Over the last couple of days managing director Scott McMillan has been doing some pretty decent buying.

15/12 - bought 88,339 shares ($250,459 worth) in the family investment trust. He also received another 46,047 shares as part of his performance bonus.

20/12- bought 21,661 shares ($64983) in his super fund.

That is a pretty strong statement about how he thinks the company is performing and where it is going. Nice bit of confirmation bias for me too.

Since september Alliance have now had two separate FIFO contract renewals from BHP, one for iron ore mines in the Pilbara (14 return services/wk from Perth) and one for Olympic Dam in SA (contract details not released). Both were for an initial 5yr base contract +2yr extension option. AQZ have had these contracts since 2009. This will make them a 21 year service provider to BHP. This is as close to ARR as you get - they charge a fixed fee and take on no passenger or fuel risk..

This slide from their annual results really sums up why they shouldn't be considered a typical airline. The key to this business is them getting more planes in the sky and flying more hours. As @PortfolioPlus lays out in his straw that is what they are doing, with the fleet size doubling by 2026/27

I think this is one of the most overlooked or misunderstood business's and I am expecting this to be a consistent compounder over the next 5 years. I bought more this morning and am expecting a positive update at the AGM next week, where they either confirm their guidance and hit an EPS of around 30c (up from 22c in FY23).

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

 Potential Headwinds

 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

The ACCC has rejected the proposed ($4.75) takeover by Qantas on grounds that it will reduce competition, which I am sure it probably would have but thats never stopped them at other times! It took them a year to come to that conclusion. Qantas is appealing this decision, they do own 19.9%, so there is a risk that if they lose the appeal they become sellers. I don't know over what timeframe this appeals process would take.

I would have been happy to get this bid approved and take the quick money, but am equally happy to keep holding this one and let AQZ reap the rewards of their heavy investment of the last few years, I think the next few years will be positive for AQZ.

Since this bid was launched AQZ have commited to purchase another 30 Embraer jets over the next two years, and have increased the wet lease deal with Qantas from 18 to 30 planes. They have also increased the length of these leases from 3 to 7 years (through 2yr extension options), so plenty of revenue coming through. The total flight hours the planes are in the air is also rising month on month with a 50% increase from Jan 22 to Jan 23. Total flight hours to Dec 22 were 32000 hours, which should triple again with expected flight hours of approx 99000 by June 23. This is primarily driven by more planes in the air. Over the period I have been following AQZ, I haven't seen them lose a mining client when it comes to fly in/fly out contract renewals.

At the recent half year results the company has guided for PBT (FY23) of between $50-55m and are comforrtable with analysts consensus estimates of $74m (PBT) for FY24. This is an EPS of around 22c (FY23) and 30c (FY24). So at its current price of $3.20-30, they on a fwd PE of 15 (FY23) and 10 (FY24) respectively. I think they will keep falling a little bit more as the Qantas decison washes through and am hoping they will get back to sub $3 in the next few weeks, but this might prove to be too optimistic.

Alliance aviation reported their HY results and after the last 2 years of heavy investment in their new Embraer E190 fleet and a slower than anticipated roll out due to pilot/cabin crew shortages, they are now back to profitability and doing well. Revenue $235m (up 40% pcp) and $6.5m NPAT (vs $4.9m loss pcp). Operating cashflow of $23.6M. 64% of their revenue is under contract. Gave good guidance: PBT of $50-55m for 2023 (not sure if this is for calender or FY) and around $77m for 2024 FY.

-6 E190's joined the operational fleet in the last half. 62 aircraft now in service.

-Record flight hours for the half at 32365 (vs 20843 pcp)

-They now have 16 of the 18 Qantas wet lease planes operational as of Dec 22. Operating at 4000 hrs/month in January vs 2500 in July-September 22. Wet leases revenue guided to increase in 2nd half.

-The final 3, E190, planes will be delivered in the next quarter, bringing the final tally of the new fleet up to 33 (E190's) to be deployed by June 23. Still guiding for annualised flying hours of 99,000 by june 23.

-Wet lease flying times up 282% to 17248 hrs, mining contract hours were steady, with one contract currently being negotiated.

