ANALYSIS: Europe faces task of defining foreign 'control'

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The European Commission’s decision to investigate foreign control of several European airlines raises a number of questions. Potentially, some of them could have profound answers.

For starters, the probe highlights the distinction between ownership and control. Ownership is typically the disputed issue, and control is subsumed within it. The present probe focuses on foreign investments of less than 50% in a European airline.

In descending order of stake size, these are Delta’s 49% of Virgin Atlantic, Etihad’s 49% of Air Serbia, Korean Air’s 44% of Czech Airlines, Chinese investment group HNCA’s 35% of Cargolux, and Etihad’s 33% of Darwin Airline – now known as Etihad Regional – and 29% of Air Berlin. Etihad also holds just over 4% of Aer Lingus, which is likely below the Commission's radar.

Following the global pattern, European law requires that EU airlines be majority owned and effectively controlled by Europeans. The issue is whether foreign parties effectively control these European airlines through some means other than majority ownership.

It is curious that the Commission is even pursuing this issue. Siim Kallas, European transport commissioner, has publicly criticised ownership and control restrictions. In a September 2012 statement he said such restrictions, applied by most countries, “deny carriers access to important sources of new capital".

"It is now time to address this issue more vigorously, and to take the additional steps envisaged in the EU-US air transport agreement to liberalise airline ownership and control, in order to allow airlines to consolidate and attract the investment they need,” he said.

One explanation is that Kallas called on ICAO to take the lead on this initiative. So far, however, ICAO has not – hence the Commission may feel compelled to enforce the law as it now stands. Perhaps the Commission reasons that enforcement itself will highlight the need for reform.

Control issues are often raised by one airline against another, but there is no sign that the probe is triggered by airline complaints in this case. More likely, the Commission foresees a need to clarify how it will apply the foreign control regulations in view of other imminent investment in European carriers – such as Etihad’s move for a stake in Alitalia.

“Effective control” has no precise definition. The phrase has been applied many times, most often by the US Department of Transport, but the inquiry is usually fact-intensive. In the USA, for instance, control has been found in a franchise agreement where the foreign franchisor imposed conditions on a domestic airline’s use of its brand.

Control has also been found in family links between a foreigner and domestic airline manager, and even in public statements. For example, in l=ate January the DoT rejected a request by Air Serbia and Etihad to codeshare on flights between Serbia and the USA, because of admissions that “Etihad will likely… wield extensive control over [Air Serbia's] day-to-day operations”.

The easiest part of the Commission's probe will be to scan bylaws and shareholder agreements for special rules that impose super-majority votes. Do Delta’s three directors on Virgin Atlantic’s seven-member board, for instance, wield more power than other directors? Similar probes are likely into special shareholder structures between Etihad and Etihad Regional.

The tougher question will be how much foreign management control the Commission will tolerate. Etihad, for instance, has a contract to manage Air Serbia. Does this automatically violate the ban on foreign control – or will the Commission take a more nuanced approach, and consider such questions as the duration and extent of control granted by the contract? No one knows.

The Commission's decision to investigate Delta’s role in Virgin Atlantic also raises profound questions.

John Thomas, manager director at Boston-based LEK Consulting and head of its global aviation and travel practice, consulted on the Delta-Virgin Atlantic profit-sharing joint venture. Thomas calls it “strange” that the Commission would pursue this venture, “given that Delta simply replaced Singapore as the owner of a 49% stake in Virgin Atlantic – and they never seemed to have an issue with Singapore owning that stake”.

It seems even stranger when the Commission last June also acquiesced in the Delta-Virgin Atlantic joint venture, effectively allowing the same antitrust immunity that the US DoT explicitly granted last September. Is the Commission prepared to declare that an immunised joint venture, which involves close co-ordination and revenue sharing between a European and foreign carrier, violates Europe’s ban on “effective control”?

Such a radical result would stand many alliances on their heads. If it seems unlikely the Commission would go that far, this also suggests it will need to draw some distinctions between permissible co-ordination and control over day-to-day operations on one hand, with impermissible control over more far-reaching and strategic decisions. The Commission has given itself a daunting task.

MERGING POINT

Aside from the question of foreign control, the Commission has a separate arsenal of weapons to influence airline mergers and acquisitions it views as anticompetitive. Ryanair’s attempted takeover of Aer Lingus is a case in point.

Because both carriers are European, the ban on foreign ownership or control does not apply. However, the Commission made it clear in its initial ruling and later statement of objections that it would not accept Ryanair’s attempted takeover of its Irish rival. After three tries over a six-year period, Ryanair appears to be running out of options.

The Commission’s concern with each of Ryanair’s bids was not control, but the market dominance a merged airline would enjoy. Although Ryanair proposed that the two carriers continue to operate as separate businesses, the Commission was concerned that the pair still would control more than 70% of the Irish air travel market between them.

The UK Competition Commission's decision last August more closely addressed the question of control, when it ordered Ryanair to reduce its 30% stake in Aer Lingus to 5%. However, the UK regulator’s concern was not over control as such, but the effect of partial control on competition. It worried that Ryanair could use its minority shareholding to launch another disruptive takeover bid, or to block or impede efforts by Aer Lingus to attract other potential investors, or undertake capital raising that could have a beneficial effect on competition.

While concerns about the anticompetitive effects of a shareholding guided the European and UK commissions in the Ryanair cases, it is unclear if any of this reasoning will apply to the Commission's investigation of effective control by non-Europeans, where the issue is what constitutes impermissible control, and not its competitive effect.