Profitability as a Criterion of the Compatibility of State Aid with the Internal Market

Profitability as a Criterion of the Compatibility of State Aid with the Internal Market - Untitled design 4

Introduction

When the state has a realistic prospect of making profit, its financial transactions with third parties do not constitute State aid. The absence of profit is a strong indicator of the presence of State aid but not necessarily its compatibility with the internal market. For State aid to be compatible with the internal market it must, among other things, incentivise undertakings to do something they would not do without the aid. And since undertakings would not voluntarily accept to carry out loss-making activities or projects, the prospect of profit for them is a good indicator whether State aid can effectively support the development of whatever activity or project is co-funded by the state.

This translates into a simple rule: A transaction that is unprofitable for the grantor of aid should be reasonably profitable for the recipient of the aid. But to take into account the prospective profitability of an aided activity is an unusual criterion of the compatibility of State aid with the internal market.

Yet, the presence or absence of profit, for the existence of State aid or its compatibility, was one of the main issues that was examined on 29 June 2023 by the Court of Justice, in case C-763/21 P, TUIfly v European Commission.1 In that case the Court dismissed the appeal of TUIfly against the judgment of the General Court in case T-447/18, TUIfly v European Commission, by which the General Court had rejected the request for annulment of Commission decision 2018/628 on State aid implemented by Austria in favour of Klagenfurt airport, Ryanair and other airlines using that airport.

In the contested decision, the Commission considered that the aid granted to Klagenfurt airport between 2000 and 2010 constituted illegal operating aid, but compatible with the internal market.

It also considered that agreements between the airport and TUIfly did not conform with the market economy operator test [MEOT] and that they contained State aid incompatible with the internal market.

Market economy operator test

TUIFly argued that the Commission, and the General Court, interpreted Article 107(1) TFEU incorrectly in finding that its agreement with Klagenfurt airport conferred to it an advantage.

The Court of Justice, first, noted that the Commission had not relied solely on the absence of a business plan or profitability analysis at the time of the signing of the agreements to find the presence of advantage in the meaning of Article 107(1) TFEU. [paragraph 23 of the judgment]

The Court also recalled that the Commission had rejected the view of Austria that the annual operating aid granted to the airport could be considered as incremental revenue to be taken into account in the assessment of the profitability of the agreements in question. [para 25]

For those reasons the Court of Justice found that the General Court had not erred in law in agreeing with the Commission’s analysis. [paras 26-29]

The Court of Justice also held that since the Austrian authorities had not drawn up a business plan with the expected incremental costs and revenues, the Commission was justified to conclude that they did not act as a private operator who would have assessed the expected profitability of the agreements. [para 36]

Promotion of the airport

TUIfly argued that the Commission should have taken into account the benefits for the airport stemming from the marketing agreement between itself and the airport, which raised the visibility of the airport.

In response, the Court of Justice noted that the General Court found that TUIfly had not presented any evidence demonstrating, in figures, how the consolidation of the reputation of Klagenfurt airport as a travel destination and the strengthening of its image would generate future revenue. [para 44]

However, the Court of Justice agreed with TUIfly that the Commission should have examined of its own initiative whether a private operator would have entered into such marketing arrangements. [para 47]

Consequently, the mere fact that TUIfly had not produced figures on the marketing agreement was not sufficient for the General Court to dismiss TUIfly’s complaint. [para 48] Therefore, the Court of Justice proceeded to examine TUIfly’s arguments.

The Court of Justice accepted in principle that a normally prudent and diligent private operator in a market economy could be willing to take a commercial risk by concluding an agreement which was loss-making in its duration, if there was a real prospect of renewing the agreement

and obtaining future profits compensating for those losses. This behaviour aiming at long-term profitability could correspond to economic rationality. [para 49] Provided, of course, that the improved visibility of Klagenfurt would attract more passengers.

In this respect, the General Court had agreed with the Commission that a market operator would have been aware that the agreement was unlikely to be renewed because it was in the very nature of low-cost airlines, like TUIfly, to opt for a very variable way of managing the openings and closings of routes according to market conditions. [para 50]

Since TUIfly could not demonstrate how Klagefurt airport could generate more revenue in the long-term from the marketing agreement, the Court of Justice rejected TUIfly’s plea.

