My way or the runway

Most people like airports. An ingenious feat of architecture and functionality, they are often beautiful to look at. They also offer a wealth of amenities, from restaurants and bars to luxury boutiques and duty free. And they are generally synonymous with holidays – or a glass of something fizzy in business class. If there wasn’t security to go through, city dwellers would probably head there more often to do their shopping while watching planes take off.

Investors like airports even more. And if there weren’t highly competitive auctions to get through, they too would probably more often venture into the sector. “Many infrastructure investors would really like to own airports,” says Damian Stanley, a principal for investments at Sydney-based fund manager AMP Capital. “They’re well recognised assets, and they’re also very interesting businesses.”

What makes airports so sexy is their complexity. “They form their own asset class in comparison with other infrastructure assets as toll roads or electricity transmission”, says Alfonso Barona, corporate development director at Spanish developer Ferrovial. “Similarities can be drawn, but ultimately there are many more variables that affect their performance.”

Airports generate revenues through the fees they charge airlines and taxes they levy on passengers, but they also make money through the other facilities that come under their roof – be it shops, restaurants or car parks. In that sense, they are unusual infrastructure businesses. But in the eyes of many, they still remain infrastructure assets.

“When people first asked me whether airports were core infrastructure, I almost fell from my chair,” recalls Mathias Burghardt, head of infrastructure at French-based fund manager Ardian. “There’s a confusion between what defines a core infrastructure asset and its risk profile. People forget about the essential role airports play and focus on whether they generate fixed revenues.”

He confesses that short of being fully regulated, airports tend to see their turnover evolve in close correlation to GDP growth, sometimes even mimicking economic trends in an amplified fashion. “But this risk applies to all types of infrastructure,” he argues. “Even assets that look protected are not immune to unforeseen competition.”

Yet while this makes airports a prime target for infrastructure investors, it also means they’re not easy to value. With cash flows conditioned by so many different factors, how do fund managers come up with the right assumptions to populate their models?

INSIDE THE COCKPIT

There are macro considerations to take into account. Scale is probably the first one, explains John Bruen, a London-based managing director at Australian fund manager Macquarie Infrastructure & Real Assets. “It needs to be big enough for us, as we typically invest in relatively large assets.”

Another aspect to shed light on is the extent to which the airport is regulated. That will depend in large part on the market power a hub has, Bruen says. A large airport enjoying a near-monopoly in its catchment area will probably be limited in its capacity to change prices; a smaller one may be regulated only on its aeronautical revenues. Others may be free to charge whatever they want to whoever they like.

And then there is the governance structure: does the level of control a potential investor will have allow it to implement its business plan? A majority stake will often trade at a premium, Bruen says. By comparison, he notes, listed airports trade at roughly around 10x EBITDA. “That’s relatively cheap. One reason for this is that, if you’re investing in them, you’re not getting any material governance.”

Once these questions have been settled, practitioners will want to zoom in on each revenue line one by one. Start with the aeronautical side of the business. Potential investors in a given airport will first assess whether passenger traffic is resilient and if it has room to grow, explains Christian Seymour, European head of infrastructure at Australia-based IFM Investors.

The former part of the question will depend in no small part on the nature of a given hub’s passengers: business travellers tend to continue flying during times of crisis, while a larger proportion of tourists stay on the ground when the economy slows down. Assessing potential growth, on the other hand, means furthering the analysis in multiple directions: is the airport already running close to full capacity? Is another airport in the vicinity about to add another runway (a question of current relevance in London)?

But that leaves one side of the aeronautical equation unaddressed: the airlines themselves. “Are your main clients low-cost businesses, charter airlines, flag carriers? In what financial shape are they? Do they have plans to increase capacity across their network?” asks Stanley.

He warns that historical performance is not always a good indicator of airlines’ future fortunes, and, as such, projections are never completely accurate. A particular challenge, he notes, will be to balance robust passenger growth against a sustained increase in airline yield. “In the past some investors may have assumed airports could do both simultaneously. But that is not always achievable.”

Some investors think the retail side of the equation is more straightforward: there are reliable ways to benchmark commercial revenues against existing airports, says Burghardt. Yet trying to evaluate the business’s potential for growth can be a thornier enterprise. There’s a lot of levers asset owners can pull to improve sales, observes Barona: expand the commercial area, tinker with prices, change the layout.

“You need to form a clear view on the underlying drivers of and opportunities for the car parking, food & beverage, retail businesses. You also need to align opex and capex forecasts. These are typically pretty material areas,” agrees Stanley.

The complexity of the exercise means valuations ascribed to a single asset can differ markedly across the industry – and indeed sometimes they do. That’s partly explained by varying costs of capital, reckons Barona. “With considerable liquidity and a lot of capital chasing few assets, the market is naturally very competitive. Investors have to rethink their target IRRs if they want to be successful in bidding processes.”

ON THE RADAR

Discrepancies also reflect different business plans, which themselves often depend on how optimistic potential bidders are about future revenue growth. Since the latter is generally correlated with GDP, Barona believes valuations tend to vary much more in emerging markets than OECD economies (as these tend to grow within a narrower band).

These factors are exacerbated by the arrival of fresh bidders in the market, Stanley argues. “Some investors have a very long track record at owning and managing airports. But there’s also newer capital looking at airports for the first time. These institutions are keen to invest, but they may not always have the necessary experience.”

There are some well-publicised transactions where a gap between bidders’ valuations emerged: Perth Airport, for instance, which saw Australia’s Future Fund and AustralianSuper continue the argument in court; or Brazil’s Galeão and Confins Airports, both privatised in 2013 at a time when the Latin American economy was booming (it is now in recession).

It’s often difficult to say when a buyer went overboard, as performance only becomes visible over the long term. Still, insiders often have their views. Some believe, for example, that a consortium formed of state-owned group Shandong Hi-Speed Group and Hong Kong-based investment firm Friedmann Pacific Asset Management paid a hefty sum for a stake in Toulouse Airport last December. “Perhaps they saw an opportunity to grow the business, maybe with traffic coming out of China, that other people didn’t see,” notes a fund manager.

The transaction is said to have valued the airport at 18x EBITDA. An even starker case was that of Budapest Airport, bought by the UK’s BAA in 2005 on an estimated 27x multiple. “The equity value was destroyed, and the debt probably restructured. The problem is that assumptions were based on pre-Crisis projections. But then the market turned on its head,” says another dealmaker. The hub has since changed hands several times.

For all this, Bruen observes that large discrepancies are the exception rather than the rule. “With privatisation processes involving many different bidders from different jurisdictions and backgrounds, you’ll get more dispersion in valuation. But at the more sophisticated end of the market you’ll find a lot of convergence.”

Which is why all eyes are now turning to high-profile prizes expected to come on the block soon, such as London City Airport, currently owned by the US’ Global Infrastructure Partners and Oaktree Capital Management, as well as Lyon and Nice Airports, which the French government has signaled it wants to privatise. With few other big assets in the pipeline, it’s no surprise prospective bidders are keen to arrive early at the check-in counter.