Blue skies for Tiger?

Tinges of optimism are breaking out across the region's aviation sector. First Virgin Blue's V Australia gained clearance for a trans-Pacific joint venture with Delta Airlines that should end its losses on that route, then Qantas disclosed last month that it expected to make a profit in the first half of 2009-10 and now Flight Centre has substantially upgraded its forecast earnings for 2009-10.

Even more significantly, and quite remarkably given the still-distressed state of the global sector, the loss-making Tiger Airways – a group with negative equity – was not only able to successfully raise $193 million from its initial public offering but the offer was reportedly heavily over-subscribed.

Flight Centre's Graham Turner provided some background for the more positive signals flowing from the sector while revising guidance from a pre-tax profit of between $125 million to $135 million to the new forecast of pre-tax earnings of between $160 million and $180 million.

Trading conditions, he said, had stabilised globally, with economic recovery fastest in Australia. Flight Centre expects global trading conditions to gradually recover.

Qantas, which lost about $93 million in the second half of last financial year is expecting pre-tax profits of somewhere between $50 million and $150 million. While quite modest, its new guidance does suggest the worst is behind the group, with volumes improving although yields are still under pressure.

Virgin Blue's joint venture with Delta won't by itself push the group into the black – it lost $160 million last year, much of which related to the start-up costs and losses on the trans-Pacific route – but outgoing chief executive Brett Godfrey was already forecasting a break-even result for this financial year if the Delta deal went ahead, even before the market showed its first signs of improvement.

Even with signs of stabilisation and improvement in the region, and very bullish projections for medium term demand in the wider Asia Pacific market, the Tiger IPO should probably never have got off the ground.

The state of the global sector, its own condition, the recent (strategically timed) announcement of the alliance between the two biggest low-cost carriers in region, Malaysia's AirAsia and Jetstar should have scared off the punters. Instead they flocked to the offering despite the fact that key founders of the airline made it clear they wanted to sell down their exposures in the process.

While US investment bank Indigo Partners reduced its stake from 24 per cent to 14.5 per cent, and the Ryan family (RyanAir's founders) have indicated they may reduced their stake to 7 per cent post-listing, Tiger still has good parentage. Singapore Airlines' 49 per cent interest will be diluted to 33 per cent by the float, while the Singapore Government's Temasek will also own 7 per cent (diluted from 11 per cent).

The apparent success of the float would appear to be a vote of confidence in Singapore Inc's backing of Tiger, as well as of the carrier's prospects, although it remains curious that none of the existing shareholders were prepared to invest new money in a group that has, according to the float promotion, such a rosy outlook.

Tiger lost more than $A40 million last year, with losses in Australia overwhelming profits in Asia. Without the IPO, with negative equity of $89 million, tumbling cash balances and massive commitments to new planes it would have been under significant pressure. Forecasts from the investment banks managing the float of a $34 million profit this year looked a tad optimistic, given the losses in Australia and Tiger's plans to expand in this market.

Perversely, the fact that it was able to raise capital, albeit a relatively modest amount in the context of its weak balance sheet and the commitments to new planes of more than $600 million, may invite an escalation of hostilities in this market, where Qantas and Virgin Blue have responded carefully to Tiger's route expansions so far.

Their own pressured circumstances and the knowledge that Tiger was running down its cash reserves has meant Qantas and Virgin Blue have been relatively restrained in attacking Tiger, although Qantas did react to Tiger's launch of services on the key Melbourne/Sydney route by bringing Jetstar capacity onto the route for the first time.

With their own circumstances improving, and Tiger not about to fall over, it wouldn't be at all surprising if Qantas didn't add even more Jetstar capacity and selectively and strategically discount more belligerently against Tiger. In previous assaults by low-cost carriers on the domestic market Qantas has used discounted capacity very aggressively to defend its core routes. If a price war erupts, Virgin Blue would inevitably be drawn in.

Within the Asian operations, while the alliance between Jetstar and Air Asia may take time to generate the hundreds of millions of dollars a year of synergies the new allies expect, their new closeness could lead to a co-ordinated effort to head off any expansion of Tiger's Asian network, at present relatively limited despite numerous attempts to expand it to new markets.

With a lot of planes coming, however, Tiger will have no choice but to expand its Asian routes, its Australian capacity, or both.

Given the importance of the domestic market to the Qantas group and Virgin Blue, AirAsia's leadership of the low-cost carrier sector in Asia and Jetstar's ambitions in the region, there is probably a confrontation on two fronts looming. Air wars are fascinating, but invariably bloody.