Application of the 2014 aviation guidelines

TUIfly claimed that the Commission misapplied the 2014 guidelines and the General Court was wrong to agree with the Commission.

First, the Court of Justice explained that the legality of a decision on State aid is assessed by EU courts on the basis of the information available to the Commission at the time it adopted it, which includes that which appeared relevant for the assessment and also that which it could, at its request, have obtained during the administrative procedure. [para 77]

Then, the Court of Justice held that the Commission could not be censured for examining the ex ante profitability of the agreements in question, instead of choosing a different method of assessment. [para 80]

Use of profitability as a criterion of compatibility

TUIfly argued that the General Court was wrong to endorse the Commission’s analysis that profitability could be a criterion for assessing the compatibility of the aid with the internal market. Indeed, at first glance profitability should not be such a criterion precisely because State aid is granted to induce undertakings to do something that is unprofitable without aid. But, state intervention is effective when it changes the behaviour of undertakings and undertakings voluntarily change their behaviour only when there is the prospect of profit.

The argumentation is this part of the judgment was probably the most important aspect of the case in legal and economic terms.

The Court of Justice, first, recalled that the objective of the aid granted to TUIfly was the development of Klagenfurt airport through a net increase in the volume of passengers on new routes operated by it. It was up to the Commission in this case to examine whether the aid in question had the effect of inducing TUIfly to increase the number of passengers using Klagenfurt airport and therefore achieving the objectives of Article 107(3)(c) TFEU. [para 103]

Then it noted that the Commission had found the agreement with TUIfly not to be profitable for the airport. In addition, the four-year duration of that agreement was not necessary or appropriate in relation to the costs of opening new air routes. [para 105]

The Court of Justice also observed that the General Court had held that there was no evidence that the agreement was able to increase the number of passengers using Klagenfurt airport. Moreover, the agreement did not establish a link between the amount of aid and eligible costs. [para 106] For this reason, the aid lacked incentive effect. [para 109]

TUIfly counter-argued that the lack of any prospect of profitability for the airlines concerned would not have been a relevant factor in concluding that the aid was not compatible with the internal market.

However, the Court of Justice ruled that the Commission was entitled not to authorise aid which did not induce the recipient undertakings to adopt a behaviour likely to contribute to achieve one of the objectives of Article 107(3) TFEU. In this case, the Commission concluded that if the new routes would not be profitable, then TUIfly would not have any incentive to develop them and, therefore, the objectives of Article 107(3) TFEU would not be achieved. [paras 126-127]

The difference of State aid to airports and airlines

The Court of Justice also agreed with the findings of the General Court concerning the similarities and differences between operating aid to the airport and start-up aid to airlines. [paras 139-141] The ultimate common interest of both types of aid was the same, namely the economic development of the Land of Carinthia. However, the ways by which this common interest was served were not identical. The operating aid aimed to support the airport infrastructure, while the start-up aid incentivised the development of new routes and the increase in the number of passengers using the airport. The achievement of the objective of start-up aid and, therefore, its compatibility with the internal market depended on the viability of the new routes, which, as established earlier, was not the case.

The Court of Justice also concurred with the General Court’s rejection of TUIfly’s claim that the Commission disregarded the overall benefits for the Land of Carinthia in its assessment of the compatibility of aid. This was because, as the Court of Justice clarified, start-up aid was allowed by the aviation guidelines for the purpose of opening up new routes. But in this case, the aid did not do that. [para 142]

In the end the Court of Justice rejected all pleas of TUIfly and dismissed the appeal in its entirety.

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Phedon Nicolaides

Dr. Nicolaides was educated in the United States, the Netherlands and the United Kingdom. He has a PhD in Economics and a PhD in Law. He is professor at the University of Maastricht and the University of Nicosia. He has published extensively on European integration, competition policy and State aid. He is also on the editorial boards of several journals. Dr. Nicolaides has organised seminars and workshops in many different Member States, and has acted as consultant to several public authorities.

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