Gol Linhas Aéreas Inteligentes S.A. (GOLL54) Earnings Call Transcript & Summary

Good morning, everyone, and welcome to the GOL Airlines conference call regarding the corporate merger proposal by GOL submitted to Smiles Board of Directors. This call is being recorded. [Operator Instructions] After GOL's remarks there will be a question and answer session. [Operator Instructions] This event is also being broadcast live via webcast and may be accessed through the GOL website at www.voegol.com.br/ir and MZiQ platform at www.mziq.com. [Operator Instructions] Before proceeding, let me mention that forward-looking statements are based on the beliefs and assumptions of GOL's management and information currently available to the company. They involve risks and uncertainties because they relate to future events and therefore, depend on circumstances that may or may not occur. Investors and analysts should understand that events related to macroeconomic conditions, industry and other factors could cause results to differ materially from those expressed in such forward-looking statements. At this time, I will hand your conference call over to Mr. Paulo Kakinoff. Sir, please go ahead.

Good morning, and thank you for joining us today. I am Paul Kakinoff, CEO of GOL, and I would like to share to you details regarding the proposal we delivered yesterday to the Board of Directors of Smiles, our [indiscernible]. Turning to Page 3. As most of you know, the GOL Group operates 3 business activities. Passenger and cargo air transportation through GLA, over 100% owned subsidiary and Brazil's #1 domestic carrier. Loyalty to Smiles, which sells and redeems points for flights on GOL, Partner airlines and other companies. We carved out a 47% minority stake of Smiles in 2013. [indiscernible] is a subject of our recent proposal and acquisition and financing of aircraft, a business that generates significant U.S. dollar linked [indiscernible]. These businesses are highly complementary. GLA is SMILES' largest commercial partner with over 90% of miles redeemed are air travel tickets in GOL network and those of our core share partners. Whilst Smiles is a relevant sales channel for GLA, representing 12% of our total [indiscernible]. Smiles' success depends on GLA's capacity to invest in competitive services and products. Therefore, it's crucial that cash generation from the Loyalty business be allowed to finance this in debt and that the interest and objectives of GLA's and Smiles' management and financial stakeholders be completely [indiscernible]. As you may know, GOL withdrew its previous proposal for the merger of Smiles on March 15, 2020, as a result of the uncertainty around the COVID-19 pandemic and its impact on our business. While the pandemic had a devastating impact on many airlines globally, our management team has worked immediately and tirelessly to ensure GOL's success. This has resulted in strong performance relative to peers and significant share price appreciation since the market bottomed in March. Now that we have seen how our businesses are operating during the pandemic, as well as how the adaptation of other clients, partners and competitors in each business, we delivered through the Board of Smiles a new proposal to merge our two primary operating subsidiaries. All of the merits of the transaction we discussed with the market over a year ago of GOL are still valid. But what has become even clearer in managing our business through the pandemic is that the misalignment of interest between GLA and Smiles could lead to significant mutual value disruption if we do not act now. This transaction is critical and value maximizing as it bolsters the competitive positioning and flexibility of both companies in increasing competitive markets and will enhance the GOL Group's overall capital access. We intend to negotiate this proposal with the committee comprised of Smiles independent directors and will mainly bring our proposal to the shareholders of both GOL and Smiles. Richard will now review the details of our proposal. Please, Richard.

