Agency Rulings

Decision No. 171-A-1989

March 31, 1989

IN THE MATTER OF the proposed acquisition of Wardair Inc. by PWA Corporation and Part VII of the National Transportation Act, 1987, S.C. 1987, c. 34, (hereinafter the NTA, 1987). DECISION: THE PROPOSED ACQUISITION OF WARDAIR INC. BY PWA CORPORATION IS NOT AGAINST THE PUBLIC INTEREST AND IS THEREFORE NOT DISALLOWED.

File No. D2705-89/1

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BACKGROUND

I. Chronology of Events

On January 25, 1989, the National Transportation Agency received a Notice of Proposed Acquisition made pursuant to section 252 of the NTA, 1987 from PWA Corporation (hereinafter PWA). In its notice, PWA proposed to acquire Wardair Inc. (hereinafter Wardair) through a public take-over bid to all shareholders of Class A and Class B shares in Wardair.

The Agency published a notice of this proposed acquisition in the Canada Gazette, the Globe and Mail and La Presse on February 4, 1989. Interested persons had until March 6, 1989 to file objections to the proposed acquisition. On February 8, 1989, the Agency received an objection from Mr. Walter Rewko of Edmonton, Alberta, which initiated the Agency's review of this transaction. The Agency also received objections from the Air Crew Association Canada, the Canadian Air Line Pilots Association and the Consumers' Association of Canada. In addition, a submission was filed with the Agency by Mr. Colin Bain. As this submission is not deemed to be an objection as defined in subsection 66(2) of the National Transportation Agency General Rules, the Agency will deal with Mr. Bain's concerns separately.

II. PWA Corporation

PWA either has an interest in or is associated with Canadian Airlines International Ltd., Time Air (1982) Ltd., Calm Air International Ltd., Ontario Express Ltd., Air Atlantic Ltd., and operating under the firm name and style of Inter-Canadien, Québécair-Air Québec Inc. and Lignes Aériennes Inter-Québec Inc. Together, these air carrier operations include scheduled domestic air services as well as extensive international scheduled air services for the movement of both passengers and cargo and non-scheduled charter services from any point in Canada to points throughout the world.

III. Wardair Inc.

Wardair controls Wardair Canada Inc., an air carrier of passengers and cargo. As a scheduled carrier, Wardair offers domestic service to Alberta, Ontario, British Columbia, Manitoba, and Quebec and, internationally, is licensed to serve France, the Netherlands, the United Kingdom, the Dominican Republic and Puerto Rico. It also provides charter services to the states of Arizona, California, Florida, Hawaii, and Nevada in the United States of America and to Germany, Jamaica, Barbados, Venezuela, and Mexico.

THE OBJECTIONS

The following summarizes the objections to the proposed acquisition which were filed with the Agency.

I. Mr. Walter Rewko

In his objection, Mr. Rewko questioned some of Wardair's past business decisions, the wisdom of PWA's present plans to purchase Wardair and, if the proposed acquisition were to be completed, the financial viability of PWA. He suggested that Wardair should be purchased by someone other than PWA or Air Canada.

In its response, PWA argued that Wardair's business plan must stand on its own merits and pointed out that the plan has resulted in Wardair suffering very substantial losses in 1988. Commenting on Mr. Rewko's concerns about the wisdom of PWA's plans to purchase Wardair, PWA argued that these were not specifically relevant to the review of this proposed acquisition. On Mr. Rewko's suggestion that an alternative buyer be found for Wardair, PWA stated that no other purchaser has appeared.

II. Air Crew Association Canada

The Air Crew Association Canada (hereinafter the ACAC) represents the pilots and flight engineers employed by Wardair Canada Inc. The ACAC's basic position was that the Agency should approve the proposed acquisition on the condition that the "...acquisition would not place the careers of Wardair's pilots and flight engineers in jeopardy." Since its membership faces the prospect of job losses, ACAC proposed that Wardair's losses could be "...offset by the capitalization of the delivery slots on aircraft ..." The Association felt that the operations of Wardair Canada Inc. and Canadian Airlines International Ltd. (hereinafter CAIL) should remain separate to ensure continued employment for its members.

In its response, PWA indicated that its present intention was to operate Wardair and CAIL as separate entities. Regarding ACAC's proposal to capitalize delivery slots on aircraft, PWA points out that Wardair's 1988 losses of $57.7 million includes the gain on the sale of aircraft and that the sale of delivery slots is not a solution which would allow Wardair to achieve continued viability. PWA concluded that it cannot offer any guarantees or make any undertakings related to the careers of Wardair's pilots and flight engineers and that the Agency should not impose any conditions on the transaction.

III. Canadian Air Line Pilots Association

The Canadian Air Line Pilots Association (hereinafter CALPA) is the bargaining agent and professional association of the majority of commercial airline pilots in Canada, including the pilots of CAIL. Based on CALPA's understanding that PWA intended to operate Wardair and CAIL as two separate air carriers, CALPA objected to the proposed acquisition. CALPA argued that keeping the operations separate would not be in the public interest or the interests of its members unless the companies, or at least their employee groups, were merged. CALPA contended that maintaining "...separate operations would disadvantage long-service employees and expose the employees to potential mischief from the employer."

