Doddsville podcast - Qantas, Russia and polls

Join the team as they work out how to value Qantas, decide whether Russia will fail and discuss why polling is problem.

Join the team as they work out how to value Qantas, decide whether Russia will fail and discuss why polling is problem.

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For the next couple of weeks we'll be transcribing the Doddsville podcast. Please let us know in the comments if this is useful so we can decide whether to continue doing so. We're publishing the transcription as is. There will be errors, but we hope it's valuable nonetheless.

Join the team as they work out how to value Qantas, decide whether Russia will fail and discuss why Polling is a problem.

GS:Welcome to Doddsville I am your host Gaurav Sodhi, joining me today is analyst Matt Ryan, welcome Matt.

MR:Hi Gaurav.

GS:And with us also is Analyst Jason Prowd, welcome Jason.

JP:Hi Gaurav and Hi Matt and hi everyone.

GS:Gents it’s been a while since we have all sat in a room together, so lets before we begin any sort of analytical work …

JP:It’s a good experience.

GS:A good experience for you, maybe not for us. Before we begin anything lets have a bit of a chat, some gossip if you will. Matt what has been happening, any 19 billion dollar purchases going on the world?

MR:Yes, it just happens it is.

GS:Oh really, wow.

MR:Facebook purchased the messaging application Whatsapp for 19 billion.

GS:Did you ever laugh at the name when you heard Whatsapp, did you giggle?

MR:I have only just worked out kind of what it means, like What’s up, Whatsapp.

GS:I must admit I laughed for the first 20 times I heard it.

MR:That’s terrible.

GS:I thought it was quite funny for the first year 2 dozen times.

MR:So it’s basically just a texting application which you wouldn’t think there is much in the way of intellectual property within but obviously …

JP:There is none.

GS:Matt you know very well when we are referring to intellectual property we call it IP in this office.

MR:Okay.

JP:Yes I think they just bought the user base, right they have 400 million users they are adding 1 million a day, I think Facebook are interested in the land grab for users if you will.

MR:And there is a network effect that you hop on the network that has got all your friends on it, so sort of the land grab is pretty important.

GS:I don’t know about the network effect because there is nothing stopping you from joining other networks, there is no cost so most people are on several networks and I don’t know if that diminishes the strength of each individual network?

MR:Yeah, that would be an interesting one because you have got similar dynamics in Skype, Google Hang Outs all those sort of things you can be on as many as you like.

GS:And there are several of these chat programmes, not all of them have snappy names but there are several of them and all of them can boast more than 100 million users, so I don’t know what that says.

JP:Maybe it’s a defensive strategy, perhaps Facebook was sitting there wondering are Google about to offer 25 billion for this company, do we want to get in first I feel like they are worried that their user base expansion is slowing and they want to be able to control more users. And I haven’t really worked out how to monetise it yet, I have come up for a new multiple for these types of acquisitions its called how many times losses and as businesses don’t really produce much money by any standard valuation metric you are sort of lost scratching your head as to how they came up with the 20 billion dollar figure.

MR:The company was launched about 5 years ago and 19 billion puts it around 10 per cent of the value of BHP, so its gives you and idea sort of how it sprung from nothing to something pretty big.

GS:But to be fair Facebook itself it was very hard to see how they would make money 2 or 3 years ago and they are making money today, so maybe there is a way for them to make some cash we are just not aware of it.

MR:Certainly early in the revenue generation the maturity of the business.

GS:Yeah, and like Matt I think you brought this up a few weeks ago, these internet companies are designed to make us all look very silly, so we need to be careful about our strong opinions on them. Jason what about you any gossip from your end?

JP:I was surprised to see when I walked into the newsagents on Saturday fishing for a particular magazine that there was a new weekly newspaper, printed edition newspaper called the Saturday Newspaper I think and by the guys behind the monthly and the quarterly [unclear 0:04:11] and this is going to be a weekly publication detailed kind of journalism, research that kind of thing it looked kind of interesting.

GS:Now why in this day and age would you launch a print newspaper?

JP:Well there is obviously still demand for it, I mean I have read a lot of stuff from my IPad but I actually still enjoy reading the weekend papers in print edition, I still buy print edition magazines and in fact there has been a bunch of different magazines launched over the last few years that are print only, they don’t even have a website or IPad app which you would think is very strange. You know here thinking all the time we are looking at something like a [unclear 0:04:43] wall, why do they still print newspapers, why aren’t they adapting to the on line but it doesn’t mean that there isn’t demand for print publications and obviously they have worked out their particular demographic for this which I would have assumed is skewed towards the older age group who would still be interested in a print paper.

MR:The stats show I think that people stick with a print newspaper longer than they will stick with an on line effort, so the average read time on line is something like 15 minutes whereas the average person does read a print newspaper is on there, I think for more than 1 hour so its potentially worth more to advertisers. I wonder if they get great rights from a printing press somewhere in Australia that is you know sitting on very low utilisation at the moment.

