AIM.TO - Aimia

[Cardboard]

He should disclose some of the options that they are looking at. And stop the dividend until the business situation has stabilized with a real long term plan.

 

Air Canada did not hesitate to go public and tell Aimia that they would stop using them. They should also mention publicly, and to their investors, what they intend to do.

 

Cardboard

[misterkrusty]

What Air Canada is thinking...

 

this might all boil down to Westjet's announcement on May 2nd that it has ordered 10 Boeing 787s, with an option to buy 10 more.

 

Westjet was launched in 1996 with a Southwest-style strategy of only flying 737s and offering only one class of seats.  though they introduced "Plus" seats with a bit more legroom in 2013, these weren't a big change (extra cost of only $45).  This formula allowed them to be profitable on a fairly consistent basis for 20 years - no small feat for an airline - I never expected them to change it.

 

So until now, AC has been the only game in town for business class travel on a Canadian airline. 

 

The 787 changes all that as it allows for full lie-flat seats - nice enough to allow Westjet to charge full business-class rates for the first time (and also to greatly expand it int'l routes). Business class travelers are where the big bucks are for traditional airlines like AC.  Meanwhile, AC's current arrangement with Aeroplan doesn't (I'm guessing) give them enough flexibility to prioritize their FFs when it comes to flight availability (vs all the other Aeroplan members).  With their main rival now going after their golden goose, AC probably decided to greatly up its demands in talks with Aimia, and Aimia balked.

 

Perhaps this would explain why AC never once publicly mentioned the possibility of not renewing the Aeroplan contract all the way up thru mid-march - then ~3 weeks later suddenly announce that a break with Aeroplan will add $2 billion of NPV to their company's value.  AC's market cap was ~$3.6 billion prior to this announcement, so that would be an increase north of 50%.

 

 

[bizaro86]

Meanwhile, AC's current arrangement with Aeroplan doesn't (I'm guessing) give them enough flexibility to prioritize their FFs when it comes to flight availability (vs all the other Aeroplan members).

 

This part isn't true. Air Canada gives priority access to business class seats to its most important (super-elite) customers. The details are below. They do it through their elite recognition (altitude) program, which they separated from Aeroplan a few years ago. That decision was probably writing on the wall they wouldn't renew.

 

https://altitude.aircanada.com/status/priority-rewards

 

 

[Uccmal]

Reply to my letter.  Pretty boilerplate.  I suspect we see a cut before or at the next Q's earnings. 

 

"Thank you for your email and apologies for the delay in getting back to you.

 

We are taking on board all comments and appreciate you sharing your feedback with us.

 

To clarify, the dividend declaration was made before we received formal notification from Air Canada and the Board reviews the dividend every quarter.

 

As discussed on our recent Q1 2017 conference call, a key priority for us right now is to ensure a strong redemption offering post 2020. Remember our contracts with TD and CIBC run to early 2024 and members continue to have access to rewards on Air Canada until 2020 under our existing contract (and beyond if Aimia decides that is the best outcome for members and shareholders). 

 

We will share more information with the market as soon as we are able to.

 

Kind regards.

Tom"

 

From Tom Tran

[misterkrusty]

bizaro- 

thank you for bringing this up, but I have to disagree.  For every class of Elite members, they begin with the sentence, "In the event that Aeroplan Fixed Mileage Flight Reward seats are completely booked..."

 

in other words, under the current arrangement, it doesn't matter whether an Aeroplan member is also an Elite member of Altitude in terms of access to Classic Fare (the deep discount) seats on Air Canada.  Only when Classic Fare seats are all taken do these Elite privileges kick in.  I suspect Air Canada wants to give these Elite members better access to the best seats in order to keep business travelers from switching to Westjet, now that Westjet is going to be offering true business class seats.

 

also, see Mark Satov's comments in the globe and mail article from Saturday (link is in my next post)

[misterkrusty]

Here's an interesting tidbit from Aimia's CEO in the Saturday's Globe and Mail (emphasis mine):

 

“Our members are sitting on a balance of something like 200 billion unredeemed miles. That’s a huge amount of traffic that can be directed into other partners – whether that’s other airlines or other partners more broadly. ... That’s miles of travel that they’re going to take at some point in the future. That traditionally went to Air Canada and it now can go toward Air Canada, and some of the alternatives that we’re going to be working on.”

 

http://bit.ly/2rkhso6

 

my take on this is that they're looking at potentially adding more non-flight rewards (cruises perhaps?).  more importantly, this would seem to confirm that they will, in fact, take Air Canada up on its offer to continue selling seats to Aeroplan members (albeit at higher prices than the current Classic Fares).

[clutch]

Here's an interesting tidbit from Aimia's CEO in the Saturday's Globe and Mail (emphasis mine):

 

“Our members are sitting on a balance of something like 200 billion unredeemed miles. That’s a huge amount of traffic that can be directed into other partners – whether that’s other airlines or other partners more broadly. ... That’s miles of travel that they’re going to take at some point in the future. That traditionally went to Air Canada and it now can go toward Air Canada, and some of the alternatives that we’re going to be working on.”

 

http://bit.ly/2rkhso6

 

my take on this is that they're looking at potentially adding more non-flight rewards (cruises perhaps?).  more importantly, this would seem to confirm that they will, in fact, take Air Canada up on its offer to continue selling seats to Aeroplan members (albeit at higher prices than the current Classic Fares).

 

The problem is, non-flight rewards in general are so horrible in terms of their values that there is no incentive for anyone to continue using Aeroplan. It'd be pretty much similar or worse than other travel points programs.

 

So I think they really need an airline rewards alliance to keep its customers...

[misterkrusty]

clutch, I agree.  Non-airfare rewards have higher average gross margins than airfare ... not so high that I'd use the term "horrible" but whatever.

