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The Air New Zealand crash

Thursday 1st November 2001

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Nikki Mandow questions Brierley's role in the financial disaster that led to the airline needing an $885 million government bailout

When it comes to disaster, it's helpful to find a culprit. The ravings of hirsute rock-dweller Osama bin Laden, for example, have become the cathartic focus of American rage. It helps to pin the blame.

So what about New Zealand's own mini-disaster, Air New Zealand? Candidates for the stake are kind of obvious: Gary Toomey, Helen Clark, September 11, Ansett. But not that obvious. Gary Toomey took on the job well after the damage was done. And only the Australians could blame the Prime Minister of a country with a privatised airline. September 11 was a nail in the coffin, but Auckland International Airport statistics show an increase in passengers in the two weeks after the terrorist attack, compared with the year before.

Even if the stick points back to Air New Zealand's Ansett purchase, you've got to ask who made the decision to buy, why, and how come it damaged the mother ship? Answers to those questions take us right back to the door of two men - Air New Zealand's recently resigned chairman Selwyn Cushing and his predecessor Bob Matthew - and the company they represented, Brierley Investments. That both men were chairmen of Air New Zealand and also of its most powerful shareholder, Brierleys, raises a key issue in the debacle.

It's important to stress that there's no wrongdoing being suggested here, nothing that breaks any laws. What there does seem to be, in Unlimited's opinion, is a conflict of interest that arose in regard to two important decisions - a conflict of interest that should not have arisen. First, the decision by Air New Zealand to pay dividends and second, the decision to buy the second half of Ansett. Both moves turned out to be considerably more beneficial to the interests of Brierleys than those of Air New Zealand.

Take the Ansett purchase. In early 1999, Cushing announced that Air New Zealand was vetoing Singapore Airline's bid to buy News Corp's 50% of Ansett Holdings (Air New Zealand had held the other 50% of Ansett since September 1996). Instead, it decided to pay News Corp $A580 million and get 100% control.

It's most likely true that Air New Zealand paid too much for the stake and that directors had too little information about Ansett's financial and engineering state. These are well-aired opinions, but are secondary to the main question that should be asked: Why did Air New Zealand buy the second half of Ansett at all? It's not just that it was hopelessly out of its depth buying an airline twice its size. It's just hard to see any benefits - to Air New Zealand, that is.

Cushing argues the deal, once bedded down, would have produced synergies of between $250 million and $350 million a year that couldn't have been achieved with a stake of only 50%. Acting chairman Jim Farmer adds that the second 50% was essential to give Air New Zealand a feeder service from Australia; the company needed a broader base for its international operations. Both men point to two reports - from Booz-Allen & Hamilton and from McKinsey - they say strongly advocated the 100% purchase. However, they won't release the documents.

There is another argument though, that the synergy numbers were optimistic at best and that many of these advantages were possible with just the 50% stake. Many benefits had already been achieved. Between 1996 and 2000, Air New Zealand formed a number of significant airline alliances, including becoming part of the world's largest global alliance, the Star Alliance. It also dramatically boosted the number of routes (therefore, presumably, the number of passengers) into Australia, Asia, the US and Europe. In January 1998 the airline announced a 46% increase in transtasman flights; in May that year it began daily flights between Los Angeles and Sydney; and in January 1999 it increased its daily US code-share flights with United from 34 to 146.

Consider something else. By vetoing Singapore Airline's bid for half of Ansett, Cushing and the rest of the board blocked what might have been a very powerful alliance - Ansett, Air New Zealand and Singapore Airlines - that could have had significant benefits for all three airlines. Cushing argues the principal problem was "capital starvation". Singapore's financial muscle might have helped Ansett, and Air New Zealand's $A580 million could have gone towards the fleet upgrade. Compelling?

The second pertinent, but not well-discussed, fact in Air New Zealand's financial disaster is the airline's dividend policy. Between 1989 and 2001 Air New Zealand paid about $765 million in dividends. That's not that much less than the recent $885 million government bailout of Air New Zealand. Of course, it's not unusual for profitable airlines to pay dividends to their shareholders - British Airways and Singapore Airlines do it, and even American Airlines has paid the odd dividend over the last few years.