GS:I also wonder if this is for profit venture or is this an exercise in vanity by the publisher as well.

JP:No I think they are definitely trying to make money out of it, this isn’t another one of these, what is that other new site that got released, the Daily Mail, the guy behind What If seeded 200 million dollars or whatever into running a news organisation it doesn’t have to make money, where I think this is deliberately trying to make money and from my understanding the Monthly and the [unclear 0:05:46] make some money.

GS:Good luck to them I don’t have high expectations for them.

JP:Well we will see if I go back to the newsagents next week and its not there.

GS:You will know why.

GS:The news we hear has really been dominated by Qantas, so …

JP:I hear it’s an airline?

GS:It is some sort of airline, but we have tried very hard to not to do a lot of work on Qantas we have avoided it in [unclear 0:06:11] and I don’t know if you guys look at it or Matt?

MR:I have not spent a lot of time on Qantas.

GS:I would have imagined that would be your answer, but today we will put that all behind and we will have a bit of a detailed look at Qantas in a 20 minute challenge. So for those who don’t know we all get 20 minutes to look at one part of the accounts, so who has what today, I have got the cash flow statement, who has the income statement?

JP:I have got the income statement.

MR:And I have got the balance sheet.

GS:It all worked out very well, great okay so we will start …

JP:Have you got the same year?

GS:Hang on, do we have the same year. We have got …

MR:Are you running [unclear 0:06:39] and 2013.

GS:That worked out as well, well done gentleman. Okay, Jason you have got the income statement I imagine there is a lot of red on your black and white paper?

JP:There is indeed, the next 16 billion dollars of revenue they have 16 billion dollars plus some of expenses which all leads to a net loss in the 2013 year of, not they made a statutory profit of 200 million dollars but then after financing they have lost 200 million dollars, so that is kind of a sneaky way of reporting things. But starting at the top this is actually quite a simple income statement, you only have two revenue lines, they make almost all like 95 per cent of their revenue from passengers, so selling new tickets to fly on their planes that makes sense that is about 16 billion dollar of revenue the balance is from freight income. You come down to well what do they actually spend money on and airlines just have a few expenses really they have the people to staff the planes, the pilots and the crew, the ground staff, the people when you check in and increasingly a machine when you check in, they spend a lot of money on fuel and they spend a lot of money on operating their planes probably via leases I am not really sure how they structure their balance sheet. So 25 per cent of their expenses are staff, 25 per cent of their expenses are fuel, 20 odd per cent of their expenses are aircraft operating and then there are some other miscellaneous.

GS:I wonder if that is similar to a trucking business, I wonder if that sort of breakdown is what happens in road transport. I have never looked at one of those companies I am not sure, but I imagine not actually I think for Qantas the fuel bill sounds enormous?

JP:Yeah, like you look at this and first up you say right this must be a difficult business to operate, fuel is a quarter of their expenses and they don’t control the price of it and we know that fuel prices can be quite volatile, I mean I don’t know that tissue of aviation fuel prices but think about what happens with filling up your car, on year it’s a dollar and next year its two dollars and this is 25 per cent of their expenses.

GS:And they don’t have a choice about responding to it, right because they are selling transport to a destination so whatever happens to fuel prices they have to fly there after they have sold the ticket?

JP:That’s right, and even with things like the fuel surcharge which we now seemed to get charged when we fly on a plane they are pre-selling those tickets, so they are taking a risk when they sell you a ticket for 1,500 dollars to fly to Paris that in 6 months time fuel prices will be x or y. I can’t really see here where they hedge any of that but presumably they are just exposed to the fuel price.

MR:We know there is some sort of a utilisation or capacity war going on at the moment with Virgin, I wonder in the income segment can we see which expenses will sort of be variable with how much they are flying, which ones are fixed.

JP:Yeah, I guess it’s a bit hard to tell you would assume if they fly more they are going to spend more money on fuel.

MR:Yeah, sure.

JP:You would assume that their wage expense isn’t going to be able to move round as much as that, so if a plane is only 50 per cent full its still going to have the same staff, it still needs a pilot, it still needs a co-pilot. Aircraft operating expenses if they can cut plane potentially that money can go down but again if they are half full you still need the plane. So it’s very hard to see how many of those expenses move in line with their revenue.

MR:But say their utilisation grew by 10 per cent most of that would then hit the bottom line.

JP:Correct.

GS:Jason can you also just remind us about the DNA expense, does that give you an indication about what the balance sheet might look like?

JP:Yeah, good question so DNA is less than 10 per cent of costs at about 1.5 billion dollars, so I would assume from that knowing that this is a pretty big airline that most of their planes are leased. And because otherwise you would expect to see a very large DNA expense even though a plane might last 20 or 30 years if they have 150 of them that doesn’t sound like enough to me.

