A Remodelled Roo?

Now that the bid has been accepted, how will the new shareholders gain value from their $5. 60 a share investment? How will they generate the level of financial return necessary to provide a profitable margin over the debt borrowings that will be made to finance the purchase? In essence the consortium must think it can run Qantas significantly more profitably than is the case today – even though Qantas is already one of the world’s most profitable airlines, and even though the airline industry is extremely volatile (remember September 11, SARS and the Iraq war?).

Initial speculation about how the consortium would get its value from the bid centred around significant cost cutting programs and divesting Qantas subsidiaries such as catering and even Jetstar. The theory is that as Qantas would be privately owned, the new owners could absorb the short term pain to reap the long term gain of massive job cuts and outsourcing programs, without having to worry about what the daily share price was doing.

If that is to be the case, Qantas would look radically different to what it does today. But the consortium has publicly committed to keep the airline in its current form. Another proposition then is that the consortium would seek to acquire other airlines and merge them with Qantas, allowing it to create efficiences through rationalisation of the merged carriers.

This theory is supported by the experiences of Texas Pacific principals David Bonderman and Rick Schifter. Bonderman is legendary in the private equity world. “The game here is Extreme Makeover: Corporate Edition.

Bonderman buys a company, brings in a Texas Pacific SWAT team to renovate and spruce it up, and then sells it for huge profits,” according to a Fortune magazine profile.

Bonderman engineered successful takeovers and rescues of Continental Airlines and America West, and is on the board of European low cost carrier Ryanair.

America West successfully ‘merged’ with US Airways (which in turn has launched a bid for Delta Air Lines, which would complete the transformation of what was a relatively small airline in America West into the world’s largest), and Rick Schifter only resigned as a director of US Airways in November.

The Qantas deal has been structured so that it meets foreign ownership restrictions – foreign ownership of the Australian airline is limited by law to 49 per cent – but given Texas Pacific’s track record with airlines it is likely to play a very active role in the future of the flying kangaroo.

What is less clear is what airlines Qantas could merge with, given competition regulators have blocked a modest alliance with Air New Zealand, and other logical partners like Singapore Airlines are under quasi state control.

A fascinating little twist to the buy-out bid is that one of the directors of Allco is former BA chief executive Rod Eddington – executive chairman of Ansett in the mid-late 1990s.

Eddington did a great job at Ansett and its major problems began after he left. But the Ansett collapse parallels are worth reflecting on. Air New Zealand borrowed heavily to acquire full control of Ansett, and then had to let the Australian airline collapse when Ansett’s financial problems became too hard to handle.

What happens if Qantas weathers a severe financial storm and its private owners decide not to inject necessary capital into the company because they are already too heavily leveraged and exposed in the deal because they paid top dollar for the airline? With the buy-out’s green light it’s far from clear what shape Qantas will take in years to come. But it could well be radically different from what we know today, if the consortium is to get the return on investment it is no doubt expecting.