ALEXANDER CAMPBELL / LONDON
Low-cost airline warned purchasing policy would derail ambitions if oil price rises
Seven years ago Stelios Haji-Ioannou launched EasyJet with a wet-leased Boeing 737-200 - last week he stepped down as chairman of one of the world's fastest-growing airlines with a fleet of 64 aircraft and orders for almost 140 more. But the low-cost pioneer's ambitions to become one of Europe's elite could be blown apart by war in Iraq because, unlike almost every other airline, it refuses to hedge fuel purchases against the danger of rising oil prices.
That's the warning from oil analyst William Buchanan of Standard Bank, who describes EasyJet's decision to continue buying jet fuel at current market rates, despite the prospect of a second Gulf war, as "ridiculous". He says: "EasyJet will lose its competitiveness if it is not hedged."
Fuel price hedging - buying at a fixed price for delivery in the future - is common practice in the airline industry. "Most airlines hedge up to a year ahead, as part of the budget cycle," says Buchanan - 50% is the accepted minimum, but several major carriers, including British Airways and Lufthansa, are now more than 90% hedged.
Lower jet fuel prices in the wake of 11 September helped bolster EasyJet's pre-tax profits, which were up 78% to £71.5 million ($113.1 million) for the year to 30 September on revenue 55% higher at £552 billion. Rival Go, acquired in the last two months of the financial year, contributed 18% of operating profits and £66 million to sales. But the fact that the economic downturn after the terrorist attacks coincided with EasyJet's financial year was also a factor; despite increasing flying hours by 36% over the previous year, EasyJet barely spent any more on fuel.
EasyJet is adamant its policy is right. "We don't hedge. We have never hedged," it says. "We have managed to deal with problems today, and hedging only delays the problem. The market expects airlines to hedge but hedging can be a disadvantage."
Buchanan concedes that hedging can be dangerous; because it commits an airline to buy a certain volume of fuel in advance, carriers which suddenly cut capacity - such as Swissair in autumn 2001 - can find themselves with surplus fuel at a time when the spot price is plummeting. Analyst Chris Avery of JP Morgan is less concerned about the effect of not hedging. "Hedging defers rather than eliminates price changes," he says. "I don't discriminate between airlines that hedge and those that don't. Some airlines don't like the hedge premium and some, like EasyJet, don't hedge on principle."
Despite similar business models, fellow low-cost airline Ryanair takes a different tack from its rival on fuel purchasing. "We have hedged 12 months ahead for the last seven years," says Ryanair's finance director Howard Miller. "It gives us certainty on fuel costs which helps our planning. It prevents exposure to spikes and means prices rise slower than world prices. We can't beat the market, but we can smooth out the spikes."
However, even if war breaks out in Iraq next year, it may not necessarily be bad news for EasyJet. While most carriers are negotiating prices based on expert views that oil prices will rise slowly to around $25 a barrel next year, a rapid conclusion of a strike against Saddam could unlock the country's huge, under-exploited oil reserves and could push prices down to $14-16 a barrel within months. That would leave EasyJet's competitors saddled with higher fuel prices. However, a protracted Middle East conflict could send oil prices and EasyJet's overheads spiralling at a time when pressure on revenues in the European airline sector will be at its most intense.
Source: Flight International