GS:Now there is a little bit of a trick here because even if they are leased, if they are leased for a long period they still have to sit on the balance sheet so it would be interesting to see whether that is the case or not because that will make return profitability metrics look very different to other airlines depending on …

MR:So they give you a split on their financing expense as to how much is income and how much … sorry how much is interest on lines and how much is financial expenses or is that not on the front page?

JP:No they only have the finance income and costs and their net.

GS:Okay, what was that final profit figure?

JP:Supposedly they made 6 million dollars for the year on 16 billion dollars revenue.

GS:And what was the EBIT.

JP:And the EBIT was 200 million dollars and the prior year was EBIT of minus 175 million.

GS:Matt not sounding too hopeful so far, what can you add to this?

MR:So for 200 million dollars of EBIT they had total assets of 20 billion dollars.

JP:Great business.

MR:Not the greatest return on assets you ever saw.

JP:So that means if what you had a 10 per cent return you would generate what EBIT on that?

MR:They should have generated 2 billion if it was a 10 per cent return on assets, now if you look at return on capital, if you net out a few of those liabilities that capital of about 12 billion around about 6 billion of which is debt so its still a very very lousy return on capital. I can see that from the balance sheet net increased a little bit over the financial years and that debt finished at [unclear 0:11:51] in 2013 at 3.25 billion up from 3.15 billion the year earlier, so that probably lines up a bit with the statutory loss. Interestingly in the liability side of things there is a huge revenue received in advance item of 4.2 billion which is pretty significant against their overall balance sheet and that shows you I guess what you were saying before they are selling tickets and then its not until later that they actually put people on planes, so in the meantime they benefit from a bit of that free flight. Interestingly there are some receivables on the balance sheet as well, about 1.4 billion dollars worth of them and the reason that is interesting is mostly when you are selling to retail customers they have got to pay in advance you don’t give them 30 day payment terms.

GS:Would that be from their freight business?

MR:I wonder if its freight, or I wonderer perhaps if it’s from the Qantas loyalty segment.

GS:The frequent flyer?

MR:The frequent flyer programme because they do sell frequent flyer points basically to retailers like Woolworths who can then package them up into credit card deals.

JP:I don’t know how it works now but it used to be the case with Qantas that business fares weren’t paid in advance, so they might be paid on use so maybe there is some …

MR:It might be the same through flight centre and the corporate travel guys as well I suspect it is in fact so that might explain some of that. Just flicking back to the income statements its interesting in the Qantas loyalty side that there is no sort of revenue in there for … I don’t know what you would call it exactly but for selling points?

JP:Yeah, presumably that is picked up in the other line, so there is another line with a note and I imagine if I went and looked at that note there would be something to do with selling points somewhere.

MR:Not a lot in the way of goodwill, there is less than 1 billion dollars worth of intangible assets and I don’t have the split from the front of the balance sheet, but there is not a lot that could be within that 700 million.

GS:That intangible asset I wonder if that is a software actually because I don’t recall them taking over anyone so there wouldn’t be a goodwill, right it would be some other intangible?

MR:Yeah, unless they are picking up little bolt on acquisitions or something. Perhaps they are capitalising certain costs. The bulk of the 20 billion dollar assets, 13.8 billion in property plans and equipment and running some sort of rough numbers if you had say 250 million dollars a plane that would get you to around about 100 planes on my calculation that would be 50 planes by dividing by 250 million and then you figure the PPE state net of depreciation if they were an average you know 50 per cent depreciated that might be 100 planes. Now I think with Qantas they own other stuff so I think that is probably a lot of their planes are leased and also the PPE is things like terminals and a bunch of other assets they own, but that is for maintenance and that sort of thing but it’s the majority of the assets anyway as PPE. If we get to discussing valuation then maybe we will do this afterwards it would be pretty interesting to see sort of what’s what because you imagine you can liquidate planes you know close to their carrying value if that’s what you wanted to do. So depreciation and amortisation was 2 billion dollars.

JP:1.5, yeah.

MR:There is just under 14 billion worth of PPE so you would roughly say that is about a 20 year asset life assuming again that the PPE is half depreciated already that would be gross of 28. And that probably about does it for the balance sheet.

GS:Okay, which brings us to the cash flow statement, right so remember we are using full year cash flow. Qantas did release its half year result recently but because it can be a very lumpy business I imagine that seasonality plays a big part in the profits, so we decided to look at the full year accounts even though they are a little bit outdated. So the latest accounts might be a little bit different and I suspect they are a little bit worse than the numbers we are looking at but never the less we will continue. So I have got cash flow of operating activities of just over 16 billion which sort of matches with your revenue number more or less, the cost of operations is enormous so 15 billion as well which leaves a gross margin of 1 billion or a gross cash margin of 1 billion which is in percentage terms is only 8 per cent which seems extraordinarily low considering you haven’t even ripped out a lot of your expenses at that point. The company received 110 million dollars of interest so Matt they have a big cash balance on that balance sheet, correct?