Bob Matthew says before he left as chairman there was no problem paying dividends. The airline was in a sound financial position, with $2 billion in shareholder funds, and while purchasing the second half of Ansett was on the cards it had not yet made a final decision. He says the board had two options once that decision was made: to rethink its dividend policy and/or set in place a capital raising.

"The time to build up a war-chest to acquire the second half was when they were going to do it. It was not a decision we had taken."

Both Cushing and Farmer argue paying a dividend, even after the purchase was made, was in the interests of all shareholders and of the company (because many shareholders are also customers), and payment was essential to maintain investment in the company. They say the November 2000 rights issue raised the necessary cash. On the other hand, for a good deal of the period where dividends were being paid, Air New Zealand was a small carrier with grandiose ambitions in Australia, first to set up operations there and, when this was blocked by the Australian government, to buy a much larger carrier - a carrier with a fleet widely regarded as requiring a huge capital injection. Moreover, except for 1995–1998, Air New Zealand had no imputation credits, so there was less incentive to issue a dividend.

So what links these two pertinent facts? First, from the outside at least - and with the luxury of hindsight - they are hard-to-fathom decisions. Second, it's worth saying again that whether intentional or otherwise, the outcomes of both were beneficial to Brierleys but detrimental to Air New Zealand. The at times cash-strapped investment company held between 30% and 47% of shares over the period so, based on the total dividend of $765 million, Brierley reaped an estimated $250 million to $380 million from the airline. And Air New Zealand's decision to buy the second half of Ansett, cutting Singapore Airlines out of the deal, contributed to Brierleys being able to do its own deal with Singapore. In April last year, two months after Air New Zealand bought Ansett, Brierleys sold Singapore Airlines all its Air New Zealand "B" shares for $285 million, or $3 a share. It was arguably the last exit option for Brierleys from these shares, and, apart from a spike at the end of last year, Air New Zealand shares have largely tracked downwards ever since - they were trading around 30 cents as Unlimited went to press.

The role of a director of a listed company, under New Zealand's Companies Act, is to act in the best interests of the company, not any particular set of shareholders. Bob Matthew was chairman of Brierleys until April 1998 and was chairman of the Air New Zealand board (with Cushing as deputy) until May that year, when Cushing took over. Selwyn Cushing was on the Brierleys board of directors from 1975 to 1993, and was invited back as chairman by Ron Brierley after Roger Douglas was ousted in 1998. He stepped down as chairman on 28 May 2001 and resigned from the board on 30 September. The decision to buy 100% of Ansett was made when both the Brierleys and Air New Zealand boards were in Cushing's hands.

The two men were part of a strong Brierleys contingent on the Air New Zealand board. At the time of purchase of the first 50% Ansett stake in 1996, Brierleys had a total of four board representatives.

Cushing and Farmer state categorically there was no conflict of interest with Cushing (and Matthew before him) being chair both of the Air New Zealand and Brierleys boards. They say the lawyers and QCs on the board guaranteed that, and that there were always independent directors. Cushing says, for example, that as far as he remembers the decisions to pay dividends were always unanimous. For his part, Matthew is also adamant there was no conflict.

"In law you have a duty, punishable by something really nasty, of having a sole duty to the board which you're on. It's unconscionable to me that any director would have any interest that overwhelmed the duty to Air New Zealand."

This is certainly not the only board in the country where directors have to leave their shareholder representative hat at the door when walking into a boardroom. Yet, given that we are all human, there must be times when totally separating the interests of two potentially conflicting parties isn't easy, however conscientious the director.

Surely, at least an independent chair is a worthwhile safeguard - or legislation ensuring minority shareholders don't suffer if there is a conflict. In Australia, the US and the UK, for example, one of the by-products of corporate legislation forcing companies with a significant minority stake (in Australia the cut-off is 20%) to bid for the majority of the company (in Australia it is 100%) is that potential conflict is less likely to arise.

Could the decisions about Air New Zealand dividends and the purchase of the second half of Ansett have been different - and the misfortunes of the airline averted - if the airline hadn't been chaired by Brierleys' chairman? We will never know.

Nikki Mandow
nikki@unlimited.net.nz

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