PWA questioned CALPA's right to speak for Wardair pilots and CALPA's view that it would be in the interest of Wardair pilots for the employee groups to merge. PWA disputes the contention that operating CAIL and Wardair as separate entities would expose Wardair to financial difficulties. PWA also disputes the contention that operating CAIL and Wardair separately would impair their combined ability to compete with Air Canada.

IV. Consumers' Association of Canada

The Consumers' Association of Canada (hereinafter CAC) is a non-profit advocacy organization established to analyze consumer problems and represent consumer interests to government and industry. CAC's submission focused upon the competitive aspects which the proposed acquisition would have on the market for air passenger services.

CAC argued that although Wardair holds a relatively small market share of about 7 per cent, it's role is significant as indicated by the fact that PWA is willing to pay such a large premium for Wardair shares and that news of the proposed acquisition of Wardair has already resulted in an increase in the value of Air Canada shares. The extensive domestic operations of Wardair's scheduled service has provided important market pressure which has resulted in lower fares and better service for the consumer. For CAC, the following are the three important factors to be accounted for in assessing the market pressure exerted by Wardair:

1. the lower level of Wardair's economy class fares in relation to those of Air Canada and CAIL;

2. Wardair's innovative practices with respect to fares; and

3. the availability of discount fares.

CAC suggests that the availability of discount fares is the most important aspect for consumers of PWA's proposal to acquire Wardair. Discount fares are very important to non-business travellers. The availability of discount seats is a function of capacity in the industry with lower capacity meaning fewer discount fares. PWA's proposed acquisition will mean that less capacity will exist in the domestic airline industry.

CAC points to evidence that business travellers are also sensitive to price and that some Canadian travellers may use U.S. carriers through American points to avoid high Canadian fares.

In its objection, CAC dealt with concerns under the Competition Act, R.S.C. 1986, c. 26, arguing that they were also relevant to the Agency's deliberations. These included lack of available substitutes for the competitive pressure exercised by Wardair, the prospect of alternative buyers to PWA, impacts of the marketing practices of CAIL and PWA on the financial problems of Wardair, competitive impacts of the exit of an independent Wardair, Wardair's management decisions to compete in so many markets and the lack of effective intermodal substitutes on long routes.

In its response to CAC's objection, particularly CAC's discussion of Wardair's market niche, PWA presented the following historical background. Traditionally, Wardair served the "leisure oriented passenger" in the charter market. However, Wardair did change its marketing thrust when it chose to compete with Air Canada and CAIL for the full fare economy passenger. When Wardair entered the scheduled transcontinental markets in the fourth quarter of 1986, it priced its full fare economy fare at a discount of 30 per cent of the fares of Air Canada and CAIL. By the fourth quarter of 1988, this differential had decreased to less than 10 per cent. PWA projected that this differential would decrease. Regarding discount fares, PWA argued that intense competition between CAIL and Air Canada existed before Wardair's entry into the market. PWA emphasized that Wardair did not introduce lower discount fares nor was it a price leader in this area. In response to CAC's concerns about a decline in capacity in the domestic airline industry if Wardair is acquired by PWA, PWA pointed out that recent excess capacity in the industry has resulted in carriers suffering losses on transcontinental routes with the weakest among them, Wardair, being unable to survive.

PWA emphasized that Wardair was in danger of financial failure citing a 1988 loss from operations of $110.8 million, which declined to $57.7 million after gains from the disposition of aircraft. Wardair's current plans to sell delivery slots are a short term measure which would not result in any change in Wardair's financial viability. Wardair's business plan has failed and there is no alternative plan which would make Wardair viable.

In response to CAC's suggestion that another purchaser should be found, PWA pointed out that such a purchaser has not emerged. CAC points out that Wardair's problems are a result of its business decisions. In response, PWA pointed out that Wardair was operating with a limited market share in a market characterized by overcapacity and fierce competition while attempting to service a large debt created by the acquisition of new generation aircraft. The results of this are reflected in public statements about Wardair's 1988 financial position.

Competition between CAIL and Air Canada was vigourous before the entry of Wardair into the market and this will continue. PWA stated that vigorous competition, reasonable fares and high levels of service would continue not only at the level of CAIL and Air Canada but also at the level of the regional carriers who have established high frequency short haul networks across the country as well as new charter carriers.

AGENCY CONSIDERATIONS

Part VII of the NTA, 1987 provides a mechanism to ensure that changes in the transport sector brought about by the mergers and acquisitions of larger transportation undertakings do not adversely affect the public interest. The Agency is empowered to review a merger or acquisition if an objection is received from a person who is of the opinion that the proposed acquisition is against the public interest.

