Merger Motives Grow for Latin America’s Big Airlines: Real M&A

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With Latin America’s biggest airlines in the process of reporting another lackluster quarter, the case for further consolidation may get a nudge.

Copa Holdings SA of Panama City said Wednesday that second-quarter revenue fell 20 percent, its fourth consecutive decline. On Thursday, Latam Airlines Group SA, the region’s biggest carrier by market value, is projected to post a seventh straight sales drop. Brazil’s Gol Linhas Aereas Inteligentes SA is poised to report the latest in a string of quarterly losses.

“The longer the pressure, the more there is a willing seller,” said Savanthi Syth, an analyst at Raymond James Financial Inc. in St. Petersburg, Florida.

The same forces that compelled the biggest U.S. airlines to consolidate in the past decade -- including high costs and overcapacity -- are bearing down on the industry in Latin America. There have already been two big deals since 2009, leaving four major regional airlines in addition to more than a dozen smaller entities. The industry may have further to shrink.

Eventually, “it’s going to be half a dozen, five, six airlines flying in the region,” said Jose Efromovich, chief executive officer of closely held Avianca Brasil, the fourth-largest airline in Brazil.

Efromovich and his brother also control publicly-traded Avianca Holdings, which competes with Santiago-based Latam and Copa. Latam itself is the product of the merger of Chile’s Lan and Brazil’s Tam airlines in 2012.

Stock Slump

Despite cost-cutting efforts and passenger traffic that has been growing at one of the fastest rates in the world, Latin America’s publicly-traded airlines collectively lost money in two of the past three years.

Latam, Gol and Avianca Holdings are trading near all-time lows, while Copa’s U.S.-listed shares slumped 42 percent in the past year as demand for flights has slowed across the region. Meanwhile, the Bloomberg World Airlines Index and Bloomberg U.S. Airlines Index have both climbed more than 30 percent in the past 12 months.

Since 2010, Latam and Gol have lost a combined $2.5 billion. Consolidation may be the answer to improve returns, according to a team of Bradesco BBI SA analysts led by Victor Mizusaki. Either Latam or Gol could target a stock-for-stock merger with Copa, which has a market value of $3.2 billion.

A Copa combination would offer cost savings, while helping to mitigate foreign-exchange risks -- especially for Gol, which has been buffeted by a faltering economy, weakened currency and political turmoil in Brazil.

About 69 percent of Sao Paulo-based Gol’s debt and its fuel costs are priced in U.S. dollars, while about 89 percent of revenue is in Brazilian reais. A representative for Gol, which bought Brazilian carrier Webjet in 2011, declined to comment.

Delta Stake

Gol, in which Delta Air Lines Inc. holds a 2.9 percent stake, is prepared to get around foreign-ownership limitations, which might invite a buyer. The airline altered its capital structure this year to create a “super” preferred share that may facilitate dealmaking.

Gol announced in July that Delta will raise its equity stake in the airline with a stock purchase of as much as $56 million, while shareholder Fundo de Investimento em Participacoes Volluto will invest as much as $90 million.

While Gol has been focused on foreign routes to increase U.S. dollar revenue, a combination with closely held Brazilian carriers Azul SA, created by JetBlue Airways founder David Neeleman, or Avianca Brasil could make sense, Syth said. Azul declined to comment by e-mail.

Right Time

Another target for Gol could include Mexico’s Grupo Aeromexico SAB, worth $1.2 billion, Bradesco said. Delta holds stakes in Aeromexico and Gol, and the latter two both fly Boeing Co. planes.

“Given the troubles in Brazil, it might be right for something here,” Syth said. “Maybe not imminently, but I’m sure there are a lot of people dusting off the books and trying to figure it out.”

Copa Chief Executive Officer Pedro Heilbron said that Latin America has already seen a good amount of consolidation, and airlines need to focus on dealing with the reality of fewer passengers and shrinking yields.

“We need to be rational as airlines and I think that’s probably more important than consolidation,” Heilbron said in an interview in Guarulhos, Brazil, on July 22. “I’m not saying there’s no room for consolidation, but there’s been enough and I think we can survive without consolidation.”

Latam ‘Disappointment’

It’s been three years since Lan and Tam combined to form Latam Airlines. The benefits of that consolidation remain to be seen, said Jay Sorensen, a former Midwest Airlines executive who now runs aviation consultancy IdeaWorksCompany.com in Shorewood, Wisconsin. He called the Santiago-based airline “the biggest disappointment.”

Latam has lost money over the past two years, and it is the second-most indebted airline in the region after Avianca Holdings, according to data compiled by Bloomberg.

“I don’t see the excitement in the management team at either airline, and they still seem to be operating largely as separate entities,” Sorensen said in a phone interview. “A natural area to combine resources would be their frequent flier program, and I see no evidence of that happening.”

Even so, Latam is an advocate for consolidation, and the union of the two carriers in 2012 was fundamental, the company said in an e-mailed statement.

“Aviation is a capital-intensive industry and because of that, larger companies have the conditions to have more routes and hubs to offer better connectivity to passengers,” the company said.

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