Competition Analysis
Introduction
9.22 The Commission must determine whether the airfield services supplied by WIAL are supplied in a market in which competition is limited (or is likely to be lessened).
9.23 In Chapter 3, the Commission came to the conclusion that, for the purposes of this Inquiry, the relevant product market is the airfield services market, as defined by the airfield activities in the Airport Authorities Amendment Act 1997. The issue of whether airports are in competition with each other in the airfield services market, or whether each operates in a geographically distinct market, was also broadly canvassed. The Commission came to the preliminary view in Chapter 3 that, in terms of the geographical dimension of the market, its generic analysis of passenger and airline demand suggested that, for most traffic, none of the three airports faced significant competition either from each other, or from other regional airports.
9.24 In assessing WIAL's ability to exercise market power, the following considerations, which are further addressed below, are important:
- On the supply-side of the market, the actual competition from existing airports, or potential competition from new airports.
- On the demand-side, the possibility of airlines and their passengers and freight customers switching to other airports.
- The potential countervailing power of airlines.
- The present regulatory regime.
Demand Characteristics
9.25 The weighted elasticity of demand determined for Wellington International Airport in Chapter 3 was [...].
Competition and Substitutes
9.26 In Chapter 3, the Commission noted that the nature of the investment in international airport facilities (with very large sunk costs), such as those at Wellington International Airport, is likely to mean barriers to entry are high and, that in consequence, competition from potential entrants is low. It was noted that Wellington, like the other international airports, may face competition from other airports in the provision of airfield services. This competition may be the potential competition from prospective new entrants, and the existing competition from other airports already operating. The specific circumstances of Wellington International Airport are now examined.
General Aviation
9.27 Airport substitutability from a supply-side perspective depends largely upon the size of aircraft. Smaller aircraft are more flexible as to where they can land. For small, general aviation (GA) aircraft, Paraparaumu Airport is a possible substitute for Wellington International Airport in the Wellington region. Indeed, such substitution has to some extent been forced upon GA operators by operating constraints at Wellington International Airport and also by charges (GA aircraft landing charges have seen some of the biggest increases in the last ten years). However, GA aircraft still use Wellington International Airport, and some operators have a preference to do so because of the better facilities and location. The Wellington Aero Club also has its facilities at the airport.
9.28 GA aircraft impact on peak hour congestion at Wellington, as they take up landing slots, and also reduce the number of movements that can be achieved per hour. WIAL tries to encourage GA aircraft to operate outside peak periods.
Domestic Aircraft
9.29 From a supply-side perspective, and focusing only on domestic traffic, which does not involve the use of the larger aircraft, there appears to be considerable scope for substitution between a number of airports in large centres and regional areas.
9.30 However, while there are many airports capable of servicing domestic aircraft, domestic travel tends to be destination specific. Other airports are, therefore, unlikely to be a substitute for Wellington when passengers wish to go there. For example, most people wishing to travel to Wellington - whether business people on a day return trip, leisure travellers making international connections, or commuter travellers who are interlining (who would suffer the inconvenience of having to transfer between airports if they were delivered to one airport but making a connection at another) - would find Paraparaumu or Palmerston North poor substitutes because of the time delays and the extra costs imposed. Also, Paraparaumu Airport would not appear to be a good supply-side substitute for domestic flights to Wellington unless it is substantially upgraded.
9.31 Even if WIAL imposed a substantial increase in airport charges, competition between the domestic airlines would probably ensure that Wellington remained the destination. If an increase in charges were to cause an airline to stop servicing Wellington International Airport, another airline would likely start operating as demand for air travel to and from Wellington would still exist, or, alternatively, remaining airlines would probably increase flight frequencies to fill the gap. Further, airport charges are not the most significant operating costs for an airline, so airlines would likely accept an increase in costs, rather than fly to an alternative airport and lose to a competitor the business generated from servicing Wellington International Airport (given the additional loss of losing connecting international flights or not being a person or entity's preferred airline because all airports are not serviced).
9.32 To some extent, Wellington International Airport is a domestic hub, with flights between regional centres operating through the airport. This suggests that, for domestic services, Wellington International Airport has essentially a regional monopoly, in that, in the large majority of cases, there are no substitutes for its services for travellers wishing, and freight needing, to fly into or out of Wellington.