 

I definitely think the vast majority of points/miles will still be redeemed for airfare under whatever new options Aeroplan comes up with.

[Cigarbutt]

I’m in. Long the A, B and C preferred shares. Here’s why.

 

Looked at this a few times in the last years. Missed the AIMIA preferred 2016 opportunity despite 1- obtaining an easy +/- 17 % total return on FFH preferreds (Cs and Ms) pretty much around the same time during the institutional sway in CDN preferreds and 2- looking in some depth at AIM (I was looking at the common share opportunity) around the same time. Retrospectively, if I had “seen” the preferreds opportunity, I think I would have bought. Like to think that I would have sold during the upswing but not sure…

 

The AC announcement was pretty much unexpected (early and not favorable). The big question is: can they adapt/react to the new circumstances? I think they can and that means upside potential for the preferreds.

 

Sorry, very long post. My style. If you don’t like it, just move on.

 

Disclosure:

-I have read a fair amount about loyalty management but I’m no specialist and have no specific practical work experience in the loyalty business.

-There are some aspects of the industry that I don’t understand well (analytics service aspect).

-The main component of loyalty business is based on contracts that share value provided by the loyalty program and that are not disclosed. Indirect ways to deal with that limitation is evaluating the historical record and business acumen of leaders. Still, mostly asymmetrical information and guesswork.

-This is not an investment for the long run. More of an expected return towards intrinsic value type of investment.

 

Topic #1: trust in management

 

They certainly look like deers looking at headlights right now and the recent “business as usual” comments don’t help with the market perception and the capacity of management here will be key.  There are some unknowns, especially the new CEO, David Johnston.

 

David Johnston came to Aimia in 2010 with international marketing background. He first headed the EMEA division, including Nectar UK then became COO and interim CEO. Not enough info to make up my mind. Performance at Nectar UK can be analyzed (see below topic #4) after 2010 and results are fair (positive trend but variable and future somewhat unclear). Jan-Pieter Lips, who was one of the founder of Nectar UK in 2002 and who had risen to president of Aima’s international coalitions segment, just left the company…So this is an area where more work has to be done.

 

Somebody mentioned Tor Lonnum (CFO) and he seemed to have done a good job with Tryg, the Scandinavian insurer. I decided to look into this as 1- it is relevant (the Aimia CFO may have to seriously look at, and implement different alternative financial strategies going forward) and 2- one of my interests is property/casualty insurance. I understand that Mr. Lonnum came to Aimia for the international challenge. Ready for adversity?

 

Here’s a relevant summary of my research. So, Tryg is a P+C Scandinavian insurer based in Denmark. The P+C industry in Scandinavia is characterized by a relatively captive oligopoly. Tryg has been one of the four main players. For the last 10 years or so, most players have used similar strategies (focus on profitability for underwriting (premium increase and expense control) and mostly stable or slowly rising premium levels). They show similar patterns in underwriting results, return on equity and dividend payout but there are differences. Tor Lonnum came to Tryg in September 2011 and left (his decision to come to Aimia) in April or May 2016. Overall, my opinion, based on the analysis, is that he did a very good job on an absolute and relative basis. Obviously, decisions taken before he arrived and factors outside of management control during his tenure can have an impact on results but, as a CFO for almost 5 years, I submit that he had a significant influence on results. Let’s see. I looked at industry reports and Tryg/competitors annual reports (some competitors are subs, so data sometimes not completely or easily comparable). I also used, for comparative purposes, the 2007 to 2011 calendar years and compared key performance indicators with the 2012 to 2016 period. For Tryg, the average combined ratio for 2007-2011 was 91,4 and for 2012-16 was 87,7. The arithmetic ROE average for 2007-2011 was 14,9% and for 2012-16 was 22,3%. Comparison with competitors show that, in general, the CR and ROE numbers improved during 2012-6, but improvement was more marked at Tryg, especially for the ROE component. Perhaps relevant to Aimia is the fact that Mr. Lonnum was instrumental in driving costs down in order to improve the CR. For instance, in 2011, gross written premiums were (in Denmark currency, million krones) 20 822 and there were 4300 employees for a ratio of 4,8. In 2016, GWP were 17 842 and there were 3264 employees for a ratio of 5,5. My understanding is that Mr. Lonnum played a key role in underwriting discipline (reduced premiums in a mature market and a clearly laid out a plan of cost reduction measures including staff reduction). My take is that one of the reasons that the ROE improved (on an absolute and relative basis) was because of the CFO’s role in the capital allocation decisions related to capital levels, dividend policy and share repurchase decisions. Also, Mr. Lonnum contributed to clear and transparent policies related to dividend payout versus capital available, earnings for the period and outlook. I submit that this will be crucial for Aimia going forward. During his CFO tenure, Tryg obtained an upgrade from rating agencies and total share return was positive on absolute basis and quite robust on a relative basis. Assuming a stock split did not occur, share price when he arrived was around 280 DKK. When he left, share price was around 650 DKK and 97 DKK were distributed as dividends along the way. Personally, I’d be happy with +/- CAGR 25% over 4-5 year periods. But I’m just a guy glaring at a screen right now. I like what Mr. Lonnum has done at Tryg and see him as a positive contributor going forward.

