Stock Market Predictions

Analysis: Gol bond rally seen limited as Delta deal falls short

Stock Market Predictions

While Delta's investment of $100 million for a 3 percent stake will earn it a seat on Gol's board, it will not bolster the Brazilian airline's finances as much as bondholders hoped.

The benefits of codesharing and shared efficiencies between the airlines also pale in comparison to the takeover of rival TAM (TAMM4.SA)(TAM.N) by Chile's LAN Airlines LAN.SNLAN.N, which promises $400 million a year in cost savings.

Yields on Gol's dollar-denominated notes due in 2020 have tightened more than 70 basis points since Wednesday, when the alliance was announced, to 10.40 percent early on Friday. Yields move inversely to prices and decline as market risk perceptions of the bond improves.

But hopes that Gol's yields will converge to levels similar to those of TAM's comparable bonds will likely fade, as the rush of enthusiasm following the Delta deal wanes, according to fund manager Leonardo Kestelman of Dinosaur Securities in Sao Paulo.

"From a credit perspective, the TAM-LAN deal was more decisive," said Kestelman, who manages about $800 million in bonds. "The yield convergence process will be temporary since Gol and Delta didn't go as far as TAM did with LAN."

The deal does not significantly shift Gol's debt profile, he said. Delta's investment is a drop in the bucket compared to Gol's net debt of 2.6 billion reais ($1.4 billion), or about 8 times its operating earnings over the past 12 months.

TAM's net debt is about 5 times its operating profit. The yield on its dollar note due in 2020 is now 7.87 percent, representing a 2.54 percentage-point difference to Gol's yields. The difference was 3 percentage points on Monday, according to Thomson Global Markets data.

Bond investor Mark Christensen of DoubleLine Capital LP said Gol's cash position is stronger than TAM's, and its short-term debt exposure is lower, but investors would feel safer if Gol came entirely under the protection of a bigger player like Delta.

Gol's short-term debt represents only 9 percent of total liabilities, compared with 21 percent for TAM. Gol is rated B-plus by Standard & Poor's, one level above TAM's B rating.

"We're going to have a stronger balance sheet and capital structure," after the Delta deal, Gol's Chief Financial Officer Leonardo Pereira told analysts on a conference call.

TOUGH OUTLOOK

Gol could see gains in its bonds limited by challenges confronting the industry, as fuel costs have risen and a glut of new capacity has come onto the Brazilian market this year.

Air traffic growth is also slowing sharply in Brazil because of congested airports and consumers' cooling appetites in the face of higher ticket prices.

Citigroup analyst Stephen Trent said Gol is particularly hemmed in by available flight times at the busiest airports and has struggled to fill seats, flying emptier planes in October than its rivals.

Gol also suffers more from spikes in dollar-linked fuel prices than TAM, because it has more revenue denominated in Brazilian reais.

"Given the tough outlook for the sector, the chances of positive news flow that could trigger the tightening of Gol bonds seem to be limited in the short term, and both bonds are tending to trade sideways," Ciro Matuo, a credit market analyst with Itau BBA in Sao Paulo, wrote in a note to clients.

With Delta booking more passengers on its flights, Gol is hoping to boost its load factor, a gauge of seat occupancy, where it has lagged behind rivals even as the airline cut fares. Cost savings through the alliance could also improve measures of Gol's operating costs, which are running above TAM's.

The deal's biggest winner may be Delta, which gains much better access Latin America's leading air travel market and its attractive yields, a metric of ticket pricing.

Gol agreed to appoint a Delta representative to its board as long as the U.S. company retains a minimum 50 percent of the acquired shares. Delta agreed not to sell the stake within the next 12 months or to add to it without Gol's consent.

Headwinds in Brazil's air travel industry have driven a wave of consolidation, including Gol's deal to buy smaller rival WebJet and TAM's talks to buy a 31 percent share of TRIP, leaving fewer local partners for foreign carriers.

In announcing the alliance with Delta, Gol executives acknowledged that a codesharing agreement with American Airlines will end in September next year.

Delta's investment in Gol came just days after American Airlines' parent, AMR Corp (AMR.N), filed for bankruptcy, citing the carrier's uncompetitive cost structure.

Delta carried 15 percent of the passenger traffic between Brazil and the United States last year, trailing TAM and American, which both carried over 30 percent of passengers.

($1=1.81 reais)