Forum Archive Index - April 2001

["tennyson@caverock.net.nz" <tennyson@caverock.net.nz>]

Interesting header.   When I read it I thought someone had blown the 
whistle on my plans to fire up the Sopwith Camel and offer World War 
One Replica single passenger flights across the Cook Strait!  But 
back to reality....

It would seem that overseas, consumer and business confidence is 
down, except for the USA where confidence seems to be on the rise 
again for consumers at least.  Within NZ, the domestic market is 
going well, but competition is still hot within Australia.  Fuel 
prices remain high, probably higher than budgeted for.  You have to 
judge whether the good points outweigh the bad points and if not, has 
the overhang of bad news been fully reflected in the share price of 
AIRVA.   Let's do a bit of speculative sensitivity analysis to see 
what we come up with, using information from the 2000 Annual Report.


1/ International Markets (pA8 of Annual Report)

We will assume revenue is tied into available seat kilometres (ASKs)

ASK Figures quoted (in millions of kms) are:
Tasman 6099, Pacific 10969, Asia Japan 6934, Atlantic 3257, 

Lets say all business is static (world less buoyant but negative 
effects of y2k and Olympics are gone) but Pacific business 
(principally from the USA) is up 10%.  This equates to an overall RPK 
growth of 1,097 (this can be accommodated within the existing flights 
so no extra fuel is burned).

This gives rpk growth of 1097/(27,259)=4%

FORECAST
Based on revenue of $NZ3,724million = this gives revenue 
growth of $NZ149million.

2/ NZ Domestic Market

Ansett was in disarray last year due to strikes and the transition to 
becoming a Qantas franchise.  So even if the market gets better in 
New Zealand I can't see Air NZ having a relatively easier ride of it 
domestically in 2001-despite an improving domestic economy.  And the 
wild card of Qantas coming in to bail out their own franchise won't 
make things any easier.

FORECAST
Little different to last years figures

3/ Australian Domestic

Here Ansett and Qantas are up against two rabid minnows: 
/a/the privately owned Impulse Airlines and 
/b/Virgin Blue which is an offshoot of Richard Branson's conglomerate 
of Virgin companies.

Impulse Airlines was founded in 1982 by Gerry McGowan, is 
headquartered in Newcastle and until recently was a freight only 
airline.  The joke is that people are being herded on and being fed 
no better than cattle cargo while aboard.  This appears to be 
naive,as it is now apparent that not only the general public (who are 
also the most price sensitive) flocking to this new outfit, but so 
are the business travellers!  Impulse is a private company so there 
is little in the way of public domain financial data to go on as a 
reference.

Virgin Blue, the other cut price competitor, can keep prices low by 
focussing on repositioning international planes between Sydney and 
Melbourne.  Sister company Virgin Express Holdings plc, which 
operates aircraft around Europe has just released a startlingly bad 
y2k result.  The loss of 65.2million Euro (or $NZ135 million dollars) 
is on revenue of $NZ600m.  Because of the relative size of Virgin 
Express (only 1/6th the size of Air NZ) this figure is far worse than 
anything Air NZ has reported.   I should stress that 'Virgin Express' 
is not the same company as 'Virgin Blue' (for which specific figures 
are unavailable, that I can find), but since Branson backs both, 
there must be some question mark as to how long Branson will tolerate 
these kinds of losses in his 'airline family'.  He could certainly 
afford to do so, but with these kinds of 'returns' why should he?

Capacity has increased on Australia's main trunk routes by 9% (from 
46k million to 50k million), and revenue per km per passenger flown 
(for Ansett) has gone from 18c to 15.8c.  Because the Airlines 
operate on such fine margins this has had a serious effect on 
profitability.

Assuming that:
/a/ Ansett has exactly held their own in passenger numbers 
during the price war (and given that the price war has grown the 
market this isn't entirely unrealistic) and 
/b/ the price war has affected fully half of Ansett's routes, then 
revenues would have been reduced from A$3.5billion (p5, Air NZ 
special meeting of shareholders notice) to A$3.28billion.  

FORECAST
This A$220m revenue reduction when stacked up against last years 
profit of A$72.3m, will give an expected loss for year 2000 of 
-A$147.7million, or -$NZ180m in round figures.

4/ Jet Fuel (pA10 of Annual Report)
"Air New Zealand's jet fuel expense increased from $322million to 
$463.7million, despite savings of about $40.7million from the groups 
fuel price hedging program."

Since that time the NZ dollar has not risen 20% (from US40c to 
US50c as forecast) and the oil price has not dropped from around $23 
to $21 at the end of the northern winter.   So if AirNZ management 
expected the market gurus to be right, their fuel bill this year will 
be up to $504.4m x1.2 x1.09= $662.9m.  

FORECAST
This is $200m more additional cost than last year.

5/ Effect of Hedging on Lease Payments

pB30 of Annual Report 

Lease payments due this year $NZ305.4million based on last years 
currency hedging policy.  Lets say they got the currency hedging 
wrong by 20% as per the jet fuel example.

FORECAST
Extra costs this year = $305.4 x 0.2 = $61.0m.

SUMMARY OF FORECASTS

If we add the additional extra profit adjustments based on points 
1-5 above we get:

$149m + 0 -$180m -$200m -$61m 
= -$NZ292m

And adding this to last years operating profit that we will use as a 
baseline  ($NZ177.9million), we come up with a projected loss of 
$NZ114.1million.

Given that Air NZ has $NZ800m in cash and $NZ400m in undrawn credit 
it is clear that Air NZ can 'tough out' the price war in Australia 
for several years, notwithstanding higher fuel costs.  I am sure Air 
NZ will want to do better than just toughing it out though.  Ansett 
have leased four Boeing 767 aircraft which will enter service on the 
Sydney Melbourne route in July 2001, which should help woo back the 
business sector customers.

SNOOPY'S OVERALL VIEW

The situation in Australia with four domestic airlines doing the main 
trunk routes appears unsustainable.  I think AirNZ will be one of the 
survivors but just how much cash burn will occur until the situation 
settles down is unclear.  I don't like companies that burn cash so I 
wouldn't recommend investing in AirNZ now at any price (yes even at 
75c!).   I'd be waiting for a signal either:

1/ one of the Airlines in Australia shuts down or
2/ AirNZ announces its long postponed capital notes issue.

At one of those points, the worst of the financial risks of what is 
happening will be played out.  You will probably miss the bottom if 
you follow this strategy but you will also miss catching a falling 
dagger.   For an investor that is probably more important than trying 
to eek out that last bit of potential profit. SNOOPY

disc: hold AIR, and will be topping up when the turnaround signal 
happens.


---------------------------------
Message sent by Snoopy 
e-mail  tennyson@caverock.net.nz
on Pegasus Mail version 2.55
----------------------------------
"Sometimes to see the wood from the trees, 
you have to cut down all the trees."



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