Is Ac To Big To Fail?

[GDR]

I received this by e-mail. I have no idea who wrote it and I'm not endorsing what it says. I'm just posting this as food for thought.

Air Canada Too Big To Fail?: Our PBB Brown Bag Analyst Says No

This week, one of our more astute observers of the Canadian playing field weighs in with his take on Air Canada, and explains why, regardless of what you might think, the airline is not too big to fail.

Wow. What a mess.....

The Air Canada situation is beyond dysfunctional.

I believe the big stick approach by management and government will simply not work in a business which must rely on a reasonably motivated, widely scattered workforce in order to operate with any degree of reliability and economic efficiency.

Beating a desperately disgruntled workforce over the head with a stick may win a few battles, but the war will undoubtedly be lost.

All of those employee groups, individually and collectively, have the ability to quietly turn an airline operation into a hopeless operational and economic quagmire. It's death by a thousand scalpel nicks.

Even a small shift in market share and forward bookings will cause Air Canada serious financial issues.

Air Canada's "no BS" trigger point for a CCAA filing is about $1.75b cash in the bank. They have very little left to restructure with and Canadian bankruptcy laws do not allow labor contracts to be torn up into tiny pieces as is the case with Chapter 11 in the U.S.

It's one thing for management to have lost the confidence of its employees and employees to have lost the confidence of their management, but for the first time I can ever recall, consumer confidence in Air Canada appears to be in very serious jeopardy.

There is no more reviled company in Canada today than Air Canada. Everything they have achieved over the last 5 or so years is out the window.

I strongly suspect the federal government's confidence in Air Canada management’s ability to fix problems in an even modestly collaborative fashion must be at an all-time low.

The federal government is likely none too pleased at having been brought in to do the dirty work on this file.

There is also no doubt that this file has helped crystallize an anti-Conservative party backlash nationwide.

Heck, I'm a lifelong Reform / Conservative voter and am deeply troubled by a Conservative government dabbling in private sector matters.

It’s pretty obvious these decisions are not being made at the departmental level but in the Prime Minister’s Office, (the PMO). I'd expect it from a Liberal or NDP government but from a Conservative government? I'll bet Harper's own public opinion polls echo that sentiment. This is a very divisive file.

Sure, Air Canada will launch a giant, revenue-erosive "Thank you" sale to rebuild forward bookings when the band aids are applied, but that only exacerbates the underlying issues.

Conventional wisdom in Canada is that for some reason Air Canada is "too big to fail" and they operate "monopoly routes”"where there’s "no competition."

Let’s take a look at these statements.

First of all, there’s the story spread by various constituents that Air Canada has, or is, a "monopoly." This is, for the most part, nonsense.

The reality is that it is Air Canada Express, not Air Canada, which operates into all the smaller communities that suffer from a lack of choice. Air Canada Express, operated by Chorus Aviation of Halifax, is operating without any issues, other than those resulting from being hitched to the Air Canada wagon.

Close to 90% of all Canadian passenger airline traffic comes from the top 20 markets in Canada and all but two have a reasonably competitive situation given current circumstances. Fredericton and St John, New Brunswick are likely in the top 20 and do not have competition, but both are within an easy 90 minute drive to the most central airport in the province, Moncton. Keep in mind that New Brunswick’s total population is far less than Calgary’s and is divided amongst 4 airports.

Air Canada operates to 62 destinations in Canada. If one examines the list, one can easily come to a conclusion that there are very few that would have any issues if Air Canada were to fail.

The few for whom issues might arise are all served by Chorus Aviation and most are very, very small markets, some with a total of only around 50 departing passengers a day to all destinations worldwide. They are from west to east, Sandspit, BC; Castegar, BC; Penticton, BC; Kingston, Ont; Sarnia, Ont; Chibougamau, PQ; Gaspe, PQ; Bathurst, NB; and the aforementioned St John and Fredericton, NB. The total traffic of all these airports would amount to less than 3% of the national total.

All the other communities have a competing service to nearby regional hubs by other airlines who, as it stands, know better than to challenge Air Canada’s 800lb gorilla dominance over even these tiny markets, even though they’d likely be far better and more efficiently served by smaller regional services.

