The subject is partner KLM and Checchi is going full tilt. By watching his style, it quickly becomes clear just how easy it is for a reserved Dutchman, like KLM president Pieter Bouw, to take exception to him; or rather in the words of Northwest president John Dasburg to possess a 'highly personal antipathy' towards the US financier, as a recent letter to Bouw claims.
With such competing cultures, it is a wonder that Northwest and KLM have actually managed to form the world's most successful international airline alliance to date, after close to seven years in partnership. The partnership started when KLM contributed $400 million towards the $700 million in equity that Checci and the other Northwest co-chairman Gary Wilson used to put together a $3.6 billion leveraged buyout in 1989.
But a success it is. From generating $5 million annually for both carriers in 1991, the alliance has become a revenue engine in an industry where incrementals can mean the difference between life and death. Last year the alliance added some $50 million to Northwest's profits, while KLM benefited to the tune of $150 million. (Like many issues these days, the figures are contested. KLM sources say that the 'benefits are equal' and 'the profit potential is $300-$500 million.')
But as global alliance-builders watch from the sidelines, simple survival for the alliance seems distant. The alliance has been a saga of personal spats, fights over 'creeping control' and threats of separation that until recently were hidden behind a marriage that works well on a daily basis. 'We feel a little depressed that these governance issues have not been solved,' admits an executive at KLM, paraphrasing the concerns of Northwest colleagues who work on the actual alliance. 'We are all proud of [the alliance] and hate to see it destroyed by issues beyond our control.'
But a Northwest senior executive brings the issue down to the common denominator: 'If it's a question between governance or the alliance, there's no question what takes precedence.'
Added to this is a stream of rhetoric and vitriol:
Northwest official: 'We could certainly live without KLM.'
Northwest official: '[KLM's] total lack of trust is baffling.'
Northwest official: 'Bouw would have trouble financing a home loan.'
The exchanges between senior management have become increasingly personal. Checchi, in particular, was stung by the 'wheeler-dealer' label. 'If you look at what the company was worth when we took it over and what it is worth today, they can call me a wheeler-dealer. I call it being a manager,' he retorts. Bouw could not be reached for comment.
While the alliance is falling apart at the top, it works well on the operational level, emphasising what is the most pertinent issue arising from the fracas for the airline business as a whole: the role of equity ownership in alliances. KLM's equity stake is the only part of a successful alliance that is not working, whereas the British Airways-USAir partnership is fraught with problems. The list of failed alliances supposedly bolstered by equity stakes is longer: Air Canada-Continental, and before that SAS-Continental, Sabena-Air France and Air France-CSA.
These failures may well have been on the minds of the two carriers' officials, who gathered at Checchi's Georgetown home in Washington in May 1994. The meeting had been called after, what Northwest officials say, were months of written correspondence with KLM over the Minneapolis-based carrier's desire to put into place a shareholder rights plan limiting any entity from holding more than 20 per cent of Northwest Airlines Inc. No one contests that this 'poison pill' was aimed at KLM. But a KLM official says that meeting 'was the first time we realised they were threatening to take such a step.'
The meeting is considered a watershed because it was not only the first face-to-face attempt to broker a standstill agreement, but it was also the point at which Northwest's management began to show the new-found confidence - some might say cockiness - of a company recovered from a near-death experience. Less than a year before, on 6 July, the airline had been literally hours from filing for bankruptcy.
By the time the meeting took place, the operational alliance was advanced and the airline was well on its way to becoming a Wall Street favourite with new-found profitability and a public issuance of stock. But Northwest's sudden upturn in fortunes belied an uneasiness in the alliance that had existed on both sides from the start, and which primarily reflected the two partners' different expectations.
In 1989, KLM was looking for a US partner. The airline's vision was unique in the industry: there were no major partners allied with equity stakes - the 'cement' necessary to bond two entities together. With NWA on the block, KLM joined Checchi and Wilson's LBO because out of a field of bids it stood the best chance. Northwest officials also think that KLM may have found the linkup palatable because Checchi and Wilson had come from a non-airline background at Marriott and Disney, and with their reputation for deal-making the Dutch carrier may have perceived them as short-term players. At the time, Checchi told the investment community that KLM would bring a depth of experience.
What became Wings Holdings was for KLM an experiment in US investing that may have gone awry from the outset. 'We [knew] what kind of partners we had right off,' says a KLM source. 'They said we want you for the airline experience, but what they really wanted was KLM's money.'
This unease first surfaced over the disproportionate levels of investment: KLM's $400 million - $100 million common stock, $300 million preferred - far eclipsed Checchi and Wilson's $40 million. Also, there were Northwest's dealings with the US Department of Transportation, which was concerned about control issues and the 25 per cent foreign ownership limit. Even though KLM's voting rights would not rise above 20 per cent at Northwest, its preferred shares took equity ownership of the US carrier close to 50 per cent.
The result was a consent decree limiting KLM's involvement in governing Northwest. Northwest says it spearheaded the negotiation with DOT to protect KLM's investment. True enough, but an independent source knowledgeable of these talks says Checchi made it clear he had no problems with restricting the Dutch carrier's influence: 'He saw KLM as a bank, and knew he had an unwitting ally in the DOT because of the control issue. He was delighted to be required to reduce their influence.'