 

Robert Brown is the Chairman of the Board of Aimia (Chairman since 2008 and director since 2005). I have followed his career over the years. I have read and listened to what he has/had to say about Aimia and I have decided to trust him. Mr. Brown’s record is not perfect but he has shown good abilities during tough times elsewhere. He will be a key player during the next transition. He was with Bombardier for many years and was the main factor behind the success of the regional jets. He left Bombardier in 2002 because it was felt that the company needed new direction (Paul Tellier took over). With Bombardier (still family controlled and Mr. Tellier also had to leave when his visions differed from the Family), decisions are not always based on a transparent process. Mr. Brown was also on the Board of Nortel (2000-2006). His role there was neutral… He was involved with Air Canada during the restructuring (Chairman AC 2003-4 and on Board of ACE 2004-9).  One can be critical of the restructuring process but overall (with Milton and Rovinescu as the main man, “iron fist”), it can be considered a “success”.  It was in 2005 that ACE did the Aeroplan IPO and then progressively sold its remaining stake. A key relevant part of Mr. Brown’s career pathway is when he took over CAE (CEO 2004-9). CAE (mostly flight simulators and related training) was heading in the wrong direction (even if slowly recovering from the 9/11 downturn, there were questions regarding the quality of earnings and strategic vision). The context of Mr. Brown’s arrival implied a need for restructuring and judicious diversification. His plan worked well and rapidly. My opinion is that his tenure at CAE was impressive. He predictably left in 2009 (not a great time to leave if you look at market-based indicators). From 2004 to 2009, revenues went from 940 millions to 1,7 billion and net debt went from 530 millions to 285 millions. I submit that Mr. Brown will be a key player for the challenge(s) facing Aimia. He is a quiet force, understands the key variables, can take difficult decisions, has been successful in tough restructurings and is modest. The kind of person I want to partner with in these situations (my opinion, not worth very much by itself). We’ll have to see how this plays out.

 

I also like Micheal Fortier who has been on the Aimia Board since 2009. He’s also on the nominating committee.

 

Other relevant comments about key management people would be helpful.

 

From the transcript of Rupert Duchesne at the CIBC EASTERN INSTITUTIONAL INVESTOR CONFERENCE held on September 21, 2016.

Relevant excerpts :

 

« It's been a very successful contract. There's still four years left to run. Clearly there's been

a lot of noise around it and a few comments made in public. We've got a pretty good history of

mega negotiations.

Without getting too personal, we had a fairly big negotiation with CIBC and TD a couple of

years ago that ended up in a place, I think, better than most people expected for us. I actually,

frankly, lost a little more sleep over that than I will lose over the Air Canada negotiations because I

think there's actually a really good balance of power between the two of us. »

« It was a smart contract 15 years ago. I negotiated it, Calin was involved, so we both had a

say in that, but the world has moved on a great deal. And I think there is a lot of room for a different

approach to running the business. »

« —or whoever else. So I think the stage is well-set. When they're ready and when we're ready we'll

get into a negotiation. (***) But I think the prospect of a divorce would be so horrible for both parties

that we'll actually get to a fairly straightforward deal.  (my ***)

 

So, I think Aimia: -overestimated the strength of its negotiating power, -underestimated AC’s intent to go after risk AND reward AND -are NOT prepared.

 

In my humble mind, the CEO remains a question mark at this point.

 

The investment thesis is based on the following for topic #1: Better than average management is needed. I assume that, either top management will deliver or change needs to occur rapidly.

 

Topic #2: moat of loyalty programs and value without a core frequent flyer component

 

There is that love/hate relationship with loyalty programs that reminds me of the dynamics with credit card issuers. People “hate” them but are heavily influenced by them. That won’t change and, with data analytics (consumer data), the trend should continue to be favorable for loyalty programs. Customers are not necessarily loyal, negative (extractive) aspects of these programs frequently resurface and many cards stay in wallets but good loyalty programs are efficient ways to extract value from customers and infringe consumer surplus. Well designed loyalty programs have value. The questions are: how to appropriate the value, proprietary or coalition? And how to share the value if an intermediate agent is used? My opinion is that Aimia is likely to continue to play this game profitably even if the recent AC announcement leaves some questions unanswered at this point.

 

For reference of general industry trends: see pages 14-17

http://www.finaccord.com/documents/report_prospectus_global_coalition_loyalty_programs.pdf

 

Recent survey:

http://strategyonline.ca/2017/05/24/is-your-loyalty-program-satisfying-your-customers/

 

To outsource or not is a recurring theme in this fluid environment and it comes to a question that each and everyone of us ask ourselves from time to time. Should I do it myself or should I pay somebody else to do it for me? For those interested, here are a few examples of commercial loyalty relationships that got or are getting redefined. Recently Metro, a grocer, has been going through this kind of questioning: proprietary vs Air Miles. Westjet went through this when it left Air Miles a few years ago and started its own rewards program in 2010.  Sainsbury (grocer) left Air Miles UK before joining Nectar UK in 2002 and became an “anchor” partner. In 2009, Nectar UK recruited Homebase (#2 hardware retailer in the UK) at a time when Homebase had its own proprietary reward program (#4 position in loyalty programs in UK then, based on number of members). Homebase recently changed owner and is leaving Nectar UK in 2017. Anybody with relevant knowledge from these or similar scenarios should pitch in. From my point of view, in another life and for many years, I was involved in a business whereby large and medium firms could do work in-house, could delegate some work or could outsource completely a specialized part of human resources management. These market segments are constantly redefining as contracts are typically short term in nature and as contract renewal is never guaranteed. The moat is hard to define and is based on specific people/culture involved. This helps to understand the high level of goodwill and intangibles found on the balance sheet of Aimia. My opinion is that some loyalty programs provide little or no value especially the proprietary subtype. Loyalty programs, especially the coalition type, need specialized service that is very hard to develop in-house. I submit that the key is to create value (customer loyalty) AND to share this created value (reasonable win-win) between the 3rd party (Aimia) and the retailer/airline. On balance, I find that Aimia has done this quite well over the years.  Aeroplan started very small and maybe Rupert Duchesne was just the guy at the right place and at the right time when AC had to let go of this unit with a knife on the neck. Circumstances that existed then versus the negotiation power between AC and Aeroplan gave way to very favorable terms for Aeroplan. Aimia was able to earn abnormal profits for a long time. My opinion is that this aspect of the business was well managed. Somehow, new more balanced terms had to be negotiated (to share more with AC). Maybe, Aimia was too rigid. More likely, I think that AC had come to think that they were not in the sharing mood anymore. So now, there is a big bump on the road.