-Major capex projects- Rockhamptom hanger and aircrew recruitment and training nearing completion. Bottom line should expand again.

-Staff numbers increased to 1063 (vs 803) all related to the aircrew and engineers for the E190's

Pretty happy to keep holding this as it starts to get the rewards for their investment in the E190's. We will also hear next month on whether the Qantas takeover at $4.75 is approved or not so plenty of upside in either scenario.

So, I have a holiday short-stay with family in Mackay just after Christmas.

From Sydney, there is a stop in Brisbane then a smaller plane takes us further north towards the scorching Queensland coastline. To my surprise, I have just received an email notifying me that Alliance Aviation will be making the flight on behalf of Virgin Australia in a Fokker jet. Never mind the fact their entire fleet is 20+ years old and mostly retired (no longer in production) aircraft models.

Just interesting to note that even without booking through alliance, they obviously still get a cut. Though I wonder exactly how that arrangement works?

Surely to not lose the sale and keep customers flying, Virgin would swap the fee so the commission is on their end and the larger portion goes to Alliance, no?

Looking forward to a safe flight. Or four!

It seems like the market has decided that the ACC will be a roadblock to the Qantas takeover plans. I have no idea how they will view the deal, but my guess would be that it will be ok as they aren't really competing in the same markets and I can't see how it will meaningfully reduce competition. But given that the business is going only very nicely and in the last month has announced two contract renewals from mine clients, I think it is not a bad place to park some money and either get a quick payback of $4.75 (Qantas takeover) or wait for the market to start assessing its value again, which I think will happen over the next 12 months when all of the new planes it bought are flying.

-CITIC Pacific Mining - 6 yr renewal for 22 flights per week

-Agnew gold mining - 3 yr renewal for 12 flights per week

Qantas has lobbed a 100% takeover bid for AQZ (that is, acquire the remaining 80% which they don't already own) by offering $4.75 per AQZ share as then converted to a QAN share based upon a volume weighted average price (VWAP) of Qantas shares over the 20 business day period ending on (and including) the record date for the Scheme, subject to certain adjustments. So for example if the value of a QAN shares as determined as above is $5.50 then AQZ shareholders will get $4.75/$5.50 of QAN shares or 0.8636 QAN shares ofr each 1 AQZ share

The intrinsic value of the offer is about right, so no issues there, but there are many hoops to be jumped through to make this happen which may take time and then one needs to decide whether they want to hold QAN shares. But, the catalyst has been set for an AQZ share appreciation and so it has happened.

AQZ is just slowly going about their buisness. So far this month they have announced that they bought an additional E190, the sister ship of two they already own and bringing the total fleet up to 33. Cost of this one wasn't disclosed but am assuming they got it for a cheap price given the price of the other 32 planes. I am also assuming that being sister ships they will have additionalmaintence benefits e.g quicker/cheaper etc., but still need to confirm this.

Today they announced that Qantas had exercised the four remaining options on the wet lease deal, bringing the total number of planes up to 18. These four planes are set for deployment between Nov 22 and Jan 23, with each lease set for a 3 year period.

In the Feb results Qantas had excercised 10/18 wet leases. So I am now thinking that they must have comitted to use all 18 planes, but haven't set a start date for four of these leased planes (14/18 have start dates). I am taking this as a positive in that Qantas sees travel numbers increasing from next year and wants to lock in the seat capacity.

I am also expecting to see the total number of flying hours increasing from the 33K (dec 21) to >90K (Dec 22) as per their forecasts in their results presentation.

I am a big fan of AQZ, it's strategy and execution by a good management team – but the poor 1HFY22 results are a reminder of two things.

 (1)  Business “gobbledy-gook” can cloud reality. The company guidance of $45m to $50m in ‘underlying’ NPBT for FY22 translates into a breakeven (at best) ‘statutory’ NPAT and likely no final dividend either.

 (2) the difference between “underlying” and “statutory” results can be put down to two events; one predictable and the other an abnormality.

 The predictable extra expense was the massive one-off cost in preparing to take on a much larger flying fleet; hiring and training of extra crew, maintenance on the additional E190’s, ground infrastructure etc.

 The unpredictable event was of course Covid and its impact on flying. It put back their E190 fleet deployment by at least three months, perhaps more.

