Several readers have asked us to justify our comments on Queensland Rail. After all, not all public sector privatisations are bad for investors, what about Commonwealth Bank [ASX: CBA] and Qantas [ASX: QAN] and Telstra [ASX: TLS], we were asked.
Enough said about the last one. Especially if you bought in to T2. Next…
As for Qantas, well, we’ve got no personal recollection of the move from public to private company. All we can rely on is stuff picked up on the Interweb.
The story seems to be…
In 1992 100% government owned Qantas pays $400 million for 100% government owned Australian Airlines. A bit like buying your own car from yourself!
In 1992/1993 British Airways buys 25% stake in Qantas for $665 million.
In 1993 Australian government gives 75% government owned Qantas $1.35 billion.
In 1995 Qantas shares listed on the Australian Stock Exchange, with the government receiving $1.45 billion.
From what we can gather, the government sold off a bunch of other Qantas shares in 1996 and 1997, the value of which we’ve been unable to find. So let’s say, all up, the value Qantas was sold on the market for was about $2.5 billion – feel free to correct us if we’re wrong.
Yet the real net gain to the government would have been around $1 billion when you strip out the $1.35 re-capitalisation (subsidy) provided by the taxpayer in 1993.
But that’s only part of the story. Thanks to the near monopoly position of the airline – remember that monopoly status is a gift from the government – Qantas was able to rip-off passengers for years. Some would argue it’s still doing so compared to the cheaper flights available elsewhere.
In simple terms, a lack of competition in the market burdened Australians with what was effectively a tax on travel. It was a tax because the fares were higher than they otherwise would have been under a free market.
And in such a situation, even when you have a single competitor, such as Ansett, there’s no incentive for the competitor to offer significantly lower fares as they know the market is rigged. All they needed to do was provide a small discount to grab market share.
Which, from what we recall, is exactly what they did.
That’s one of the reasons – among others – why Ansett collapsed in 2001. When new discounted travel came from Virgin and Impulse, the high cost structure and inept ownership by Air New Zealand, left Ansett unable to compete.
Qantas of course was protected due to its national carrier status and its government gift of a rigged market, so the weakest of the airlines was bound to fail… and that was Ansett.
As for Commonwealth Bank, a bit of fishing around on the Interweb has produced the following:
The first batch of shares were sold for $5.40 in 1991.
The second batch sold at $9.50 in 1993.
And the final load sold for $10 in 1996.
Since then, if you take into account dividends, there’s no denying shareholders in Commonwealth Bank would have done quite nicely indeed.
But here’s another difference between Commonwealth Bank and QR…
The Commonwealth Bank can create money from thin air which it can then lend to suckers who want to buy an overpriced house.
The last we looked, it isn’t yet possible for rail companies to create coal from thin air without a mining company first digging the stuff out of the ground.
And don’t forget the banks are in the kind of privileged position that no other business in Australia is in. And that’s the explicit guarantee from the government that it will underwrite all and any losses a bank is in danger of making.
Of course that ultimately won’t be possible without the massive devaluation of your wealth through inflation, but it’s accepted by the mainstream that that is what will happen and therefore banks are a good investment.
Make no mistake, the Commonwealth Bank was gifted a power that only it and other banks have, the ability to create its own assets from nothing.
Remember, it’s not a house or a business that is the asset on a bank’s balance sheet, it’s the loan against the house or business that’s the asset. Banks don’t actually create or build anything when they create an asset, they simply use a depositor’s savings as security and then create additional money which they credit to the borrower’s account.
Put simply, Customer A deposits $100,000 into the CBA. That’s an asset for the customer and a liability for the bank.
Then the CBA receives a loan application from Customer B for $90,000.
The CBA creates $90,000 which it deposits into Customer B’s account. That’s a liability for the customer and an asset for the bank.
$10,000 remains as equity in the bank. You can call it the bank’s reserves.
Yet both Customer A and B believe they are able to withdraw the full amount of cash in notes from their accounts – one from a deposit account, the other in a loan account – yet there’s only $100,000 of that money actually held in notes.
The bank is taking a punt that both customers won’t ask for the cash at the same time. In the world of banking that’s called banking. In any other business it’s called trading while insolvent.
So where does the remaining $90,000 come from? From thin air. The bank created it from nothing. It was able to create an asset for its balance sheet simply by making a book entry.
Now do you see why the banks are always so keen to offer you credit? Every time you accept an offer for a credit card or a home loan and draw down on it, that creates an asset for the bank.
It’s a good business. If you’re into counterfeiting and fraud that is. Ultimately – as you’ve seen over the last couple of years – the current financial system is unsustainable.
Yet the politicians and central bankers are determined to not only ensure it’s maintained, but they’re determined to return it back to where it was in 2008 before the bubble popped.
You don’t need me to tell you what the result of doing that will be.
Therefore, we’d be very wary about comparing the success of the Commonwealth Bank float to that of the QR float. The businesses, and how they make money are completely different.
The success or failure of one by no means ensures the success or failure of the other.
As I mentioned to you yesterday, we could be wrong and the Queensland Rail float could be a corker, and you could make a motza out of it. But in my view, thanks to the amount of government influence and manipulation it’ll be subject to, it’s just not worth the effort.
There are plenty of other stocks on the market that have a history of operating in market conditions.
Take this as an example. Why take a risk of investing in a stock that will raise around $7 billion for the Queensland government, when the company itself has already had to secure a debt funding deal of $3 billion from a banking consortium – including Commonwealth Bank.
Which we assume is to replace the $4.3 billion of outstanding borrowings that is being transferred from QR back to the State of Queensland. Or should we say, being retained by the State of Queensland.
Is this another case of privatizing the profits and socializing the debts? We don’t know, but it looks fishy.
Look, we’re not a financial engineer, so our brain capacity to work out all this financial wizardry is pretty limited. And we’re not saying that we’d prefer for the company to remain in public hands, because we wouldn’t.
But what we are saying is that we’re very, very dubious of anything where the books are being cooked, or where there are thick layers of lipstick applied to try and tart up the sale to gullible shareholders.
I mean, looking at the offer document you could be mistaken for thinking QR is debt free. Which technically it will be… until it has to start drawing down on the $3 billion debt facility. Which it obviously will, otherwise why bother getting it.
And also considering that from what we can gather, QR doesn’t have any cash on the books, as the $8 million it did have is also being transferred to the Queensland government.
It all smells a bit too rank for us.
But of course, if we’re wrong about any of this then feel free to correct us when this article is posted on the Money Morning website later today.
As I mentioned yesterday I’ve wasted no more than about 30 minutes checking out the QR offer – hardly enough time to provide a thorough analysis, but just enough time to raise plenty of questions that you’d need answering before chucking your money at the stock.
For Money Morning Australia