MR:2.8 billion dollars.

GS:Yeah, and they paid interest of 230 million dollars which is actually … so that leaves us with and interest cover of about 6 times which probably isn’t as bad as I thought it would be, but its still enough to make you a little bit uncomfortable. I was reasonably happy with that number until I got further down into the cash flow statement and there is another line which says interest paid and capitalised on qualifying assets, so what they have actually done is split up interest paid as an expense and interest paid and capitalised which I have never actually seen done before?

MR:And you normally don’t capitalise interest unless you are building something, it’s normally a construction related thing.

GS:It has to be actually a construction leaded thing, but I added that back to the total interest and you end up with interest cover of less than 5 times in that instance and that is a bit low, so we know this is a company that is perhaps struggling with debt and we know its struggling with profits.

MR:And we know EBIT was only 200 million which would suggest that the cover is pretty tight.

GS:So already we are only a few lines in but already we can deduce that it’s a company in a little bit of trouble. Now we come to cash flow from investing activities and this is where the company spends money, you can see where cash is actually going. The biggest expense here is more than 1 billion dollars for Capex, now interestingly last years capital expenditure number was over 2 billion dollars so it’s a lot lower and I would look very carefully into that. So I doubt the asset base has shrunk, you know we know that the company carries a lot of debt, not been having a good year my suspicion would be that capital expenditure number is perhaps artificially small and management maybe starving the business of capital to manage their cash costs.

MR:And if they are acquiring planes through financial leases those leases skip the cash flow statement and that is something to watch out for.

GS:So if I had a bit more time I would certainly look at historical numbers for Capex and see that that number wasn’t artificially low, there is a lot of little items here that suggest that there is changes to the operating structure of Qantas, so there is lots of proceeds from the sale of bits and pieces of the company so they are selling off assets and leasing them back, they generate a couple of million dollars from doing that. They are selling off joint ventures that they were previously engaged in so they made a couple of million dollars from doing that, and they made 189 million dollars in cash from a joint venture entity which I don’t know what it is but I imagine it’s a largest joint venture to make that much money. And again that fits with the idea that this is a business that is desperately trying to raise cash I mean none of these items were present last year so I would be very careful about those items as well. Now if we subtract operating cash flow of 1.4 billion dollars from the capital expenditure of 1.2 billion dollars we have roughly free cash flow of about 170 million dollars which on an asset base Matt you were saying of 20 billion is pretty dismal, very very dismal in fact. The cash flow from financing activities, this is really dominated by debt re-financing they paid back 1.5 billion dollars of debt but then took on an additional 900 million dollars of debt. There is an interesting line here for payment of, its called net payments for aircraft security deposits, so that was about 340 million dollars, so that actually makes me think that they probably own a lot more planes that what we may suspect, its sounds like they put down an order, a very large order for new planes and if that is the case I think that they will take ownership of those planes. So we are not really sure whether Qantas owns or leases the majority of their planes but that item makes me suspect that ownership is probably higher than what we have suspected so far.

MR:And just to clarify if you went right through the annual report there will be a note there some where that details the lease commitment, so the only reason we have to speculate here is because we are just looking at the three statements.

GS:So after all that cash fell from 3.4 billion dollars last year to 2.8 billion dollars this year and that sort of tells you something as well, I think the fact that they are keeping almost 3 billion dollars of cash even while they are carrying a fair bit of debt it suggests that either the business requires a lot of working capital to churn through or that they are thinking of making a big purchase somewhere down the line and neither of things are particularly optimistic I don’t think. So gents from my reading of the cash flow it’s very hard to be positive on Qantas, would that would the consensus?

JP:Yeah, I think if I was looking at this afresh and had no idea what this business did I would want to go and do some more digging because I would be asking the very simple question that is it has all these assets its not earning any money, can it earn more money in the future or does it have assets it doesn’t need, that would be the first question I would to ask and because I know a little bit more about Qantas I know that they have a bunch of different divisions they run domestic aviation, they do it over seas, they have Jet Star, they have a frequent flyer business, they have freight businesses, maybe somewhere in amongst that mix there is something that does make a lot of money which we cant see from these high level accounts. So I would want to go and do a bit more digging about that too.

MR:So from what we have got, what sort of evaluations could you put on the business?

GS:Well let’s take a step back, how would you go about evaluating this company, Jason I like your idea about taking it as a collection of individual businesses that is probably the approach that I would take. Matt I suspect and correct me if I am wrong here but you would probably take … I know you like your asset valuations would you strip this down into a liquidation value and look at what the assets are worth?

