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End of IAG? UK Government may take stakes in British Airways, Virgin Atlantic and easyJet

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There is increasing speculation that the UK Government may move to take partial control of British Airways, easyJet and Virgin Atlantic this week as part of a bail-out of the aviation sector.

It may not get this far, of course.

One option for an airline bailout is to layer it:

First, the Government offers a small short-term bridging loan, capped at what could realistically be repaid within a few months.  This is definitely not enough for Virgin Atlantic and is unlikely to be enough for British Airways and easyJet.

Secondly, the Government offers a far larger longer term loan, capped at what could realistically be repaid within 3-5 years.  This might be enough for BA and easyJet although their existing debts will limit the amount of new borrowing which they could take on.

Thirdly, if the first two options cannot raise enough money, the airlines issue new shares to the Government for cash.  This cash would not be repaid, although the shares would eventually receive dividends and could be resold in the future.

The bail-out of Lloyds Bank and Royal Bank of Scotland a decade ago had elements of this structure to it, although saving a bank is a far more complex operation than saving an airline.

Because easyJet is a UK quoted company, there is more flexibility.  The Government could provide a loan which also include warrants (the legal right to buy shares at a low price when the company recovers, with the shares being immediately resold in the market for profit when acquired).  The Government could also insist that easyJet’s shareholders put in a sum in order to trigger the loan which could, for example, be equivalent to all dividends and share buybacks made over the previous three years.

It is more difficult with Virgin Atlantic, which is a private company, and with British Airways which is a private company inside a larger quoted group.

In the case of BA, it is easier than you might imagine for the Government to take control.  Whilst British Airways is part of Spanish-run IAG, the legal structure makes such a deal fairly easy.  At present, you have a company called British Airways plc which controls the airline.  British Airways plc continues to publish its own accounts – the 2019 set can be downloaded here.

There are 2.1 million shares of British Airways plc in issue, all – or at least the majority – of which are owned by IAG.  However, it would be very easy for British Airways plc to issue new shares for cash which were acquired by HM Government.  Once the Government shareholding in British Airways plc went over 50.1% the Government would have a controlling stake although IAG would remain a minority shareholder.

It is important to note that there is no benefit in the Government buying a minority stake in British Airways plc because the shares are not liquid.  IAG would still control the business and there would be no guarantee that the Government could sell its shares at a later date.  It needs to be 50.1%+ or nothing.

Does British Airways need a bailout?

Potentially.  According to The Sunday Times yesterday, British Airways is currently losing £200m per week.

On this basis, you can assume that the whole of IAG would be losing at least £400m.  IAG’s much-vaunted €9bn of liquidity may, technically, be enough but you wouldn’t want to risk it.  ‘Liquidity’, for example, includes bank loans which are currently undrawn, but there may be clauses attached to these loans which may stop them being drawn down in a crisis.

(The Sunday Times also said: “Sources said its strategy was to stall the process and hold off accepting help until rivals competing on lucrative transatlantic routes, such as Virgin, collapsed.”  I am pretty sure that the ‘source’ in question was HFP as I have not seen anyone else putting forward this line.)

At least IAG’s equity has value though ……

As of Friday evening, the total value of IAG’s shares was £4.3 billion, of which you can probably ascribe £2 billion to British Airways.  The BA balance sheet should be strong enough to take a fairly large Government loan before essentially reaching its debt ceiling, beyond which the Government would take shares in the British Airways unit instead.

Virgin Atlantic is more problematical.  When Air France KLM was looking to invest in the airline last year, the price was £220m for 31%.  This valued the equity at £700m during a boom period for transatlantic travel and you could never argue it was worth anything like that now.  If I was structuring a loan to Virgin Atlantic I would insist that it includes the compulsory purchase of 50.1% of the airline for a nominal sum, say £50m.

easyJet is the easiest to deal with because its shares are publicly traded.  The equity was worth £2.3bn at the end of last week.  As easyJet shares can be freely bought and sold, the Government may be willing to not take full control as it would be easy to exit a minority position.  It may even be possible that easyJet is strong enough to get away with just a straightforward loan.

Will the Government need to break up British Airways afterwards?

One interesting parallel with the banking crisis was the legal requirement to break-up Lloyds Bank.  The European Commission decided that saving the bank represented ‘state aid’ and as such it was unfair to other banks operating in the UK, especially Barclays and HSBC which did not take Government money.

Lloyds Bank was required to undertake a series of moves to slim itself down, the most public of which was the rebranding of 630 branches as TSB and its subsequent flotation.

What is different here is that it is likely that all other major European airlines will receive similar help.  On this basis, none will be in a position to call ‘foul’ unless the UK bail-out terms end up being more generous than others.  However, a Government-owned British Airways would be unfairly placed to compete going forward and would arguably stifle potential new entrants into the market.

What could happen?  Here are a few scenarios:

British Airways could be split into two airlines, each with an equal mix of short haul and long haul routes, and floated separately on the stock market

An asset swap could take place between a state-owned BA and a state-owned Virgin Atlantic to create a more level playing field going forward

Ryanair and easyJet, if they remained independent, could insist that they are handed some British Airways short-haul routes due to the state aid BA received

Conclusion

This is a rapidly moving situation and it could go various ways.

We don’t know whether the Spanish and Irish Governments would want to be involved in a joint break-up of IAG, or whether the UK Goverment is happy to just save British Airways and let the other two airlines sink or swim.

We don’t know whether the Government actually cares about saving Virgin Atlantic.  It is important for competition purposes but it is not a fundamental cog in the wheels of the UK economy, unlike BA.  It could be open to legal challenges if a bail-out is not offered to any airline which wants one, however.