 So FY22 is an absolute ‘dot-ball’ and the focus must be on FY23 where we will possibly reap 75% of the benefits of the very much enlarged flying fleet and FY24 should really reflect the full value of the bargain based purchase of the 32 E190 planes.

 Of mild concern is management’s failure to advise the market of the loan covenant breach and the huge expenditure impact of onboarding the E190’s. As investors, we probably should have taken the latter into consideration, but the extent of the impact was what stunned me.

 Still, onwards and upwards and I can see FY23 eps of around 33c with a 18c ff dividend which isn’t too shabby at current $3.75 SP. That said, I do think there are better opportunities atm and I will just sit and watch how effectively they complete the roll-out.  

Without covid I don't think I would have really given Alliance aviation (AQZ) a second look, but the way they have managed the impact and used it as an opportunity to expand and unpgrade their fleet is very impressive and speaks volumes to the quality of the management in this buisness. They also cancelled their dividend in 2020-2021 to direct funding towards growth (did a cap raise and took on some debt too), which I think were excellent capital allocation decisions.

In the initial months after the covid shutdown in 2020 when most fleets were grounded they did two deals with distressed sellers to buy 30 x E190's (includes spare parts, spare engines, tooling and a full flight Simulator) for a bargain price of $165M (5.5M/plane). Basically they were able to upgrade and expand the quality of their current fleet from older Fockker aircraft to modern jets with better range and greater fuel efficeincy.

These aircraft are being crewed and deployed during FY22 and from their FY21 presentation - the number of aircraft (E190's) deployed and total flying hours will increase greatly this year. The 43 x Fockker fleet (F100 x 24, F70 x 13 and F50 x5) are still in the air with the E190's primarily being used for expansion not replacement. Total flight hours for AQZ in 2020 and 2021 was 36-37K, in 2022 this is forecast to be between 113-130K hours for the group.

Main customers are resource companies where they do contract work using them for FIFO workforce at mine sites, the thing I like about these contracts is that they don't take any fuel price risk as this is just passed on to the customer. These contracts are generally long lived and are usually renewed. Three are up for renewal in 2022 and four in 2023 but I will be surprised if the majority of these are not renewed as they seem to provide a quality service and have an ontime performace of 93-95% over the last 2 years. 70% of AQZ's revenue comes from contract flying so a downturn in mining would be bad but I think that is unlikely to happen anytime soon.

-10 (can increase to 14 if needed) of the new E190's have been wet leased to Qantas. They fly them using their pilots under the Qantas banner. They expect 5% of total revenue (worth around 15M) to come from this deal.

-Have a similiar deal with Virgin but the details are less advanced. In total AQZ have said they expect 12-16 aircraft to be wet leased by March 22.

The addition of the E190's gives them the capacity to expand there charter flight revenue, whcih I think is higher margin but more sporadic and I consider this to be an opportunistic bonus but not core to the valuation.

The key to the valuation will be the utilisation of the E190's and so far nothing from the company indicates that this isn't going to plan. In 2021 NPAT was up 23% to 34M

Underlying cash flow was 75M

Total debt - 178.5M

Consensus forecast EPS - 0.26 (FY22), 0.36 (FY23)

At a PE ratio of 15 Fy22 it is worth $3.90 and has a FY23 value of $5.40. I think 15 is justified given the quality of management and the contract revenue they have and their ability to manage expenses. I just use this as a rough ball park anyway. This one isn't a load up the triuck bargain, but I like this company and I think it will be bigger in the next few years and I am planing on increasing my holding in RL. I also think they will surprise on the upside as the E190's take off.

The headline result wasn't great with a $3.4M loss for the period, however overall the quality of the report was pretty good. Its a messy result but the headline loss is mainly due to investing for growth in the E190 program (crew and fitout costs) and covid impacts on a reduction in use by the Qantas wet leases. It looks like everything is still on track and it is just a bit delayed, outlook for E190's to "reap significant rewards from April 2022". Contract flying is up and they are confident this will continue to grow organically and operating cashflow is still very healthy so no real risk of defaults etc.

