Alliance Airline (AQZ) is a diamond in an unfashionable, capital intensive industry where competition and uncertain macro-economic events puts pressure on pricing and revenue, whilst fuel, staffing costs and necessary maintenance puts significant pressure on profits.
The perfect airline would have the ability to pass on costs and locked in contacts to protect revenue. And that’s exactly AQZ, indeed, it has a strong moat around it, which airlines like REX and QAN would love and ‘would be’ airlines like BONZA and all those cheapies before it would have killed to have.
So, why is AQZ different and why is it worth more than a glance? Afterall, it made a loss in FY22, but has returned to profitability in FY23.
Different, YES. It derives 57% of its revenue from locked in Fly-In-Fly-Out (FIFO) contacts with the cream of Australian mining. It is the largest FIFO supplier in Australia and has been for many years. This has to be a very strong moat. I cannot recall it losing a client and this year it added two more major clients. Plus, these contracts have clauses in place to accommodate rising costs, so margins are protected.
So, let me tell you about the loss in FY22 – not significant, given this was a year to reflect the damages of Covid, as the results of QAN & REX will attest. The major reason for the loss was an abnormal cost of $28m to reflect the infrastructure& administrative costs of recruiting and training staff to man their 33 Embraer E190 jets which they acquired at a bargain price of $5m each when the real market value was around $50m apiece. Such was the depression in the airline industry during Covid.
AQZ had more infrastructure costs in FY23 but chose not to capitalize them in the accounts. Long story short, 30 of those 33 jets are now under wet or dry leases and the revenues and profits will be streaming in during FY24 and beyond.
Such is the expected future demand, AQZ in May this year announced yet another major capital purchase of an additional 30 E190’s and some 16 of these will be made ready for service by June 2024 – that said, the costs of establishing staff and infrastructure will be done at a much more economical cost. Besides up to 16 of this acquisition might well be cannibalized for parts and replacements which will lower their operating costs plus provide also commercial opportunity in selling to others as well. At this stage it should also be noted that AQZ – with the assistance of Government funding – has established a substantial hangar at Rockhampton in Queensland to service its growing fleet. This will automatically save on maintenance costs as previously this was done overseas. The hangar is open for business in early September 2023.
Now, you probably know that QAN (20% ownership of AQZ) has lobbed a $4.75 takeover bid which has been kyboshed by ACCC. It’s not dead, as QAN are boxing on, though I’d be sure the $4.75 price tag will have to be upped to well over $5, given the impressive runway now pretty well laid out and ready for take-off.
Why their interest? Well, they have an agreement to take up to 30 of the initial E190’s under a wet lease and have so far executed some 22 of them – with more to follow.
AQZ are positioning themselves to become wet and dry lease wholesalers as well as FIFO specialists; all of these have protection against cost increases. So, a dry lease is one where they simply lease out the plane and the lessee pays all costs. With a wet lease, AQZ supply the plane plus staff at an hourly rate, but the lessee in this instance pays airport charges, fuel, sells the tickets etc.
Why consider AQZ and what are the catalysts?
One line summary: Infrastructure in place for more planes travelling more hours at reduced operational maintenance costs with fuel costs covered by customers; mosy of whom are largely ASX200 entrants.
The company has a very experienced board & management team with a very strong shareholding interest.
Moat like status in both core areas of the industry (a) FIFO (b) Wet leasing
Very great majority of infrastructure and start-up costs of the E190 fleet now met from past years results. The E190 fleet plus parts will number around 63 by FY25.
AQZ sell plane hours and for that you need planes. At FY23 they have 68 planes (Fokkers and E190’s) in the fleet. This grows to 84 in FY24 and 94 in FY25.
The new Rockhampton hangar will provide cost reductions on annual maintenance. Expect better margins going forward.
Substantially more flying hours in FY24, FY25 and beyond.
Dividends likely to be reintroduced at 1HFY24 – analysts see 3c to interim FY24 and 16c in FY25.
The value of the planes has been recorded at cost though the market value is likely to be substantially higher given the brilliant acquisition price, particularly of the first 33 E190’s at a low point in the cycle.
Analysts Considerations on Value
Analysts have FY24 revenue improving by 20% and 15% in FY25. EPS expected to be 37c in FY24 (v 22.7c in FY22) and 42c in FY25.
3 analysts value AQZ at $4.55 – 1 Strong Buy and 2 Buy
Failure to place E190’s under wet or dry leases - unlikely in short to medium term given the pent-up demand for travelling presently – acknowledged by the company.
Debt Levels are high as they digest the two E190 acquisitions. Net debt to equity at 61% FY23. That said, my estimate of interest cover at end of FY24 is 3.6 – so comfortable.
Disclosure: a long-term fan and held IRL