Private Equity Buyers for Air Jamaica

Darlington Musarurwa
04 Jul, 2009
New York City

Air Jamaica in its second privatization attempt is likely to be a discount carrier. The Spirit Airlines investors, Oaktree Capital and Indigo Partners are likely to align the operations, management and flight schedules of two carriers that will extend the reach of Spirit in the Caribbean region.

[R]6:50 PM Miami – Air Jamaica in its second privatization attempt is likely to be operated as a discount carrier with an uncertain future. The Spirit Airline is likely to operate the Jamaican national carrier as a low cost airline that will focus on American tourists and Jamaicans living on the East coast.[/R]

Air Jamaica may have a new majority owner if the Jamaican government follows through the recommendation of the Privatization committee advised by the International Finance Committee, the arm of the World Bank.

The sale of the national carrier is expected to relieve the Jamaican treasury of $100 million of annual deficit but is likely to be stuck with its debt of $650 million.

The committee has recommended the majority stake sale in the airline to Indigo Partners based in Phoenix, Arizona and Oaktree Capital located in Los Angeles, California. The private equity team of investors has experience in operating discount airlines but their ability to earn consistent profits from these ventures is still not proven. The investor team controls a majority stake in the U.S. based Spirit Airlines that is likely to control the Air Jamaica’s future.

The state controlled Air Jamaica may be renamed to Spirit of Jamaica and the Cabinet is expected to approve the deal by mid-July.

The Trinidad based Caribbean Airlines and the UK based Thomas Cook were the other leading contenders for the national carrier.

The terms of the deal are still not final and released but the carrier has accumulated loans to international agencies of $650 million and only a month ago the government of Jamaica agreed to provide additional $100 million financing. The sale price of the airline is not known but judging from the other deals that the investor group has struck around the world the price of stake is likely to be between $15 million and $60 million.

At least for the deal, the airline was positioned as a turnaround opportunity that operates at nearly twice the cost of most of its rivals.

Spirit Air, controlled by the private equity team is likely to run Air Jamaica with a sharp focus on operating cost and unbundle the pricing that will charge for everything from checked bags to drinks and meals and choosing seats.

Air Jamaica Losses and Struggles

The troubled national carrier has struggled with rising fuel prices, falling ticket revenues and declining traffic and persistent management difficulties. The airline in the last seven years has lost an average of $100 million and in the last three years the losses have accelerated forcing Prime Minister Bruce Golding to estimate 2008 loss at $140 million.

After the latest restructuring in the late February the airline had trimmed its weekly flights to 218 and operates only 9 aircrafts with services to 14 destinations. Air Jamaica currently has 15 Airbus aircrafts on lease and many of these leases are renegotiated.

The 40-year old national flag carrier has been hobbled with mounting debts, excess staff and checkered record of on-time arrival and operates at a cost of 14.1 cents per available seat-mile, substantially higher than 10.5 cents to break-even.

Air Jamaica in late February discontinued flying to Miami, Atlanta, Los Angeles and Grand Cayman and eliminated direct services from Jamaica to Barbados and Grenada. Air Jamaica is still the dominant carrier with 51% of air travel market to Jamaica.

Air Jamaica sold its London, UK landing gates and slots to Virgin Air in 2007 for £5 million amidst the allegations that they were sold too cheap that led to an official inquiry.

Total number of air passengers to Jamaica increased 40% in the last ten years to 1.7 million and despite the current global financial crisis the arrivals were steady in the first half of 2009. Air Jamaica carried about half of those passengers.

Of the total arrivals to Jamaica in 2008, a total of 730,887 passengers arrived from the hubs controlled by Continental, Northwest, U.S. Air, Delta and American Air operated in Newark, Memphis, Philadelphia, Charlotte and Miami. There is a marginal direct traffic to Jamaica from the West Coast of the United States.

Jamaica with two of its airports in Montego Bay and Kingston is the third busiest air travel destination in the Caribbean with daily departing seats of 7,400. The Puerto Rico, the current leader has 11,400 daily departing seats and Dominican Republic has 8,550 seats.

What May Lie Ahead for Air Jamaica

Spirit Airline is known for its penny pinching ways of operation and also charges customers in every way it can. Spirit operates 185 flights a day and flies to 36 cities in the U.S., Latin America and Caribbean and generated $500 million in revenues in 2008.

Indigo Partners based in Phoenix, Arizona after acquiring a majority stake in Spirit in 2006 sharpened the management attention to cost and encouraged the entire staff to look for ways to trim costs and charge for every possible service. The so called unbundling of prices that many fliers have called “nickel and dime” approach may soon be applied to the Air Jamaica operation.

That change may shake the culture at Air Jamaica to its core. The carrier though over staffed and at times tardy on its on-arrival time record is liked by most passengers for its friendly in-flight service.

Indigo Partners run by the former chairman of America West Airlines, William Franke has not been shy in urging Spirit to operate as ultra-low-cost and super-cheap ticket business model. He is also chairman of Tiger Air, the low-cost airline owned by Singapore Air and Indigo holds stakes in Wizz Air in Hungary and reportedly is negotiating to acquire stakes in the Russian low-cost carrier A1 and Kingfisher of India.

Spirit Air was the first airline in the U.S. to introduce a charge for a checked baggage and choosing your own seat. And, in the flights there is no free lunch and free drinks and no in-flight entertainment television. Spirit is also known to fit more passenger seats on planes, nearly 20% more than industry standard of 125.

The management and staff of Air Jamaica may now have to live by the Spirit rules that squeeze more from each employee and demand more revenue from each passenger seat.

Despite its laser focus on operating cost, Spirit has struggled to earn profits. Spirit lost $78 million in 2006, barely break-even in 2007 and lost $16 million in 2008.

Will Low Cost Model Make Air Jamaica Profitable?

More and more carriers around the world are forced to look at operating costs in a different way as crude oil prices hover above $60 a barrel with a strong possibility of going higher. The face of air travel is changing with more focus on charging for every amenity and service individually including leg-room and access to toilets on short flights.

In the first privatization attempt of Air Jamaica, Gordon “Butch” Stewart acquired 30% stake in 1994 when the carrier was generating revenues of $124 million and was forced out in 2004 after the airline ran into a string of losses and was handed over to the government of Jamaica for J$1.

During the ten-years of operation under Stewart, the airline racked up $682 million losses and $560 million in debt.

The passengers of Air Jamaica who are used to good meals and quality in-flight services may yearn for old days as fares drop and services vanish. With more than 3 million people of Jamaican descent living in the North America, UK and Caribbean the air traffic to Jamaica is assured but that cannot be said of Air Jamaica’s profits.

Discount service may trim future losses at the carrier but losses are likely to persist for years to come and profits may be too small to keep investors engaged. The government may be forced to lend more money to the carrier and the repeat of first privatization experience is highly likely.

Air Jamaica has accumulated losses of $1.2 billion in the last ten years and for the island nation with total government receipt of $3 billion this is a serious resource drain.

The International Air Transport Association only recently increased its estimate of world-wide losses to $9 billion for 2009 from its previous estimate of $4.7 billion in March.

The better approach would have been to either sell the entire carrier or close the carrier down. The other approach is to create a regional airline with a cooperation of three or more nations that serves few locations.

If Jamaica, Trinidad and Barbados cooperate and run an efficient airline that serves nearly 4 million people with services to few select hubs in the North America and UK, then the region can afford its own viable airline, but to operate as a national carrier without strict financial control will only invite financial disaster.