Money is getting tight as JAL awaits the ETIC decision in January (Photo C. Stewart 2009)

• Updated 05/01/10 at 1400 Local
• Cabinet Minsters Meet with DBJ to secure further funding for JAL- along w/ three of Japan’s biggest banks
• JAL Stock sees its record volume and lowpoint
• How does Japanese Law set out Kaisaha Kousei?
• Who are DBJ, ETIC, and the DICJ really?
• Capital Adequacy found without giving up foreign ownership? 
• So what do we think will happen- with the DBJ and new bank money- Reorg is looking unlikely now!

What a week we have had while most of  Japan has been on holiday!

Minsters Meet with DBP to secure further funding for JAL

While the stock takes a bath, and rumours of the ETIC report leaking just prior to the final day and a half of trading on the 29-30th of Dec,the mood around JAL was not exactly a festive one.    It was highly probable that a draft of the ETIC report was complete as most Japanese will not be at work for even the remainder of this week- so the idea of having it leaked prior to the break seems logical.   ETIC, in their report allegedly state the Corporate Reorganisation Code (In Japanese this is known as Kaisha Kousei or 会社更生法, かいしゃこうせいほう) should be used to turn JAL around.

Against that backdrop Minister Meahara and his cabinet colleagues were in talks over the holiday with DBJ (Development Bank of Japan) officials.  Were they seeking arrangments for  additional funds in place for JAL that missed the supplemental budget? 

On Sunday Japanese Minster for Transport Seiji Maehara told reporters that the Development Bank of Japan will double its credit line for Japan Airlines Corp. to 200 billion yen ($2.2 billion).  In addition the Sumitomo Mitsui Banking Corporation, Mizuho Corporate Bank, and Bank of Tokyo-Mitsubishi UFJ are all commiting to similar amounts. 

Japanese transport minister Seiji Maehara told reporters Sunday the state-owned Development Bank of Japan will double its credit line for Japan Airlines Corp. to 200 billion yen ($2.2 billion).

That should be enough to keep the airline afloat while the government works out details of a bailout for the cash-strapped carrier, government officials said.

“That should be enough to keep the airline afloat while the government works out details of a bailout for the cash-strapped carrier”, government officials said.

Japanese Law and Corporate Reorganisation

As far as the Japanese bankruptcy code, I should be clear that I was using the term DIP previously, and many of my Japanese colleagues have been kind enough to give me a lesson in the legal complexity of DIP and Restructuring.

There is one major difference that I have recently been educated on regarding Japanese Insolvency Laws that now show that my previous, and rather US-centric use of the term DIP were not entirely accurate.

 The first and most important distinction is that the laws were updated in 2000, and at that time several updated concepts were introduced to Japanese law.   One was the concept of Debtor in Possession (DIP) for a Civil Reconstruction, which is available to both Corporations and Individuals.   It is generally a faster and more flexible process than a Corporate Reorganisation.  Unfortunately for JAL,  most experts agree that it is not suitable to their particular situation.

The most suitable form of JAL may only be the Corporate Reorganisation Code, where a court appointed administrator is granted a small stay on debt payment, and then embarks on the same general procedures of U.S. Chapter 11 proceedings with a few minor nuances. The process is strictly prescribed and a great deal of time can elapse prior to the company emerging from administration.   Under the Japanese systems however, it is noted by several prominent experts that this procedure is “both highly reliable, and has an excellent chance of success.”

So in the past, while I have been quoted as saying, “ETIC or The Government” would become the DIP in this case, that was technically inaccurate.   It would be more appropriate to say that under the prescriptive terms of the reorganisation process, the Government would be free to infuse cash as the airline set new terms with its creditors without the need to “possess” (or re-nationalise) the carrier in any direct or overt way.  

The reality, of course, some would say that is exactly what it would be. The largest creditor by far would be the Guarantees of the Japanese government via the DJP and ETIC.   So effectively, DIP it is not wrong- it is just a quirk of Japanese law that make it inaccurate.

Is there an alternative?  I can see one possible longshot

As for the possibility of opening up capital partnership opportunities for other carriers, there looks like there is some behind the scenes movement to do so.

There is also the possibility that if enough capital can be located (which I do not see as the most probable outcome) that they could initiate a Civil Reconstruction.  While this is a much faster process, it would leave the Hatoyama Government in the position to “wean off the carrier” more quickly from state funds.   Frankly this whole idea of changes in foreign ownership laws during a time of Japan exerting its sovereignty again smells funny to me, but politicians have been known to do some fairly strange things when their backs are to the wall- which by the way I do not think Prime Minister Hatoyama is.