Is Air Canada too big to fail? Let’s look at their fleet:

AC # in Fleet Seats Total

Dash 8 100 36 37 1,332

Dash 8 300 28 49 1,372

Q400 10 74 740

CRJ 45 50 2,250

CRA - 705 16 75 1,200

B757 6 211 1,266

EMB 175 15 73 1,095

EMB 190 45 93 4,185

A319 38 120 4,560

A320 41 140 5,740

A321 10 164 1,640

B767-300 30 210 6,300

B767-200 0 207 0

A330 8 274 2,192

A340-300 0 286 0

A340-500 0 267 0

B777-200 6 270 1,620

B777-300 12 349 4,188

Total 346 2,949 39,680

Jazz 141 496 8,160

Air Canada 205 2,453 31,520

Air Canada utilizes a fleet of 346 aircraft.

141 of them are owned and operated by independently owned and operated Chorus Aviation, formerly known as Jazz, and now Air Canada Express, that feeds Air Canada, or presumably, anyone else’s network if Air Canada ceased to exist.

The same goes for Skyservice which operates Air Canada Express from Toronto’s downtown Billy Bishop airport to Montreal in an attempt to go head to head with Porter.

That leaves Air Canada’s fleet of 205 aircraft, totaling 31,520 seats a day.

Very, very few of Air Canada’s wide-body fleet, totalling 56 aircraft, or 14,300 daily seats, operate in domestic or North American service. Virtually all of it flies to Air Canada’s international destinations.

Reciprocal service is, in turn, offered by various airlines based in Australia, Hong Kong, China, Korea, South America, the UK, France, Germany, Holland, India, Israel, the UAE etc etc, not to mention US airlines flying to international destinations over their US hubs.

All those carriers, together with Transat, already Canada’s #1 airline to France with a fleet of about twenty wide-body Airbus aircraft, could quite easily add international capacity into Canada to fill any void that develops.

In other words, the international portion of the equation would be rapidly infilled by all kinds of existing, and potentially new (at least to Canada) competition. It wouldn’t take long for all Air Canada’s international capacity to be absorbed by others. In time, it would be recaptured by a Canadian-based carrier that has taken the time to develop an organic domestic feed network. That would likely be WestJet down the road.

So now we’re left with Air Canada’s fleet of 60 EMB’s and 89 narrow-body Airbuses, or a total of 19,686 daily seats servicing domestic Canada, the US, (together with, but not including Air Canada Express’s capacity), Mexico, the Caribbean, Colombia and Costa Rica.

By way of comparison, WestJet currently has 98 B737’s and a total of about 13,426 daily seats servicing Canada, the US, Mexico and the Caribbean.

One can easily assume that without Air Canada in the picture, many US and Mexican-based airlines would leap at the opportunity of expanding their existing offerings into Canada. That could quite easily take up 25% of Air Canada’s 19,686 narrow-body seat capacity operating into the US and Mexico.

That leaves Air Canada proper vacating the domestic market and leaving a daily shortfall of something in the order of 15,000 daily seats, or the equivalent of approximately 110 B737-700’s.

How long would it take for existing airlines operating B737 equipment, such as WestJet, CanJet, Sunwing, Flair and Enerjet, together with all the other airlines, ranging from the aforementioned Transat in Montreal, Porter in Toronto, Pacific Coastal, Central Mountain Air, Hawkair, Integra Air, Bearskin, Calm Air, Air North, Labrador Airways, Pascan etc. etc., to expand to fill in the void?

With the 800lb gorilla dead and buried, all the competition that currently exists, together with well thought-out new entrants, would have absolutely no problem attracting the capital required to start or grow their business in a cost-efficient and customer-service oriented fashion. I seriously doubt it would take anything more than about 18 months to fill the void.

As a result, I truly believe it is an absolute fallacy that Air Canada is "too big to fail."

In the short term, jobs would be lost, but let’s face it, Air Canada would probably be ecstatic if they could cut about 20% of their staff tomorrow. Longer term, the balance of the jobs would return as other Canadian-based airlines filled the void, though it is unlikely many of the non-technical ex-Air Canada employees would find many open doors at the other carriers.

Reregulation and non-reciprocal cabotage are political non-starters in Canada.

All actions taken thus far by both the company and the government are simply postponing what increasingly looks like the inevitable.