Key takeouts

-Revenue up 16% to $171M vspcp

-Underlying operating cash flow of $50.5M

-Debt increased by $11.4M

-$12M cash on hand down from $36M

-$69.6M cash expenditure - Fleet operations and services ($18.4M), $51M on E190 introduction costs and rockhamptom maintenance hanger.

-Staff costs up $19.2M -- added 78 pilots, 77 cabin crew, 36 engineers, 25 corporate staff (shows confidence that the demand for these new planes is real)

-8 of the E190's are in service - 2 in dry lease

-Only 5 of the 10 wet leased (Qantas) planes were flying through the period (covid impact)- added $14.3M revenue but lower than forecast, expected to increase from April.

-56 planes flying up from 43 in pcp.

-13,892 total flying hours up 6% from pcp.

-on time performance at 97%

-Expect all E190's to be in crewed and operating by December 2022.

-Maintained no dividend payout but do have 9M franking credits on the books.

FY guidance for underlying PBT between 45-50M (was 20.7M for the half)

The Pandemic has made an absolute mess of the airlines and tourism, yet there is one exception. It Alliance Airlines (AQZ) where FY21 revenue was up 3%, underlying NPBT was up 25% and underlying cash ops up a massive 73%!

And wait for it, FY22 will trump this like Donald, because anticipated annual flight hours could be as much as 3 times higher than FY21.

Apart from good and astute management, the secret sauce here is the brave, even audacious, decision to buy 32 Embraer E-190’s at the bottom of the cycle and now these ridiculously cheap E90’s at approx. $5.5m each will generate around $2m EBITDA annually according to Credit Suisse analysts. By the way, not that many months before the FY20 collapse these E190’s were valued as much as $50m each!

So QAN now have them flying and likely there will be 18 of them wet leased in QAN colours before FY22 is concluded. Indeed all 32 of the E190’s are likely to be in service come end of FY22 where annual flying hours at that point will be around 80,000 from the E190’s alone. Plus there is the usual workload of the Fokkers where around 37,000 hours pa can be expected.

Demand is strong and management are very confident in their E190 fleet.

So FY22 will be a transformative year as they roll out their E190’s progressively and whilst they didn’t give an outlook in figures, this very conservative management team did state  - quote – “Alliance retains a positive outlook for the FY22 year with organic opportunities geographically and across contract, charter and wet lease revenue streams.”

Analyst coverage of (1 strong buy 2 buy and 1 hold) suggests FY22 eps of 26.5c (FY21 20.9c) and a huge 35.7c in FY23. Personally, I don’t believe they have fully factored in the progressive rev/profit from the E190 roll out and I believe it could be close to 30c in FY22.  

Net debt to equity is a manageable 37.5% with interest cover of 12.72x. Plus management are not declaring a final dividend and I suspect this will be the same for 1HFY22 as they digest the debt of the E190 purchase.

AQZ made a massively cheap purchase of E190's in 2020 and the recent Qantas agreement suggests they are going to get them out very quickly on wet or dry leases. This will give them a brilliant ROI and don't forget its not just the Aussie marketplace. These E190's will be deployed throughout Asia in due course. A great company which will grow NPAT yoy. But likely no divvy in 2020 as they crunch the debt burden.

RECORD HALF YEAR FINANCIAL PERFORMANCE

Key Half Year Highlights

~ Statutory profit before tax - $33.6 million, up $18.1 million or 116.8%;

~ Underlying profit before tax - $26.7 million, up $11.2 million or 72.3%;

~ Operating cash flow for the half year - $47.5 million, up $32.9 million or 225.3%;

~ Total revenue - $154.8 million1 , up $3.5 million or 2.3%;

~ Net debt $6.8 million and leverage ratio of 0.53; and

~ Alliance retains a positive outlook for the 2021 financial year and growth in the 2022 financial year and beyond as the additional aircraft are deployed

DISC: I have held previously

Wet Lease Agreement for up to 14 x E190 Aircraft with Qantas Airways Limited

• Alliance to provide capacity using recently acquired Embraer E190 aircraft commencing from mid-2021.

• Range and route economics make the E190 an attractive option in a post COVID-19 aviation market.

• The transaction confirms Alliance’s confidence in deploying the recently acquired E190s.