So who are all these players like the DBJ,  ETIC and DICJ anyway?

The DBJ is a seperate entity from both the DICJ and ETIC. All three are "semi-governmental" bodies, the latter only having been established in 2009

Sometimes it is best to get it direct from the source:

The Development Bank of Japan Inc. was established on October 1, 2008. Under the terms of the Development Bank of Japan Inc. Law approved by the Japanese Diet on June 6, 2007 .  It was to be a fully private institution, except it was recently allowed to an extention on those plans.  It currently is a state-owned bank.  At the end of fiscal year 2011, the government plans a review of DBJ’s organization which will include the future of government-held shares. The Japanese government will continue to hold its shares until then.

“Enterprise Turnaround Initiative Corporation (ETIC) is a 100% owned subsidiary of the Deposit Insurance Corporation of Japan (DICJ) a semi-governmental organisation.  ETIC was founded in 2009 with the remit to provide support for revitalization of Japanese enterprises operations by assessing their assets, assisting formulation of their operation and finance restructuring plans, coordinating their creditors and other stakeholders, and rendering human and financial support to them, in an impartial and neutral manner.”

Ah, well, that clears that up.  They are all three semi-independent governmental bodies. 

What about all these alliance offers?

It remains unclear that if JAL does enter into a Corporate Restructuring which of either offer would be more useful or welcome to ETIC.   It could be that more fundamental issues are addressed first, and then the question of alliances would come in at a later time.

It is being widely reported that both “are still in talks”, and even some news outlets are reporting that one has been selected- SkyTeam/Delta.   Now, if this were true, let have a look at some of the reasons why that could be the case.

I don’t think that  AMR has not made any friends in Japan, particularly in the early days of their overtures.    In my opinion Delta and SkyTeam only fared marginally better, and stopped short of what I called in some of my previous blogs naked threats.    

One of the more interesting quotes of this week came while attending a friends New Years Celebrations He asked me “If TPG are high-end airline investors, then why did they sell Midwest to Republic?  They had ample time to do what Republic has done, and make it a success, did they not?  What do we know of their true core skills and intentions?”

The man has a point.

So what do we think will come of all this in the end?

I don’t think we will see a firm decision made until after the 12th of January.  On Monday JAL said that more than two-thirds of its current employees have agreed to accept the company’s proposal to cut pension benefits substantially as part of efforts to turn the struggling carrier around. Around 11,800 of the approximately 16,000 employees had responded positively to JAL’s proposal .  At this time it is unclear if the company’s retirees will accept the proposed pension benefit cuts in a similar vote.
I have the highest respect for the men and women of JAL.  As a person who has stood on the precipice with my colleagues and watched two of the three major carriers I have worked for take their last flight,  I find my thoughts returning to how the employees must be feeling.  All of this uncertainty at a time where they were culturally in Japan there is a celebration to end and even ”forget” about the past year.   For thousands that was not possible this New Year.   My thought go out to them, and what they must be feeling.  

Japanese Prime Minister Yukio Hatoyama (Reuters)

For my money, I see JAL at the fork in the road.   The alleged ETIC recommendation to employ Corporate Reorginasation is the strongest possibility, and most likely.  Prime Minister Hatoyama, and his cabinet, however appear  at least ready to make a political move and step in to save JAL from the process.  The fact that three of Japan’s biggest banks are also willing to put up the cash says that we should watch out for something other than the Corporate Reorganisation- or it could just be DIP money.   Whichever way he, and his cabinet, choose to go will be a clear signal not just to JAL- but to Japan- about the futuer of his time in Government.   Make no mistake, however, the Japanese are clearly in control here.

Carter Stewart, is a Pricipal  at TWC Aviation Consulting- an aviation consulting firm headquartered in London.

At the time of this article, the author did not have any shareholdings or active contracts with any of the companies covered in the scope of the work.

Copyright TWC Aviation 2009  – TWC Aviation 2009

Photo Credits:  C. Stewart, Copyright 2009 (unless otherwise attributed)

The House Of Commons Transport Commitee Concludes the "Future of Aviation" Enquiry

 In Todays Issue:

• - The Bullet
• - Summary of the Key Findings
• - Carbon Emissions: A Damning Indictment 
• - The “Open Skies”?
• - TWC’s Take on the Report
• - Who says politics can’t be funny

The Bullet

 This morning, The U.K House Of Commons Transport Committee published its initial findings to the Government on their enquiry “The Future of Aviation”.   The enquiry began in late February of this year with a broad scope to elicit information from the public, the industry, and other interested parties on the Future of UK Aviation.