MR:I think certainly if we are selling at less than liquidation value and I don’t know Qantas well so if its selling at less than liquidation value please excuse me, but I think it would look interesting its sitting on thereabouts 6 billion dollars of net assets but if I deduct off intangibles round about 5 billion, now it has got nearly 14 in property plant equipment and I would love to dig through and see exactly what that was if they are holding you know valuable land, terminals anything that the evaluation actually might be a bit low on that would be very interesting. Potentially you take a small haircut to the carrying value of the planes but I wouldn’t have thought it needs to be too large. So that would be interesting, if you are not going to look at a liquidation then the revenue received in advance shows up as a liability on the balance sheet but I don’t think it needs to trouble you too much in terms of your evaluation because its float basically the business generates for itself so it kind of generates its own working capital so you wouldn’t need to deduct that of and you have also got the Qantas loyalty programme that I imagine has very little in the way of assets but is actually very very valuable. So potentially you have got a couple of kickers there to your liquidating value.

GS:I am not sure I would use liquidation value because the possibility of realising liquidation is so low in this case, I probably prefer treating this as a collection of businesses and doing a sum of parts. My suspicion is, its not a suspicion I should be honest here actually when checked, so I know that the international business is losing a lot of money and the other divisions actually make far more money than the aggregated numbers suggest, that is always a favourite investment technique of mine I love companies that have multiple divisions and one division is performing poorly because it does make the aggregate look worse.

MR:Can they shut or sell the international operations?

GS:Jason what do you reckon?

JP:Yeah, I mean I think selling the parts is definitely the right way to go, just for reference I checked the Qantas market caps around 2.5 billion dollars at today’s market price after their most recent results. So it’s trading at half equity value at the moment so if you were going to get interested in an airline which we don’t necessarily recommend but operating wise they are really really tough businesses for what we were talking about before with the cost of fuel and the staff and the planes. But potentially they have a lot of valuable assets and I think pulling it apart and working out well where could the value be that is a good starting point, the second part of that is how likely is it to be realised and that is where I think a lot of the question marks for me are at the moment because I am not sure whether one current management is going to be around for much longer, how committed they are to realising this value. I mean the currency of Alan Joyce has been there for a few years now he has certainly tried a bunch of different things, some of them haven’t worked too well and who knows if he is the guy now to come in and say look we have got to sell the terminals we want to float half of the frequent flyer business to realise value there. There are plenty of things they can do it’s just whether they are actually going to do them or not.

MR:Its interesting to hear they [unclear 0:25:19] cuts of about 5,000 and to sort of give a rough indication of what that might mean to the income statement that is presumably 500 million or thereabouts in expenses that will drop off at some point. Now whenever I see job losses and cost cutting like that I am always a bit suspicious that you can drop all these staff and still do the same job you did yesterday, you know its efficiency that is important you cant just go on and sort of hack heads and expect the business still to function. But compared to EBIT of you know 200 million dollars, 500 million dollars in cost savings potentially sounds interesting, I think though the last thing you want to throw in there is this sort of terrible competitive environment you have got against Virgin where Qantas is sort of demanding 75 per cent market share in Virgin and just beating the door down and you know there is sort of this face off as to who can handle the operating losses for longer.

JP:Yeah, and that is a tough game to get involved in right, so they guy who is now CEO at Virgin, John Borghetti was one of the contenders to become CEO at Qantas, he didn’t get the gig they employed him over at Virgin, Alan Joyce got the gig at Qantas instead and they have been at each other for the last 3 or 4 years. And you can see how its quite a personal battle and I am sure their egos and how they run their businesses they are really tied up in it because this strategy Qantas has had of trying to keep 65 per cent domestic market share is just a bit strange, it’s a bit unnecessary like why just one come out and say it, and say right we are just going to bleed cash and keep our market share here because you have given your competitive hand straight to the opposition and that makes it very tough.

MR:I don’t mind it as a competitive stance if they had a way of funding it, the difficulty they have got at the moment is that the Qantas sale act prevents large international holdings in Qantas and they don’t have a debt guarantee or anything so the balance sheet isn’t really capable of funding the strategy they want to employ. I think as a strategy its not a bad one but it does tell you that they are in a difficult industry when you keep having to make these choices to sort of fund losses to get your competitors to go away.

GS:I am really surprised that is the choice of both competitors have gone with because in the domestic industry you have two competitors, a fairly big market and it should be a profitable industry, I mean I am looking at the numbers here and Qantas’s domestic business made 365 million dollars last year and the year before that over 400 million dollars, those are pretty big numbers in the context of an aggregate business that has made only 200 million dollars. So I think is just about rationality but I am not sure it will always be this way, I doesn’t have to be this way it really depends on how stupid the CEO’s really want to be.

JP:I mean maybe its all quite strategic, I mean what have these losses created a political environment for, they have created an environment where it is almost guaranteed that the sale act will be repealed, if Qantas was making money and things were all ticking along fine that wouldn’t get supported and it is getting supported now because of what is happening. So who knows maybe they actually think this is the right long game to play to get them in a position where because the key part of the sale act is not the ownership part it’s the staffing part. So they can only have foreign owners up to 25 per cent or something at the moment but the key part they want to get rid of is the bit where the majority of staff have to be in Australia and I am sure that is the bit they would like changed the most so they can off shore a lot of their service and a lot of their maintenance to places like Singapore and Malaysia rather than having to do it here and incur higher costs.

