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The Problem with Development Fee

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Deepto Roy

Originally published on May 02, 2011 at http://mylaw.net/Article/The_problem_with_Development_Fee/

The Supreme Court of India, in its recent decision in Consumer Online Foundation v. Union of India, Civil Appeal No. 3611 of 2011, judgment dated April 26, 2011, has held that the Development Fee (“the DF”) being charged from passengers by the private operators at the Delhi and Mumbai airports is illegal.

V. Niranjan has an excellent analysis of the judgment over at the Indian Corporate Law Blog. Summarised, the two major findings of the Court are:

1. Section 22A of the Airports Authority of India Act, 1994 (“the AAI Act”) gives the Airports Economic Authority of India (“the AERA”), the independent regulator for the airports sector, the power to regulate the rate at which DF can be charged. The DF, which was being charged by the Delhi International Airport Limited (“the DIAL”) and the Mumbai International Airport Limited (“the MIAL”) on the basis of letters from the Ministry of Civil Aviation of the Government of India (“the MOCA”), was ultra vires the power specified in Section 22A.

2. The DF collected under Section 22A of the AAI Act could only be used by the Airports Authority of India (“the AAI”) for the purposes specified in Section 22A, namely the funding or financing of the costs of the upgradation, expansion, or development of the airport at which the fees are collected; the establishment or development of a new airport in lieu of the airport from which the DF is collected; or the investment in equity in respect of shares to be subscribed by the companies operating and maintaining the airport. Only the AAI has the right to levy the fee and to use it for the purposes specified in Section 22A and this power could not be assigned to the private operator.

In view of this decision, it would be useful to analyse the financial rationale for collecting the DF and the User Development Fee and the regulatory regime surrounding their collection.

Difference between DF and UDF

An immediate point of clarification is that the Supreme Court decision deals with DF and not the User Development Fee (“the UDF”). This confusing distinction is relevant since the legal regime (and most importantly, the entity entitled to levy and collect the same) surrounding the two fees is different.

The position on DF has already been discussed in Consumer Online. The power to levy it comes fromSection 22A of the AAI Act. UDF on the other hand is levied under Rule 89 of the Aircraft Rules, 1937, which allows a licensee (any operator of an airport) to levy and collect UDF. Therefore for UDF, the question of whether it can be assigned to a private developer to levy would not be relevant.

For major airports, the rate of UDF is required to be determined by the AERA, whereas for other airportsthe rate of UDF shall be determined by the Central Government. In a way, this is reminiscent of the powers of the Tariff Authority for Major Ports, which can only determine the tariffs chargeable by the major ports. For projects such as Hyderabad (and other greenfield projects) the Concession Agreementitself provides the right to the private lessees to impose the UDF. Levy of DF had been approved for Delhi and the Mumbai airports, and the Government has approved UDF for projects such as Amritsar, Udaipur, and Jaipur.

UDF is essentially a revenue enhancing measure to ensure that an airport is economically viable and that the airport operator gets a fair return on the regulatory asset. If the expected return for a private operator from a project is say, twelve per cent, and because of factors such as traffic, it is expected that the private developer would not be able to achieve that return, then the UDF will be imposed to ensure that the return is achieved (in a sense it is clearly Viability Gap Funding).

DF on the other hand, is intended to meet a funding gap, that is, the difference between the project cost and the amount that the private operator has actually been able to raise. If the operator is unable to finance the project through other options, then amounts can be raised through DF to fund the project. DF is intended to be a short-term measure, while the UDF will be levied for longer periods of time depending on the traffic predictions from the airport.

Ministry of Civil Aviation Draft Guidelines on UDF

In 2008, the MOCA prepared Draft Guidelines for User Development Fee (UDF) at Airports. The Draft Guidelines envisage that the UDF will be collected as a fee to be levied from departing passengers to bridge the gap between the expenditure calculated and the estimated revenue of the operator.

The expenditure includes the cost of capital, depreciation, operation and maintenance (O&M) costs, and taxes into the UDF. The actual cost of debt (that is, the principal amount of loans taken and the interest paid on the same), and a return on equity of fourteen per cent is considered. UDF is calculated taking blocks of four years.

In essence, the procedure for the determination of the return due to the operator is similar to any regulated asset (for instance, a power project) with the only difference being that the operator is entitled to a number of other charges.

The AERA, in its decisions in relation to the UDF chargeable at the Hyderabad and other airports, has been basing its decisions on the principles outlined in the Draft Guidelines to ensure that the airport operator is able to obtain a fair rate of return on the asset.

The problem with DF

Giving private developers the right to charge UDF is important because otherwise, there would be no incentive to investing in and operating airports in cities where the traffic expectations are unpredictable and the operations may not be as profitable as in the metro cities. From a PPP perspective, DF is an altogether more difficult concept. In a PPP project, the financing risk is always with the private developer since they are considered to be in the best position to raise funds. Whilst the level of Government support varies depending on the risk profile of the project, it is problematic to conceptualise that the Government will step in and remove a funding gap by raising funds from passengers.

It is unlikely that either DIAL or MIAL would be allowed to charge UDF because the traffic at these two airports should ensure more than fair return on equity for the private developers. What would be interesting to see is how AAI proposes to pass on the DF collected at Delhi (the Supreme Court has allowed DIAL to carry on imposing DF since the rate has been allowed by the AERA) to DIAL to meet its funding gap.

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