 

Air Canada announced that they will start their own proprietary program (more on that below, topic #3). If AC leaves Aeroplan as a core partner, one has to evaluate if there is room for two national loyalty programs in Canada, which is considered mature for this market. Not sure. I appreciate attempts by some to analyze (quantitative) the cash flow impact after June 2020. Very difficult exercise. It’s like if you ask a grocery store owner to evaluate the value of losing the right to sell beer and fresh products. It’s not simple math. Losing a core aspect of your earning potential could be lethal. My opinion is that there would still be value after but it would be a small fraction of what it is now. Not sure fixed costs would be covered. This opinion is based on static conditions. Of course, the situation will be dynamic.

 

One of the potential problems is that this is a business based on cash flow coming from gross billings. The model would not work well in a run-off mode and the downward spiral would be compounded by customers redeeming points more rapidly. This is loyalty business and management have to avoid trust erosion in the brand. There is the usual stickiness and resistance to change but participants have questions and will look for alternatives. Potential death spiral unless management has something to show. Timeline is not days and maybe not even weeks but my take is that light has to be seen at the end of the tunnel before next fall. Renewal and non-renewal of commercial partners are relatively expected in this business. However, in this specific case, AC was the core partner for the CDN loyalty unit, which was the primary cash flow driver for the entity and this why management have to show how the transition will be managed. See topic #4.

The investment thesis is based on the assumption that, on balance, the Aeroplan plan has value and alternatives (with AC, other airline partners or other partners) will likely compensate at least partially the business lost with AC as defined by the present contract. This is still unknown, is uncomfortable but represents a real opportunity (more on that below, topic #4).

 

 

[Cigarbutt]

Part 2

 

Topic #3: timing and nature of Air Canada’s announcement

 

Somewhat unusual. Isn’t it? However, when you look at AC’s history and Mr. Rovinescu’s “strategies”, it makes more sense. Just think of what happened to Aveos. In 2007, Air Canada spun off its in-house maintenance, repair and overhaul (MRO) unit, Air Canada Technical Services, as a separate company.  It then stopped sending work there and the unit went bankrupt…It is ironic that AC recently negotiated litigation termination around this issue with the government in exchange for an engagement for maintenance of C-Series planes bought on discount. Air Canada’s business has been up and down but they sure do know how to squeeze the lemon sometimes. In the Aimia case, do not expect sentimental business dealings for the “loyalty” component that had been spun off many years ago. However, whichever form the AC loyalty program takes may give rise to opportunities for Aimia.

 

Another relevant historical example has to do with what happened to the contract between AC and Jazz air (regional carrier, became Chorus Aviation in 2010). Jazz Air was the result of another of these moves made by AC during its corporate restructuring. Under ACE, in 2006, Jazz Air became an income trust and obtained a relatively favorable arrangement with AC that became over the years an increasingly high and no longer necessary burden. The last contract was supposed to last until 2020. What did AC do? The story, in fact, is quite interesting and possibly relevant. My take, from public disclosures, is that, in 2015, “unscheduled” negotiations occurred and a new agreement was pretty much imposed by AC resulting in an extraction of about 550 millions for the following 5 year period in favor of AC. During negotiations, AC had mentioned the possibility of going to alternative regional providers… and, in fact, did to a certain extent for the US routes without getting Chorus involved in the bidding…I don’t know what was said behind closed doors (I only wish I could be in some of these board rooms when these things happen), but Chorus Aviation announced that the “new agreement” was a “win-win”. BTW, Since the new agreement, AC has done better than Chorus but Chorus has continued to thrive despite “adjustments” to their contract with AC. History does not repeat itself, but it often rhymes. You’d think that you need to watch House of Cards to get this kind of entertainment. For the aficionados, Fairfax has held shares of Chorus around 2012 and recently participated in a convertible debt investment in the regional carrier.

 

The fact that this announcement is made years in advance is a good thing. It gives time for interim cash flows to accumulate and gives times to assess alternatives including a new form of partnership with AC.

 

AC sees now the loyalty component as a significant profit center (just look at the financial statements of Aimia (Aeroplan segment) for the last few years; enough for any capitalist to salivate). But setting up an in-house proprietary system takes time, talent and money. The program may not be as successful as predicted and there may be negative reactions from airline customers. Also, the present arrangement with Aimia has advantages to AC that will be lost (guaranteed cash flows, partnership with a loyalty currency, ties with major credit card issuers and others) when the present deal finishes in 2020. Aimia was spun-off from ACE even if cash flow positive because the parent needed immediate monetization during the restructuring process. Now, AC has funds to develop its own program. That situation may change. As we all know, the airline industry is very cyclical. In the next few years until 2020, in the event that AIMIA does not find an airline core partner, maybe AC would be more open to negotiations (share the value) if short term cash position becomes again an issue. But we don’t hope for a major downturn or a threat of bankruptcy, don’t we?  Something to consider nonetheless. Interesting to remember that, as recently as 2009-2010, Aimia lent 150 millions to help AC “get through a difficult period”.

