O'Sullivan: Clipping of Air NZ's wings

Prime Minister Helen Clark and her two lieutenants Michael Cullen and Mark Gosche now control much of the play for Air New Zealand's future.

The airline may have been privatised in 1988, but it faces a predicament which has landed it back on the Government's plate.

The national flag carrier is facing another profit downturn and needs capital fast to maintain and expand its business.

The Government's international relations with Singapore and Australia may also be threatened if the situation is not delicately handled.

New Zealand has free trade agreements or closer economic partnerships with both nations. In the fast-globalising world, these relationships should provide a platform for flexible shareholdings in each country's internationally competitive businesses. But the reality is different.

The Government's policy is that no foreign airline may own more than 25 per cent of a New Zealand international airline, with total foreign airline interests not exceeding 35 per cent of the share capital.

Air NZ's A and B share structure also prevents more than 49 per cent of the airline being owned overseas.

The New Zealand restrictions are simply a carbon copy of those the Australian Government adopted when it privatised Qantas Airways. But they are causing New Zealand headaches.

The international aviation market is still one of the world's great dinosaurs. New Zealand has been in the vanguard of driving global open skies agreements with the United States and other nations, but complex array of bilateral agreements still governs much of the aviation industry.

The situation is clouded. The Government will probably be called to negotiate with Canberra if an Air NZ restructuring results in big changes to its Australian subsidiary, Ansett Australia.

But the Australian Government will also be under pressure to protect the interests of its flag carrier, Qantas Airways, which, like Air NZ, is facing financial problems.

In the background is Singapore Airlines, which wants a toehold of its own in the cut-throat Australasian aviation market.

Singapore Airlines - with its soft financing from the Singapore Government - tried to acquire Ansett Australia, but Air NZ vetoed the move in its own favour.

The future of Air NZ, which is designated as New Zealand's national flag carrier, still arouses much emotion. It carries the New Zealand brand worldwide and many Kiwis believe it is New Zealand-owned, even though Singaporeans could mount a case otherwise.

The big issues to address are:

* Air NZ is seriously under-capitalised and will need to restructure its balance sheet to fund a fleet replacement programme and lower its all-important debt-equity ratios, particularly if it wants to maintain its BB+ credit-rating at the investment level.

* Air NZ's second-largest shareholder, Singapore Airlines, has indicated a desire to increase its own holding from 25 per cent to 40 per cent, which would enable it to ante up some of the money for the airline's recapitalisation. Brierley Investments, the largest shareholder, faces its own capital constraints and has been trying to offload its holding rather than increase its 30 per cent exposure.

While Singapore Airlines is probably Air NZ's strongest suitor, increasing its shareholding would require Government approval and the possible renegotiation of many of the bilateral agreements which control Air NZ's international landing rights.

The risk is that other Governments would take a view that once the airline was effectively controlled by Singaporeans rather than New Zealanders, the agreements should be revoked.

Out of left field has come another option: a potential request by Air NZ to the Government to inject money into the airline as a stop-gap measure to enable it to help right its vital debt-equity ratios and pay for an approaching fleet replacement programme.

The equity would be paid back as the airline returned to full financial strength and a Government-to-Government negotiation process was undertaken to relax the ownership restrictions which govern traffic on many of Air NZ's routes.

But Helen Clark and her lieutenants will want some hard convincing if they go with the fall-back position.

Other options available for the Government are to get tough with Air NZ by requiring it to introduce other shareholders to take up risk in its troubled subsidiary, Ansett Australia, in return for equity participation. Or it could point-blank refuse to come to the party.

Some critical dates are fast looming.

The airline's June 30 balance date, at which Air NZ has warned it will unveil a substantial loss, will inevitably be concentrating directors' minds.

Then comes the date on which investment bankers Salomon Smith Barney present their restructuring options to the airline board.

Chairman Sir Selwyn Cushing indicates that although this report was expected in mid-June, its arrival date has now slipped back substantially.

Formal talks between Air New Zealand and the Government are due to start soon on the vital bilateral issues. But time is going by fast.

Put bluntly, Air NZ must announce a capital solution at the time of its June 30 result if it wishes to maintain investor confidence.

No company facing the balance sheet deterioration of the size which has impacted Air NZ should unveil a full-year result without at the very least foreshadowing a major restructuring programme.

Sir Selwyn Cushing has said that a Government injection of between $250 million and $350 million for each of the next two years could assist the airline, although he adds the caveat that the company is still forming its options.

The aviation market on both sides of the Tasman is itself, in a word, chaotic.

In Australia the two low-cost carriers, Impulse and Virgin Blue, were quick to turn up the competitive pressure once Air NZ and Qantas announced they were facing profit downgrades.

Since then Qantas New Zealand has gone belly-up.

Air NZ was previously blocked from merging its domestic operations with those of Ansett New Zealand.

But the Commerce Commission's decision on that score has since been turned on its head by the giant dairy merger.

Inevitably, suggestions will be put forward that Air NZ should simply sell Ansett Australia, take the hit on its balance sheet and move on.

But Air NZ would be a weak seller at this stage and the size of the resultant hit could jeopardise its financial future.

On February 20, Air NZ announced net earnings of just $3.8 million for the six months ended December 2000, compared with $127.2 million in the previous corresponding period.

Sir Selwyn announced two weeks later that if trading conditions continued to deteriorate in Australia, Air NZ would expect a substantial operating loss for the full year to June 30.

The forecast deficit for the current year will inevitably weaken a balance sheet that had total debt of $7.6 billion and equity of just $1.9 billion at the interim December result.

Sir Selwyn has been criticised for undertaking the ambitious acquisition of Ansett Australia.

But despite the acquisition's effect on Air NZ's balance sheet, there is little doubt that the airline could have access to sufficient international capital - if it was not caught by the nationalistic environment dominating the industry.