airport investments in the UK. In 2001 it teamed up with Australian bank Macquarie to buy Bristol airport. That has turned out to be one of the pair’s best ever investments; a recent refinancing has left them sitting on an 180% return on their original investment, and still owning the freehold on the airport.
Analysts expect they will try some similar financial wizardry at BAA.
Merrill Lynch, the investment bank, said in a report that it believed there was “potential for significant financial leverage”.
In particular, analysts say, the new owner would look to borrow against BAA’s future airport revenues, a process known as securitisation.
If the Ferrovial consortium were to make a bid financed 80% through debt and 20% in equity, it could pay 850p a share, according to Merrill Lynch analysis.
The bank notes also that Ferrovial has considerable experience in using more aggressive and “innovative” capital structures that could potentially free millions more to be given back to shareholders.
Ferrovial was this weekend tight-lipped on the possible membership of its bidding consortium, but airport insiders say Macquarie is not likely to join. Hochtief, the German infrastructure group, is a possible candidate, as are a host of infrastructure investment funds recently set up by leading financial institutions.
THERE is also the possibility of a break-up. Some bankers think Ferrovial would be tempted to sell Stansted or Gatwick, or both, in order to return value to shareholders. BAA may eventually be forced to consider the same tactic.
BAA is unlikely to receive much succour from its airline customers. Although they will not comment publicly, big airlines such as British Airways, BMI British Midland and Virgin have privately railed against its southeast monopoly, and would welcome a break-up.
Ryanair chief executive Michael O’Leary, BAA’s biggest critic, says he would support a bid for BAA, noting that Ferrovial has a record of building airport facilities that airlines want.
“I’m sure a new owner would build a new runway and terminal at Stansted for about £1 billion, not the £3 billion BAA is talking about,” he said.
Tim Jeans, the chief executive of Monarch Airlines, is more emollient. “BAA has become a lot more customer-friendly in recent years,” he said.
But for Clasper and his fellow directors, the immediate problem is how best to react to a bid. Shareholders were yesterday indicating that they would be happy to sell out for 900p a share.
If Ferrovial can come up with that price, BAA will have to abandon all thoughts of appeasing the regulator, and fight back tooth and claw.
How Spain’s ‘ king of bricks’ set out on the road to be a giant of infrastructureFERROVIAL, the Spanish group that is stalking BAA, got its start in railways. Rafael del Pino, father of the current chairman, set up the company as a track contractor to Renfe, the state-owned Spanish railway. Del Pino’s ambitions were not limited to track work, however, and Ferrovial diversified into a general contracting group.Fuelled by the booming Spanish economy, the company took off in the 1990s. In 1999 it floated on the Madrid stock exchange, but remains — unlike BAA, run by chief executive Mike Clasper, pictured right — a family-controlled group, with the Del Pino stake at 58%. That stock, and other family investments, puts Rafael del Pino Sr, who is now aged 88, on the Forbes billionaires list, and at 43rd place on The Sunday Times Rich List for Europe, with a fortune estimated at £2.6 billion.Using its construction business as a cash-cow, Ferrovial has pushed hard into the public-private infrastructure field, funding airport, road and rail deals in Europe, America and Asia.“Like many of the big Spanish companies it realised that if it wanted to continue to grow, it had not only to diversify but to expand internationally,” said one Spanish analyst. Foreign operations now account for about 60% of the company’s turnover.It has two airports in the UK, Belfast and Bristol (which it owns in a joint venture with Macquarie, the Australian bank). It is also a big player in the running of London Underground, having picked up a one-third stake in the Tubelines consortium when it bought the troubled contractor Amey in 2003.
Tubelines is responsible under a 30-year contract for the operation and refurbishment of the track, signalling and stations on three Tube lines, the Jubilee, Northern and Piccadilly.
Since the purchase of Amey, Ferrovial has increased its stake in Tubelines, and now holds 66%. The other shareholder is Bechtel, the influential American project-management group.
The purchase of Amey also brought Ferrovial a beach-head in the UK private finance initiative (PFI) market, the largest in Europe. Amey last month won a project to refurbish and maintain 400 schools in West Yorkshire.Ferrovial itself has pushed into America through Cintra, its toll-road subsidiary, which has a separate listing from the main group. It has the concession to run the Chicago Skyway, and is working with the state of Texas on ambitious plans for a new trans-state corridor. The company’s early prowess in construction led to Del Pino Sr being dubbed “El Rey de Los Ladrillos” — King of the Bricks.
He handed over the reins to his son in 2000, and the company has retained its reputation in its core construction business. It was responsible for the Guggenheim art museum in Bilbao, one of the iconic buildings of modern Europe.
Rivals describe Del Pino Jr as a “hands-on” chairman. “I would describe him as an executive chairman, and I would also say he is incredibly smart.
“There is no doubt he sees this deal (the potential purchase of BAA) as the next big step forward, a way to turn Ferrovial into the world’s biggest airport group at a single stroke,” said the chief executive of a rival infrastructure group.
The Ferrovial approach sent BAA’s shares soaring, but Del Pino’s reputation means he is unlikely to be short of partners in assembling his bid consortium, the rival executive said. “I think his biggest problem will be demonstrating that he has a credible plan for dealing with BAA’s regulatory structure.”
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