MR:Its interesting as well that both Virgin and Qantas have been complaining about the carbon tax and extra sort of cost burden in an already difficult situation but of course with the competitive tension as it is you would figure if the carbon tax guys the benefit will be passed on to consumers and Qantas and Virgin will sort of add capacity to the point that there net loss is just as bad as it was before, you know that would be my understanding of as the way the competitor situation will play out.

GS:What about this loyalty card business, now it has been flagged as a hidden asset although if this is a hidden asset then …

MR:It’s the best known secret in the world.

GS:I reckon, yeah I think it was Air Canada who floated their frequent flyer business and that frequent flyer business is now worth more than the entire airline. It has been something that has been touted for Qantas the loyalty business earns … over the last 5 years its earned operating profits of almost 300 million dollars per year very steady income, doesn’t require a lot of capital to generate. Matt is it worth anything outside the structure of the airline though?

MR:I think it is but I think they would have to be pretty careful as to how they spin this thing off. The rumours that fly around the paper is that they might sell a 30 per cent stake or a 50 per cent stake to private equity or to an institutional investor you know who might be willing to partner with them. You would want to be careful as to how you unload this thing and offload and make sure it’s not sort of competing with you later. So if we think that this thing and it kind of sounds likely that it could, if it can be carved off and sold into parts and realise more than 2.5 billion dollars in value which is the current market cap. Isn’t it the duty of Alan Joyce to carve this thing up and sell it in pieces? So the current market capitalisation of Qantas is 2.5 billion dollars, it sounds likely from what I am hearing from you guys that this thing could be carved into pieces and probably realise more than 2.5 billion in valuation, why is it that doesn’t seem to be the major option on the cards at the moment, isn’t it the duty of Alan Joyce and the board to push that option in [unclear 0:30:55] interest.

GS:Well they are sort of headed in that direction they have been talking about selling some of the non airline assets, some of the terminal assets and the frequent flyer business you know as we sort of alluded to has always been talked about as a potential float. Jet Star is a profitable airline it’s actually … they are looking to expand that into Asia which is an extremely competitive area for these budget airlines so I don’t know about that. But it does make a fair bit of money today I think we are talking about in the order of 150 million dollars a year on average over the last few years that Jet Star has made so there is potential to off load that as well. So they are moving in that direction, I think the big problem is what to do with that international business right Jason because that is a business that doesn’t make a lot of money but it arguably brings non monetary benefits to the country and is therefore valuable to the government if not necessarily to Qantas.

MR:And its feeds in a little to the domestic business is that right?

JP:Yeah, I think something needs to be done and yes I would agree Matt that is incumbent on the board and management to do something about it. I mean my strategy would be privatise part of the frequent flyer business to crystallise some kind of market valuation for it 30 per cent, 50 per cent whatever keeps Qantas’s control I don’t think spinning it off entirely would be the right move. Sell these terminal assets which have been mooded to be worth maybe 1 billion dollars, consider selling Jet Star and then signing some kind of agreement, JV agreement with them and potentially then spinning off the international business and then allowing that either to be government backed or have some kind of arrangement where Qantas branded planes is just run by British Airways or something. I mean the likelihood of people not flying to Sydney is basically zero the likelihood of people not flying to Melbourne is basically zero. The only advantage tourism and the wider economy gets is when they are flying other places and when they can do sort of Australian tourism branded events that bring people over, like recently the modern family crew and cast were here in Sydney filming an episode thanks to Qantas, so I mean that is something tourism in Australia could surely be doing, not necessarily the international ambo Qantas.

MR:You would think the international ambo Qantas is probably right for a trade sale given their competitors will benefit from not having another player in the market so there would be another option there.

GS:Yeah, I suspect there will be some sort of government involvement in that international ambo. I think it’s a fair case to argue that its almost a public good and that is the way most governments treat their international airlines they subsidise the cost so the airline runs at a loss but it brings people in which recovers the initial loss and there is an agreement with the government to be made about how to run that international business I am sure. But I am actually going to go out and Nathan our Research [unclear 0:33:48] will be absolutely horrified at this but I actually think Qantas is a little bit interesting and I would actually be tempted to … I cant believe I am saying this but I would be tempted to do a bit more work on it and potentially look at it with a view to buy because there is potential value here, it just depends on whether management wants to crystallise it.

JP:And it seems to me that we are on the cusp of something actually happening. I think if we could have always made this argument that if you carve up Qantas you create some value for the last 10 years, it’s just that now management finally seem to be on the edge of the cliff and everyone is about ready to push them over. And something might happen and the valuation makes it look attractive now, right that 5 years ago the valuation was five to fold what it is today, so at 20 per cent of the valuation with management looking to change definitely a lot more interesting.

