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Heathrow, Gatwick and Stansted
Airports’ Price Caps, 2003-2008:
CAA recommendations to the
Competition Commission
February 2002
ANNEX
Financial modelling for Heathrow, Gatwick and Stansted
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Financial modelling at Heathrow, Gatwick and Stansted
The confidential version of this Annex gave further details of the CAA’s financial model.
This model, which contains sensitive information, is not being made publicly available.
However, two attachments to the Annex that are being published are:
• A Table setting out in full the price path commitment as it is currently
projected for Heathrow (Appendix 1);
• A note setting out the derivation of the amounts to be removed from the
starting RAB for Heathrow and Gatwick relating to the Terminal 5 revenue
advancement and pre-funding (Appendix 3).
3
Financial modelling Annex - Appendix 1
Full statement of price path commitment at Heathrow, 2003/4-2022/23
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023
Passengers, million 68.9 69.7 69.9 70.1 71.1 77.6 80.5 82.4 84.3 86.1 87.8 89.6 90.0 90.0 90.0 90.0 90.0 90.0 90.0 90.0
Base output rev/pax £5.68 £5.99 £6.34 £6.71 £7.11 £7.01 £6.91 £6.82 £6.73 £6.64 £6.55 £6.46 £6.37 £6.28 £6.20 £6.20 £6.20 £6.20 £6.20 £6.20
Additional output £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18 £18
rev/pax,
Stand revenue £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m £10m
Forecast revenue/pax £5.68 £5.99 £6.34 £6.85 £7.25 £9.63 £9.86 £9.98 £10.09 £10.19 £10.29 £10.38 £10.36 £10.30 £10.24 £10.24 £10.24 £10.24 £10.24 £10.24
Source: CAA
Notes:
All prices in 2000/1 constant terms;
Year refers to year in which control year ends, e.g. ‘2004’ refers to 2003/4;
‘Passengers’ are current CAA projection of passenger growth at Heathrow up to 2015/16. After that point a limit is applied of 90 million passengers.
‘Base output rev/pax’ is the per passenger amount applied to the number of ‘base output’ passengers achieved in each year. Until 2008/9 this would
be all passengers, unless Terminal 5 opens before 2008/9 in which case it applies to 60 million passengers. From 2008/9 it is applied only to 60
million passengers;
‘Additional output rev/pax’ is the per passenger amount applied to the number of passengers in each year that exceeds 60 million, once Terminal 5
has opened (projected for 2008/9). While the Table shows the price for all years, in the financial modelling it has only applied from 2008/9 onwards.
‘Stand revenue’ is an aggregate amount that applies for each year once the Terminal 5 airside road tunnel and stands are operational (projected for
2006/7). While the Table shows this for all years, in the financial modelling it has only been included from 2006/7 onwards.
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Appendix 3 – derivation of Terminal 5 RAB adjustment
This Appendix sets out the CAA’s derivation of the starting RAB adjustment to reflect
Terminal 5 advancement of revenue and pre-funding over 1997-2003.
Terminal 5 pre-funding and advanced revenue
This note sets out the calculation of the adjustments to the RAB for Heathrow and Gatwick. For CAA’s preferred scenario, these adjustments are as
follows:
Adjustments to the RAB Heathrow Gatwick
2000/01 prices £'m £'m
Terminal 5 pre-funding 100.5
Adjustment for advancement of revenue 216.5 82.9
Total 317.0 82.9
Note that the calculated adjustments do depend on forecasts of passenger numbers, traffic charges, inflation and capital expenditure for the remainder
of the current control period so can vary a little with different modelling scenarios.
Terminal 5 pre-funding
The adjustment for Terminal 5 pre-funding relates to traffic charges provided for in the current price control in respect of anticipated spend on
Terminal 5 that did not materialize. It is not possible to isolate the net effect of delays in Terminal 5 so the calculation has two stages: calculating the
present value of the revenues attributable to all unspent capital expenditure across all three London airports and an apportionment of that value to
determine an adjustment to the RAB.
This apportionment is carried out on the basis of a 50% figure as follows:
Calculation of pre-funding adjustment ref. source
Remuneration in respect of underspent capex V V= total U 2000/01 £201.1m
Percentage deemed attributable to efficiency W data 50%
Residual adjustment to RAB at 31/3/03 X X=V·(1-W) 2000/01 £100.5m
The source of the figure referenced “V” above is calculated in the following five pages, showing a calculation for each company and a summarised
total calculation for the three companies in total.
