Qantas share price soars as Virgin turns to government for $1.4bn bailout

The Australian government could end up owing Virgin Australia as the embattled airline begs for a $1.4bn lifeline. Here's what investors should know…

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Talk of the federal government nationalising an airline amid the COVID-19 mayhem may not be that far off the mark.

Proponents were pushing for the government to takeover Qantas Airways Limited (ASX: QAN) to help it weather what is considered its worst period in the company's history.

Instead, it may end up owning Virgin Australia Holdings Ltd (ASX: VAH).

Shares in Virgin went into a trading halt this morning after it confirmed that it was asking the Morrison government to throw it a $1.4 billion lifeline.

On the other hand, the Qantas share price surged 6% to $3.39 in late morning trade.

How the government could end up owning Virgin

Virgin is looking for a two- or three-year loan to help it overcome the unprecedented shutdown of the aviation industry. If Virgin is unable to repay the debt, the government will convert the debt to equity.

This probably means the Australian taxpayer will end up with effective control of the group. Virgin's market cap stands at around $676 million, although it holds just over $5 billion of debt on its balance sheet.

Nonetheless, a conversion of the loan to shares (assuming the government agrees to the bailout) will essentially wipe out the other equity owners.

The Australian Financial Review reported that Virgin is 90% owned by foreign investors, including Singapore Airlines, Nanshan, HNA Group, Etihad and Richard Branson's Virgin Group.

Sector needs a $5 billion handout

This isn't a done deal as negotiations are ongoing, but if both parties can reach terms, the bailout is likely to be part of the $5 billion rescue package the federal government is putting together for the aviation sector.

Virgin grounded its international service and halted 90% of its domestic flights as demand for air travel nosedived due to the coronavirus pandemic.

It also suspended all Tigerair flights and stood down approximately 80% of its entire workforce.

Rising cost of debt

Ratings agency Standard's and Poor (S&P) downgraded Virgin's credit worthiness to "CCC" from "B-", and placed it on CreditWatch, which means Virgin is at risk of another downgrade.

A lowered credit rating will drive up the cost of debt for the company.

Qantas also suspended most of its flights but is seen to be in a much stronger position after it managed to secure an additional $1.05 billion from commercial lenders.

The interest rate on the 10-year loan, which is secured against its aircrafts, is a modest 2.75%.

Foolish takeaway

Qantas' chief executive Alan Joyce will be infuriated if the government throws Virgin a lifeline given his "survival of the fittest" comments recently.

Qantas will become an effective monopoly on many routes if Virgin falls over. The government wants to avoid that, and that may be enough to persuade Canberra to pull out its check book.

But public ownership of an airline, let alone a majority-owned foreign airline, is almost unthinkable. The endeavour could cost the public much more than $1.4 billion asking price.

Motley Fool contributor Brendon Lau has no position in any of the stocks mentioned. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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