We don’t know how easyJet’s current internal problems will impact the willingness of the Government to step in.  Despite the crisis it is paying a £174 million dividend to shareholders this week, and its own employees are begging the Government to refuse to save the airline unless it pulls back on harsh changes to staff contracts.

We don’t know how small carriers like Loganair and Eastern Airways fit into any sector-wide deal

It’s going to be a busy week.

Comments (155)

  • Richard says:

    It may not be quite that simple. One could put equity and/or loan guarantees into BA, but this may not help if the insolvency risk is higher up, ie. IAG. Although BA has its own Operator’s Licence, its finances are not fully separable from IB and the other IAG family. So can’t see a way round having to strike some of deal with the Spanish Government as well.
    The options re reforming BOAC/BEA etc. seem far-fetched. Given the scale of the emergency, most European governments I would imagine will be looking to save their ‘local’ airlines (Norway included, which took action re DY last week). State Aid concerns will not be a big issue: in any case, the Commission issued draft guidance last week acknowledging that most of the State Aid rules — applying to all industries — will have to be set aside for the time being.

    • Iain says:

      I would welcome advice on the place of Cirgin Miles and AVIOS. If I book a miles flight and Virgin goes bust I presume I lose the miles but not the tax?
      Would it be wise to move AVIOS to a hotel chain?

      • Genghis says:

        “ Would it be wise to move AVIOS to a hotel chain?”
        You can’t. Avios are almost the lowest of the low when it comes to pluripotentiality.

        • Alex Sm says:

          I think one of you – either @genghis or @shostring (sorry, but I keep mixing you two up, and perhaps not only me!) – recently mentioned that they moved either Virgin miles or Avios into safer Hilton points, no?

          • Genghis says:

            I’m not sure how one can mix me up with shoestring?! We post about different things!

            It was me who transferred Virgin miles. Like I said, avios can’t be transferred.

  • Matt says:

    Brilliant !!

    So where does that leave the (thankfully small) number number of IAG shares that we still have.

    They were still part of dad’s estate, with self and mum as Executors. She passed away, and they have now been transferred to self and sibling as mum’s Executors.

    Sell pronto?

    • Peter K says:

      I’m no financial expert but ask yourself:

      How would I feel if I kept them and they lost all value compared to how I would feel if I sold them and they doubled in value within 12 months?

  • Neil says:

    It annoys me that BA is seen as such an integral cog to the UK Government when it does hardly anything for the rest of the UK outside of London. At least Virgin have direct routes from other cities like Manchester.

    • BJ says:

      Not really any different from other carriers. In Europe only Lufthansa operates a major secondary hub. In USA most of thd population have been routing via hubs forever, often even for short haul flights.

    • Chris says:

      The repeated failures of regional airlines like FlyBe, virgin red and BMI make me think its essentially impossible to make money running an airline that serves the regions; even with the gift of heathrow slots

    • Bagoly says:

      Yes, it is often called London Airways on here.

      If a nationalised BA is to be split, how about putting all the Gatwick operations in a NewCo and banning the rump from operating from Gatwick?
      Then abandoning the third runway at Heathrow, and building a second runway at Gatwick so NewCo can operate connecting traffic.
      Whether NewCo should be merged with Virgin and so have the Manchester hub is an interesting question.

      • Lady London says:

        Interesting. I always thought every international airline assigned to Gatwick spent all their time getting to get to Heathrow and got out of Gatwick as soon as they could.

        When did BA last put its shiny new refitted cabins and latest model of aircraft onto routes out of Gatwick? Other than Barbados, Gatwuck routes always feel like they are the poorer sisters.

  • Catalan says:

    Norther Powerhouse? More like Northern sub-station.

  • Matt says:

    IAG’s structure complicates things but not sure about state aid resulting in a forced IAG break up. I think this is a bit of a different situation than the banks. RBS and HBOS were in a moral hazard situation… they had both done things that were risky. The break up was a warning to banks that their will be consequences if they do this so they can’t think they are too big to fail. Also the CC was concerned that the consolidation of banks wasn’t working for the customer.

    Not sure this is true for the airlines. This is completely out of the control. Having the govt take a stake is probably punishment enough!

  • Patrick C says:

    the £200mm a week figure seems quite low, but likely incorporates the fact that they defaulted on all aircraft leasing & loan payments already.
    As a investment banker I somewhat disagree with your view that the stake would have to be listed.
    the shares when things are back to normal would be just as liquid unquoted for large stakes.
    An orgnised sale with IAG buying out the government could be envisaged. Many bank rescues in 2008 were done on this basis…

    • insider says:

      If you look at the facts, the £200m a week figure is too high. £200m a week is £10.4bn a year. Last year IAG’s costs were £11.4bn, or about £8bn after fuel. £1bn is also non-cash depreciation, so you’re looking at closer to £7bn. Let’s say £7.5bn as they’re still flying around a bit.

      You can probably then take another £1bn off for variable costs (crew allowances, landing charges, overflying charges, handing charges, catering etc.) so you’re down to £6.5bn. That gets you closer to £100-125m per week, before action such as unpaid leave etc.

      Still nothing to be stiffed at, but not quite the £200m a week

  • Will says:

    Having your staff paid to be on gardening leave surely takes the pressure off significantly?

    With the high profile McDonald’s announcement you now have UK taxpayers funding US and Spanish companies through this crisis, to name but 2!

    • Andrew says:

      Only 15% of UK McDonald’s’ restaurants are directly operated by McDonalds.

      The remaining 85% or 1,100 restaurants are operated as franchisees – predominantly independent UK owned businesses.

  • Matty says:

    BA remind me of Grandad. One day he was celebrating his 100th birthday and the next he was no more. RIP Grandad.