The calculation compares outturn (and projected) net investment in capex with the assumptions made for the current price control (documented in
the MMC report and related spreadsheet model). The calculation involves the calculation of required returns according to the MMC methodology,
which referred to a return of 7.5%. The following table calculates the corresponding discount factors, which are used later in the calculation. The
conversion of rates of return to discount rates uses the methodology adopted throughout CAA’s modelling and which is explained in full in the model
documentation (currently in the course of being completed).
Global data ref. source 1995/96 1996/97 1997/98 1998/99 1999/00 2000/01 2001/02 2002/03
Year number y year -7 year -6 year -5 year -4 year -3 year -2 year -1 year 0
Ratio of average RPI to RPI for 2000/01 A ECONdata! line 15 0.876 0.897 0.927 0.956 0.971 1.000 1.022 1.044
MMC price base (1995/96) B B=A95/96 0.876
MMC assessed rate of return C data 7.50%
MMC equivalent discount rate D D=C/(1-0.5·C) 7.79%
y
MMC discount factor at year-end E E=(1+D) 0.591 0.637 0.687 0.741 0.798 0.861 0.928 1.000
MMC discount factor in-year F F=E/(1+0.5·D) 0.569 0.614 0.661 0.713 0.768 0.828 0.893 0.963
Year adjustment starts from year -5
The last line of the above table identifies an embedded policy assumption that only unspent capex since the start of the current control period in April
1997 should be incorporated in the adjustment.
The following three tables carry out the calculation of returns attributable to unspent capex for each of the three airports.
Heathrow ref. source £'000s 1995/96 1996/97 1997/98 1998/99 1999/00 2000/01 2001/02 2002/03 Total
MMC additions in 1995/96 prices G X1! line 22 95/96 324,227 316,522 328,541 363,245 441,831 423,730 448,058 454,291
Outturn net investment in outturn prices H X1! line 39 outturn 304,100 160,900 345,200 206,800 166,900 242,600
Adjustment for non-RAB disposals I X1! line 40 outturn 46,800 12,000
Outturn RAB additions J J=H+I outturn 304,100 207,700 357,200 206,800 166,900 242,600
Forecast net investment (2000/01 prices) K X1! line 81 2000/01 367,757 522,680
MMC RAB additions in 2000/01 prices L L=G/B 2000/01 370,021 361,227 374,944 414,549 504,235 483,577 511,341 518,455
Outturn RAB additions in 2000/01 prices M M=J/A+K 2000/01 347,051 231,483 385,317 216,269 171,815 242,600 367,757 522,680
Real capex differences N N=L-M 2000/01 22,970 129,744 (10,373) 198,280 332,420 240,977 143,585 (4,224)
Cumulative differences b/f P Py=Ry-1 2000/01 (10,373) 187,907 520,327 761,304 904,889
Real capex differences taken (line 312) Q Q=N from 97/98 2000/01 (10,373) 198,280 332,420 240,977 143,585 (4,224)
Cumulative differences c/f R R=P+Q 2000/01 (10,373) 187,907 520,327 761,304 904,889 900,665
Average cumulative differences S S=(P+R)·0.5 2000/01 (5,187) 88,767 354,117 640,816 833,097 902,777
Return attributable to cumulative underspend T T=S·C 2000/01 (389) 6,658 26,559 48,061 62,482 67,708
Present value of return on underspend U U=T/F 2000/01 (588) 9,338 34,560 58,019 69,975 70,346 241,650
Gatwick ref. source £'000s 1995/96 1996/97 1997/98 1998/99 1999/00 2000/01 2001/02 2002/03 Total
MMC additions in 1995/96 prices G X2! line 22 95/96 51,576 66,473 77,870 63,659 49,296 61,008 51,270 44,583
Outturn net investment in outturn prices H X2! line 39 outturn 48,300 34,800 32,700 47,500 85,900 101,600
Adjustment for non-RAB disposals I X2! line 40 outturn 11,750 41,800
Outturn RAB additions J J=H+I outturn 48,300 46,550 74,500 47,500 85,900 101,600
Forecast net investment (2000/01 prices) K X2! line 81 2000/01 78,308 48,006
MMC RAB additions in 2000/01 prices L L=G/B 2000/01 58,861 75,862 88,868 72,650 56,259 69,625 58,512 50,880
Outturn RAB additions in 2000/01 prices M M=J/A+K 2000/01 55,122 51,880 80,364 49,675 88,430 101,600 78,308 48,006
Real capex differences N N=L-M 2000/01 3,739 23,982 8,504 22,975 (32,171) (31,975) (19,796) 2,874
Cumulative differences b/f P Py=Ry-1 2000/01 8,504 31,479 (692) (32,667) (52,463)
Real capex differences taken (line 312) Q Q=N from 97/98 2000/01 8,504 22,975 (32,171) (31,975) (19,796) 2,874