International Aircraft
9.33 Wellington International Airport is limited by its relatively cramped site and runway length, which prevents it from handling the largest aircraft (such as Boeing 747) on long-haul routes. In addition to these technical limitations on its operations, there is also a night curfew (from 1 am to 6 am). Auckland and Christchurch International Airports have the advantage over Wellington (and other airports) in being able to handle the largest international jets needed for maximum flight distances and in not having curfews.
9.34 A number of airports can, and currently do, service the smaller Boeing 737 and 767 aircraft that are operated on shorter distance international routes such as Australia and the South Pacific. In Wellington's case, Palmerston North Airport is the most likely competitor in terms of outbound flights by New Zealand residents, with Air New Zealand operating its discount Freedom Air services from there to Australia. WIAL presented data from Statistics New Zealand for the period ending 30 June 2001, which showed that, although 85% of Wellington region residents travelling to Australia left from Wellington International Airport, the remaining 15% left from other New Zealand airports, including 10% from Auckland and 4% from Palmerston North.367 The latter resulted from the operation of Freedom Air from that city.
9.35 Despite this, the Commission considers that Palmerston North does not provide sufficient competition to be viewed as a close substitute for most travellers. In terms of inbound tourists, their choice of airport is likely to be driven by destination.
9.36 WIAL argued that, although a good proportion of aircraft movements are "captive" to the Airport, those at the margin are susceptible to competition from other airports. The loss of a service involving a larger jet aircraft can impose a significant loss of business on the Airport. There is scope for certain airports to compete for traffic at the margin.368
9.37 Wellington International Airport does not offer the same level of international services as Auckland or Christchurch. For long-haul international flights, the majority of New Zealand residents will go through Auckland airport to join connecting flights en route to their ultimate destination. WIAL cited the example of departures of Wellington region residents to Fiji, where 71% left through AIAL and only 29% through Wellington International Airport.369 WIAL argued that these patterns reflected Air New Zealand's hubbing through Auckland, which has the effect of drawing Wellington into competition with Auckland. The larger population base in Auckland may also be responsible for there being more flights from Auckland than Wellington. However, operating constraints at Wellington are a large cause of the limited direct international flights available from the airport.
9.38 As noted in Chapter 8, there are plans being promoted by the Palmerston North City Council for Ohakea to be established as an international airfreight gateway, although the likelihood of this happening is not known. This might provide competition for Wellington in respect of freight services. However, for it to happen, the Government would need to approve Ohakea for combined civilian-military use and Ohakea's runway would need to be reconstructed (at a reported cost of $20m).
Conclusion
9.39 The Commission considers there are limited supply side substitutes for the airfield services supplied by WIAL, but only at the margin. The potential or existing competition faced by WIAL in supplying airfield services is low.
9.40 In submissions, WIAL agreed that, with the exception of GA operators, airlines operating larger turbo-prop and jet aircraft often have little choice but to use its facilities to offload and uplift passengers and freight at Wellington International Airport. It noted that a good proportion of aircraft movements at Wellington are "captured".370
Constraints on Exercise of Market Power
9.41 As noted in Chapter 3, the current regulation of airports relies principally upon the countervailing power of airlines, and the requirements on airport operators to disclose information about their operations and to consult substantial customers.
Countervailing Power
9.42 At the Conference and in submissions, views of the airlines and WIAL on the strength of countervailing power of airlines differed markedly. BARNZ agreed with the Commission's preliminary finding in the Draft Report that WIAL is unlikely to be significantly constrained by the countervailing power of airlines under the current regime, and that the airlines stand to lose greater amounts than WIAL from withdrawing custom.371 In contrast, WIAL considered the Commission had not given sufficient weight to the regulatory regime and countervailing power of the airlines,372 although WIAL considered it inevitable that the Commission would find that competition is limited (given the threshold adopted).373
9.43 WIAL was not prepared to concede that it operated in a market where competition was lessened. It cited the "down-gauging" of aircraft type in recent years, with a consequent adverse impact on its revenue, as an example of its vulnerability to changes by airlines in their operations. WIAL also argued that when airlines object to rises in charges they can, for example, "short pay" or threaten litigation, as witnessed by the amount of litigation against the company by Air New Zealand. WIAL's two major customers - Air New Zealand and Qantas Airways - together make up 94% of its aircraft-movement-related revenue, which WIAL argued gives them significant countervailing power.374 WIAL submitted that this makes it highly dependent on the continued use of the airport by these airlines. WIAL also argued that the low returns it had earned historically, based on the Commission's own calculations in the Draft Report, indicated it had not, on average, been earning excessive profits from over-charging.375 While the Commission accepts returns have generally been low, they worsened noticeably after 1996, an outcome which appears to be connected with the need to get airline support for investment in the new terminal (achieved through the signing of the five-year Deed). The Commission considers this indicated that countervailing power of airlines may be stronger in some conditions than in others.