In their objections, ACAC and CAC stated that the Agency should hold public hearings on this proposed acquisition. Under subsection 256(2) of the NTA, 1987, the Agency could have held public hearings as part of its review of this proposed acquisition, if it considered it necessary. After examining the available information on the proposed acquisition, the Agency concluded that public hearings were not necessary. Although there were no public hearings, the major issues raised by the objectors to the proposed acquisition were addressed in this review.

Subsection 257(1) of the NTA, 1987 directs the Agency to decide whether, in its opinion, the proposed acquisition is against or is not against the public interest. Section 4 of the NTA, 1987 defines "public interest" as meaning the public interest that is consistent with the National Transportation Policy set out in section 3 of the NTA, 1987. Therefore, in deciding whether the proposed acquisition is against or not against the public interest, the Agency is guided by the National Transportation Policy set out in subsection 3(1) of the NTA, 1987. Of particular relevance is paragraph 3(1)(b) which states:

(b) competition and market forces are, whenever possible, the prime agents in providing viable and effective transportation services,

The proposed acquisition of Wardair by PWA is subject to both the merger and acquisition provisions of the NTA, 1987 and a review by the Director of Investigation and Research of Consumer and Corporate Affairs pursuant to the Competition Act.

The Competition Act establishes the office of the Director of Investigation and Research. The Director must be pre-notified of mergers which exceed certain asset and revenue thresholds. These thresholds are higher than those specified in Part VII of the NTA, 1987. The Competition Act allows the Director's staff to negotiate changes in the proposed transaction to alleviate any competition concerns the Director may have. In contrast, the Agency must issue a decision after its review and does not have any mandate to make its decision conditional on any changes to the proposed acquisition.

ISSUES

In reviewing the proposed acquisition of Wardair, the Agency assessed issues raised by the objectors in the context of its responsibility to determine whether the transaction is or is not against the public interest. The following summarizes the Agency's views on the major aspects of its review.

In their objections, the ACAC and CALPA recommended that the Agency should impose conditions on allowing the proposed acquisition to be completed. However, subsection 257(1) directs the Agency to determine whether or not the proposed acquisition is or is not against the public interest and if the Agency's conclusion is that the transaction is against the public interest, then the proposed acquisition must be disallowed. The legislation does not empower the Agency to impose conditions on a decision.

In their submissions, Mr. Rewko and the CAC question the past business decisions of Wardair and the wisdom of PWA's current intention to purchase Wardair. In the Agency's view, the decisions which a participant in a competitive market makes represent one of the market or competitive factors discussed in the National Transportation Policy enunciated in paragraph 3(1)(b) of the NTA, 1987.

In their objections, Mr. Rewko, and the CAC raised the issue of alternatives to PWA's proposed acquisition of Wardair. Basically, these alternatives are:

1. Wardair continuing as an independent air carrier;

2. Wardair seeking another purchaser for Wardair.

The Agency has reviewed the information on both of these alternatives. The Agency is of the opinion that Wardair's financial position is such that Wardair cannot continue as an independent air carrier. In the event that the Agency disallowed the proposed acquisition, Wardair would face financial failure. After reviewing the steps that were taken by Wardair to resolve its difficulties, the Agency has not seen the emergence of an alternative purchaser.

Regulatory reform has given air carriers the latitude to provide innovative fares and services to the travelling public. However, CAC has suggested the freedom to offer "frequent flyer programs" or other marketing innovations is somehow anti-competitive. The Agency cannot see how easing regulations to allow carriers to innovate has resulted in a lower level of competition and less innovation in the market.

In its submission, CAC points out that the availability of discount fares is a function of excess capacity in the industry. In other words, the greater the difference between the inventory of available seats and the number of seats sold at regular fares, the greater is the availability of discount seats. The Agency is of the opinion that Wardair should not be compelled to provide capacity if it is against the financial interests of its own shareholders.

CONCLUSION

After reviewing the proposed acquisition of Wardair by PWA, the Agency has decided that, in its opinion, the proposed acquisition is not against the public interest. The Agency feels that disallowing the proposed acquisition might precipitate Wardair's financial failure and that this factor outweighs any lessening of competition which might occur.

In contemplating the employment impacts of this proposed acquisition, it is clear that the primary factor in the job security of any business enterprise is the financial viability of that enterprise. In the case of the proposed acquisition of Wardair, the Agency has examined financial statements, including pro forma statements, and the information on the actions which Wardair took to improve its financial position. Based upon an extensive examination of this information, the Agency is convinced that, in the absence of the current proposed takeover, Wardair is in danger of financial failure. Such a scenario would certainly not be in the interests of the job security or employment prospects of the membership of ACAC or any other employees of Wardair.

Based upon a review of the proposed acquisition for which a notice was published in the Canada Gazette on February 4, 1989, the Agency's opinion that the transaction is not against the public interest may not apply to a proposed transaction resulting from negotiations between the Director of Investigation and Research, PWA and Wardair which is materially different from the one originally filed with the Agency.