MR:The other thing to watch for is companies with important shareholders and I am thinking probably more here of Virgin than Qantas at the moment where they have got large international competitors as shareholders that is normally not good news for the company itself because they have got a range of interests and where some of which line up with the company itself. So whenever you see suppliers, competitors or governments on a share register check out what their motives might be.

JP:I mean the largest shareholder of Qantas at the moment is the U.S Value Fund Templeton and they have increased this stake over the last few months presumably because they think they are in a position with 16 odd per cent of the business to pressure the board into doing what’s sensible, I mean as a small retail investor you have just got to go along for the ride but these big funds can actually swing the course of events if they are sensible. I back these Templeton guys to think long term and think about how to realise some value out of this.

MR:So it looks as though we are all going to go away and do research on Qantas.

GS:Onto our final segment long or short and we will begin Matthew with the fact I came upon last week, guess how many mobile reception towers are in an average Olympic style stadium?

MR:4000, I do not have a clue.

JP:4000 come on.

GS:Maybe I should just tell you rather than ask you. Okay so the average …

JP:[unclear 0:36:06].

GS:The average stadium has one mobile receiver and that handles about 60 to 100,000 people in that stadium, the highest concentration of receivers in any ground anywhere in the world is in Sochi, Russia where their Olympic stadium has 130 receivers whereas most grounds only have 1, it’s a similar …

JP:Redundancy Gaurav, redundancy.

GS:The world’s most expensive road one might think that it was built by the Chinese to Mongolia or something but it is in fact also in Sochi. These Olympic Games, the winter Olympics that have just passed I think will be remembered for their catastrophic costs and the nepotism of the event.

MR:What was the final bill?

GS:So the final bill was 50 billion dollars.

JP:Like four or five times the London Olympics.

GS:And even more than the Chinese games which were very expensive.

MR:That is like 5 per cent of the [unclear 0:37:04] GDP or something outrageous.

GS:It is actually, yeah.

JP:And the stadiums and stuff weren’t even finished when the games started.

MR:50 billion would buy you an LNG plant, like that is big money.

GS:Buy you two LNG plants. Alright well everyone knows that the games were expensive, has it done what Putin wanted, has it lifted Russians reputation or is Russia still this dark dismal place?

JP:Did they want everyone to think Russia was really crapped it certainly hasn’t quashed my fears of this.

GS:Well lets go into this Jason, would you go long or short with Russia?

JP:Serious issues I think that if you look at civilisations that collapse over the last 3000 years having a decent rule of law is really important and I am particularly worried about places like Russia and China and stories you hear about them having lots of laws about everything and supposedly having due process and then just whom ever gets in charge deciding, no I am going to do what I want to do and I am going to just use the military and the court system to my benefit, not very many societies have lasted very long like that. So think something has to change in Russia it has a tremendous amount of mineral and resource wealth, it could be a huge economic super power much the same way China is but it could easily all unwind very rapidly if social cohesion isn’t kept and if it’s only kept through force, that doesn’t tend to work very well.

GS:So you are sounding very pessimistic there, can I call you short?

JP:Yeah.

GS:Can I also say you are short on Russia?

JP:Yeah, as the fourth [unclear 0:38:43] is pissing me off.

GS:Matt what about you?

MR:I think it’s interesting that not even 50 billion could make the winter Olympics interesting.

JP:That is outrageous the winter Olympics is the best type of Olympics, it’s the best sports.

GS:I am being sarcastic, I am definitely with you there the winter Olympics is so dull.

MR:It’s all these strange sports that no one can really play.

GS:Curling, can someone please explain how …

JP:Its awesome it’s like long balls on ice.

GS:It’s like competitive mopping.

JP:You guys have no appreciation of decent sports.

GS:Matt?

MR:Russia is just a big sort of resources play isn’t it, like its corrupt, its poorly managed, its got a range of difficulties and we did the thing on corruption a couple of months back Gaurav, I think Russia is a bad bad example of it but for a whole bunch of resources I think it would be not in a nice situation at the moment. So I am short.

GS:I actually think it’s the resources that are the problem, I am a big believer in this resources curse, this really falls into two camps some people think resources are a means to development and economic growth and I actually think resources are the problem because they prevent other things from happening.

MR:Yeah, and they don’t incentivise you well do they?

GS:When governments have a ready supply of resources they can extract from the ground they don’t require any citizen participation in government there is no need for taxes, and …

MR:All your expertise in from outside companies.

GS:Well that is almost exactly was has happened in Russia and you know it’s not to say that every country with minerals is doomed t be poor because clearly Australia has minerals and clearly we are not poor. But once you are rich and have minerals I think that is okay, if you are not rich but have minerals that seem to be the problem. And Russia is not a wealthy country anymore it’s got a whole heap of minerals and a very poor mechanism for extracting and distributing them. So I would agree with you that I am short but I would probably agree for different reasons.

