Operating in the airline industry is never straightforward and the first three months of 2011 have proved to be no exception.

Air France-KLM chief executive Pierre-Henri Gourgeon summed up the "extremely unpredictable environment" in unveiling the group's fourth quarter, which he noted came in the face of high fluctuations in the oil price, widespread geopolitical unrest in parts of North Africa and the Middle East, and geophysical disasters that saw devastating earthquakes hit Japan and New Zealand.

Some carriers, sectors and regions were hit harder than others, but none were able to escape completely, especially from fuel. The price of crude oil climbed from the mid-$90 mark per barrel at the start of the year to $120 by the end of March.


Celebrations by US carriers of robust profits in 2010 ended abruptly in the first quarter as rocketing fuel costs, the natural disasters in Japan and unrest in the Middle East crimped profitability. But unlike 2008, when fuel prices started their historical climb, the slow economic recovery and healthy revenue trends are fostering a sense of confidence among airline senior management teams that their companies can combat the run-up in fuel.

The four major US carriers - American, Delta, United-Continental and US Airways - posted losses in the quarter. Low-cost carriers had different fortunes, with both Southwest and JetBlue recording profits for the quarter. Alaska Air Group was the star among US carriers, more than doubling first-quarter net profit.

No carrier escaped a drastic rise in fuel costs during the quarter, and the US carriers seem to be bracing for the worst. Delta estimates its fuel expenses for this year could rise by roughly $3 billion while American is calculating a possible $2.1 billion rise.

Paradoxically, US carriers enjoyed significant strides in their revenues as multiple successful fare increases were absorbed by the market. Despite recording a $30 million hit from the natural disasters in Japan, management at United-Continental was pleased with its revenue strength. "Yield improvement is the main story this quarter with our aggressive pricing and inventory management strategies offsetting much of the recent rise in fuel," says United-Continental's chief revenue officer Jim Compton.

Carriers collectively opted to offer fewer seats on sale during the quarter, which also bolstered revenues. US Airways president Scott Kirby highlights efforts during the quarter to "clean up or cancel lower price junk fares", helping his carrier grow yields 7.5% over the previous year. United-Continental's Compton continues to see improving demand versus 2008 when rising fuel was accompanied by the start of the economic downturn. "Where that plays out is we're seeing better corporate revenue driven by the corporate yield side."

The obvious question emerging is how long consumers will tolerate fare hikes. Kirby at this point remains bullish on the demand forecast. After unrest in the Middle East and the earthquake and tsunami in Japan triggered only "very good" bookings in March compared with the torrid pace of February, he feels "quite optimistic about the revenue prospects for the industry".

Looking to May and the North American summer "demand looks goodbookings are strong across the summer", says Kirby. "It looks like we are going to be back to strong double-digit RASM growth, but we aren't quite back to where we were in February."

All the US major carriers have instituted the requisite capacity reductions to ease the pain of higher fuel prices. But those airlines are well aware they need to offset the cost headwinds created by those reductions. "Although the capacity cuts will make it more difficult to achieve, our goal is to keep our full year unit costs approximately in line with 2010," says American chief financial officer Isabella Goren. "Excluding fuel and any potential impact of new labour agreements."


In contrast to their counterparts in the rest of the world, European operators have had little time to fully exploit an economic upturn. Not only has the recovery in many home markets been more muted and uncertain than elsewhere, the past 12 months have already been punctuated by the volcanic ash cloud and heavy snowfall disruptions.

While the first three months of the calendar year returned to a more normalised operational environment within Europe, fuel prices surged as unrest in the North Africa and the Middle East lingered on. The result is there was limited progress on cutting losses in the traditionally difficult first quarter of the calendar year. .

Revenues and yields were firmly up over the first quarter, reflecting a mix of additional capacity, stronger premium performance and fuel surcharges. This helped mitigate the cost burden from higher oil prices.

Iberia and British Airways parent International Airlines Group, which reported as a merged entity for the first time this quarter, has increased its full-year fuel bill forecast by €100 million ($162 million) to €5.2 billion - up from €3.9 billion last year. Around €300 million of this is based on increased capacity, the rest from higher fuel costs.

But the company says its manageable costs are "under control" and that it has been able to achieve 50% cost recovery through fuel surcharges and other measures. It also highlights revenue growth of 15% in the first quarter outstripped the additional capacity, as yields rose 5% in the first three months of the year.

"There is an underlying improvement in unit revenue in local currencies and this is very much based on the strong premium performance, particularly in long-haul," says Enrique Dupuy, chief financial officer at IAG. Having narrowed operating losses in the first quarter, it expects the improved performance to continue across the year. "We benefit from a relatively low base but we are very convinced it will be significant growth," says Dupuy. "The long-haul business is stable, with significant strengthening in the premium markets."


IAG chief executive Willie Walsh adds: "The trend in premium growth, primarily in long haul, has continued into April, and looking at the forward booking environment, that trend continues. So I think there is still some upside in long-haul premium going forward."

Air France-KLM turned round heavy full-year losses of €1.28 billion to post an operating profit of €122 million for the year to March 2011. "In the full year we increased revenues 12.5%, almost completely the revenue loss of 15% in the previous year," says KLM chief executive Peter Hartman. "We weathered the storm and are more or less back to previous levels."