Louise Elleman MP is a long standing member of the Transport Commitee, and was elected its Chairman in May 2008

Committee Chairman Louise Elleman MP, said in a statement, “Aviation is an important part of the UK economy, both in the south east of England, and in the regions.”

The Committee goes on to say that the Government’s long term basis of Aviation Policy- a 2003 white paper- “continues to provide a sound basis for aviation policy but warns the Government that it must update its assessment of the economic value of aviation for the UK economy regularly to ensure its figures are subject to independent external scrutiny.”

Carter Stewart, Managing Director of TWC Aviation, a London-based Aviation Consultancy agrees.  “We believe that the overall net economic contribution of aviation to the U.K. has been under-valued by the Government by as much as £800M GPB annually”

The Key Findings of the Report:  Overall Good News for the Industry

In summary the statement from The Committee makes the following additional recommendations:

The report supports Heathrow Expansion, but calls into question further expansion of Stansted in favour of Gatwick

The Committee supports the Labour Government’s London Heathrow expansion proposal; but calls into question the Stansted expansion and instead suggests London Gatwick may be more appropriate.

While The Committee “recognises the importance of Air Passenger Duty (APD)” it suggests that the Government needs to be “mindful of the vulnerability of the aviation industry in the current economic climate.”

Carbon Emissions: A Damning Indictment of the EU – Sane Words to the Industry

The report could not be complete without also addressing the issue of Carbon Emissions and noise pollution.  The Commitee says in their report  that aviation should not be “demonised or assigned symbolic value beyond its true impacts.”  It went on to comment that they had concerns that “The EU Emissions Trading Scheme has an appaling track record and may prove insufficient to to drive investment into low carbon aviation”

Regarding Carbon Emissions, the report sets forth a “number of principles that should be applied in this area.”  It also refers us to the publication of the UK Climate Change report that is due to be published on Tuesday, 08 December.    They also called on industry to “sensibly reduce its greenhouse gas emissions over the coming decades.”

The “Open Skies?”

“Discussions to extend the Open Skies agreement are ongoing between the European Commission and the US Federal Aviation Administration. This might allow further access to EU and US markets. The asymmetric nature of the Open Skies agreement is disadvantageous to the UK economy and particularly to the UK regions, and should be renegotiated at the earliest possible opportunity.”, the report says.

The report also reiterates MPs previous calls for the ATOL levy to be increased and extended to include all international flights.  Currently, ATOL is only applied on package holidays from the U.K.  

It also asks The Government to clarify the “basis of its claim that an additional £10 bn could be raised if VAT and Fuel duty were applied to Aviation.”

The key conclusion is clear.  ”We beleive that the aviation industry is a very important to the UK Economy.  Therefore we find it unsatifatory that the Government leaves such a key industry to the vagaries of the market.”  

Our Take of the Reports Findings

“Overall we believe that the report is a good news story for both the industry and consumers,”, Stewart says.   “At this critical economic time for our country the aviation industry, and airline consumers, have been suffering at the hands of the taxman disproportionately to other industries.”

“In a recent speech to The UK Aviation Club in September, The Lord Adonis defended the recent APD increase by saying it was ‘a matter of published policy’ and as a result ‘it would not be changed.’  I am glad to see members of the Transport Committee are calling into question the potentially damaging effect this policy has on UK airlines and airports to compete with other European rivals.” 

“One of the most telling items from our perspective is the language used around the US Open Skies agreement.”, says Carter Stewart.   ”With talks between the US and Japan about to start today this is not the ideal moment for a key U.S. shortfall to come into such scrutiny.  We agree that US liberalisation promises have failed to truly materialise for the UK, and promises about foreign ownership are key”

“With US carriers vying for ownership and control deals with JAL, I simply hope that the Japanese keep in mind the key points of reciprocity in their agreement and have clear understanding and timetables from the outset.”, Stewart says. 

“It is also refreshing to see MPs pushing back on behalf of the industry and consumers by demanding clearer answers on proposed estimates on tax revenue from VAT on tickets and fuel levies”, Stewart says.

