CTAIRA analyst Chris Tarry on how the latest financial results season illustrates a growing gap between Europe's higher performing and struggling airlines
By the end of the third quarter of 2014, a widening gap between airlines that were generating sustainable profits and those that were not had become increasingly evident.
This gap between “leaders” and “laggards” is likely to continue widening as we move into 2015 and beyond.
Attention will inevitably focus on the underperformers and outperformers, again shining the spotlight firmly on the European full-service airlines. During the recent results season, with the notable exception of IAG, most airlines in this group downgraded expectations not only for 2014 but also for 2015.
Against this background, it is important to consider where and why 2015 might differ from 2014, and what the consequences might be. The outcome will reflect the combination of short- and longer-term changes in the key factors that affect the financial performance of any business. For an airline, these factors are: the economic background and the rate of GDP growth; changes in the exchange rates of key currencies; the rate of capacity growth in its markets and on some key routes; fuel price; and the strategic objectives being pursued by management.
The general expectation for 2014 is that the economic performance will be lower than previously forecast. In terms of world GDP, 2015 is expected to be a stronger year. However, expectations vary widely at a national and regional level. In some regions, what can be described as the “new normal” level of economic activity will still provide a significant driver for airline traffic growth.
In the regions where economic growth is less favourable, a number of airlines are well placed to benefit from previous decisions and actions, as well as from opportunities opened up by challenges faced by their competitors.
Managing change is nothing new to airline executive teams, and, depending on where or who you are, such change either represents a challenge or an opportunity. Failure to fully capitalise on an opportunity is far less damaging than failing to successfully address a challenge. The management of change is never easy, but it is through such change that an increasing number of airlines could move towards a position of financial sustainability. However, it is one thing to plan and another to implement. As a result, there is no guarantee that there will be a material increase in the number of airlines reaching a position of long-term financial sustainability.
But sustaining the unsustainable is no longer an option. In this respect, there is an onus on a number of airline managements, following recent approvals of state aid, to deliver the turnaround plans that they and the European Commission signed off on. The fact that restructuring is a regular, if not constant, feature of life for managements of European legacy airlines highlights the constraints that exist to making the necessary change sufficiently quickly.
The problem does not lie in not knowing what the numbers ought to be. This is the easiest part of establishing targets in any budget or plan. It lies in the constraints associated with implementing the plans and delivering profits. It is important to note that there is a considerable difference between reaching or returning to profit and achieving a state of financial sustainability. For an increasing number of airlines in Europe, realising this goal will require yet more structural change.
At the simplest level, any strategy needs to be both coherent and credible from the perspective of both internal and external audiences. It must also be able to be implemented and to deliver the expected results within a sufficiently short period of time.
In Europe, however, a number of business transformation strategies that have been announced not only have the appearance of moving the deck chairs around, but, more worryingly, bring to mind the film “Wag the Dog”. In other words, they do not appear be focused on solving the fundamental problems besetting the core business, and are likely to prove an expensive diversion of resource and management activity.
Just over a decade ago, we saw the start of a significant change in the structure of the airline industry, as European low-cost carriers accelerated their development against a background in which most airline managements were focused inwardly on adjusting to what, at that time, was considered the new normal. In some areas, the conditions are right for further structural change and a repetition of this history.
Add to this the fact that in the economically challenged regions it appears that capacity growth will continue to outpace fare-neutral demand, and this suggests both downward pressure on fares and the prospect that low-cost carriers will further increase their share of the market. Furthermore, the increasing market convergence in the short-haul sector, not just in Europe, will result in this group of airlines also increasing its share of higher-value traffic. This will predominantly be the result of traffic from redistribution within the market, rather than taking any growth that emerges.
Looking to 2015, it appears that we are set for more of the same. The economic background remains mixed – even if, at a global level, economic growth will be better than in 2014. Capacity will grow faster than fare-neutral demand, providing further opportunities for low-cost carriers, while internal and external structural change will provide the key to financial improvement.
Overall, prospects remain unchanged from what has been seen for the last few years. This environment will present increasing opportunities for some but increasing challenges for others.
Source: Airline Business