Thanks, Kaki. I will review the key terms of the proposal on Pages 4 to 6 of today's presentation that you have access to on the platform. Moving to Page #4. We are offering an attractive exchange ratio of 0.825 shares of G-O-L-L [indiscernible] GOLL4, the PN share for each share of SMLS3, Smiles owned share, allowing Smiles shareholders to be meaningful shareholders of GOL. We are also offering Smiles shareholders the opportunity to choose how they participate in this deal. Smiles shareholders can make one of the following elections: receive 0.825 preferred share of GOL for each Smiles share held or receive BRL 22.32 in cash for each share of Smiles held or receive a combination of preferred shares of GOL and cash by specifying the number of common shares of Smiles to receive each type of consideration. The shareholder elections will be subject to adjustments such that no individual shareholder receives more than 80% of the consideration in preferred shares of GOL or cash. We have informed the Smiles Board of Directors of our intent to conclude this phase in the merger process expeditiously. We also proposed to the Smiles Board of Directors that an independent committee of the independent members of the Smiles Board of Directors negotiate the terms of the transaction with GOL's management. Such independent committee will have discretion to analyze all matters of the transaction and submit its recommendation to the Smiles Board of Directors. As per CVM Opinion #35, Smiles controlling shareholders, that is the GLAI representatives, will not have any influence on, and will not participate in, the independent committee. It is our hope to conduct a robust negotiation with the independent committee and provide them with a chance to contribute to the transaction in a meaningful way. As you see on the next page, Page #5, we are offering an attractive exchange ratio at a meaningful 26% premium to the exchange ratio implied by the 30-day volume-weighted average price exchange ratio of the 2 companies, as you can see here on Page #5. We believe that the exchange ratio proposed is attractive relative to the recent trading of both GOL and Smiles. Moving to Slide #6, you will see that at the conclusion of a 3-step process, Smiles minority shares will be merged into GLA in exchange for the transaction consideration and GLA will become sole owner of the program. That summarizes the terms of our proposal. Now I'll speak about the transaction benefits for shareholders. Turning to Page #7. When we carved out Smiles in 2013, placing a public float on the Sao Paulo Stock Exchange, contract was structured between GLA and Smiles to align the interests of the companies. Since then GLA and Smiles have continued to establish themselves as the undisputed market leaders. The carve-out allowed GOL to raise capital to fund growth, attract investors to a high-quality asset and maintain a controlling stake while a separate management team give Smiles the resources to focus entirely on developing a market-leading product. This has been a winning strategy, and it will be maintained in a consolidated group structure. However, as we mentioned last December, we continue to believe that changes in the market environment, which we could not foresee at the time of the carve out, make the current arrangement uncompetitive in the long term, irrespective of the impact of COVID-19. Since our original offer, all other stand-alone frequent flyer programs have been consolidated back into their parent airlines, as you can see here on Page 7, as our competitors have recognized and remedied the structural issue of the frequent flyer program being separated from the airline. You can see on this slide that Smiles is the only remaining separate loyalty program in the Americas. The main reason for these moves by them and us is that carve-outs executed long ago have put such players at a competitive disadvantage vis-a-vis integrated airline companies, whose market actions are dictated by aligned business sets and not a contract drafted almost a decade ago. We believe our contract does not allow for the much required flexibility in inventory and revenue management as well as the use of financial liquidity at Smiles, which is only made possible because of GOL's network and fleet investments. Further, it limits the flexibility to adjust the program continuously to the needs of our critical partners and risks making the program unattractive to the banks that represent the relevant portion of Smiles revenue. As such, it harms our group's consolidated competitive edge even further. The rationale and recurring themes observed in these prior transactions have significant applicability to this proposed merger, being, a, aligning all stakeholder interest; b, flexibility to adjust the program as the competitive environment shift; c, ability to redesign the program for critical partnerships; d, flexibility to use the frequent flyer program as a channel; e, capital for investment in the product and ensuring alignment on redemptions for loyal customers and cost synergies and tax synergies and the ability to profitably optimize them across the group's structure and considering the individual company's tax attributes. Turning to Page #8, you see the benefits not only for GOL's shareholders, but for Smiles shareholders as they transition their exposure to GOL. The proposed merger resolves numerous critical problems, benefiting both current GOL shareholders and existing Smiles shareholders receiving gold stock post merger. This merger will allow GOL to focus on long-term value maximization. From a loyalty program standpoint, we are seeing increased competition from airline