 

In fact, if the loyalty program has so much value for AC (“ 2 billion over 15 years” BTW, I ran some IRR/NPV numbers using some inputs from a CIBC analyst report and find that this is still largely hypothetical), why don’t they buy Aimia at present market based enterprise value and then opportunistically sell the international subs after (UK Nectar, Air Miles Middle East, and Club Premier and else). If Aimia management has aces up their sleeves, then we can all relax. Otherwise, especially if the 2019 Sainsbury renewal (anchor partner in UK) is at risk, they need to be pro-active and creative. Why not propose to AC a joint partnership type of arrangement (à la Club Premier with Aeromexico) with AC having 51% and Aimia 49% of a new entity responsible for the Canadian loyalty program. Aimia would lose control but would survive and would allow the CEO to save face as he could still lead the rest of Aimia including the Europe and Middle East unit. There are many ways to skin a cat. A risk of a definite non-renewal definitely exists if positions become entrenched and/or if there is procrastination. But both Aimia and AC need to remember that value will be lost if the partnership ends. The best scenarios (even if relatively disadvantageous to Aimia) involves somehow the maintenance of the Aeroplan brand. This would also be a way to recover the value implicit in the contracts between the credit card issuers (CIBC, TD and Amex) and Aimia. My opinion is that AC is well positioned to negotiate, has made a move (somewhat risky, not exactly gentleman-like but not unusual for them) to put the screws on its old ally and Aimia has the most to lose and will have to compromise. But, we are still in the first innings.

 

In 2016, after winning an award, a journalist asked the following to Calin Rovinescu: “In the past seven-plus years, you’ve definitely gone through some turbulent times. What have you learned about yourself?” His answer: “Well, there’s a line from a poem that somebody, my sister, in fact, gave me on my high school graduation and it’s stuck with me: Out of adversity comes strength. You have that notion that the greater the adversity, the greater that people’s personalities are going to come out, and you don’t have to compromise your values and your principles as you’re actually going through that level of adversity. ” Rupert Duchesne is said to have used sophisticated scenario planning models in order to prepare for “black swan” events such as can occur from possible outcomes of business negotiation. These models have costs but “those costs help insure the company against surprises”, said he.

 

Well, to some extent, we’re in uncharted territory here.

 

See the following links for perspective on 1- the airline loyalty business history, on 2- why the loyalty unit, which were initially created to increase loyalty, eventually became identified as profit centers, on 3- why AC may want to start their own proprietary program, on 4- the challenges that AC faces in setting their in-house program and on 5- valuation issues.

 

http://www.wns.com/Portals/0/Documents/Whitepapers/Revitalizing-Airline-Loyalty-Frequent-Flyer-Programs-Travel-and-Leisure.pdf?timestamp=1449570172526

https://www2.deloitte.com/content/dam/Deloitte/global/Documents/Consumer-Business/gx-cb-living-the-dream-or-just-dreaming-070915.pdf

http://www.ey.com/Publication/vwLUAssets/etude-ey-sur-les-programmes-de-fidelite-des-compagnies-aeriennes/$FILE/etude-ey-sur-les-programmes-de-fidelite-des-compagnies-aeriennes.pdf

 

Any relevant comments on other publicly listed coalition firms (Multiplus and Smiles in Brazil) would be appreciated.

 

Please note that the third link is dated. In 2015, Ethihad (airline) bought Alitalia’s FFP at much lower multiples.

 

Please also note that valuation parameters described involve the “potential” value of frequent flyer programs.

 

I submit that, on balance, even if this announcement is quite negative to Aimia, the timing now versus later gives time to look at alternatives. Three years is a very long time. Anything can happen but my opinion is that this is a window of opportunity going forward that is a net favorable (using now as a reference point) to Aimia. Time will tell.

 

Potential opportunities could come from low cost carriers who may already have some kind of frequent flyer programs and who may want to expand in Canada. Southwest is interesting (2018-9). Westjet, who knows?

 

https://www.aimia.com/content/dam/aimiawebsite/CaseStudiesWhitepapersResearch/english/AirlineLoyalty_LowCostCarriers.pdf

https://www.usatoday.com/story/travel/flights/todayinthesky/2017/05/17/southwest-airlines-says-hawaii-flights-priority/101808310/

 

The investment thesis relies on the fact that three years is a long time. Aimia is likely to find alternatives. I think that somehow AC will eventually openly recognize Aimia’s expertise and existing infrastructure. The brutal announcement is a statement that underlies the fact that the return for Aimia, whichever scenario plays out, will be much less and perhaps much much less but my take is that there is a sufficient margin of safety for the preferreds.

 

Topic #4: preferreds, the place to be?

 

Let’s look at numbers. Again, attempts by others to quantify this are much appreciated.

 

Looking back, I agree that Aimia management does not look stellar for all aspects and the compensation levels and trend for top executives does not seem tightly connected to underlying economic fundamentals. One also has to wonder about some aspects of capital allocation. The new cost consciousness seems to be a priority but is not meshed within their DNA. The new CFO may bring some discipline. And insider ownership is relatively quite low. But there many things that they did well. See below.

 

I have looked back at financials and have prepared a summary of findings for fiscal years 2008-2016 (9 years). I checked my numbers carefully but cannot guarantee precision. Please do your own due diligence.

 

Positive cash flows (consolidated and cumulative):

 

-CFO: 2596 millions

-preferreds issues, net: 318,4 millions

-share issues (compensation): 28,3 millions

 

Total: 2943 millions

 

Negative cash flows (consolidated and cumulative):

 

-capex: 493,6 millions

-net debt decrease: 248 millions

-acquisitions: 475 millions

-share repurchases: 607,8 millions

-dividends (CS and prefs): 1110,4 millions (more than 90% of this amount for CS div.)

 

Total: 2935 millions

 

What are the “messages”?

 

The business model (with the core airline partner on board) produces very significant cash flows with little need for capex.

 

I like that and I understand AC’s goal to repatriate the program in-house in order to make $.

 

Some of this cash flow potential will be lost (net result) if the Aeroplan brand is completely separated from AC.

 

Overall, the net cash flows have been fairly consistent and recurrent. In the last years, there has been a slight negative trend likely because of improvements of terms and conditions for the redeemers but this trend has stabilized recently and maybe is improving because ? of cost measures and focus on core business.

