Air NZ's delicate balance

By DANIEL RIORDAN aviation writer

Air New Zealand's proposed Government recapitalisation presents shareholders with Hobson's choice but will still leave the airline in a precarious financial position, an independent report into the bailout has concluded.

Shareholders will vote on the $885 million bailout at the airline's annual meeting on December 19. The Government has pledged a further $150 million if needed. Few expect anything less than unanimous approval.

In a report mailed to shareholders yesterday Grant Samuel & Associates concludes the recapitalisation is fair and reasonable, and values the airline at between $110 million and $280 million, or 15c to 37c a share.

The Government is injecting $885 million into the airline, taking an 82 per cent stake at an average price of 25.9cps.

Both classes of Air NZ shares closed yesterday at 33c. The report was issued just after the market closed.

The report says that even after recapitalisation, the airline "would not be in a financial position to sustain any further material extended downturn in business or other adverse impact.

"In such circumstances the company will be dependent on the Crown's willingness to provide further loan or equity capital, or to underwrite a cash issue, or support a private placement possibly to another airline."

Air NZ's "ability to raise new sources of debt or equity is severely constrained in the short term due to high gearing, poor credit rating, current operating performance, the state of the international industry, ownership restrictions and the stance of the current major shareholders and lenders."

Business risks will reduce as the financial and operating targets set in the company's five-year business plan (to June 2006) are progressively achieved. Its key objectives are:

* Minimising cash operating costs in the current financial year.

* Adapting to lower demand for air travel by reducing the network to a sustainable core in the medium term.

* Securing distribution in Australia to make up for the loss of feeder traffic caused by Ansett's collapse.

* Ensuring the airline retains its competitive advantage in its core markets.

The plan seeks to achieve over the five years revenue growth of 12 per cent (from $3.7 billion in 2001 to $4.2 billion in 2006), debt reduction of about $1.5 billion and a reduction in gearing from 89 per cent to 55 per cent.

The airline expects to post a pre-tax loss of $63.4 million in the year to June 2002, a pre-tax profit of $88.6 million the following year, and end up making $392.1 million by 2006.

A feature of the plan is increased minimum liquidity requirements of $575 million with cash minimum of $350 million, nearly double the level used by the airline before it bought 100 per cent of Ansett.

Grant Samuel had trouble valuing the airline, saying the airline's high gearing meant a discounted cash flow (DCF) methodology was not appropriate.

Under a DCF valuation, a movement in the price of oil by $US1 a barrel changed the value per share by about 10c and a 1 per cent change in load factors was equivalent to a 24c change in the implied share price.

Instead, the report uses a market value of assets approach, valuing assets marked for potential sale at their estimated sales values.

The sensitivity of the airline's current year performance to movements in key operating variables is great.

Pre-tax operating profit to June 2002 will change by $27 million with a 1 per cent move in yields and change by $40 million with a 1 per cent move in load factors.