Todd Koonce, Manager of Technical Operations at TWC Aviation believes that the report does hit some of the right notes about aircraft technology.  “It is obviously to everyone’s benefit to phase in more efficient aircraft as soon as is financially and operationally viable.  The key issue for many carriers has been the delivery delays of these very aircraft, like the 787 and A380, from the manufacturers themselves.

“I also believe that for short-haul segments, the efficiencies of turbo-prop aircraft have been overlooked by the airlines.    There is also a public perception that regional jets are somehow safer, and more comfortable, when there is an argument to be made that latest generation of turboprops could offer lower emissions and better operating margins.”

 Proof Positive of Humour in Politics

For those of your interested in the initial white-paper, here is a little bit of the background and history.

In 2003 Alistair Darling was then Secretary of State for Transport and presented the intial "Future of Air Transport"

H.M. Government has for some time used a white paper entitled “The Future of Air Transport”, published in 2003, as the basis of U.K. Government Aviation policy.  Ironically, it was then Alistair Darling, then Minister of State for Transport (and now current Chancellor of the Exchequer) who introduced the reports findings to the House of Commons on 23 of July 2002.   Even at that time, then Minster Darling was making a case that the U.K. needed to keep pace with capacity demands, and understood the importance of our air gateways which needed to compete with the increase in market share by Continental European airports.  

 What a difference a few years, and a change to Chancellor can make.

 (A full text of his statement to the House in 2003 can be found here, at the 1530 time marker.

The AMR and Delta offers are, in our view, both unsolicited and ill-timed. JAL, and ETIC, have bigger issues to address than the questions of an alliance.

At TWC Avaition, we beleive that there are many alternatives still availbe for JAL, and it appears that Minister of Transport Meihara and the Opposition Demoncrats are doing all they can to keep the carrier operating.   Our view is that there would be more political will to legally restructure JAL and start fresh than allow a major change in foreign ownerships laws that woudl allow a firm to acquire even non-voting equity to the maximum allowed by current Japanese law.  Lets take a look at why that might be how this may play out.

Two Bidders, and empty lot number, and no Auctioneer

What a difference a week can make, not to mention a few billion US dollar bids.  The bids were not fully cash, mind you.  More a mix of revenue gurantees, non-voting equity stakes, and guranteed securities-backed access to cash.

So this week we see  both the Delta (DL) and American Airlines (AMR) unsolicited, and in some ways unwelcome, bidding war to attract JAL to/or remain loyal to an alllinace.

We liken it to watching two bidders at Sotheby’s waving their paddles and starting a bidding frenzy prior to the auctioneer ever taking his place.

Even though JAL had previously announced its intent to “put aside these discussions”, it seems that fine point has been overlooked by both these would be suitors.

The tone being played out this week has certinaly changed as well.   Far from the threats that American Airlines CEO Gerard Arpey was making last week, this week AA’s ASPAC MD has taken a more traditional Japanese approach in his public statments.  He said,  “if invited, we would like to [better] the current offer”.  A C+ for the change in tone and effort.

We would give also give the Delta CEO’s comments failing grade for claiming among other things that Delta (DL) are “No 1 to-and-from Japan”.   Simply Cringe-worthy and Ameri-centric.

A Ward of the State

The point that I think that most of us commentating on this from the outside are missing is that JAL has become for all intents and purposes a “ward of the state” via the Hatoyama’s Opposition Democrats placing it in the Enterprise Turnaround Initiative Corp (or just ETIC).  In the very near future, they will technically have the majority say of JAL’s operations up to an including the reorganization of its management team- right up to the CEO. 

A few faux pas

Along with the departure of some key execs, perhaps DL and AA will also pack their bags for home

I would urge everyone to take a breath and to look at the JAL from a Japanese viewpoint vs. the more propagated stories being put out by the more western press on this issue.   Both JAL and the Japanese government are well aware of the losses JAL will continue to sustain- but they do not view foreign equity investment or guarantees that contain covenants to places like Haneda or skirt current Japanese equity law by being non-voting and revenue guarantees as a viable solution. 

In our analysis the entire reason why intial, and solicited talks with JAL,  initially fell apart wast the prescence of  Macquarie Bank in the role as a potential funding source.   This was, in our opinion, a grossly misplayed hand by all involved.    Macquarie is at best a controversial prescence in many nations, at least in aviation circles.  This is due to their airport dealings in both Australia and in the Haneda financing chain.  So, as AMR steps away to find new backing to go along with their own 2.5M USD warchest, TPG was hastily invited to the party after the initial JAL rebuff.   Then came SkyTeams non-US based chequebook. 

