Flying the flag may be the best policy after all

Airline rescue packages; Colt's bailout; Carphone upside
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The Independent Online

"Crackle, crackle ... this is your Swissair captain speaking. Is there by any chance a passenger aboard willing to bankroll the cost of our landing charge, because if not, we'll be heading straight back to Zurich." It's hard to imagine a more unlikely state of affairs than Switzerland's national flag carrier unable to afford either its aviation fuel or its landing charges, and in the end, the Swiss government found it unimaginable too.

Despite threats to let the airline go to the wall, it yesterday came forward with the necessary $280m of rescue finance. Meanwhile, a similar government bailout was being orchestrated for Belgium's Sabena. We can be pretty sure there will be similar packages across Europe before long, thus continuing the pattern of state subsidy that has been a more or less perpetual feature of airline travel throughout the post-war period.

The excuse this time around is the pole axing the industry has received at the hands of Osama bin Ladin's terrorist atrocities. Already a $15bn package of aid has been put in place for US airlines, and by the time everything is added in, it may not be far off that level for Europe either. The airline industry is not one which obeys normal market rules, where weaker players in a situation like this would be allowed to go under, leaving a smaller number of more dominant operators.

There are essentially two reasons for this. Governments support airlines in part because of the wider economic benefit of transport as a utility. More importantly, however, the national flag carrier is regarded as a political and diplomatic tool through the way in which landing rights and other privileges are conferred worldwide. If your flag carrier wants to fly to our country, then there must be a government-to-government negotiation, sometimes involving issues other than pure travel. The upshot is that internationally, there have always been too many full service airlines.

The big question is whether the present crisis is a new year zero for the industry, a seismic shift that will allow the old structure to be swept away and a more commercially driven one to take its place. It's worth recalling that similar predictions of fundamental change were made at the time of the Gulf war, but within a few years everything had returned to normal. This crisis looks a good deal more serious, but even so, governments seem to be rallying round to ensure their national trophies survive. The present structure may seem commercially unsupportable, but would the travelling public really be any better off with a much smaller number of full service airlines, grouped around, say, the present big three code-sharing alliances? That's the prize that the more financially robust operators see arising from the present crisis, and the answer is far from clear.

Colt's bailout

Colt Telecom Group's strength as a newcomer to Europe's deregulating telecoms market always was its venture capital backer, Fidelity, which has already tried the concept in the US and made it work. Fidelity once more rode to the rescue yesterday by agreeing fully to underwrite a £400m rights issue. Many other alternative network operators have struggled to find similar backing in today's bombed out telecoms sector.

What's more, to the extent that other shareholders decide to take up their rights, Fidelity has agreed to subscribe for new shares to raise its stake in Colt from the present 47.7 per cent to 54 per cent. There could scarcely be a greater vote of confidence in Colt's future. The additional money is enough to fund the remainder of Colt's planned build out and bring it to profitability by 2004. It was just what the sector needed after all the short selling of the last few months, and there was hardly a telco share price left untouched by this rare piece of positive news.

In point of fact, Fidelity was never going to let Colt go bust – even with the share price as depressed as it is, it would have too much to lose – and in order to get the company into profitability, it was going to have to cough up the money at some stage. Colt has spent a huge amount rolling out its network, but until its business plan is completed, it is never going to make money. As things stand, revenues are derived almost wholly from the commodity business of connectivity. In order to gain profitability, more web hosting, more managed and value-added services need to be bolted on.

In any case, Colt now seems assured of survival. The other clear long-term survivor is Energis, in some ways a similar business but with important differences. Energis has made it a priority to ensure that its network is connected to end users in all three of the territories in which it operates – Britain, Germany and Holland – and it has been generally better than Colt in developing value-added services for clients. Furthermore, it doesn't need to raise any additional finance in order to complete its business plan, so although it has a similar sugar daddy in the shape of National Grid to Colt's Fidelity, it doesn't need any more of National Grid's money.

For a long time, it has seemed possible that Energis and Colt would eventually merge, kick starting a process of possibly necessary consolidation among the alternative network operators. Yesterday's renewed commitment by Fidelity makes that less likely for the immediate future.

Carphone upside

Charles Dunstone, chairman and founder of Carphone Warehouse Group, is understandably frustrated. His share price recovered a bit yesterday in line with other telecommunications stocks but, at 79.5p, it is still less than half last year's flotation price. In recent weeks it has been hammered by short sellers looking for the next telco to issue a profits warning. "I'm sorry to disappoint them," says Mr Dunstone, "but there's no point in us issuing a trading statement because all it would say is that trading is in line with expectations".

Sentiment towards the telecommunications sector in general, and the mobile phones business in particular, has rarely been worse, but Carphone Warehouse is in fact much more of a retailer than a mobile phones company, and retail sales are still booming. Moreover, the shift in the market from pre-paid packages to subscription deals, which Carphone Warehouse specialises in, has played right into its hands.

The stock market is bored and disillusioned with mobile phones, but the consumer is not, and Carphone's business continues to thrive in a way that is hard to reconcile with the collapse in the share price. A repeat of last Christmas's bumper sales for mobile phones seems rather unlikely, but that won't stop the company growing strongly again this year.

Carphone Warehouse is another of those companies with excellent prospects that has become a victim of the stock market's present hunger for bad news. Estimates vary, but between 10 and 30 per cent of the company's free float is represented by stock lending, a huge level of shorting given the lack of buyers to counter the practice. Most astonishing of all is that there should be so many willing institutions to lend the stock on which the shorting depends, since it cannot be in their clients' interests to see any share price trashed in this manner. Mr Dunstone will no doubt take some pleasure in seeing fingers burnt among the short sellers.

j.warner@independent.co.uk

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