Why Virgin must be saved

Virgin Australia is seeking $1.4bn from the government to tide over the virus crisis

Just about everyone agrees that Australia needs two airlines as a vital part of the economy for both tourism and business purposes.

It’s not hard to think about what would happen to airfares and services under a monopoly.

The question now, as airlines around the world see the bulk of their fleet grounded due to the unprecedented COVID-19 crisis, is how far should the government go to ensure this is the case?

Critical decisions have been made and are being made by the Morrison government to provide funding for businesses, unemployment and a whole range of sectors which will shape the structure of the economy when it comes out of the crisis.

At the start of the year the government was still trying to stick to its promises of a budget surplus. Now it is handling out unheard of billions to an increasing array of supplicants. What would have looked like the spending habits of drunken sailors a few months ago have now become the policies of a responsible government trying to preserve the economy through an unpredictable global crisis.

Virgin, which is smaller and less financially robust than Qantas, wants to get $1.4bn from the government to tide over the crisis. It’s a huge amount of money to be spent on one company at time when millions of Australians are out of work and thousands of small and medium-sized business are hitting the wall.

Virgin, it should be remembered, benefited from the last era of airline crashes when Ansett Airlines collapsed in September 2001 after 65 years in operation.

Virgin Blue had started operating services in August 2000, with two aircraft. The airline, which began life as a low-cost operator, was able to capitalise on Ansett’s collapse and get a serious foothold in the Australian market, reinventing itself over the years from a low-cost carrier to Qantas’ major competitor, catering to both the tourism and business markets.

Airlines are risky businesses at the best of times. One can only imagine where Qantas would be now, if at all, had the highly leveraged $11bn top of the market private equity bid for the airline in 2006 gone through?

Virgin has been hamstrung by its complicated ownership structure which has seen it largely foreign owned with less than 10 per cent of its equity trading on the ASX. It would have had an easier time in being delisted from the ASX — something which former chief executive John Borghetti wanted to occur — but given its complex ownership structure it was never able to pull this off.

One standard argument which needs to be examined is why should the government bail out an airline which is owned by global players such as Singapore Airlines, Etihad, Richard Branson and two Chinese investors, HNA and Nanshan?

One answer is that Virgin is not asking for a lifeline because it has been badly managed — despite comments by Qantas chief executive Alan Joyce, a fierce competitor at the best of times It is only asking for funds to get through the current unprecedented virus crisis which is seeing governments around the world handing multi-billion-dollar financial lifelines to their airlines.

Under Paul Scurrah, who took over as CEO on March 2019 from Borghetti, the airline’s management had been making some tough decisions on costs, routes, staffing and aircraft.

As Scurrah argues, if Virgin were to collapse it would take years for a viable competitor to emerge against Qantas.

In these unusual times, no other foreign airline — the most likely source of capital in normal times for a new Australian airline — is going to put their hands up to back a new player or even buy a collapsed Virgin. For one thing, they have enough problems at home surviving in the current crisis and for another thing, those governments providing them with emergency cash relief will not look kindly on them investing on a new airline start up offshore when the dire need is to preserve jobs at home.

Let Virgin collapse and Australian will have an airline monopoly for the short to medium term.

The question should be on what terms would Canberra consider a financial lifeline.

While the terms of Virgin’s proposal are confidential, some leaked out last week.

It looks as if Virgin is proposing a loan of two to three years which could be convertible to equity if it can’t repay it. This could mean the existing shareholders in the airline agree to take a major haircut, writing off most of their equity if Virgin can’t pay it back.

If this happens, it could see the government having the majority stake in the airline which it could sell off in better times ahead.

Governments around the world have owned airlines throughout our lifetimes. Qantas was government owned for 70 of its 100-year existence.

For Morrison to be able to sell the deal to cabinet, there will need to be some significant potential upside for taxpayers.

There are precedents for such moves in terms of crisis.

In the wake of the global financial crisis, the British government bailed out Lloyds and RBS and was able to sell them off later when the market recovered.

Virgin may be able to raise some funding from other sources but nothing like the $1.4bn it wants from Canberra.

It is not out of the question that the government does end up owning most of Virgin and can go through the privatisation processes we saw in the past with Qantas, Telstra and the Commonwealth Bank which all did well for the government.

Could the Future Fund, which was founded with seed capital from the Telstra privatisation, also play a role here?

These are unusual times and unusual times require unusual solutions.