Cumulative differences c/f R R=P+Q 2000/01 8,504 31,479 (692) (32,667) (52,463) (49,589)
Average cumulative differences S S=(P+R)·0.5 2000/01 4,252 19,991 15,393 (16,679) (42,565) (51,026)
Return attributable to cumulative underspend T T=S·C 2000/01 319 1,499 1,155 (1,251) (3,192) (3,827)
Present value of return on underspend U U=T/F 2000/01 482 2,103 1,502 (1,510) (3,575) (3,976) (4,974)
Stansted ref. source £'000s 1995/96 1996/97 1997/98 1998/99 1999/00 2000/01 2001/02 2002/03 Total
MMC additions in 1995/96 prices G X3! line 22 95/96 11,851 10,628 13,948 14,321 26,729 36,605 24,521 24,975
Outturn net investment in outturn prices H X3! line 39 outturn 9,626 14,315 13,960 23,738 46,636 104,543
Adjustment for non-RAB disposals I X3! line 40 outturn 14,000
Outturn RAB additions J J=H+I outturn 9,626 14,315 13,960 37,738 46,636 104,543
Forecast net investment (2000/01 prices) K X3! line 81 2000/01 88,098 60,678
MMC RAB additions in 2000/01 prices L L=G/B 2000/01 13,525 12,129 15,918 16,344 30,505 41,775 27,984 28,502
Outturn RAB additions in 2000/01 prices M M=J/A+K 2000/01 10,986 15,954 15,059 39,466 48,009 104,543 88,098 60,678
Real capex differences N N=L-M 2000/01 2,539 (3,825) 859 (23,122) (17,505) (62,768) (60,114) (32,176)
Cumulative differences b/f P Py=Ry-1 2000/01 859 (22,263) (39,768) (102,536) (162,650)
Real capex differences taken (line 312) Q Q=N from 97/98 2000/01 859 (23,122) (17,505) (62,768) (60,114) (32,176)
Cumulative differences c/f R R=P+Q 2000/01 859 (22,263) (39,768) (102,536) (162,650) (194,825)
Average cumulative differences S S=(P+R)·0.5 2000/01 429 (10,702) (31,016) (71,152) (132,593) (178,738)
Return attributable to cumulative underspend T T=S·C 2000/01 32 (803) (2,326) (5,336) (9,944) (13,405)
Present value of return on underspend U U=T/F 2000/01 49 (1,126) (3,027) (6,442) (11,137) (13,928) (35,611)
Finally, the following table consolidates these three calculations to derive the overall total present value of returns attributable to unspent capex of
£201.1 million (“V”, as referred to above).
Total ref. source £'000s 1995/96 1996/97 1997/98 1998/99 1999/00 2000/01 2001/02 2002/03 Total
MMC additions in 1995/96 prices G consol line 22 95/96 387,654 393,623 420,359 441,225 517,857 521,343 523,849 523,849
Outturn net investment in outturn prices H consol line 39 outturn 362,026 210,015 391,860 278,038 299,436 448,743
Adjustment for non-RAB disposals I consol line 40 outturn 58,550 53,800 14,000
Outturn RAB additions J J=H+I outturn 362,026 268,565 445,660 292,038 299,436 448,743
Forecast net investment (2000/01 prices) K consol line 81 2000/01 534,162 631,363
MMC RAB additions in 2000/01 prices L L=G/B 2000/01 442,406 449,218 479,730 503,543 590,999 594,977 597,837 597,837
Outturn RAB additions in 2000/01 prices M M=J/A+K 2000/01 413,158 299,318 480,740 305,410 308,254 448,743 534,162 631,363
Real capex differences N N=L-M 2000/01 29,248 149,900 (1,011) 198,133 282,745 146,234 63,675 (33,526)
Cumulative differences b/f P Py=Ry-1 2000/01 (1,011) 197,123 479,868 626,101 689,776
Real capex differences taken (line 312) Q Q=N from 97/98 2000/01 (1,011) 198,133 282,745 146,234 63,675 (33,526)
Cumulative differences c/f R R=P+Q 2000/01 (1,011) 197,123 479,868 626,101 689,776 656,250
Average cumulative differences S S=(P+R)·0.5 2000/01 (505) 98,056 338,495 552,985 657,939 673,013
Return attributable to cumulative underspend T 2000/01 (38) 7,354 25,387 41,474 49,345 50,476
Present value of return on underspend U U=T/F 2000/01 (57) 10,315 33,035 50,067 55,263 52,443 201,065
Revenue advancement
The revenue advancement adjustment is designed to fulfil the intention expressed at the time of the last review to recognise that the ten year price
profile calculated following the MMC review involved an advancement of revenues to the first five years which should be taken into account at the
following price review. Note that this issue is quite separate from the Terminal 5 pre-funding issue and the adjustment would have remained
appropriate even if Terminal 5 had been built as anticipated.
