British Airways parent International Airlines Group has taken a 4.61% stake in low-cost carrier Norwegian Air Shuttle, but Saxo Bank head of equity strategy Peter Garnry says that Norwegian's weak balance sheet could potentially pose problems.
"IAG has communicated that the 4.61% stake is to initiate discussion with Norwegian with the potential outcome of making a bid for the company," says Garnry, adding that the probability of an actual bid remains highly uncertain despite investors' willingness to spike Norwegian shares over 50% higher on the news.
According to Saxo's equities head, there is no challenge per se in IAG's having a stake in another airliner. "Every quarter, the change in market value of IAG’s stake in Norwegian will flow through the income statement, adding volatility to the bottom line – but this does not affect operating results in any way".
If IAG acquires Norwegian, however, the question becomes whether Norwegian would be separated or be integrated into IAG. The most likely outcome, says Garnry, is for the two brands to run separately and let Norwegian tap into IAG’s financial strength to continue aggressive growth taking market share against IAG competitors.
"Overall, however, we fail to see the big synergies here... if the two brands are run separately, the younger fleet cannot be integrated into British Airways causing IAG to still use capex to upgrade the overall BA fleet."
The other major question for investors is one of timing. Norwegian has been struggling with a weak balance sheet after investing heavily in new planes for its planned long-haul routes, and Garnry sees this as a potential issue for shareholders or would-be investors.
"Norwegian’s 7.25% 2019 bonds were down 12% in February and March, so it would have made sense for IAG to wait, unless they had intelligence that other airliners are interested in Norwegian," says Saxo's head of equity strategy.
"The challenge for Norwegian is still high leverage with around NOK 20 billion in net debt against expected EBITDA of NOK 1.2bn in FY2018. Norwegian’s path out of potential financial distress still relies heavily on aggressive growth. If the European Central Bank begins normalising in 2019 with the Federal Reserve already years ahead, the high-yield market may begin asking higher premiums from high-risk companies such as Norwegian, which would increase financing costs and impact profitability.