Hospitality and Travel: Risk
According to the International Air Transport Association, IATA, carriers are expected to suffer a 15% drop in turnover in 2009 and run heavy losses totaling an estimated $11 billion. Positive growth is expected to resume in 2010 (up 4.6%) but not become profitable again with a total $3.8 billion loss, the net result of the halt in the deterioration of trade among OECD countries and the presence of stronger regional trends in Asia-Pacific, Latin America, and the Middle East. Latin American companies will return to profitability but at a low level, Middle Eastern airlines will be practically at break-even while the financial position of emerging Asian carriers will remain weak. European and American companies will continue to make losses ($1.9 billion) with the Europeans particularly handicapped by their delay in reducing capacity.
If recovery does not actually materialize in 2010, or proves very modest, many companies will be severely strapped for cash with their debt service burdens already high. An H1N1 pandemic constitutes an aggravating risk for the industry.
The contraction of world trade, the deep cuts made in corporate and household travel budgets (especially for first class, business, and full-fare economy class travel where margins are juiciest) have considerably affected air transport business. While the outlook for household consumption is relatively somber in industrialized countries, the trend appears stronger in some emerging countries. Only a weak recovery is expected for corporate investment. In this context airlines will continue their efforts to adjust capacity to demand and reduce costs to limit deterioration of their unit revenues. Their overriding concern again this year will be to stay as liquid as possible and thereby avoid any excessively rapid deterioration of their cash positions. Some of them will likely be unable to generate enough cash to cover their investment and spending needs with the accelerated pace of new bond and share issues in 2009 ($15 billion through to August compared to just $5.8 billion in 2008) increasing airline indebtedness, particularly European companies.
Risks run by airlines that can affect their margins and revenues.
By postponing fleet renewal they can jeopardize their competitive position: in renegotiations with manufacturers and leasing companies, when agreements expire leasing companies could apply higher leasing rates; the sale of unused aircraft could bloat the supply of used equipment up for sale causing their market value to fall in consequence; the weakness of the dollar, if it lasts, could prompt European and Japanese airlines to follow the lead of a low-cost Irish carrier and buy aircraft from the American airplane manufacturing leader.
By hedging against increases in kerosene prices (26% of costs), companies run the risk being penalized by an erroneous assessment of the oil price trend, as was the case for some European companies in 2008 and 2009. American companies, meanwhile, were penalized less by their hedges, which unwound in 2009. The weakness of the dollar, if it lasts, will enable some companies, especially European and Japanese, to compensate for the price of oil. But they will suffer, however, from unfavorable exchange rates for freight and passenger business.
Mergers of major airlines, like that concluded by British Airways and Iberia end 2009, are expected to result in greater utilization of space at large airports. This trend will weaken small regional carriers lacking large hubs at international airport, and whose disappearance would benefit large companies that take over the traffic. This could particularly befall Central European airlines subject to competition from both low cost and major European carriers offering flights to and from that region.
New travel behavior and recourse to less costly methods of communication like videoconferencing could lastingly turn travelers away from long-haul business class flights that enabled airlines to offset low economy class prices imposed by the competition with low-cost operators.
All airlines will continue to adjust their capacity to stay closely aligned with demand. Starting in 2008 the first to make the necessary drastic reductions were the American carriers and, to a lesser degree, Asia-Pacific companies while European and Latin-American companies did not follow suit until 2009. The prospect of industrialized countries emerging from recession and of a strong recovery of trade in Asia-Pacific and Latin America will lead to sharper increases in capacity in these two regions (up respectively 5.6% and 4.3%). Freight business in Asia has benefited from raw material purchases and restocking by companies. Any increase in orders for intermediate products will thus drive activity in this area with companies giving priority to shipping speed to be able to restock promptly in response to demand, thus with short delivery times. Japanese airlines have, however, suffered considerably from the drop in Japan's exports since mid-2008 with some ratings consequently lowered by the large agencies. Only Middle Eastern airlines will continue to achieve double-digit growth in traffic and capacity (around 10%), with their losses limited to $0.3 USD million.
Low cost carriers (LLC in industry parlance) will likely continue to be driven by the quest of households and companies for the best deal. But the fierce competition among them and the rise of kerosene prices will undermine their performance. Unlike their traditional competitors, most LLC operate recent aircraft, which shelter them from the excessive indebtedness necessary to cover crucial investments. The low cost model could soon reach its limits with costs already squeezed to bare essentials. Restructuring programs, capacity adjustments towards the more profitable routes, alliance formation, and bond issues are also current issues for LLC.
Grading and description are forecasted for 2010. Updated on globalEDGE April 2010.
