Wednesday, July 15, 2020

We all know that airlines have suffered mightily since coronavirus grounded international travel at the start of this year. Now Delta Airlines ($DAL) has filed its report for Q2 2020, and we discovered a secondary crisis: investments Delta made in other airlines, which have since fallen apart and led to more than $2 billion impairments.

Tucked away in the Investments portion of its quarterly report, Delta detailed its three investments in smaller airlines: Virgin Atlantic, LATAM ($LTM), and Grupo Aeroméxico. The latter two filed for bankruptcy reorganization earlier this spring, essentially wiping out Delta’s influence over either one.

Virgin Atlantic averted its own bankruptcy with emergency funding arranged by Richard Branson, but is still sputtering so much that Delta had to impair that investment too.

What happened, exactly? Let’s take a look.

LATAM. Delta acquired 20 percent of LATAM for $1.9 billion in January to forge a strategic alliance with the Chilean airline. The company also promised to give LATAM $350 million in “transition payments,” including $200 million paid in 2019 and the remaining $150 million delivered in quarterly payments from September 2020 through 2021.

Alas, LATAM filed for Chapter 11 bankruptcy in May. That prompted Delta to terminate a deal to buy four A350 aircraft from LATAM, with Delta paying a $62 million termination fee. That fee is recorded as a restructuring charge on the income statement.

Moreover, Delta recorded an expense of $1.1 billion in impairments and equity method losses. That item is folded into the $2.06 billion in impairments and equity method losses Delta reported as “Non-Operating Expense” on the income statement. See Figure 1, below; the impairments line is shaded grey.

Grupo Aeroméxico. Delta also has a 51 percent ownership stake in Grupo Aeroméxico, but thanks to a quirk of Mexican corporate law Delta’s voting control is limited to only 49 percent. Hence Delta still reports for its Aeroméxico holding using equity method accounting.

Anyway, Aeroméxico filed Chapter 11 in June. As a result, Delta says, “We no longer have significant influence over Grupo Aeroméxico” and Delta is now accounting for its holding using the fair value method — which included a $770 million impairment.

Virgin Atlantic. Delta had long had a 49 percent investment in Virgin Atlantic, and as recently as Q4 2019 had valued that holding at $375 million. Then came coronavirus, and “Virgin Atlantic has incurred significant losses during 2020,” as Delta so blandly described the situation.

That prompted Delta to record a $200 million impairment for its Virgin Atlantic investment, and to reduce the basis in its investment to zero dollars going forward.

Add up those three impairments, and you get a total of $2.07 billion — which is actually more than the $2.058 billion listed above in Figure 1, thanks to a few other investments that increased in value.

Delta also lost $4.8 billion from its regular operations, for a total pretax loss in Q2 of (gulp) $7.014 billion. The impairments on its investments in other airlines account for 29.3 percent of that loss.

For comparison purposes, Delta had equity investment impairments of only $17 million in second-quarter 2019, and no such losses in the three intervening quarters. The it coughed up (no pun intended) this $2.058 billion impairment monster.

Coronavirus! For some firms, it’s shaping up to be a long-term illness.

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