9.44 WIAL submitted that the financial performance of WIAL is determined by maintaining, and increasing where possible, the number of aircraft movements. Thus the loss of even a few movements at the so-called margin, to another airport, can, over time, be costly. The larger jet aircraft, whether an international flight or not, can deliver and uplift around 200 passengers at a time, plus an additional number of airport visitors to deliver or meet those passengers.376
9.45 WIAL further submitted that the Commission had applied undue weight in the Draft Report to the airlines being "dissatisfied" as some sort of evidence that the statutory consultation process and information disclosure regime does not work. WIAL argued that this was inconsistent with the findings of the High Court and the Court of Appeal, which studied the regime in the early 1990s (at a time when it did not include information disclosure).377 WIAL cited in support of its argument the comment by McGechan J in Air New Zealand v WIAL that consultation provides a:378
...compulsory opportunity for vigorous and informed objection by powerful airline interests, and the political and consumer consequences which may follow. That "consultation" obligation is to be interpreted and promoted so as to permit the full exercise of such countervailing power.
9.46 WIAL argued information asymmetry applied in both directions given WIAL's reliance on the plans of the airlines (in terms of forecast movements and route schedules/changes), to which it is not privy.379
9.47 In general, a buyer must account for a substantial portion of a supplier's business before it has the potential to exert significant countervailing power against that supplier. The threat by a small buyer to switch its business elsewhere will have little impact on the supplier's behaviour. Thus, the size of the airlines and their collective efforts are an important determinant of any countervailing power against the market power of the airports.
9.48 The number of airlines operating at Wellington International Airport is quite small, and two airlines (Air New Zealand and Qantas) provide the bulk of WIAL's revenues from landing charges. In addition, there is a growing tendency for international airline alliances. Airlines have also demonstrated capability to act collectively, as through BARNZ, and to engage in lobbying, in pursuit of common interests. This suggests that the buyer concentration needed as a prerequisite for the exercise of countervailing market power exists at Wellington International Airport, at least in principle. The question is whether it is effective.
9.49 The ability to switch to alternative suppliers is crucial to the exercise of countervailing power. The behaviour of a supplier with market power is likely to be moderated where a significant buyer can credibly threaten to switch its custom elsewhere.
9.50 One factor favouring countervailing power is that the capital of airlines (in contrast to that of WIAL) is relatively mobile, and hence has the potential to be relatively easily deployed elsewhere. For example, overseas-based international airlines have the power to deploy their limited fleets to destinations in other countries, and some have withdrawn services to New Zealand, or resorted to code-sharing when this proved more cost-effective than providing a direct service. having said this, airlines do invest in costs which arguably become sunk at particular airports (e.g., maintenance facilities), thereby reducing their ability (and hence the credibility of any threat) to move elsewhere, thereby undermining any countervailing power they might possess. It is difficult to see how Air New Zealand, for example, could withdraw from providing air services in this country. Air New Zealand has a strong position in New Zealand and relies on the country to some extent for its marketing and brand image.
9.51 The major airlines have demonstrated a willingness to withhold airport payments and to consider court action. This indicates that the airlines do have some power to impose, or to threaten to impose, costs on WIAL.
Consultation
9.52 Airlines, as users interested in minimising their costs, want to monitor airport charging and efficiency. The statutory consultation process provides an avenue through which this monitoring may take place. However, the airlines have been dissatisfied with the consultation process and its outcomes to date.
9.53 WIAL has had a history of litigation associated with consultation. Litigation occurred twice in the early 1990s in connection with WIAL's setting of charges, initially upon its vesting, and also in connection with a subsequent increase. Such litigation imposed substantial costs on WIAL, both in terms of the cost of lawyers and experts, and in diverted management time. Air New Zealand also withheld payment until the litigation was finished.
