British Caledonian in The 1980s - A Major Shakeup

A Major Shakeup

In 1984, the UK Government began to prepare then wholly state-owned BA for privatisation in earnest by appointing a new board of directors with several years' experience in private industry and by changing its legal status from a Crown Corporation to a public limited company. BCal's senior management saw this as a major threat to the company's continuing existence as the UK's second largest international scheduled airline. According to BCal's own calculations, the relevant figures for 1983 had shown that BA alone accounted for 83% of all UK scheduled airline capacity measured in tonne kilometers as opposed to a mere 13-14% for BCal. These figures also showed that BA carried seven-and-a-half times as many passengers as BCal, and that Heathrow's share of international scheduled air traffic was five-and-a-half times times greater than Gatwick's. This meant that a privatised BA on this scale would enjoy far greater financial clout than BCal. It also meant that BA's market power would be disproportionate compared with that of any other UK airline as a result of its much greater economies of scale. Furthermore, the Government's decision to proceed with BA's privatisation inevitably meant the end of the "Second Force" policy, which had guided BCal's development since its inception. In addition, the transfer of BA's ownership from the public to the private sector meant that BCal could no longer rely on the indirect protection Government ownership afforded it to prevent BA from abusing its power — for example, by engaging in anti-competitive behaviour against BCal.

To redress this competitive imbalance, BCal proposed to the Government the transfer of several of BA's most lucrative long-haul routes to itself — including BA's profitable Saudi Arabian routes as well as that airline's routes to Abu Dhabi, Kuwait, Harare, Islamabad, Kolkata, Singapore, Kuala Lumpur, Tokyo, Seoul and Beijing. BCal also proposed the transfer of BA's short-/medium-haul routes from Heathrow to Vienna, Helsinki, Athens, Istanbul, Malta and Larnaca, which it wanted to serve from Gatwick, and the removal of capacity restrictions on its existing short-haul European routes from Gatwick. The airline furthermore proposed to take over BA's services from Gatwick to the Iberian peninsula and that airline's services from Gatwick to the Caribbean. Moreover, BCal wanted the Government to pursue additional opportunities for dual designation in its negotiations of existing and new bilateral air services agreements with foreign governments on its behalf — in particular, to the Far East and Australia as well as to East and South Africa and Canada at a later stage. BCal was prepared to pay BA between £200 million and £250 million for the routes to be transferred as well as for the associated staff and infrastructure. BCal estimated that it would require nine more aircraft — six long-haul and three short-haul planes — to operate the additional routes. It also reckoned that this would allow it to grow to the minimum size that was required to turn its Gatwick base into an efficient hub to enable it to prosper in the post-BA privatisation environment. BCal was furthermore of the opinion that this would allow it to increase its scheduled capacity to about 20% of all UK scheduled airline capacity while permitting BA to continue in its role as the dominant UK scheduled carrier, which would still have accounted for 70% of total scheduled capacity.

BCal's senior management told the Government that the only alternatives to this proposal were shifting its existing scheduled operation from Gatwick to Heathrow's then new Terminal 4, which it expected to produce an additional annual profit of at least £20 million in the first year itself, or to merge with BA. BCal's senior management also told the Government that its preferred option was to remain at Gatwick and to strengthen its position there through the proposed route transfers to enable BCal to turn it into an efficient hub-and-spoke operation that would allow it to compete with BA and the giant US carriers on a level playing field. The airline's senior management furthermore told the Government that a merger with BA was its least preferred option.

Lord King of Wartnaby, BA's newly appointed chairman, infamously dismissed BCal's offer to purchase BA's assets for £200 million + as a "smash-and-grab raid". He made it clear to the Government that he and his fellow board members opposed transferring any of these assets to BCal. Lord King also left the Government in no doubt that it would find itself in the embarrassing situation of having to dismiss the entire board if it imposed a route transfer to BCal against the BA board's will.

In June 1984, BCal's original proposal to share out BA's routes ahead of the latter's privatisation was followed up by a plan BCal had jointly formulated with eight other UK independent airlines. This plan sought to give the independents a greater share of the UK's air transport market by reducing BA's share. Measured in terms of capacity tonne kilometres (CTKs), it would have increased the independents' share from 17% to 40% while reducing BA's share from 83% to 60%. For BCal alone this would have doubled its share from 15% to 30%. In their submission the independents claimed that privatising BA in its existing shape would allow it to dominate and destroy its competition. They also regarded BA's continuing dominance as incompatible with the CAA's goal of a less-regulated air transport market. BA countered the independents' contentions by maintaining that rather than benefiting consumers through increased competition, the independents' intent generally, and BCal's in particular, would merely result in substituting its own services with those of other carriers.

The opposing views of Britain's leading independent airlines on one hand and BA on the other regarding the future shape of the British air transport industry led to a review of the Government's airline competition policy by the CAA. The result was CAP 500, a Government-commissioned White Paper in which the CAA outlined the findings of its review of existing UK airline competition policy. CAP 500 also contained a number of recommendations that were designed to ensure that a competitive balance between BCal and the UK's other independent airlines on one hand and a privatised BA on the other was maintained.

The CAA broadly endorsed BCal's proposals by recommending the transfer of BA's routes to Saudi Arabia and Harare as well as its Caribbean and Iberian peninsula routes to BCal. The CAA also recommended removing all capacity restrictions on BCal's existing short-haul European routes. It furthermore advocated increasing the opportunities for designating BCal as the second UK flag carrier on additional long-haul routes where BA was the only UK scheduled airline. This was to be achieved through appropriate amendments to the relevant bilateral agreements.

Full implementation of CAP 500 would have resulted in strengthening BCal's position at Gatwick by making it the sole UK scheduled airline on all trunk routes from that airport while maintaining BA's status as the dominant UK scheduled carrier at Heathrow.

In the event, under pressure from BA's board and to ensure BA's successful flotation, the Government decided not to accept the CAA's recommendations in full. Instead, it settled on a limited route transfer from BA to BCal. This entailed transferring BA's profitable Saudi Arabian routes to Dhahran and Jeddah to BCal to add to its new route to the Saudi capital Riyadh. The Government thought that this would strengthen BCal by making it the sole UK flag carrier to all of Saudi Arabia and that it would tie in well with BCal's "linking the oil capitals of the world" corporate strategy, which it had successfully pursued since the late 1970s. To be seen as even-handed by both parties and to counter BA's accusations of displaying favouritism towards BCal, the Government required BCal to hand over to BA its loss-making South American routes as well as its unused licences to serve a number of additional destinations in the US and Morocco.

The limited route transfer on which the Government had decided was far less ambitious than either BCal's own proposals or the CAA's recommendations and would still leave it far smaller than BA and the giant US carriers. Although this was less than it had bargained for, BCal's senior management decided to accept the Government's decision because they estimated the two Saudi Arabian routes BA was going to transfer to be worth £18 million in additional annual profits. This would be only £2 million less than what BCal expected to earn in extra yearly profits from its existing network had it been able to transfer its entire operation to Heathrow. Given these magnitudes and Heathrow's already tight slot situation at peak times, BCal's senior management considered this difference in annual profitability immaterial.

The route transfer was to take place at the start of the 1985 summer timetable period.