(Bloomberg Opinion) - With stock prices at record highs, the market for initial public offerings is red-hot. So hot in fact that even Richard Branson’s debt-laden Virgin Atlantic Airways Ltd. is now reportedly eyeing a share sale in London in the autumn, almost 40 years after the airline was founded.
It’s the type of daredevil act the swashbuckling billionaire adores, but it’s an odd sequel to his recent foray into space that sent shares of his space tourism company Virgin Galactic Holding Inc. rocketing. It’s harder to see him pulling off such a feat with a humdrum airline.
Virgin Atlantic was struggling with losses and a high debt load even before the pandemic. Its focus on the transatlantic market, which accounted for 70% of its capacity in 2019, meant it was especially hard hit by coronavirus travel restrictions. Revenues slumped by 70% last year, which resulted in an eye-watering 864 million-pound ($1.2 billion) loss.¹
The carrier will doubtless emphasize recent cost-cutting efforts, its healthy cargo operation and the potential to capitalize on a rebound in leisure travel with flights to places like the Caribbean. But it needs an equity infusion to repair its weak balance sheet.
Given the risk of continued pandemic disruption, potential investors are in a position to drive a hard bargain with co-owners Virgin Group and Delta Air Lines Inc. They’ll also need to be prepared to dip into their pockets again if the turnaround doesn’t go as planned.
Virgin Atlantic was denied a bailout last year by the U.K. government. It made matters worse by angering customers by failing to process refunds for cancelled flights speedily enough. Virgin Atlantic’s chief executive officer, Shai Weiss, has pulled every lever to keep the company flying. He slashed the workforce by more than 40%, retired the company’s aging Boeing 747 aircraft and closed its base at London’s Gatwick airport.
Due partly to its ownership structure — Delta owns 49% of the business but faced its own financial challenges last year, as did other parts of the Branson’s leisure-focused empire — Virgin Atlantic has had to be imaginative too in managing its finances.
A refinancing package eventually agreed last year brought 1.2 billion pounds of financial relief. This was mostly a Band-Aid as the money came chiefly from deferring payments to shareholders and creditors. Davidson Kempner Capital Management LP extended 170 million pounds of loans, but that came at a steep price and almost half has since been repaid.²
While much was made at the time about Branson’s 200 million-pound “investment” in the airline — money he raised by selling shares in the rocket venture — the 2020 accounts show this is a loan and is repayable. Branson provided a further 100 million pounds in March. Sky News reported this was also a loan. Virgin Atlantic declined to comment.³
The upshot is that Virgin Atlantic had 2.5 billion pounds of indebtedness (around seven times the earnings before interest, taxation, depreciation and amortization it reported in 2019) and it held just 115 million pounds of unrestricted cash at the end of December. (The cash position has since been strengthened by the second Branson loan and other creditor support.)
The value of Virgin Atlantic’s liabilities exceeded assets by 150 million pounds as of the December reporting date° and the 2020 accounts also include a warning of material uncertainty over whether it can continue as a going concern if what it calls “severe but plausible” air travel demand scenarios were to transpire — a scenario it considers “unlikely.”
What Virgin Atlantic really needs, then, is a slug of equity capital to bolster its finances and it appears to hope public market investors will provide it.
While equity markets are certainly exuberant, Europe’s long-haul carriers are still regarded circumspectly by investors due to their comparatively weak balance sheets and worries that intercontinental tourism and business travel will take longest to recover. Reports that the European Union is considering tightening restrictions on American travelers again will only compound such concerns.
The market value of British Airways owner International Consolidated Airlines Group SA is still more than one-third below its pre-pandemic peak. Though Norwegian Air Shuttle ASA has ceased competing on the Atlantic, new services are popping up — such as the New York-to-London service offered by JetBlue Airways Corp. — that threaten to make Virgin Atlantic’s life harder.
Sky News, which first reported the possible IPO plans, said management’s presentations to potential investors had so far met with a “positive” response. Yet all this leads me to think an IPO of Virgin Atlantic will be a tough sell that would significantly dilute Branson and Delta if they don’t participate. Indeed, if the upside is so great, one wonders why they don’t want to continue solely funding Virgin Atlantic themselves.
Branson has made plenty from his space venture. Regular planes have proved far more taxing.
¹ These figures include the passenger airline, cargo and holidays operations; ² Via proceeds from an aircraft sale and leaseback transaction, which Virgin Atlantic said would lower its interest bill; ³ The loan is repayable in 2026 and was recognized at fair value, with the difference between nominal and fair value resulting in a capital contribution of £104m, the accounts state; ° This adjusted net liabilities figure includes the value of its takeoff slots, which serve as collateral for some of its borrowings.