and non-airline sponsored loyalty programs. We expect this trend to continue as banks, in particular, seek efficiency and look to drive costs out of their systems. This merger will allow Smiles to react to competitive pressures more quickly and hopefully avoid any adverse effects to the loyalty program's margins due to this increased competition. From an airline standpoint, the global trend towards integration of airlines and loyalty partners will add pressure on GOL and will limit our ability to drive long-term value through the use of this loyalty program as a distribution channel. With the merger, the airline gains the ability to maximize sales and optimize margins by driving the availability, timing and price of redemptions, quickly adjusting pricing and controlling yield management across loyalty and airline sales. From a capital structure standpoint, our competitors who are fully integrated, will be able to fund investments in their airline product and grow the airline business at a lower cost of capital. They will, in turn, increased value of the loyalty programs miles. In contrast, if GOL remains separate, we will be challenged in our ability to differentiate ourselves. This is a threat to the long-term profitability of the airline. But a greater threat to the loyalty program's existence with its dependence on our airline business. And we are moving to merge now in order to position the entire group to best compete in today's market and preserve and improve the value of the GOL Group's proposition in the future. We believe this proposed merger will simplify our corporate structure, improve our competitiveness and enhance our access to capital. Importantly, we eliminate the misalignment of interests due to the structure that exists today, which is currently an issue for both operating companies. The transaction we are offering mitigates future value destruction and enhances the GOL Group's overall ability to deliver significant future value. Turning to Page 9, you can see the immediate benefits for Smiles shareholders. While as described in the prior slide, we believe this transaction is essential to providing long-term value to Smiles and GOL's shareholders, we also believe we are proposing to carry the transaction out on that are immediately -- on terms that are immediately accretive to Smiles shareholders. As mentioned previously, the exchange ratio being proposed is an attractive premium of 26% of the 30-day volume-weighted average price exchange ratio of the 2 companies. Smiles shareholders are likely to receive GOL PN as consideration in the proposal receive a significant premium, derisk their current situation, and obtain upside exposure, benefiting from a realignment of interest that will be critical for the group's success going forward. In addition, Smiles shareholders electing to take a meaningful amount of the consideration in GOL preferred shares will be meaningful shareholders of the company and enjoy much higher trading liquidity. It's worth noting here, so there is no doubt, the things we do not intend to change. The things that we do not intend to change. First, We continue to believe in the merits of a separate, highly focused management for our loyalty business. And we value the success that the current Smiles management team has achieved. We intend to maintain a separate management team for Smiles, so they continue to deliver a tremendously successful strategy with a full focus on providing the best product and maximizing growth across all strategic avenues, with the benefit of being fully aligned in maximizing value across the group. Second, but most importantly, we want to reinforce that the proposed merger will not at all affect Smiles members miles or their redemption benefits. We remain committed to providing the best loyalty program in Brazil. Page 10 summarizes some of the key financial impacts of the transaction. When factoring in Smiles' cash position and earnings generation, the transaction is accretive to GOL's capital structure and will contribute to reducing its leverage at GOL through improved cash generation, and it will reduce the cost of working capital financing and enhance liquidity management. The transition benefits further include recurring tax savings resulting from the acceleration of the utilization of GOL's net operating losses as well as benefits from goodwill amortization. Additionally, the merger will allow for improved profitability for more flexible revenue management, improved and less costly working capital and broader capital access. It is, of course, worth noting that as currently structured, that the transaction will require certain cash consideration to buy out minority shareholders. And of course, in the uncertain times that we are still living through, the proposal remains subject to GOL having the adequate cash required to close the transaction. Wrapping up on Slide #11, we lay out an estimated timetable, starting from what we expect will be 1 month of negotiations with the Smiles independent directors over the course of the month of December. Our expectation is that the call notice for the Smiles Shareholders Meeting will be made on or about January 18, 2021. After a series of other procedural items, we hope to bring the merger to a close in April 2021. Before handing back over to Kaki for some closing remarks, I want to highlight once again how critical and transformational this transaction is for both operating entities and for the group as a whole. We are comfortable that the proposal is the best outcome for all stakeholders and I look forward to working with the independent directors of Smiles to negotiate the transaction. Kaki?