JAL’s biggest shareholder bails

Then the Tokyu Corporation, JALs largest shareholder (a real-estate and rail company) carefully announced its intent and began unloaded shares as a result of seeing JAL as no longer part of their “strategy”.   

The Minister Speaks and New Laws are on the way

JAL's Narita Lounge, where customers go about their business

It is also this formal move that has also gave cover to Minister of Transport Maehara the freedom to carefully craft a statement to a Diet commission where he was mis-translated by western sources.  What he actually said was, “We have carefully considered all possibilities, and we have ruled nothing out, including court supervised protection and restructuring”.   As you are well aware Japanese nuance is often mis-translated, and that as a general rule Japanese Gov’t Ministers do not misspeak.  They are careful, and deliberate.

In addition, should JAL fail to reach the required pension cutbacks- new laws are already being prepared in the background of the Diet by several ministers to override the tradition provision requiring a 2/3 majority agreement to change a pensions terms- again further referenced by the above article.  Bear in mind, these people came to power on the promise of corporate reform- and even with great Union support.

Suspicion and the “Tempest in a Teapot”

Make no mistake- we believe that these offers are a tempest in a teapot, and moreover the Japanese and JAL care about keeping JAL flying- and keeping it Japanese.   They are also as I understand it a bit “troubled” by a perceived incongruity in the offers on the table and the behaviour of DL in particular.  They do not appear understand how their partners AF/KLM could be looking for 1000+ redundancies- but yet still seeking a deal with them.  This is not something that the Japanese understand at a deeper level, and it also could make them believe that their partner(s) are unworthy of their trust.   What would happen if the tables were turned, they ask themselves.   Would my partner not come to my aid lie a kieretsu partner would.

What the West fails to undertand about kieretsu

JAL is a vertical kieretsu- which includes things like JAL catering, JAL Asia Airways, JAL Hotels Group, and many other ancillary businesses- including being the second largest shareholder of Haneda.  You will have note by now that one of the chief characteristics of a kieretsu is their secrecy in terms of deals done behind closed doors- and companies pooling resources to help one another for the common good.

 The Cultural Context

JAL's domestic network make it truly "too essential to fail"

You may find the following paragraph is perhaps un-important but I offer it as history.  Contextually you are already aware that Japan, while outwardly friendly, is in the pains of a major internal cultural upheaval.  The veneers that have been allowed to exist for generations about family units, company loyalty, and thoughts around the keiretsu are still quite strong. Social contracts are being violated about pensions, company loyalty to employees, and even the very core ideas of family.   In many ways it is not unlike the late 1950’s-1970 America- with its resulting seismic social shifts.  Although we think  these adjustments to approach and culture may be a more difficult process due to the deeply ingrained nature of their own identity.  Something, which, is worthy of a great deal of respect. 

So what’s next for JAL

A painful, and public, time of ETIC being in the cockpit and boardroom.   Resignations of senior staff as required by their inability to effect change.   Fundamental Japanese laws changing as the relate to unions pensions, and a goverment that needs to look tough on such old-style business practices.  We will see a streamlining of operations, and even potential use of Haneda for more international flying- but not the US- rather the rest of Asia.  

While they are at it, they may have to look at the now strained relationships with their OneWorld partner, and see if the trust is still there.   I hope it is. as I think OneWorld is the right answer for JAL short of an all Asia alliance, of which there is no obvious answer.

The author, Carter Stewart, is a full time airline analyst and strategist at TWC Aviation Consulting- and is based in London.

At the time of this article, the author did not have any shareholdings or active contracts with any of the companies covered in the scope of the work.

Copyright TWC Aviation 2009  – TWC Aviation 2009

Photo Credits:  C. Stewart, Copyright 2009

Overview

No one has JAL by the tail, except the Japanese Government

Overview

No one has JAL by the tail, except perhaps The Japanese Government

No bidder had Japan Air Lines (JAL) by the tail, but the Japanese Government, through ETIC,  is centainly firmly now at the helm and in the boardroom.

In our view the AMR and Delta offers are both unsolicited and ill-timed. JAL, and ETIC, have bigger issues to address than the question of an alliance.

The simple fact is that JAL is a quality brand, and an essential link to the Japanese Home Island which in our analysis cannot be allowed to fail.  Japan Air lines accounts for the majority of the key domestic capacity in Japan.