BTW, for the same period, the cumulative “adjusted” EBITDA comes to 2564 millions which is comparable to CFO and which, despite obvious limitations, validates to a certain degree this measure of performance used by management.

 

Acquisitions and other “investments” on balance have not been significant contributors to the bottom line. Some maybe. A clear exception is Club Premier in Mexico. As some have mentioned (and see link mentioned above, EY publication), there are some market inputs that allow a rough valuation and it is significant.

Debt has been coming down and will likely continue to go down, given the present context. I submit that their debt management has been smart, especially in this “new era” of the ultra low interest rates. After 2009, they switched bank debt for a reasonable amount of public debt issues with extended and laddered maturities and fixed rates. They also issued preferreds. For a few months, they have not bought back shares. Overall, this results in a certain amount of financial flexibility now. In that limited sense, they were “ready”.

 

From an enterprise value point of view (ie not the subjective point of view of the preferred holder point of view only), the next logical step would be to cut the dividend on the common stock. What happens in the next few months here will be key for buying/holding/selling the preferred securities.

 

Maybe, again looking at this from a total enterprise value point of view,  especially if the management needs more time to consider “alternatives”, preferred dividends (even if much less of a cash flow drag vs CS div.), should perhaps also be suspended and put in a reserve because of  their cumulative nature. Maybe too much, but at least, it would send a message that they are in a business preservation mood and not a business as usual mood. “Over-reaction” on the safe side is OK.

 

Within the next few hours/days, I will send a letter, similar to what others have done, to investor relations stating my positions in preferred stock and my opinion versus the common share dividend.

 

In the last years, share repurchase was significant as money was coming through their ears and the institutional bias was definitely present but the average price paid for the years 2008-2016 was 12.19$ per share. Food for thought. I cannot come up with a reasonable range of value for the common shares at this point and that’s one of the reasons why I’m invested in the preferreds but I think that zero is clearly in the range of value for the shares. Buyer beware.

 

One way to evaluate a scenario where the CDN coalition would simply become an ordinary CDN coalition program without a core airline partner and to come up with residual cash flows (also valuation) implies to look at Nectar UK. On this board, some have estimated the “hit” that could would occur to cash flows after 2020, ie historical cash flows minus adjustments. I will analyze this from a slightly different angle: given the competitive landscape in Canada and the numbers that the EMEA (mostly Nectar UK) unit produced over the years, what could be expected in terms of gross billings and margins for the residual CDN entity? The UK and Canada are comparable mature markets for loyalty programs. There are differences but, like in Canada, Aimia competes with the Air Miles program (now Avios, as a sub of British Airways) and other loyalty programs in the UK. Nectar UK did not have a core airline partner initially and still does not have a true “anchor” airline partner. Nectar UK has been able to enter the loyalty segment convincingly in 2002, but that was before Aimia. To look at this, I tabulated the gross billings and adjusted EBITDA numbers for the EMEA division from 2008 to 2016. The EMEA division also includes Air Miles Middle East and other smaller operations but, mostly, revenues and cash flows have been derived from Nectar UK. Numbers need to be dissected because, during those years, there was an adverse VAT judgement (legacy issue) and then recovery after reversal. Interesting to remember that Aimia paid 715,4 millions for LMG (Nectar UK, Air miles ME and analytics sub) in 2008. Since 2008, despite a very competitive and mature market, Aimia has been able to grow active members ++ and to grow gross billings + (variable). But there has been quite a high turnover of retail members. The average annual adjusted EBITDA over the 9 year-period is 47,3 millions. Over the last 3 years, the average annual adjusted EBITDA is 68,5 millions. The average adjusted EBTDA margin for the last 3 years is 11,0%.

 

References for Nectar UK:

https://www.forbes.com/sites/mckinsey/2014/02/03/making-loyalty-pay-six-lessons-from-the-innovators/#6b639b9a2bda

https://www.forbes.com/sites/mckinsey/2014/02/03/making-loyalty-pay-six-lessons-from-the-innovators/#6b639b9a2bda

 

So, taking into account the competitive landscape for loyalty programs in Canada, the number of active users in Canada for Aeroplan, the reported numbers that can be inferred from the EMEA division that corresponds to Nectar UK as a “generic” coalition program and the negative impact that can be expected from AC leaving the Aeroplan Program, I estimate that gross billings AND adjusted EBITDA margin could be roughly cut in half for the new CDN Aeroplan, giving rise to a +/- 75% net decrease in adjusted EBITDA. This scenario is more adverse than what some analysts describe and may be explained by an underlying assumption that conditions otherwise remain static, which, as mentioned above, is unlikely to be the case. However, in this adverse scenario, there is no value left for common shares and preferred, being next in line, become threatened, at least partially.

 

However, on balance, long term cash flow analysis allows me to conclude that the actual capital structure and potential cash flow possibilities going forward creates a reasonable profit opportunity for the preferreds.

 

Topic #5: Possible upside

 

Many things can go wrong here and RISKS abound but, if I put myself in the position of a private equity player, I see value here. Yes, Onex was interested before and presumably, presently, may look at the opportunity. PE people are usually good at value resurfacing, especially short term, but they are also good at value extraction. One more reason for the preferreds over the common at present price levels and outlook.

 

Somehow, Air Miles could buy part or all of Aimia even if AC is out of the picture. Buying your closest competitor can be a good idea. I don’t think there would be regulatory issues.

 

Conclusion

 

I plan to be pro-active with investor relations, and maybe will eventually send letters directly to the Board, if I continue to hold the preferreds and if I find that management lacks prudence and vision.

 

So, I see this as value contrarian play and a reasonable opportunity for profit. Please, if you made it this far, try to disrupt (rational basis) my assumptions.

 

 

[Cigarbutt]

So the CFO is going.

 

My take is that this is a net negative. Despite often used as a pretext, I buy, at least partly, the personal reasons excuse.

