If Kenyans were asked to diagnose the root cause of their national airline’s many maladies, responses would be as varied as the financial blows the carrier has taken in recent years.
For many, Kenya Airways’ #ticker:KQ troubles result from a toxic mix of mismanagement, corruption, a lopsided partnership with KLM, and the KQ’s failure to react to tough competition from Middle East carriers and neighbouring Ethiopian Airlines.
Fingers of blame are also pointed at “Project Mawingu”, the ambitious but ill-fated expansion plan rolled out in 2011 with the aim of significantly increasing KQ’s fleet destinations over a decade.
Some people argue that this strategy was not well thought out, pointing to the fact that financing of the aircraft using loans from US banks has saddled the company with expensive and crippling debt.
KQ’s management, both past and present, would cherry-pick from these range of arguments and top them off with the fact that the Ebola outbreak, fuel hedging bets and an upsurge of insecurity further sideswiped the business unexpectedly.
The consensus is that KQ is in dire straits with only two options at its disposal; a complex balance sheet restructuring or close the airline, sell its assets and cherish the Pride of Africa’s good memories.
However, for now at least, the National Treasury is not keen on playing mortician but it is also unwilling to pump in more taxpayer funds into the airline it affectionately describes as a “strategic national asset.”
“As a major shareholder (government owns 26.7 per cent of KQ), we are keen to secure the airline’s future and ensure it has a healthy liquidity profile and remains operational,” Henry Rotich, the National Treasury Cabinet secretary, is quoted as saying.
The government’s answer to this financial quandary — saving the airline without spending a dime — has birthed a complex restructuring plan whose details have been drip-released to the public in recent weeks.
After a year or so of combing through the numbers and tens of meetings between KQ officials, the airline’s creditors and major shareholders KLM and the Treasury, it was announced that the government would be guaranteeing Sh77.3 billion in loans.
In exchange for offering this guarantee cushion, the Treasury got the lenders to commit to new concessions — including extending the loan tenure and reducing interest payable every cycle in order to give KQ some breathing space.
Local lenders have also committed Sh18.1 billion in new credit to KQ to principally secure aircraft engines refurbishment.
But how did KQ amass this large amount of debt? The money is collectively owed to international lenders — Barclays Bank Plc, Citibank and JP Morgan —and 11 local banks.
The US banks, through the Export-Import Bank of the United States of America (US Exim), lent KQ Sh54.07 billion to finance the aforementioned acquisition of aircraft, which also served as the facility’s security.
This asset safety net has now been transferred to the Treasury with KQ noting that the value of the aircraft in question is “greater than the level of the debt that is subject to the government guarantees.”
Local lenders had more appetite for risk, unwavering in their short-term unsecured support to the airline despite its evident bad health — KQ has recorded losses for five successive years since 2013.
During this period, these banks increased their advances to the airline by over four times from Sh5.3 billion to Sh23 billion, which is now being guaranteed by the Treasury.
KQ owes Equity Bank #ticker:EQTY Sh5.2 billion, National Bank #ticker:NBK (Sh3.5 billion), Co-operative Bank #ticker:COOP (Sh3.3 billion), CBA Group (Sh3.1 billion), and Sh2.1 billion each to NIC Bank #ticker:NIC, DTB #ticker:DTK and KCB Group #ticker:KCB, according to documents seen by the Business Daily.
I&M Bank and Ecobank are claiming Sh824 million each from the cash-strapped airline, while Chase Bank and Jamii Bora Bank are owed Sh721 million and Sh412 million respectively.
KQ also owes the government Sh27 billion, a tab taxpayers picked up after an interesting series of transactions. The Treasury, in May 2015, and with Parliament’s approval, lent KQ Sh4.2 billion to help the struggling airline meet its obligations, including paying staff salaries.
This shareholder loan matured a year later but the airline is yet to wire a single shilling to the Treasury, instead channelling any free cash to more demanding creditors who have made a beeline for its finance office.
In September 2015, the government guaranteed a Sh20.6 billion short-term credit from the African Export-Import Bank (Afreximbank), payable by 2018.
The Treasury silently took up this obligation at some point in the year to March 2017, perhaps appraised of the reality that KQ was never going to meet the fast-approaching repayment deadline.
These obligations — when lumped together with those owed to other types of creditors including lessors — pile up to about Sh242 billion.
KQ’s financial tribulations are huge and it is clear why the national carrier is struggling to meet its commitments. The balance sheet reorganisation will unlock “cash-flow relief” of Sh37 billion over five years — through tenure adjustments — and reduce its total debt exposure by Sh51 billion.
The plan will also leave KQ in a positive equity position of Sh11.8 billion from the current negative Sh44.9 billion. This is just a small part of the intricate plan that has been developed by several firms including PTJ Partners (restructuring advisor) and White & Case (international counsel) with Mbuvi Ngunze, former KQ chief executive as lead advisor.
The headline consequences of this plan dubbed Project Safari will impact 11 local banks, the Treasury, KLM and about 78,000 retail shareholders of the cash-strapped national carrier. Here’s how.
Change in shareholding
First off, the Treasury will cement its pole shareholder position, ending up with a 46.5 per cent stake in KQ up from the current 29.8 per cent.
The government’s KQ loans will be converted into shares in a series of paper transactions that kicked off with the above-mentioned guarantees.