Northwest officials recall 1990 through early 1992 as a time of relative tranquillity for the alliance. KLM officials don't. They nervously watched the Wings founders still in deal-making mode as the $3.1 billion LBO senior bank debt had Northwest constantly hunting loans, like the $500 million line supplied by Airbus in 1990.
The need to service the debt coincided with the worst three years in airline industry history and became critical during 1992, as the airline faced up to a large principal payment due in 1993 and also needed to finance a large aircraft order book. By August 1992, the airline was expecting a liquidity crunch and opted to hire bankruptcy counsel.
Concurrently, open skies between the US and the Netherlands was leading towards the two carriers receiving antitrust immunity in early 1993. This nexus of events was, in retrospect, the main cause of the current troubles. As the alliance was moving into high gear, the dire financial position of Northwest opened the way for KLM to propose a financial restructuring package laden with restrictions that eventually would lead to the 'poison pill' and the lawsuits. Checchi et al say this was when the board level relationship started to unravel.
The proposed $500 million rescue package in September 1992 heralded the onset of the problems. Three days before Dasburg presented the package to a meeting of the lending syndicate in Minneapolis, he received a call from Bouw to say KLM's management board had not approved the deal, and that it was off. Without the financing, Northwest was facing imminent failure. 'For finance guys like Checchi and Wilson, this was about the worst thing,' says one Northwest source.
The next controversy, that still reverberates today, was the quick turn of events that saw a $250 million special term loan drawn together to replace the $500 million facility. KLM officials say this is the point at which 'we saved them in a European, gentlemanly way' - the Dutch carrier put up $50 million. More than anything, it is the contention that KLM put the $250 million deal together that aggravates Northwest senior officials: 'It was the turning point in the relationship,' says one. Banking sources involved in the deal support the officials' claims that KLM 'was not proactively involved in arranging the money.'
Even more galling to the US carrier's management, KLM also drew up conditions for its participation in the special term loan facility - the only participant in the deal to do so. Northwest officials - and even bankers - are still amazed that KLM would attempt to extract concessions from its partner at such a dire time. The following year, another $50 million loan from KLM reasserted the basic tenets of the special term loan, including the requirement that 60 per cent of original shareholders approve mergers or major transactions, a guarantee of board seats for 15 years, and KLM's right to raise its holding in Northwest from the 19 per cent voting level to 25 per cent. KLM further supported the restructuring by taking a cut in its preferred dividends, from 14 to 8 per cent, and along with other preferred holders received new common shares equal to 10 per cent of the company.
It appears that KLM's insistence on conditions led Northwest to consider the 'poison pill'. Soon after Northwest negotiated a $900 million concession package with its workforce, thereby narrowly avoiding bankruptcy, the US carrier began to correspond with KLM about shareholder rights language. On top of this, KLM's flirtation with the proposed European mega alliance Alcazar led to suggestions that it might abandon Northwest. At that point the US carrier, fearing the loss of KLM as a partner, agreed to a board resolution that contained language supportive of KLM's increase in Northwest equity. But the public willingness by KLM to forsake Northwest was a stinging rebuke.
Other events, both before and after the Georgetown meeting, confirmed Northwest officials' suspicions about KLM, most notably a March 1994 meeting between Bouw and pilot board representative Duane Worth to discuss issues that KLM and labour had in common against Checchi and Wilson.
But it was a personal request made to Bouw from Dasburg that proved the acid test of the trust between the two companies. Northwest's president asked his KLM counterpart to refrain from buying any of the Northwest shares that Elders of Australia was seeking to sell, pending a negotiation of the standstill agreement discussed in Georgetown. Nevertheless, KLM bought the Elders shares not long afterwards for $180 million, citing the need to protect itself against other airlines buying in.
After the 11-3 board vote last November, which enacted the 'poison pill', Northwest justified its action by saying it was attempting to protect itself from giving KLM control of 'a disproportionate amount of the economic benefits derived from the alliance' and referred to KLM's continual attempt to take creeping control of Northwest.
The two lawsuits filed against Checchi and Wilson - not against Northwest Airlines - by KLM will not even get a preliminary hearing till this October. The Dutch carrier appears to want to use the litigation to show that it poses no threat to Northwest's independence. 'KLM is not interested in winning the lawsuit, and we're not interested in control, creeping or otherwise. Sometimes, if you stand up to the schoolyard bully, he understands you're serious,' says a KLM official.
With the benefit of hindsight, as well as the benefit of not needing KLM's money right now, Checchi and Wilson both believe that the entire notion of equity in an airline alliance is at best a hindrance and at worst a distinct liability. Northwest is developing new alliances, the latest being with Air China, and has no interest in developing further equity ties. Meanwhile, KLM officials tenaciously guard their equity position in North- west, as well as the concept of an equity alliance.
There are those at KLM who wonder quite justifiably what would have happened during the 1992-1993 period without an equity link. 'Maybe we underestimated the financial way of American thinking, but I think if we did not have the equity we would've let them go [into bankruptcy] in 1993.' The point, the source goes on to say, is that any alliance 'is only as strong as the determination of two boards. If the boards give their blessing, the alliance will flourish.'
Such a blessing will have to come soon for the Northwest-KLM partnership. The general feeling is that the alliance is too important to give up. But by the two carriers' own admission, many aspects of the alliance have slowed to a near standstill because of the board-level quarrelling. 'It is important we retake our vows as soon as possible,' stresses a marketing director at Northwest.
Source: Airline Business
