the CAA said - Heathrow Airport

CAP 1027
Chapter 9: Cost of capital
Cost of debt
more, than he has previously signalled. The CAA will review the
appropriate tax rate in line with any further information released by the
government in the run up to setting final proposals. The CAA will
consider the appropriateness of an adjustment mechanism if
warranted by short-term uncertainty at the time of its decision.
9.112 In addition to the betas, the other big difference in the estimate of the
WACC between HAL and PwC is the estimate of the cost of debt.
PwC recommended a figure in the range of 2.3% to 3.0% while HAL
suggested 4.6%. CEPA’s analysis (2.5% to 3%) supported PwC’s
estimate. The Q5 decision was 3.55%. These differences arise for
two reasons, the interpretation of market evidence on bond yields and
the estimation of the appropriate allowance for fees.
9.113 The CAA notes from PwC’s report the clear, but gradual, reduction in
yields on benchmark bonds since the financial crisis of 2009. The
spot rate and 6-month average is now in the region of 4% to 5% for A
and BBB (nominal rates, i.e. including the allowance for inflation).
Yields on debt issued by HAL and GAL have been slightly higher and
generally in the range 4% to 6%, while utility issued debt is slightly
cheaper and in the range 3.4% to 5%. Focusing on the top of the
range, and blending the estimates to reflect the average cost of debt
for a notional portfolio built up over a period of time, PwC’s estimate of
a real cost of debt of 3% (after deduction inflation of 2.8% and
including fees of 0.15%). PwC’s range appears appropriate for the
CAA’s initial proposals. In contrast HAL’s estimate of 4.6% appears
somewhat high.
9.114 PwC considered that it was appropriate to include fees of 15 bps in
the cost of debt. This is lower than EE’s estimate (20 bps) and
substantially lower than HAL’s estimate of its actual fees (50 bps to
60 bps). The CAA considers PwC's estimate (15 bps) is appropriate
because:
• it is consistent with the simple notional debt portfolio assumed in
the estimates of the WACC rather than with HAL’s actual, complex
structured finance;
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