Air Mauritius: Flying Towards the Next Bailout
Air Mauritius was already in the Intensive Care Unit when Covid hit. Covid would have probably killed it anyway, but it was not Covid which took it to the ICU
By Sameer Sharma
The Mauritian government has finally decided to inject some USD 283 Million into Air Mauritius in the form of a shareholders loan in order to allow the airline to exit voluntary administration. The bulk of the funds, some USD 226 Million will be used to repay creditors with steep haircuts on outstanding debt and liabilities ranging from 40% to 65% of their outstanding amounts.
While such haircuts are steep, they are typical for distressed debt situations. Besides, the alternative would have likely been worse for creditors. The remainder of funds will likely partly be used to finance working capital needs as the airline focuses on meeting expected pent-up demand for leisure travel in the coming months. The airline will also be using government funds to meet the USD 65 Million shortfall in defined benefits liabilities.
Beyond the announced haircuts and aircraft bargain garage sales, the airline is planning to save some EUR 25 Million annually from cost saving measures including a revision of staff expenses which would account for close to half of these total savings.
From a solvency perspective, the reality is that Air Mauritius has been near the brink from a balance sheet strength perspective for almost two decades. As the chart below showcases, the adjusted Atman Z score, a measure of the likelihood of bankruptcy, has been in the high-risk zone for as long as data exists on Bloomberg’s database. Over that same period, the return on capital employed of the listed company barely ever went above its weighted average cost of capital. Stock price performance was hence abysmal.
Air Mauritius operates in a highly competitive and unforgiving industry. Given the context, when coupled with having a small fleet of aircraft, the balance sheet was always going to come under significant stress due to any external shock. In such businesses, putting the right people in the right places is key but, in a country, where the government — be it via the civil service or via public majority owned companies — is the biggest employer, patronage politics mixed in with some vote banking has always trumped merit at varying degrees.
There is technically nothing wrong with an airline company which has a clearly defined hedging policy to enter into forwards or swap contracts with global investment banks in order to hedge against oil price volatility, but it is something else to enter into a long-term derivatives contract when the oil price futures curve enters into a contango from a backwardation. As can be seen from the chart, the Z score which was already in the high-risk category had deteriorated further following the hedging fiasco and due to lower demand emanating from the onset of the last Great Financial Crisis in 2008. While continued state support, the global economic recovery and then lower oil prices allowed Air Mauritius to gradually recover, politicians and their loyal nominees then thought it wise to go on a shopping spree with a planned addition of a whopping 6 new planes, two of which were leased to the South Africans.
While governments may come and go, old habits tend to linger on when it comes to political control. Strategies and grand plans however tend to change faster than an airline company can optimize its fleet of aircraft to respond efficiently for. The Asia-Africa grand idea was born then and as the ordered planes were delivered, costs increased, losses, especially on those half-filled routes mounted and the Z score began to drop quickly towards zero. By April 2020, just one month into the closure of borders, Air Mauritius was forced to enter voluntary administration.
Air Mauritius was already in the Intensive Care Unit when Covid hit. Covid would have probably killed it anyway, but it was not Covid which took it to the ICU.
Looking ahead, airline travel is only expected to recover as from 2024 onwards. Structurally, business class travel which has tended to be a cash cow for many airlines will take much longer to recover. The focus will hence be on leisure travel in the short- to medium-term. Globally, airlines are looking at tweaking business class offerings and increasing premium economy seat capacity, when possible, in order to adapt to demand. IT budgets which have historically averaged around 5% of revenues in the industry are also likely to increase as airlines attempt to capture greater revenue share via increased digitization. Airlines are also cautiously responding to profit from higher freight rates.
Unconventional monetary policy at a global scale has pushed commodity prices higher which will complicate cost management even when assuming the implementation of a responsible and well-designed hedging program (it will be tricky to find counter-parties abroad post haircuts though). Whether the Air Mauritius fleet and the airline itself will have the budget to adjust is questionable given the size of the bailout. More importantly, when it comes to strategy, Air Mauritius will likely need to pick 1-2 key destinations in Europe, especially Paris, the region, India and East Asia. It will likely need to rationalize its direct flight points to around 6-7 destinations at best but whether its fleet of aircraft is optimized for a mix of short and mid haul travel vs. longer haul travel is questionable. Optimizing the fleet especially when taking profitable high demand routes, the accompanying strategy, aircraft types and fuel efficiency into account will likely require further capital expenditure the airline simply does not have. Approaching international and even local credit markets may prove to be quite expensive for a while given the fact that the company just pushed haircuts on creditors.
What Air Mauritius really needed was to combine sadly painful cost cuts including the inevitable staff cost cuts and debt haircuts with a combination of equity and quasi equity infusion in order to better optimize the capital structure of the firm. The quantum of the bailout would likely have needed to be higher as well to include the direct equity cash infusion.
Obtaining a strategic partner in the form of another global or regional airline or a private equity player would likely not be possible at this stage of the restructuring process without more sacrifices. It is also doubtful if many private equity players would find it easy to deal with a highly politicized company.
Privatization at this stage would in any event be a premature mistake which would come at a steep discount. It is also unlikely that approaching the local equity market for equity funding would yield positive results given the performance history of the stock. Only the government or the MIC could at this stage be in a position to properly recapitalize the company and provide it with enough financial strength in order to restructure itself. If the MIC can bail out the private sector while banks remain profitable and well capitalized with poorly structured convertible bonds (and overpriced land purchases of companies which have been known to be in the red for ages) taking on the bulk of the credit risk with little to near zero dilution potential for majority shareholders, then there is a much stronger case to be made for the bailing out of the national airline company.
It also appears like the government will be creating a holding company which will own various entities such as Air Mauritius and the Airport of Mauritius Ltd. Cross subsidies may bring some additional funds to Air Mauritius but Mauritius is no Dubai and no Singapore. While many have focused on the recent nomination of the CEO of the holding, the reality is that control rests firmly within the hands of the Prime Minister and his inside circle. The debate on competence is secondary.
Past Prime Ministers have always maintained a degree of control over key institutions in a country where job alternatives are few and far between and where patronage politics thrives but over centralization of decision making at the expense of technocracy has been especially pronounced over the past few years. For Air Mauritius to have a fighting chance, we should put the best brains we have behind it, put more equity funding, let the brains formulate, debate and finalize a government approved strategy, establish key performance indicators with the approval of the Board and for the rest, keep politicians out of the running of the company.
Doing what we usually do in Mauritius will only lead to more bailouts. The question is, where will the money for the next bailout come from?
* Published in print edition on 8 October 2021
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