Thanks, Rich. We want to thank all who joined the call today and especially the shareholders of Smiles, who have supported the company every day since the carve-out. To conclude, we hope the presentation has made the merits and rationale for this transaction clearer and we reiterate our strong belief that the proposal will minimize disruption and generate significant value to the group's shareholders by protecting and improving our future agility to compete in the core markets we operate to the substantially strengthening the GOL Group's balance sheet and capital access in the pandemic and beyond, increasing the GOL Group's overall ability to grow organically through either deleveraging and allowing both Smiles and GOL to sustain long-term growth while we're proposing a transaction that derisks and compensates the Smiles shareholders' value. Now operator, please open the floor to questions.

[Operator Instructions] And our first question today comes from Victor Mizusaki from Bradesco BBI.

I have two questions here. The first one, I take a look at the timetable, the closing you expect for...

Victor, sorry, if you could speak up a little bit? You're very muffled and we can't hear you question. If you could just try to speak up or get closer to the phone.

Okay. So I have two questions. The first one, the time table we basically say that you expect to close the transaction by April 2021. And the shareholders' meeting will take place in mid-February. So my first question is the shareholders, we will have access to the operator reports that you basically sustain the recommendation for the shares of ratio? And my second question is just to double check here. In Slide 4, you mentioned that the Smiles independent committee will conduct these robust negotiations with GOL. So my question is the independent committee will conduct the works to reach a decision if they should recommend or not minority stock [indiscernible] this offer. So this ratio of 0.825? Or if there is something that can be negotiated with GOL?

Yes. Let me -- I get your questions. Maybe start with the second one. Yes, we made a proposal to the Smiles Board. And in that proposal, is that they constitute an independent committee comprised of the independent directors following the procedures of the Opinion 35 of CVM and that we will -- GOL management will be negotiating with that independent committee. The -- your question on -- your first question would depend on the independent committee, because those -- the reports that you're referring to are whatever reports that would be used by the individual committee and the Smiles Board in context with their work. And so we can't really respond for that format at this time.

Our next question comes from Dan McKenzie from Seaport Global Securities.

Appreciate the time here. What's kind of interesting is, of course, the price of GOL, the absolute -- kind of the upside seems pretty compelling here for both sides. I'm just wondering if you can elaborate a little bit more on how this is accretive to both GOL and Smiles shareholders? So I'm just -- with respect to this, if you could just remind us what GOL's NOLs are expected to be here in 2020 or what they are today? And then just the tax savings, of course, are critical for the recovery of GOL and of course they can finance new growth in jobs. And unlike other countries, growth in Brazil is actually accretive. I'm just wondering if you could just help us meet the kind of the big picture, the accretive upside here?

Yes. Thanks, Dan. Yes, that's a good point. The point of entry on GOL in the exchange ratio that's being offered is arguably very attractive given the stock price has been depressed by what's been going on during this pandemic, right. The GOL stock price is down around 50% from where it was pre-pandemic. Then you guys have been following what we're doing in the business, we just updated you for our overall performance where we have shifted out from cash burn to cash earn. And so yes, we believe there's significant upside there. And we want to share that with the -- in this proposal with the Smiles minorities through their option to take up 80% of the transaction consideration in the stock of GOL. To your question about accretion, at this point, it will depend on timing and other things. And obviously, we're coming out of the COVID environment. But in terms of a normalized accretion, on normalized earnings, we estimate a minimum of BRL 0.40 in kind of the first 12 months after the merger of earnings accretion, but obviously that depends on the timing and also where that is vis-a-vis coming out of the impact of this pandemic. But across the board, based on the synergies I mentioned, so yes, there is a significant upside. The -- so that what I'm referring to, I think you could use on, let's say, like a 2022 basis. If you wanted to think on a percentage basis, that will be around a 30% appreciation in earnings per share in 2022. Just to kind of give you the order of magnitude specifically. So it is significant. It is significant in terms of the potential impact on shareholders, getting the transaction done has a big benefit for both the new shareholders with GOL as well as for the existing shareholders of GOL.

