We have been bullish about the future prospects of the Brazilian aviation market for many years now what with 7% (now 4% at best) growth, the FIFA World Cup in 2014 and the 2016 Summer Olympics there has been much to shout about. Now this month with the creation of LATAM Airlines things move up another gear. With an estimated market capitalization of $13 billion, LATAM becomes the largest airline in the world, beating Air China which is second at $10.7 billion, and Delta Air Lines in third place.
But now it is time to awake from the stupor of consolidation delight and remember what we told you last month - the LATAM fundamentals are still poor. LATAM is taking on about $12 billion of debt, most of it from TAM, which means LAN will lose its investment-grade status. Everyone is confident about the merger because there is only an overlap of 3% on routes between LAN and TAM but, even though there has been two years of preparation for this merger, reports reach us that TAM staff will not take a cost-cutting drive lightly while LAN staff march on in bliss. To this we argue that LATAM is correct, TAM needs sorting out, but tell that to the staff…..expect some problems.
The Latin America region as a whole is expected to grow at least 5% a year over the next 10 years, and air travel in the region is expected to exceed that. Latin America’s economy is expected to create a tripling of the region’s air traffic during the next 20 years, making Latin America the second-highest region for growth in air travel in the world, next to the Middle East. But travel to-and-from Latin America will be only a small part of the growth. Much of it will be from travel within the region if current growth remains constant. So it is here where the purchaser of TAP will be able to make a mark. American Airlines is making the first move however, increasing its network into the South American region by 90 flights of late. If growth continues in South America, then the US majors will need to get moving on expanding their reach.
Over in Bolivia regulators yesterday rejected a bailout plan for troubled AeroSur, giving the grounded airline until July 11 to resume flights or lose its licence. Critics have called the decision politically biased in favor of the three-year-old state-owned Boliviana de Aviacion, which now has a virtual domestic monopoly, and has plans to begin flying to Spain and the United States – the same destinations AeroSur abandoned last year. AeroSur is saddled with debts of more than $100 million, including back taxes that authorities says it owes and it halted flights last month after failing to secure new financing.
Bolivia’s public works minister, Vladimir Sanchez, said last week that the company owes its 1,200 workers more than $30 million alone for back wages and medical insurance payments. AeroSur employees, who are owed at least three months in back pay, briefly halted operations at Santa Cruz’s Viru Viru airport on Tuesday, blocking the runway for 20 minutes.
It was a government decision in April that declared AeroSur owed taxes dating back to 2006 which grounded flights two months ago, leaving hundreds of passengers stranded. At that point AeroSur had sold 15,000 to 16,000 tickets through July of 2013. A former president of Bolivia’s Central Bank, Armando Mendez, said the government has been overly strict, creating the impression “it wants AeroSur to go bankrupt”. While AeroSur part owner [7%], Humberto Roca who moved out of the country to avoid prosecution for alleged subversion, claims political persecution. Bolivian prosecutors alleged that AeroSur provided tickets to foreign mercenaries who were slain in 2009 in the eastern city of Santa Cruz, seat of opposition to President Evo Morales.
AeroSur’s apparent last hope was William Petty, an American mining investor whose offer to invest $15 million to keep the airline flying was rejected by the government yesterday as insufficient.
Boliviana de Aviacion meanwhile, was established with $15 million in government money with an additional $8 million in state funds after a year. Now with nine aircraft, the airline will need another $13 million to open the new international routes (that is optimistic).
So, given that LATAM has had two years of clamour and there is no value left, what opportunities remain for investors in South America?
Copa of Panama is the very best option for a safer airline investment. With double-digit growth in a decade and its annualised dividend yield of just over 2.5%, it is the best of all the South American airlines. AviancaTaca Holdings is without doubt the best option for a gamble. Aeromexico, following Delta’s purchase of 4% in the same, has come off of its 52 week low and value may have been missed. Although many rave about Gol Linhas Aereas Inteltigentes recent headlines on route reductions and employee layoffs point to the airline having overstretched of late. Although getting rid of its chief executive last week and replacing him with Paulo Kakinoff, Audi’s Brazilian head is a sign that this could well be the bottom to get in at. It remains the case that South America is politically unstable and lessors and investors should continue to beware.
Would you invest in South America?
