# Risk manager of the year (corporate): Qantas Airways

## Smart risk management helped push Qantas back into the black in 2014

Like many airlines rocked by high fuel costs and poor economic growth, Qantas Airways has hit turbulence in recent years. In December 2013, however, the Australian flag carrier reached something of a nadir. That month, the airline was forced to issue a market update that warned of "accelerated cost reductions" and a strategic review – a response to "fundamentally changed market conditions". The airline lost its cherished investment grade rating from New York-based credit rating agency Standard & Poor's (S&P), slipping from BBB- to BB+. Shortly after that, it was also downgraded by New York-based Moody's Investors Service, dropping from Baa3 to Ba2.

That month, Qantas embarked on a massive cost reduction exercise, as the airline posted a half-year pre-tax loss of A$252 million ($198 million). A three-year transformation programme was unveiled, including plans to reduce the group's net debt by A$1 billion, cut costs by A$2 billion and cull 5,000 jobs. A wage freeze would be imposed on many of the airline's staff until the firm became profitable again, while over 50 aircraft would be deferred or sold. "This is an unacceptable and unsustainable result," declared Alan Joyce, Qantas's chief executive, in a statement. "Comprehensive action is needed in response."

That transformation programme is now under way. Even the airline's Sydney-based group treasury has not gone untouched, losing five staff – or 20% of its headcount – as part of the transformation programme. Nonetheless, the unit – which is responsible for the treasury function of Qantas, as well as low-cost airline Jetstar – has played a critical role in turning the company around.

### Reversal of fortune

After a full-year pre-tax underlying loss of A$646 million for the year ending in June 2014 – the worst in its history – Qantas swung to a half-year A$367 million pre-tax profit in December 2014. The turnaround is in no small part thanks to the efforts of its treasury – in particular, the five-strong risk management team led by Cecilia Ho, Qantas's treasurer, risk management.

### Hedging strategy

For much of 2014, the risk management team gradually improved the airline's best-case scenario by buying back put options. At the same time, they also cushioned the firm's worst-case outcome by ratcheting down the strike prices on its calls. This means that even if fuel prices were to skyrocket over the coming months, the airline would be even better protected than it was back in July 2014.

"One of the focuses of our hedging strategy this year has been to ensure that our slippage back from current prices is capped at a lower price outcome than at the beginning of the year," says Greg Manning, the airline's group treasurer. "We've done that."

As of May this year, Qantas's group treasury was expected to deliver the airline a worst-case fuel cost of A$3.95 billion for the 2015 fiscal year. That compares with an actual fuel cost of A$4.5 billion for the 2014 fiscal year. "We're forecasting at least a half-a-billion-dollar benefit from lower fuel costs this year, and that's after the option premium that we've spent," says Manning.

The savings will go some way towards the airline's target of slashing net debt by A$1 billion, he adds. "That's A$500 million that Qantas doesn't have to go out and fund – in fact, it's A$500 of free cashflow that we have to put towards another aspect of the transformation programme, which is to reduce net debt by$1 billion in 2015."

Qantas's nimble hedging strategy compares favourably with rival carriers that have endured nasty losses in the past year, such as Hong Kong-based Cathay Pacific and Singapore Airlines. For the most part, Manning says it boils down to one key decision – the recommendation of a hedging strategy based largely on options, as opposed to "the easy way" of fixed-price forwards.

"As fuel fell to $90/bbl – levels that we had not seen for a number of years – it was tempting to simply lock these prices in using forwards," Manning says. "However, the group chief financial officer and chief executive agreed with the strategy put forward by treasury to invest in option premium and cap the airlines' worst-case outcome, whilst allowing for further participation, should fuel prices continue to fall." Since the dark days of December 2013, things have got better for Qantas. Although the transformation programme is still ongoing, the oil price environment looks more favourable and passenger numbers have been improving. The airline's share price stood at A$3.45 by May 22, having traded at close to A\$1.00 at the time of its downgrade by S&P. And if Qantas delivers a full-year profit for the year ending in June, its group treasury can rest assured that it has made a tangible contribution.

"Airlines are capital-intensive, low-margin businesses," says Manning. "They're in a cyclical industry. It's about protecting the business, not trying to guess which way prices may go. Ours has been a consistent and disciplined approach and one that's shown its value this year."

#### 7 days in 60 seconds

###### Basel III, bond market liquidity and the Risk awards

The week on Risk.net, December 2–8, 2017