Yes. Very good. Anedd then the other thing that seems different in this presentation, of course, is the calendar. And if the 2 sides are unable to reach an agreement on the fair value here, this offer just seems a little different, seems more compelling. Does -- I guess, can you just talk about at what point you'd decide -- it's been 2 years now so far, what point do you decide maybe it's best just to go down the delisting sort of the -- to make a delisting tender offer, just with respect to -- like how important is it to finalize this once and all for you guys?

Well, I mean, what we're doing, Dan, is that we started this process where we're going to have a negotiation directly with the independent Board members of Smiles. And that's the right we're going down here in the short term. So I think it's -- we expect that it will be successful in that negotiation, and we wouldn't have to go down other routes in the future.

[Operator Instructions] Our next question comes from Savi Syth from Raymond James.

I was just kind of wondering how you -- thoughts on how you fund the transaction. And along those lines, portion of the loyalty program held by GOL today is collateralized and if there's a possibility of maybe in the future after the transaction collateralizing the loyalty program?

Thanks for the question. I mean you know this public information, the shares of Smiles are currently in collateral for a loan. I didn't understand the second part of your question.

So is there -- I guess, one, how do you fund this kind of transaction? How do you plan to fund this transaction? And is there kind of an opportunity then to collateralize I guess, the remainder of Smiles, If the transaction is done? Is that an attractive opportunity versus your other financing?

Yes. To your second, no, we have -- obviously, we've -- this company has a significant amount of unencumbered assets in excess of $1 billion of unencumbered assets. And we do have attractive opportunities to do secured financing. As you know, we've been sharing that our plans with the market in general and that for months now. So that would only enhance our ability to do that to the extent we have additional collateral asset available. We're now starting to have access to and pretty soon, we're going to have back access to the unsecured market as well. We're kind of on a cusp of that right now, I mean, our bonds are back trading in a 9% handle. And so we have -- I think we have significant financing alternatives, great capital market access. As you know, we're the -- I think we're probably one, it's not the only airline in your coverage universe, Savi, that has returned capital to its bondholders this year. We've returned $380 million to our bondholders this year. And so we have a great relationship with that part of our ecosystem, and we consider many of them partners in what we need to do for financing operational strategically. And the same thing goes across our banks as well. It's not just the capital markets that finance us, our banks, as you know, we haven't had any credit withdrawn from us during this crisis. We've been able to match our cash inflows and outflows, including with maturities on the bank side of the equation. So we preserve that as well. As a strategy in the Q2 and Q3, we did not do any schizophrenic capital raising just to kind of show a bunch of cash on hand, because that's how we manage our business, we manage the business based on the proper management of working capital, and that's what we did through this crisis. And that's kind of where we are now. We have preserved our noncash current assets. We preserved our unencumbered assets, which can be used to arrange financing. As you're saying, the shares of -- our shares of Smiles have been used successfully to raise financings in the past. They were used to raise about $300 million in the past. And yes, that could be repeated in the future to the extent we needed to do it. And also, like I said, we're starting to have, let's say, signs that the unsecured market is coming back to us. When I say signs, it's literally in the last couple of days. And so markets go up and markets go down. But we're focused on our -- on the management of the GOL cash flows. As you see on the timetable, there is still -- we have a focus over the month of December to conduct a first-class corporate governance process led by the independent directors, which hopefully will lead us to a call of the Smiles shareholders meeting on January 18, which we think is the mid-February for the shareholder approvals in the best-case scenario, assuming no slippage on the time table, which would get us to a mid-April settlement. And so that's in pandemic time, that's almost been eternity, 4 or 5 months from now as you know. So a lot can happen. In Brazil, we're in the process of entering our summer season, the vaccine spending being rolled out here. I think -- we still don't have the large corporates back, as you know. We do expect them to be back post-carnival, which would be March. And so by the time we arrived in March, I mean, we're definitely going to be in a very, very different situation in terms of our ability to say, raise funds and so on. So that's kind of the general context in terms of how we're thinking about it. But yes, the short answer is the -- let's say, the transaction, the way it's designed is and be self financeable the way it's structured and with the assets that are involved in the terms. And keep on as well that our belief is the best choice among the choices we're offering is to choose for the Smiles shareholders to due to migrate their investment and Smiles to GOL. We are offering them the option to take as much as 80% cash that they want. But we do expect that a significant portion will be taken in shares of GOL to participate in the upside there. And in terms of dilution, just to kind of round it out, at the minimum level of gross shares, it's about 2.9% dilution. And in the maximum amount of GOL share, it's about 9.9% GOL dilution. And so that will be the range on the dilution of the transaction with the maximum minimum amount of GOL shares coming in. So a portion of the transaction will be financed with issuance of GOL shares.