9.54 On 1 July 1997, WIAL signed a five-year Deed with the major airline users (Air New Zealand, Qantas, Ansett New Zealand, Air Pacific, Polynesian Airlines) over airport charges (including landing charges). The Deed sets out, inter alia, arrangements for consultation, charging and arbitration of disputes. WIAL argued that this is a feature that might be expected in a competitive market, where firms strive to maintain long-term commercial relationships with valued customers.380 However, debate at the Conference suggested that WIAL had tempered its stance on prices at that time in order to win support from the airlines for its planned new terminal building, which Air New Zealand had been opposing, to the point of initiating legal action.381 WIAL has indicated that the prices in the Deed were too low to yield even a competitive return, and that its current priority is to seek an increase in the current round of consultations with the airlines (to set prices beyond the expiry of the deed on 30 June 2002).382 The outcome of WIAL's current consultation is yet to be seen. However, WIAL's past consultation suggests that there may be certain circumstances when airlines' ability to exercise countervailing power may be enhanced, such as when an airport seeks their support for a major investment.
Conclusion
9.55 There are clearly widely disparate views on the effectiveness of countervailing power of the airlines, as augmented by the regulatory requirement for WIAL to consult with its substantial customers, and to publish information under disclosure requirements.
9.56 The Commission considers that the countervailing power of the airlines cannot be ignored as a feature of the relevant markets. The current regulatory regime appears to provide some constraint on WIAL. However, the Commission is of the view that there are not sufficient constraints on the exercise of market power by WIAL. While WIAL is required to consult with substantial customers before setting charges, WIAL ultimately has the power to set whatever charges it thinks fit. There is no requirement to negotiate or reach commercial agreement. Airlines do have some power, but their ability to effectively exercise that power is limited.
Assessment of Whether Competition is Limited
9.57 In submissions, WIAL accepted it as inevitable that the Commission would find that competition was limited for the airfield services supplied by WIAL. However, WIAL did not consider that this conclusion meant that it had high market power. WIAL submitted that the level of its market power is a relevant factor when considering the test of control being necessary or desirable under section 52(b) and whether or not control should be imposed.383
9.58 WIAL has relatively high market power in the market for airfield services due to the lack both of supply side substitutes and adequate countervailing power of airlines. It is not economical, and often not possible, to duplicate many of the assets associated with facilitating aircraft movement in a particular region, and demand tends largely to be region-specific. The lack of alternative airports to meet customer-driven origin and destination demand, means airlines cannot credibly threaten to remove sufficient custom to produce an undesirable consequence, and thereby discipline any airport's pricing decisions. Any reduction in use by one airline will tend to be replaced by increased use by another airline, as that second airline moves to meet the customer-driven origin and destination demand in the competitive market.
9.59 The structure of the market, and the impact of a regulatory approach designed to encourage countervailing power, provides a counter-weight to the potential market power of the major airports. However, the presence of such a regulatory framework indicates a concern about possible market power. The evidence of litigation also indicates that there has previously been dissatisfaction with the outcome of WIAL's consultation, although WIAL's Deed indicates that, in certain circumstances, commercial agreements are possible.
9.60 The Minister's Notice requires the Commission to report to the Minister on whether "airfield activities provided by the three major international airports are supplied or acquired in a market in which competition is limited or is likely to be lessened". The airfield services supplied by WIAL to aircraft operators form the bulk of the airfield services market at Wellington International Airport and are, in the Commission's view, subject to limited competition. The goods or services (falling within the definition of airfield activities) provided by WIAL to aircraft operators that are subject to limited competition are set out in Table 36.
Table 36: Airfield Services Supplied by WIAL Subject to Limited Competition
| Airfield Activities | Goods and Services Supplied by WIAL |
|---|
| Airfields, runways, taxiways, and parking aprons for aircraft | Airfields, runways, taxiways, and aprons. |
| Facilities and services for air traffic control | None. |
| Facilities and services for parking apron control | Apron supervision vehicles. |
| Airfield associated lighting | Stand lighting and nose in guidance units. |
| Services to maintain and repair airfields, runways, taxiways, and parking aprons for aircraft | Maintenance undertaken by outside contractors under the supervision of WIAL (costs recovered in landing charges). |
| Rescue, fire, safety, and environmental hazard control services | Provides rescue fire service and airside services team. The airside services team monitor the safety of the apron, conduct runway checks, co-ordinate airside works, look after bird and hazard control, and monitor airside rules. |
| Airfield supervisory and security services | Provides and maintains security fencing, perimeter patrols, and management of systems. |
| Facilities/assets held for future airfield activities | None. |
9.61 The Commission has reached the conclusion that the airfield services supplied by WIAL are supplied in a market in which competition is limited (or is likely to be lessened). The first requirement of section 52 is, therefore, satisfied. The remainder of this Chapter considers whether it is necessary or desirable for the prices, revenue, or quality standards of any of the goods or services identified above to be controlled in the interests of acquirers; and whether airfield activities should be controlled.
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