A related positive is that this may inject some sense of relative urgency.

 

I happened to be in downtown Montreal today. Dropped by Aimia’s headquarters and left a letter to investor relations and one to Mr. Robert Brown, Chairman.

 

----

 

To: Investor Relations, Karen Keyes

Hi,

 

I have followed Aimia for a long time and I am holding, directly and indirectly, a significant amount of Aimia preferred shares (A,B and C).

 

The aim of this letter is to share concern for the enterprise value of Aimia going forward. This concern is now compounded by the recent CFO departure announcement. Please share the concerns contained in this letter with top management.

 

Last October 2016, the then CEO, Mr. Duchesne stated the following, referring to the negotiation for renewal with Air Canada: “So I think the stage is well-set. When they're ready and when we're ready we'll get into a negotiation. But I think the prospect of a divorce would be so horrible for both parties that we'll actually get to a fairly straightforward deal.” 

 

So now, there is a question of “alternatives” and new management has referred to business as usual conditions but clearly the core of Aimia is threatened and the margin of safety is gone.

 

From a total enterprise value point of view, management should strongly consider options in order to avoid going concern issues. The first obvious step is to completely eliminate the common share dividend going forward. As an investor in the company, I submit that, in order to save the company, a joint partnership should be considered with Air Canada for the Canadian Aeroplan loyalty program. The partnership could be modeled on the arrangement with AeroMexico. This could bring Air Canada back to the negotiating table and could maintain the value implicit in the contracts with the major credit card issuers.

 

Whatever scenarios considered, I suggest that management define a vision and communicate, in a transparent way, the strategic plan to get through this difficult transition period.

 

As a private investor, I will follow the evolution of this situation very closely.

 

Thank you for your attention,

 

----

 

June 9th, 2017

Tour Aimia

525 Viger Avenue West, Suite 1000

Montreal, Quebec H2Z 0B2

Canada

To: Mr. Robert Brown, Chairman of Aimia’s Board

 

Mr. Brown,

 

I have followed Aimia for a long time and I am holding, directly and indirectly, a significant amount of Aimia preferred shares (A,B and C).

 

I also have followed your business career over the years. I trust that, as Aimia’s Chairman of the Board, you will use business acumen and strategic vision skills that you were able to deploy when developing regional jets or leading CAE, as Aimia is entering turbulent times. Your record shows that you can guide difficult restructurings and I commend you for that.

 

Today, I personally brought this letter to Montreal Headquarters and include a copy of another letter sent to the Investor Relations department. I understand that the management team may be “ready” and perhaps needs to “take a breath” before the next steps but I submit that a transparent process needs to be put in place in order to avoid erosion of Aimia’s value as a loyalty program manager. This business is based on trust.

 

Financial flexibility will only be preserved on strength of the balance sheet.

 

I understand that Air Canada’s announcement was brutal but the best scenarios imply some kind of a “win-win” solution with them even if the terms are less favorable to Aimia.

 

I understand also that Mr. Tor Lonnum is leaving for personal reasons. A review of what he has achieved at Tryg makes me conclude that this is a significant loss occurring at a difficult juncture for Aimia.

 

When you won an honorary degree at Concordia in 2003, the citation referred to your military training as a cadet and mentioned the following: “Throughout his career, Robert Brown has inspired many with his intense work ethic and talent for getting things accomplished quickly and effectively.” I submit that is the right template for Aimia right now.

 

As a private investor, I will follow the evolution of this situation very closely.

 

Thank you for your attention,

Avec respect,

 

----

 

So, it’s wait and see for now.

 

[Cigarbutt]

News release.

http://www.newswire.ca/news-releases/aimia-provides-update-on-dividends-628376883.html

 

I guess the reality is starting to sink in.

So, the prospect of "going through a divorce" is no longer a prospect.

Likely, they were not entirely "ready".

 

If I were from top management, I would cancel my summer vacation.

 

Enjoy the ride?

 

 

[Cardboard]

Truly a stupid bunch. Instead of attacking the issue head on and saying: we are cancelling the dividend to save cash and protect for any eventuality since our business future is uncertain at the moment, they are relying on a CBCA clause to justify it...

 

Or they are trying to protect themselves from some directors liability since they made really misleading statements with the Q1 release: still in negotiation with AC, plenty of options, improper financial statements without appropriate write-offs? Or it is a way/combination with the above to claw-back on already declared dividends?

 

Regarding not paying the obligation to the preferreds that is another bad decision. It saves $16.8 million/year while the common dividend is $122 million/year. Again, the dividend on the preferred is an obligation, not some discretionary payment like for the common and to cut this either shows desperation or that they want to treat both classes of security equally which is wrong.

 

Cardboard

[clutch]

Truly a stupid bunch.

 

That is an understatement...

[samaniv]

I think, as we've seen from prior analysis - that the financial impact of losing classic fares isnt the end of the world.

 

It really boils down to Aimia ability to attract a new partner and provide value to customers, so that they will continue using their loyalty program. I am hoping that we get an announcement of a new partner (perhaps Sunwing? or cruise ships etc). sooner rather than later. Otherwise they risk losing customers in a mean time.

 

In terms of cutting the dividend, I think it was a good decision. Of course, I would have liked to see the preferred dividend maintained. At least it is cumulative, so as long as Aimia is able to secure a new partner - they will be okay. Given their buying power, I am not sure why they haven't already.

 

 

[misterkrusty]

Folks, with all due respect, I have to disagree.  And I own some pref shares so I'm feeling the mark to market pain today (which could be temporary as there are always yield-hogs in these situations that care about nothing else.  and maybe some funds that can't own anything that doesn't produce income).