“We don’t expect all that (guarantees) to materialise. If at all it happens, the only exposure could probably be a third,” said Mr Rotich.
Treasury, guided by its steadfast resolve of not pulling out its cheque book and preventing KQ from going bust, has been in the thick of things in terms of negotiations and lobbying the stakeholders.
Investment secretary Esther Koimett has led the State’s charge. She’s chaired endless meetings and served as the contact person between the government, KQ and stakeholders over the plan that has been one and half years in the making.
In a recent interview with the Business Daily, Ms Koimett conceded that KQ was in the financial deep end but maintained an optimistic tone that restructuring would salvage the business.
Reasons fronted for saving KQ include the negative impact its collapse would have on the economy — more so the transport, logistics and tourism sectors where the airline remains key.
Banks would suffer immensely as they would have to write off billions of shillings in bad loans and also lose out on other trading income they receive from the airline.
Kenya, it has been argued, would lose its position as an attractive investment destination, KQ investors would see their investments go up in smoke while thousands would lose jobs.
“If the restructuring if not implemented… the company would enter into formal insolvency,” KQ chairman Michael Joseph told shareholders recently, reading from the same script as the Treasury.
KLM, which has been a KQ shareholder and partner since December 1995, will also inject a total of Sh7.9 billion in fresh capital into the business.
The carrier, whose decision to reinvest in KQ elicited negative press coverage in the Netherlands will, despite the capital outlay, see its shareholding drop to 13.7 per cent from 26.7 per cent.
It will also drop to number three on KQ’s top shareholders’ roll for the first time. KLM, which declined to respond to queries from the Business Daily about the restructuring, has structured its investment cautiously, including setting conditions.
Other than injecting capital, KLM valued an IT systems debt owed by KQ and a Heathrow slot it leases to the airline. It plans to convert the resultant Sh2.7 billion amount into equity.
KLM will inject another Sh2.5 billion if KQ commits to retaining staff wages at current levels and securing additional concessions from lease holders of its Boeing 777-300.
The Dutch carrier, which has also committed to wiring a further Sh2.5 billion post-restructuring, will also see its pacts with KQ, such as the joint venture agreement, reviewed. The success of this restructuring, however, rests in the hands of the 11 local banks.
After the lenders used short-term customer deposits to lend short-term to KQ, they are now being shepherded into a 10-year arrangement christened “The Scheme.”
The arrangement will see the lenders swap their risky advances for equity to be held jointly by a Mauritius-registered company called KQ Lenders Company.
These shares can be sold over 10 years on the open market or to a strategic investor. The banks could also opt for new decade-long debt instrument offering bullet repayments which would be secured by ordinary shares in KQ and a corporate bond. Banks that were not agreeable to either option were deemed to have elected the first option.
This bulldozing posture derives its strength from the Companies Act which permits firms in distress to pool the same class of creditors into a rescue arrangement if 75 per cent of them agree to it.
The law states that if the vote threshold is met, a distressed firm and its agreeable creditors can proceed to implement the proposed arrangement, leading the dissenting minority down the rabbit hole.
Several bankers have indeed pushed back on this arrangement, arguing that they are being forced to get into an arranged marriage with a partner they did not necessarily find attractive.
Ecobank, Equity Bank and Jamii Bora — who are collectively owed Sh6.4 billion or 13 per cent of the outstanding debt — have differed with their peers and the government on the negotiation table.
Equity, a tier-one bank, went as far as hiring a consultant to undertake a review of the airline, with a specific brief to interrogate the soundness of the scheme options presented. The consultant’s verdict was harsh.
“The restructuring does not improve the cash generation through enhanced operations or introduce new cash into the company,” the report, which the Business Daily has seen, states.
“It only alleviates prospective cash payments that would become due from the government and the banks. The restructuring buys KQ time by kicking the can down the road as opposed to resolving the underlying issues in the company.”
Equity Bank, on this basis, went to court seeking to block the airline from convening a meeting where unsecured creditors would be asked to vote for or against the scheme. The bank lost the bid and, as it stands, KQ seems set to have its way as it has already indicated that the eight banks and the Treasury have “agreed to vote in favour of the scheme.”
The nine parties are collectively owed 87 per cent (or Sh43.7 billion) of the debt. The biggest loser in this episode of financial gymnastics are the approximately 78,000 retail shareholders who will see their investments get diluted by a massive 95 per cent.
These individual investors, who own 24.02 per cent of KQ, will be left holding shares equivalent to about 1.24 per cent of the company’s issued stocks.
Before the end of the year, however, the shareholders will be asked to participate in a Sh1.5 billion open offer through which they will have the opportunity to limit the dilutive effect of the debt to equity swaps and KLM’s capital injection.
This could see the retail investors bump their stake up to about 10 per cent given the fact that KLM, the Treasury and the banks will not participate in the rights issue.
KQ has now called its shareholders to an extraordinary general meeting on August 7, seeking their greenlight to implement the intricate restructuring plan.
With all indicators showing the restructuring proposal will sail through Monday’s meeting, the management of KQ and the Treasury will be left with a baby they fought hard to deliver.
Mr Ngunze, the figurative midwife, will exit the stage and pass the baton to his successor Sebastian Mikosz, a Polish national who is yet to appear in public since his appointment early May.
It will be up to him and his team to prove that Project Safari was worth the trouble.