MR:The fact that it’s a poor country kind of makes the 50 billion spent on the winter Olympics even more appalling, I don’t know how many people live in Russia, is it around 100 million or something but its significant per person you know that sort of expenditure.

GS:At least they have a good sense of humour, right I have never heard a Russian crack a joke. Alright well let’s carry on with polling, okay fellows I don’t know if you ever knew this but one of my first jobs was as a pollster, I was a …

JP:I read that in the Gaurav Sodhi memoires, no I didn’t.

GS:When I was in university I paid for university with being a political pollster.

JP:You rang those phone [unclear 0:41:27].

GS:Yes and I asked them who they would vote for and why they would vote for … and I was unlike most of my colleagues who were working in the call centre I was really excited because I thought I was participating in democracy actually to be honest.

JP:And you are not.

GS:And now I have completely changed my view on polling, I used to think polling was an expression of democracy that you can have a poll in North Korea but you can have on in the United States therefore polling is good for democracy it represents democracy, but there is a kind of argument perhaps polling undermines democracy. What do you think Jason polling long or short?

JP:Yeah, it’s a strange one isn’t it you know you want to make decisions based on data and you want to have an idea of why you are making a policy decision that actually is supported by people, the problem is with polling is its used the other way round you work out what people think then you create policies that they will support and it just becomes part of the political gain. I mean it’s a little bit silly in a lot of ways the way its used and polling in a sense would be very useful if it was more long term focussed the fact is that it’s asking people about changes and opinion day to day, hour by hour and not what do you think about this long term issue and what did they think about it 10 years ago. That is probably my take on it, so I am in two minds you wouldn’t want to get rid of it, right like you wouldn’t want to say well no you don’t want to have politicians polling the populous but then how it’s used at the moment doesn’t work very well.

GS:Again I am calling you short?

JP:Happy to accept.

GS:Matt?

MR:I think the interesting thing with polling is it gets into a bit of you know do you lead or follow the debate and I think the difficulty with polling is people end up following the debate so you know the early polls come out and say this isn’t favourable and the politicians follow rather than try to lead or try to educate the population as to why a policy is needed that sort of thing. The other issue with polling that it’s subject to manipulation and I think that is probably the larger issue here that ask a question in a certain way or you poll a certain audience or you know you do something to kind of duke the stats a little. I would be interested to see the ABS or someone like that provider sort of stamp of certification on private polling to say it has met certain standards to make it actually reliable statistics, so its got the sample size, its got the appropriate demographics or whatever it needs to actually be a reliable poll. You know we all need more regulation and this is a regulation I am suggesting but I think it would just be good go have some sort of standards of quality around polling.

JP:And it all suffers from the kind of Heisenberg effect as well which is the participants in the polls are aware of the polls that have happened in the past so they are not even independent variables in a way, like my opinion is affected by hearing the sample opinion of a group of other people a week ago which kind of ruins the whole process.

MR:I think their nets are not beneficial so I am short.

GS:Yeah, I don’t even have the double mindedness that Jason expressed I am actually very aggressively negative on poll now, I would actually go out on a limb and say they should eliminate all polling and ban it. I think it ruins democracy the problem with democracy was always …

JP:That is the strongest stuff I have heard you …

MR:There should be like a no poll 6 months out before an election, you know we just go into darkness on it I think that would make the election more fun.

GS:I think they do that in France, I think 2 weeks before an election you are not allowed to run any political ads or any political polls and even newspapers are heavily censored about what they can carry, what sort of content they can carry.

MR:There you go the French leading the way.

GS:Yeah, look the problem with democracy was always, well the fear with it was always that it would end up being a dictatorship of the mob and all polling does it facilitate us further towards that end. Democracy is there to put a limit on government power I am not sure it’s supposed to direct where it goes. And that is what ends up happening with polls governments who are supposed to be leading end up following them and lets face it the plebs are not really, well they shouldn’t be in charge should they?

MR:You sound really disenfranchised Gaurav, have you written a letter to your old employer outlining your concerns?

GS:That is a good idea, it was news poll actually I should send Mr Murdoch a letter about that.

MR:Or you could Tweet him.

GS:I am going to go heavily short so I think that is a consensus, right we were all short?

MR:I was just short, you were heavily short.

GS:Alright and Jason you were …

JP:Is that a gradations of shortness, I don’t know that was loud.

GS:Right anything else you want to bring up, Matt any news from the fund?

MR:Steve Johnson and myself will be in Perth on the 10th of March at the Rydges Hotel we will be doing a bit of a presentation to investors and anyone else who is interested in coming along. For more details just check out the website www.iifunds.com.au.

GS:And I am sure you sent a questionnaire out asking which topics people want to hear about?

MR:No we did not.

GS:Well just as well.

JP:Poll afterwards, poll afterwards.

GS:Alright we will leave it there folks, Jason, Matt thanks very much for joining me and for everyone else thank you for listening.

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