Air Canada and Ottawa have finally agreed on terms for the airline’s financial assistance package, but beyond the news that customers will get refunds for flights they never took, it gets pretty technical. Here’s a financial breakdown for taxpayers who are wondering what the government is getting into:
In simple terms, what’s in the package?
Air Canada is getting loans from the federal government worth up to $5.4-billion, and Ottawa receives 6 per cent of the airline’s shares at a cost of $500-million. The federal government will also be paid interest on its loans, and has the right to purchase more shares in the future.
Did Air Canada get a sweetheart deal on its loans?
The interest rate on some of the new debt is certainly attractive. Air Canada’s first credit facility is worth $1.5-billion and can be tapped whenever the airline needs money – like a line of credit. It costs just 1.93 per cent annually, though that will fluctuate with market rates. The program is secured (or backstopped) by the airline’s Aeroplan rewards program.
By comparison, last June, Air Canada issued $840-million of secured debt at a 9-per-cent interest rate that was backstopped by some of the airline’s real estate interests and ground service equipment, among other things. Bond yields have fallen over the past 10 months, but the comparison gives some sense of what Air Canada has paid recently.
Air Canada is also getting an attractive rate on the $1.4-billion unsecured line of credit that it will use to finance customer refunds. The fixed interest rate on this debt, which is available for seven years, is 1.211 per cent.
The third debt bucket, which is unsecured and therefore more risky to the government, comes at a higher cost. This credit facility is worth $2.5-billion and is split into three equal buckets at 2.2 per cent (which will fluctuate), 6.5 per cent and 8.5 per cent.
Did the government get a good deal on its shares?
Companies often issue large blocks of shares at a discount of 2 per cent to 4 per cent to the market price. The federal government is buying its $500-million worth of Air Canada shares at a 14-per-cent discount, which is quite attractive.
The government was also granted 14.5 million warrants, which allow it to buy more stock at $27.27 per share, giving the government more upside if Air Canada’s stock continues to recover. Air Canada’s shares were trading at $27.00 apiece when the package was announced. In other deals, the exercise price for warrants can be much higher than current market levels, so they remain worthless for a while.
If Air Canada struggles, won’t the government lose money?
There’s a popular saying in finance: There’s no such thing as a free lunch.
So, yes, the government could lose money. If Air Canada were to file for creditor protection, its shares would likely become worthless, and it may not fully repay its loans.
But the assistance package is supposed to prevent this from happening. Domestic travel in the U.S. is already picking up – partly because a higher proportion of Americans than Canadians are vaccinated and Americans tend to have a higher tolerance for risk – so there is hope Air Canada’s profits will return as vaccination levels here rise.
The package is a bit like an insurance policy that will help Air Canada get through to the other side of the COVID-19 pandemic.
What took so long for the package to get announced?
Details of the negotiations are still being kept private, but we know Air Canada played hardball on customer refunds even though the government has long said they were crucial to any deal.
It’s likely Air Canada felt it had room to negotiate, because the airline had been able to fund itself with cash it had on hand – and by issuing debt and selling shares to investors. However, the third wave of the pandemic almost certainly changed its position, because Canadians are being told to stay at home again, and we don’t yet know for how long.
Does Ottawa control Air Canada now?
This isn’t a government takeover. If Ottawa uses all of its warrants, its ownership stake will rise to roughly 10 per cent. That would be considerable, but Air France recently announced a loan package that allows the French government to raise its ownership stake in the airline to 30 per cent. (It currently owns 14.3 per cent).
Who won the negotiation?
It’s far too complex to say. Air Canada received attractive loans, but the government is getting shares at a nice discount, and they should rise in value.
The upfront financial terms are also only part of the equation, at least from the government’s point of view. In the package, Air Canada has committed to, among other things, restoring service for nearly all regional communities where it was suspended during the pandemic; restricting dividends, share buybacks and executive compensation; and keeping employment no lower than where it stood on April 1. The financial – and political – value of all these add-ons is difficult to calculate.
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