Many recall that Air Canada’s master plan after the last go-around with bankruptcy in 2003, (excluding the near death experience in the summer of 2009), was to rebuild the airline focused on long haul, premium international traffic.

They entered the 2003 CCAA / bankruptcy filing with an average stage length of about 1,300 miles. Their average stage length today is under 900 miles, less than WestJet’s current average stage length of about 975 miles, with a CASM of C$18.29 cents compared to WestJet’s C$13.55 cents.

To add insult to injury, WestJet is on the verge of adding forty new 75-seat turboprops to their fleet over the next 5 years and Porter continues to seriously destroy the economics of Air Canada’s previously unassailable fortress in the so-called Eastern Triangle, (though neither is likely profitable on any sort of fully allocated basis).

Given all of this -- do you still believe the Maple Leaf 's too big to fail?

I don't.

[airt]

Interesting analysis. I had always thought AC was too big to fail but now I'm wondering.

The big question to me is...would the Cons let it fail?

Their constant meddling and rejigging of the rules in the last 6 months would seem to indicate no way and to tell you the truth , that scares the hell out of me.

The more the government gets involved , the less predictable the outcome. Anything is possible with the likes of that lot...

[Geminoid]

I wonder.....if the government thinks that Air Canada is too important to the economic recovery to allow the employees to strike, what would/should they do if a company failure is imminent? The impact on the economy would certainly be longer and more devastating than a relatively short strike to resolve some issues.

Geminoid

[Specs]

I find it hard to think anybody believes AC is too big to fail. There would be a mess for about 3 weeks and some minor residual negatives but after that AC would be forgotten. I would think one of the last thing this government wants right about now is another major unemployment shock in Eastern Canada. They wouldn't be able to deal with it and the damage to their plans would be immense.

[Fido]

Ahhh

Written by our own Beano.....without a doubt as it has all the signs of the same language and syntax.

[dagger]

Ya, Bean's always had a soft spot for Holly.

[FA@AC]

Ya, Bean's always had a soft spot for Holly.

Holly, or at least her utterings that Bean has bothered to post on this board, has pretty much been right on the money where AC is concerned.

The article above states that AC's "no BS" trigger point for a CCAA filing would be a dwindling of cash in the bank to $1.75 billion or thereabouts. I'm curious what a couple of you (Dagger, Rudder) make of that statement. Would AC need to file if its cash reserves hit that point, or is that an overly pessimistic point of view? I'm not sure whether she means that AC would then need to enter CCAA, or whether she's of the view that AC would just find it convenient on the labour front to file at that stage.

[Fido]

Primarily the 1.75 billion is to do with credit card covenants. Although I was under the impression the figure was lower than that.

[Thebean]

Not me.

In fact, I'd quibble with some of the points in the piece as not being particularly accurate.

Barring some sort of macro event, I don't see Air Canada hitting any walls any time soon.

[boestar]

The big issue is the loss of revenue to the Government. AC is a Cash Cow to the government and they know it. Letting it fail would put a dent in government revenues. I also don't think all these foreign airline would "Jump" into Toronto, one of the most expensive airports to operate in and out of. I may not be too big to fail but if it did fail I am not sure there would be an inrush.

[LongTimer V]

Uncle Milty could do a start up with all the $$$$ that was looted

[rudder]

The article above states that AC's "no BS" trigger point for a CCAA filing would be a dwindling of cash in the bank to $1.75 billion or thereabouts. Would AC need to file if its cash reserves hit that point, or is that an overly pessimistic point of view? I'm not sure whether she means that AC would then need to enter CCAA, or whether she's of the view that AC would just find it convenient on the labour front to file at that stage.

The floor for the credit card processing agreements has changed a couple of times in recent years as AC seeks less onerous covenants. In any case, the current terms are on the order of $900M-$1B unrestricted cash on hand. As a DIP lender might be difficult to find or terms might be undesirable, AC would contemplate filing with enough cash on hand to meet current obligations itself during a CCAA workout and continue to meet cc processing terms. Therefore, $1.75B would be on the low end of the scale assuming that AC was intent upon restructuring under CCAA protection and within a reasonable time frame and not simply liquidating. AMR filed with $4B cash and no DIP lender and expects to exit CH11 this year.