That's all very helpful detail.

And I was -- just a couple on that, we actually -- we also take questions on the webcast. And I think we answered -- there was a question from an investor at one of our bondholders [indiscernible] related to that, which is regarding use of our capital resources for this transaction. I think I answered that question in the sense that the combination -- the transaction has a combination of it being self-financing combined with our plans to add additional cash to the balance sheet of GOL through the potential use of our own encumbered assets and super finances. So I think I answered that question also. I think -- sorry, we have one more question. So let's go to the last question. Yes.

And we have an additional question from Henrique Navarro from Santander.

On the Slide 8, you mentioned about the benefits for GOL shareholders and you mentioned about the tax inefficiency. Have you calculated the potential tax gain to be unlocked considering that the tax losses that we'll have that we can start to use as a tax shoot for -- at the transaction? That's my question.

If I can repeat the question, you're just talking about the utilization of NOLs, is that correct? Okay. If that was the question, I mean, yes, there is significant -- at GOL, a significant NOLs that can be offset against profits. In Brazil, you can only compensate NOLs per legal entity. You can't compensate them across the group. And so that's why the merger of Smiles to [ Begdagi ] which is the operating company that has our loyalty program back into the airline operating company, GLA will take the revenue generation of Smiles and bring it back into GLA. As you know, Smiles has de minimis cost just basically have revenues. And so pulling those costs back in on a consolidated basis -- sorry, on a -- into the GLA company, will put those -- the combination of the taxes on revenues, in Brazil, we have taxes on revenues as well as taxes on income into the tax management at and be able to manage that more efficiency and eliminate the significant tax leakage that's happening. But the way you can look at that, I mean, you can just look at the amount of fiscal [indiscernible] tax that Smiles has been paying on revenues over the last couple of years, which is at a rate that is 3x what GLA is paying and then also look at the income taxes that Smiles has paid and a large portion of those will be eliminated. Not all of them, but I mean the revenue taxes will go down by about 7% on that revenue flow. Many of the taxes, obviously, that will depend on the income generation at GOL. But about 1/3 of it approximately can be offset in terms of conserving cash. The last thing you want, especially in times like these, is not deminimizing your cash outflows, which is not what we're doing today. There's some tax leakage at the Smiles subsidiary both on revenues and on income, which is extremely inconvenient. So yes, that is what -- even just look at the Smiles income taxes and the incremental Smiles revenue tax for the last couple of years and a large portion of that will be eliminated.

And ladies and gentlemen, with that, we'll conclude today's question-and-answer session. I would like to invite Mr. Kakinoff to proceed with his closing remarks. Please go ahead, sir.

Thank you very much for your attention. And please feel free to get us in contact in case that you have any further doubt. Wish you all a very nice week. Thank you.

Ladies and gentlemen, this concludes the GOL Airlines conference call for today. We thank you very much for your participation. Have a nice day