 

Several voices on this thread - including my own - have advocated for a suspension of dividends.  Well, we got it.  Who cares what reasons mgmt gives for this move?  They mentioned the decision by Air Canada and probably threw in the other stuff to avoid the appearance of desperation, which was smart.  Imagine if the Canadian news were suddenly filled with stories of "financial troubles" at Aimia - if that were to happen, perception could become reality as Aeroplan members might think they need to redeem miles now before the company runs out of cash to pay for flights.

 

And if it makes sense to suspend the common dividend, it also makes sense to suspend the pref dividends.  (Again, I own prefs.)  We've always known that the company has the right to do this, and since these dividends are cumulative it should be clear that Aimia isn't/can't do this to cheat us out of anything.

 

Nothing in the press release suggests that the company is no longer in discussions with Air Canada or that any partnering options have disappeared. 

[samaniv]

Misterkrusty,

 

When are you hoping to hear something re: potential new partners? I figure they should be able to sign on new partners fairly easily...  but I understand they wouldn't want to rush into something so it may take some time.

 

I guess part of me is fearful they will not secure a partner before they lose a lot of customers. That would be worst case in my mind.

[misterkrusty]

honestly I just don't know when we'll hear about new partners, or a new deal with Air Canada (but obviously not for their FFP). 

 

I agree with you that they should be seeing decent interest from airlines given their buying power.  It's only been ~33 days since AC dropped the bomb and that's not really a long time in terms of negotiations like this, especially since they're probably talking to multiple parties regarding some of the same routes (for flights) and would tend to get a better price by concentrating their buying power.

[petec]

A couple of thoughts:

 

1) If the CBCA thing is true it may mean they can't pay the preferred dividend, rather than that they chose not to.  Remember it is a dividend, not an interest payment, so it may be regulated the same way as a common dividend.

 

2) Worst case there has already been a major "run on the bank", triggering the capital breach.  However their commentary around the CBCA breach makes it sound like the capital breach has to do with market cap and shareholder equity line items on the balance sheet, not cash flows.  In fact, they say the business continues to generate free cash flow.

 

3) It's worth remembering that in a breakup of the business preferred holders will get back $25 plus accrued dividends before common shareholders get a cent.  My guess is that a breakup is getting more likely (I have little evidence for this but the wholesale flight of execs and directors makes me wonder).   

 

EDIT: I'd also speculate that at the right price, which might not have to be very high for the prefs to be money good (the EV of the business is now $700m with the prefs at par), AC might buy Aeroplan.

 

[misterkrusty]

I think the CBCA thing is a bunch of nonsense thrown in so that folks don't get the impression that this decision was forced upon them by trends in the business.  If it were true, I don't think they would ever have declared the last dividend.

 

for what it's worth, this doesn't suggest any rush to redeem points:  https://www.semrush.com/info/aeroplan.com  but I'm no expert on web traffic, so correct me if wrong!

[screefer]

If it were true, I don't think they would ever have declared the last dividend.

 

Most recent dividend was declared before the share price was shredded with the Air Canada news.

After the AC news, the SP dropped and the capital impairment clause came into play.

Makes sense to me.

[petec]

I think the CBCA thing is a bunch of nonsense thrown in so that folks don't get the impression that this decision was forced upon them by trends in the business.  If it were true, I don't think they would ever have declared the last dividend.

 

 

The release says they are compliant with CBCA clause 42(a) but not compliant with 42 (b) due to the decline in the market cap and the high value of the capital account due to the issue of shares at higher prices.  The clauses are below.  What they are saying is the value of the business is now lower than the liabilities plus the stated capital of all classes.  And they're almost certainly right about that!  That wasn't the case when they last declared a dividend (May 10th) because the market cap was higher.  So this doesn't have to be an excuse.  It is, however, very positive for pref holders: they should have stopped the common dividend immediately and stopping it transfers a lot of value back to pref holders. 

 

The clauses:

 

42 A corporation shall not declare or pay a dividend if there are reasonable grounds for believing that

 

(a) the corporation is, or would after the payment be, unable to pay its liabilities as they become due; or

 

(b) the realizable value of the corporation’s assets would thereby be less than the aggregate of its liabilities and stated capital of all classes.

 

EDIT: it occurs to me that even if there is wiggle room under 42(b), it might be possible for pref and debtholders to sue them under this clause if they keep paying the common dividend.  They might even have had this called to their attention by a debtholder. 

[Uccmal]

Not quite what we expected.  Funny enough I sold some of my a's a couple of days ago, at a decent gain. 

 

After my initial reaction of wanting to sell right away (I only have the prefs) I settled down and started thinking that this looks like a buying opportunity.  Not sure I have the guts to pull the trigger. 

 

The COB, CEO, and CFO are in place (CFO for four months).  They have enough cash flow ex. Aeroplan to resume the Pref. dividend, and catch it up. 

 

They have bought alot of time to stabilize the brand.  We can only hope they have the ability to do it. 

 

Regarding Ac making a bid.  I dont think AC can do it.  They would get their asses sued into another dimension for torpedoing the stock and trying a stunt like that.  Now aother airline could.  In fact any airline that might be interested in taking up a bigger presence in Canada, say a Mexican or US airline. 

[petec]

I'm not suggesting AC make a bid for Aimia.  I'm suggesting they could buy the Aeroplan unit (effectively the existing points base).  However that might well still leave them vulnerable legally - I don't know.  Maybe not if it was at a demonstrably fair price.  But you are right, far more likely someone else buys it.  There must be activist value guys looking at this.

[petec]

Separately: if they take a writeoff on Aeroplan, does that reduce "the stated capital of all classes" or does it just reduce retained earnings?  In other words, would a writedown allow a resumption of pref dividends?

 

EDIT: I may be being thick but I can't actually see where on the FS shareholder equity is broken into its constituent parts (e.g. in the US you have common stock at par, value above par, retained earnings, etc.).  Does Canadian accounting require this split?