The calculation takes as its base the formula specified by the CAA in 1996, the results of which have been notified every year since. The formula used
by the CAA has been incorporated into the CAA-airp model, although the results do not produce exactly the same results as those notified since the
CAA’s official calculations each year have included some roundings. The results of this formula within the CAA-airp model are shown in the
following table, using outturn data and forecast data for 2001/02, with comparisons with the amounts from the official calculations:
Calculation of post-tax advancement outturn prices, £000s ref. source 1997/98 1998/99 1999/00 2000/01 2001/02
Per CAA-airp model using model data
Heathrow A RevAdv! line 162 13,746 37,534 63,755 100,871 166,043
Gatwick B RevAdv! line 140 5,028 15,454 26,676 40,883 63,622
Total C C=A+B 18,774 52,988 90,431 141,754 229,665
Totals notified by CAA 18,781 53,041 90,315 141,733
Differences (7) (53) 116 21
It should be noted that the results of this formula will only be finalised when outturn data for 2001/02 is available. The provisional results of this
calculation for 2001/02, the last year the formula as designed for, are converted into a pre-tax figure in 2000/01 prices in the following table:
Pre-tax advancement at end of formula period 2000/01 prices, £000s ref. source 2001/02
Ratio of year-end RPI to RPI for 2000/01 D ECONdata!O13 1.030
Prospective tax rate E data 30.0%
Pre-tax advancement figure
Heathrow F E=A/[D·(1-E)] 230,216
Gatwick G F=B/[D·(1-E)] 88,211
Total H H=F+G 318,427
The current control period was extended by a year beyond the period originally intended at the last review and anticipated in the CAA formula. It is
therefore necessary to find a way of rolling forward the figure calculated in the last table to the end of the extended control period, to 31 March 2003.
It was thought appropriate to recognise that the original MMC price profile involved some reversal of the revenue advancement during 2002/03.
Recognising such a reversal would require the figure calculated for 31 March 2002 to be reduced.
The first step is to ana lyse the original profile determined by the calculations at the last review.
Summary of MMC calculations 1995/96 prices, £'m ref. source 1995/96 1996/97 1997/98 1998/99 1999/00 2000/01 2001/02 2002/03 2003/04 2004/05 2005/06 2006/07
RAB balance b/f I Xs line 331 3,449m 3,737m 4,026m 4,330m 4,643m 5,015m 5,391m 5,771m 6,147m 6,417m 6,682m 6,938m
Additions J Xs line 332 388m 394m 420m 441m 518m 521m 524m 524m 468m 474m 474m 474m
Depreciation K Xs line 333 (100m) (105m) (116m) (129m) (146m) (145m) (144m) (148m) (199m) (208m) (218m) (220m)
RAB balance c/f L L=I+J+K 3,737m 4,026m 4,330m 4,643m 5,015m 5,391m 5,771m 6,147m 6,417m 6,682m 6,938m 7,192m
Average RAB balance M M=L·0.5+K·(1-0.5) 4,178m 4,486m 4,829m 5,203m 5,581m 5,959m 6,282m 6,549m 6,810m 7,065m
Regulated charges N Xs line 340 370m 369m 387m 416m 410m 427m 452m 478m 509m 537m
Opex O Xs line 341 (640m) (667m) (655m) (662m) (661m) (689m) (756m) (769m) (814m) (825m)
Other income P Xs line 342 786m 841m 808m 801m 813m 832m 896m 926m 960m 991m
Depreciation Q Q=K (116m) (129m) (146m) (145m) (144m) (148m) (199m) (208m) (218m) (220m)
Total return R R=N+O+P+Q 400m 414m 394m 410m 418m 422m 394m 428m 437m 482m
Return as % of average RAB S S=R/M 9.6% 9.2% 8.2% 7.9% 7.5% 7.1% 6.3% 6.5% 6.4% 6.8%
Arithmetic average return on RAB 7.55%
This identifies the anticipated pattern of annual ‘accounting’ returns which shows a markedly higher level of returns in the current control period
compared with the last four years of the ten year profile.