But its recovery was similarly tempered in the fourth quarter. Revenue grew only 6% in the three months ending March 2011 and the carrier cut operating loses by less than a fifth to €403 million. Again, volatile fuel, natural disasters and spreading political unrest which took their toll

Air France-KLM's fuel bill rose 15% in the last quarter. "The increase in fuel has eaten away 60% of the extra revenues," says Air France chief financial officer Philippe Calavia, "but [other] costs have been well controlled." The carrier outperformed its full-year target for cost-savings through its Challenge 12 programme, saving €85 million more than its €510 million target.

The carrier, like its network group peers IAG and Lufthansa, remains confident of an improved performance for the year. "We have forward bookings on the right track and we aim at improving our operating result for 2011 versus 2010," says Gourgeon.

While it too has seen a strong improvement on the passenger side - in particular on long-haul premium - one of the stars of the show has been its cargo business. Air France-KLM posted a full-year operating profit of €69 million in its cargo business - a swing of more than €500 million on the previous year.

"It completely validates the strategy to fill the belly space of the passenger and combi aircraft," says Gourgeon of its cargo performance. The group has reduced its full freighter fleet from 25 to 15 aircraft and it now accounts for just one-third of its overall capacity - with the majority comprised of belly and combi aircraft space.

Air France-KLM had initially been targeting a halving of its cargo losses, but in a strong recovery year for air freight traffic, KLM's Hartman, noting the carrier boosted revenues without adding capacity, says: "We returned to the black [in cargo] a year ahead of our expectations."

But the group's leisure operator Transavia was hit hard in the fourth quarter as its network to the holiday markets in Egypt and Tunisia were badly affected by the unrest in these countries. German carrier Air Berlin similarly cited the impact of disruption in the region in reporting a widening in its first quarter net losses.


Asia-Pacific carriers were among the first to return to recovery and continue to make money. Chinese operators saw profits roughly on a par with the previous year.

In Japan All Nippon Airways, aided by growth at Tokyo Haneda airport and accounting changes, turned an operating loss $638 million into a profit this year of $797 million. But its operations were hit in the last quarter by the earthquake and Japan's economic woes - it slipped back into recession in the first quarter - carrying uncertainty into the year ahead.

ANA has not yet made a forecast for its full-year to March 2012 and says it is not yet able to estimate the total impact on demand from the earthquake. But measures aimed at providing ¥30 billion ($368 million) of savings are being implemented, alongside reducing capacity on some routes and cutting fares on others to stimulate demand.

The Japan impact is also being felt by other carriers in the region, alongside the returning fuel problem. Despite a fivefold increase in net profits of S$1.09 billion ($878 million) in the year to 31 March, Singapore Airlines faces a testing year as it tries to cope with high oil prices and falling load factors.

In its fiscal fourth quarter, the airline saw net profits drop 38% to S$171 million. While revenues increased 8% to S$3.59 billion, its costs jumped 11% as fuel expenses rose by one-third.

The airline was badly affected by events in Japan, one of its most important business and leisure markets, as well as natural disasters in Australia and New Zealand and political turmoil in the Middle East. Reflecting this, Singapore-based DMG & Partners Securities downgraded SIA's outlook to Sell from Neutral, citing a weakening outlook on load factors and flattish yields coupled with higher jet fuel prices. It downgraded its revenue and earnings estimates for the full year by 2% and 29% respectively, even though it remains optimistic about the carrier's medium-term outlook.

"For FY13-FY14, we think the outlook for the carrier is bound to improve on the back of gradual economic recovery globally, which will boost load factors, although yields are likely to be capped on the upside unless oil prices creep up further," says DMG.

SIA says it will monitor demand in the coming months and adjust capacity if necessary. For now it plans to lift capacity 6% in the current financial year through higher aircraft utilisation despite operating a smaller fleet.

The airline needs to find new markets that could help it to grow its network in the coming year. In March, it added South America to its network after launching services to São Paulo via Barcelona. It is potentially eyeing markets in Africa in response to growing links between the continent and China and the rest of Asia, and other cities in Europe as well, say sources.

However, analysts believe it must find ways to cope with the growing competition from expanding Gulf carriers such as Emirates and Qatar Airways, as well as the threat posed to its base in Singapore's Changi airport from Dubai and Doha. Budget carriers such as Jetstar Asia, Qantas's Singapore-based associate, also eat into SIA's market after starting long-haul services to Auckland and Melbourne, and potentially services to cities in Europe in the coming year.

Malaysian low-cost long-haul operator AirAsia X meanwhile is seeing yields going up, partly as a factor of fuel surcharges increasing fares in the sector. Airline chief executive Azran Osman-Rani believes the key is to retain a significant fare difference with its competitors. He sees no sign of softening demand yet and says the situation is similar to the 2008 crisis. "As the bottom end of the market drops off.at the same time you have got the downward migration from full service carriers and that exactly what we are seeing.

"But to keep sustaining a high yield we want to improve the quality of the product, so the trade-off is not something they will lose sleep over," he says.

Elsewhere, Thai Airways saw its operating profits heavily cut amid the tough conditions. But the airline also points to "more fierce competition" making it more difficult for it to recover the higher fuel costs by rising fares.

Source: Airline Business