Lies, damned lies, and politics: Air NZ 's real value

Friday 19th October 2001

The government has reinvested in Air New Zealand only a fraction of the present value of what it received for the airline in 1989, argues ALAN LOWE

History may tell us that Jenny Shipley lost the leadership of the National party over her ill-advised comments and performance on Air New Zealand. That the events should result in New Zealand First's Winston Peters trying to make political gain out of nonsense is unsurprising.

What is surprising is the rather poor analysis from some economic and business commentators of the Air NZ repurchase.

To analyse the Air NZ transaction properly is not easy but the economic effect on the Crown can be approximated. What this requires is some analysis of the two transactions, the first in 1989 and the recently announced "rescue" package. To take the analysis further beyond the 1989-2001 period would require the consideration of a number of other quite significant factors. Some of these are identified and discussed later.

Some limited analysis from the government or public perspective is presented in Tables 1 and 2. Table 1 shows the more conventional net present value (NPV) analysis, while Table 2 indicates the alternative approach based on compounding forward to 2001 dollars.

The analysis shows in a simplistic manner how we might evaluate the impact on the public purse. Table 1 indicates an analysis of the sale and repurchase produces positive NPV at any "conceivable" discount rate. Table 2 shows the impact of the transaction.

Using a very conservative discount rate of 6% Table 2 shows the government has committed 67% of the cash extracted from Air NZ in 1989 to the new rescue package. Clearly this is a pretty good investment on these numbers. Since we can appropriately "discount" these cash flows using nominal rates, ie, including inflation, using 6% is very, very conservative and probably 10% or 12% would better reflect rates of return, in which case the reinvestment falls to 43% or 34% respectively.

Again, if we wished to do this with greater accuracy we ought to be looking to calculate a cost of capital using the capital asset pricing model and beta. Evidence supports a view of airlines as relatively risky undertakings which might require a beta of perhaps something like 1.4 or 1.6.

But it might be argued that we ought to use a different discount rate since the government exited the airline business in 1989 and shifted the risk to the private sector and overseas shareholders. It might further be argued the cash extracted in 1989 contributed to the payment of overseas debt.

In this case it would be possible to argue the savings are much greater given the intervening fall in the New Zealand dollar. That would indicate massive savings for the New Zealand taxpayer, other things being equal.

It is, of course, rather more difficult than this to evaluate, in a comprehensive manner, the financial effects on other shareholders, or most particularly the "value" of the investment into the future. It is, however, important to appreciate the transaction is already NPV-positive for the government. It is only recommitting a portion of what it extracted so in that sense it's a no-lose situation.

Any attempts to get a better purchase on the merits of the rescue, or to evaluate the investment into the future, involve a range of highly problematic theoretical and practical issues. These include: incorporating inflation; tax revenues and any other government and social costs to the extent they differ; changes in capital structure; risk [no small matter]; and differences in fleet characteristics and other assets.

Clearly many factors affect any evaluation of the value of the new investment in Air NZ.

Changes in the fleet and capital structure are closely intertwined. It is possible to conclude the physical assets are far superior, in number and quality, to those sold in 1989, but this raises the issue of what we have bought. In effect, the government is providing the equity stake in a now very highly leveraged enterprise. In this sense the fleet ownership lies with the lenders to the business not just the shareholders.

A complicating factor is the lack of information we have on how much of the Ansett "related" debt will remain in the Air NZ balance sheet. Additionally, there are risk implications of such high leverage and, in this regard, it would be valuable to know of the legal arrangements in terms of lease agreements and, most particularly, of debt covenants.

On the plus side theory suggests that when leverage gets very high some risk is effectively shifted to the debt holders, because of the small asset cover provided by shareholders funds.

This might raise the issue of the move to an expected 83% shareholding, but in the broader context such an adjustment would be trivial.

We might also worry about equity changes between 1989 and 2001, but these are only relevant to assessing the loss of equity by the previous shareholders. They are not relevant to an analysis of the government package.

Dr Alan Lowe is a lecturer in the department of accounting at the University of Waikato management school. This article drew on work by Dr Steve Bowden

Comments from our readers

No comments yet