As Japan Airlines taxies towards its initial public offering in September, the airline will pitch investors on the hard-won cost-cuts and fuel-efficient fleet that helped it emerge from bankruptcy to become the world’s most profitable airline.
But investors will also take note of another controversial boost for the former national flag carrier: the airline won’t have to pay USD$4.5 billion in taxes on future profits even though it owes its survival to a taxpayer-funded restructuring.
The tax break will give JAL an important advantage over chief domestic rival All Nippon Airways for the remainder of the decade and it has emerged as a growing point of friction between the two airlines.
Behind the scenes, ANA executives have been lobbying government officials to either end the tax break or level the playing field by giving ANA preference in the allocation of landing spots at Tokyo’s Haneda airport when those become available in 2014, people with knowledge of those discussions have said.
The opposition Liberal Democratic Party has become increasingly vocal in its criticism of the bailout, which was orchestrated by the ruling Democratic Party. JAL, which went into bankruptcy in early 2010 with USD$25 billion in debt, received a JPY¥350 billion capital injection from a state-backed fund.
LDP lawmaker Shinsuke Suematsu recently likened JAL’s planned purchases of new planes while carrying the tax break to “someone on social welfare going out and buying a brand-new Mercedes Benz.”
For its part, JAL is worried that kind of talk could distract investors from the storyline it wants to pitch. That is based on operational improvements and steps to bolster overseas routes, a person involved in the IPO process said.
JAL expects to re-list its shares in September after it has raised about USD$8 billion in an IPO, people with knowledge of the process have said. Like others, they declined to be identified because the airline has yet to make its listing plans public.
The airline’s resurgence is seen as a rare success story in the government’s efforts to save companies deemed vital. But the airline’s return to the markets also comes at a time when the government is grappling with a deficit that is more than twice the size of Japan’s USD$5 trillion economy.
“The results we have been able to produce surprised even us, but it’s hard for me to swallow when someone simply looks at the numbers and says conditions are unfair,” JAL President Yoshiharu Ueki said at a monthly briefing on Tuesday.
“The loss carry-forward is part of the tax code,” he added. “It’s a system used by many companies.”
Indeed, ANA itself has not paid corporate tax since 2009 after falling into the red following the financial crisis. But if it stays profitable, the tax credits it has built up could disappear in the next financial year to March 2014.
Bankers estimate JAL could raise JPY¥600 billion to JPY¥700 billion in the IPO. That will put it at a premium to ANA, which has a market cap of JPY¥570 billion. JAL’s extended tax break is a contributing factor to that valuation gap.
“You will see this coming through earnings,” said Paul Wan, airline analyst at CLSA Asia-Pacific Markets. “Even if they can’t keep the same margins at the operating level, you’ll get the benefit from the tax front.”
JAL also benefited from a tweaking of the tax code. Last year an exemption was added to allow Japanese companies already in bankruptcy protection to continue to use 100 percent of their cumulative losses to offset tax for seven years.
At Japan’s corporate tax rate of 36 percent, the credits could translate into a total of JPY¥360 billion in savings. For the year ended March, JAL reported an industry-leading JPY¥205 billion in operating profit and paid virtually no tax.
JAL cut 16,000 jobs, eliminated unprofitable routes and slashed pensions as part of its overhaul. But it was also handed a clean balance sheet, which means less risk and lower interest payments, and takes advantage of lower depreciation costs tied to the post-bankruptcy write-down of its fleet.
Despite the gap with ANA, it is unlikely the government would look to force JAL to pay taxes even if it stays highly profitable, a government official involved in administering tax policy said on condition of anonymity.
“JAL has boosted profits largely on its own restructuring. I don’t see the need to penalize it for that,” the official said.