The following table isolates from this pattern of returns a ‘pure profile’ element (NPV of zero) which we can use to relate the value of revenue
advancement at the end of March 2002 with a figure for the end of March 2003.
Underlying profile in MMC determination 1995/96 prices, £000s ref. source 1997/98 1998/99 1999/00 2000/01 2001/02 2002/03 2003/04 2004/05 2005/06 2006/07 Total
MMC assessed rate of return T data 7.50%
MMC equivalent discount rate U U=T/(1-0.5·T) 7.79%
Year number y year -5 year -4 year -3 year -2 year -1 year 0 year 1 year 2 year 3 year 4
y
MMC discount factor at year-end V V=(1+U) 0.687 0.741 0.798 0.861 0.928 1.000 1.078 1.162 1.252 1.350
MMC discount factor in-year W W=V/(1+0.5·U) 0.661 0.713 0.768 0.828 0.893 0.963 1.038 1.118 1.205 1.299
Total projected return per MMC X X=R 399,791 414,305 394,083 410,064 418,018 421,952 393,726 427,716 437,330 482,469
Required return on RAB Y Y=M·T 313,363 336,485 362,145 390,206 418,566 446,921 471,132 491,211 510,782 529,900
Additional return Z Z=X-Y 86,429 77,820 31,939 19,858 (548) (24,969) (77,406) (63,495) (73,451) (47,431)
Present value of additional return AA AA=Z/W 130,676 109,154 41,560 23,973 (614) (25,942) (74,608) (56,776) (60,931) (36,502) 49,989
No of years apportioned BB choice 6 1 1 1 1 1 1 0 0 0 0
Apportionment of additional return CC CC=BB*sum(AA)/Sum(BB/W) 6,593 6,593 6,593 6,593 6,593 6,593 0 0 0 0
Residual 'pure profile' element DD DD=Z-CC 79,836 71,226 25,346 13,265 (7,141) (31,562) (77,406) (63,495) (73,451) (47,431)
Total (equals additional return) EE EE=CC+DD=Z 86,429 77,820 31,939 19,858 (548) (24,969) (77,406) (63,495) (73,451) (47,431)
Present value of 'pure profile' FF FF=DD/W 120,707 99,906 32,981 16,014 (7,998) (32,792) (74,608) (56,776) (60,931) (36,502) 0
Cumulative present value of pure profile GG GG=cumulative FF 120,707 220,613 253,594 269,607 261,609 228,817 154,209 97,433 36,502 0
HH HH=GG3/03/GG 3/02 87.5%
Undiscounted cumulative value of pure profile II II=GG·V 82,946 163,411 202,477 232,037 242,698 228,817 166,225 113,208 45,717 0
JJ JJ=II 3/03/II 3/02 94.3%
Note that the line referenced “BB” in the above table identifies an embedded policy choice relating to the allocation of implied ‘headroom’ in the
MMC calculations. The overall figure of some £50 million is allocated 100% to the current control period. The result of different assumptions only
affects the final calculation by relatively small amounts (if allocated only to the first five years, the adjustment would be £ 307.5 million, or £304.2
million if spread evenly over the full ten years compared with a used figure of £299.4 million).
The above table calculates two ratios: the ratio from 2003 to 2002 of the cumulative present value of the ‘pure profile’ and of the undiscounted
cumulative value. It might normally be appropriate to refer to the undiscounted ratio, but in order to preserve features of the CAA formula, the
approach used in the CAA-airp model applies an uplift of 1.075 (the uplift used in the CAA formula) which results in a slightly different result (a net
scaling of 94% rather than 94.3%).
The following table shows the selection of the PV ratio and formula uplift and derivation of the revenue advancement figure.
Scaling of 31/3/2002 advancement figure 2000/01 prices, £000s ref. source £'m 2001/02 2002/03
Scaling of PV of profile from 31/3/2002 to 31/3/2003 KK KK=HH 87.5%
Cost of capital uplift assumed in advanced revenue calculation LL LL=RevAdv!P112 1.075
Scaling factor consistent with formula MM MM=KK·LL 94.0%
Scaling of undiscounted profile from 31/3/2002 to 31/3/2003 NN NN=JJ 94.3%
Choice of scaling factor Scaling factor consistent with formula1 OO OO=choice(MM,NN) 94.0%
Advancement figure at 31/3/2002
Heathrow PP PP=F 230,216
Gatwick QQ QQ=G 88,211
Total RR RR=PP+QQ 318,427
Advancement figure at 31/3/2003
Heathrow SS SS=PP·OO 216,461
Gatwick TT TT=QQ·OO 82,940
Total UU UU=SS+TT 299,401
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