Around 6 years ago, I completed my last post on developments in passenger aviation. While there were periodic liquidations of airlines, the industry was beginning to converge on a long-term equilibrium: a progressive hybridization of the core business model – merging elements of low-cost carriers with core features of legacy airline services. Consolidation at the top of the passenger aviation pyramid – a smaller number of integrated carriers operating across the world and the continued commoditization of airline travel worldwide. For sure there would be winners and losers; without doubt some passenger airlines would intensively lobby their governments for ‘one more loan’ but unless you were deep in the weeds of the industry, you could detect the broad direction of travel (pardon the pun).
Fast forward to 2020 and the industry is facing its biggest crisis possibly in the entire history of commercial passenger aviation. In the interests of public health, Governments around the world have elected to shut down the economy to prevent the spread of COVID-19 among their populations. Millions of workers continue to put themselves in harm’s way to keep vital industries going – medical staff, food service, retail and public transport. The human cost of the virus has been tragic. Tens of thousands of deaths, millions of people infected. No vaccine in sight.
One industry to immediately bear the brunt of the lockdown measures around the world was the passenger aviation business. As governments closed their borders and imposed necessary but tough self-isolation measures, passenger numbers collapsed. Airlines dramatically cut back their schedules – some airlines stopped operating entirely. Frequent flyer programs offered elite customers status extensions and reduced the re-qualification requirements. Road warriors, used to living on planes, found themselves grounded, staring into their laptop screens conducting meetings on Zoom. Extraordinary.
As early signs that the public health measures taken to reduce transmission of COVID19 appear to be working, governments around the world are allowing a slow, partial return to opening up the economy. Without forgetting the human loss, focus is now on the economic impact of self-imposed economic quarantine. Analysis after analysis is now making predictions and offering advice on what companies should do once they are able to operate again. Passenger aviation, while being one of the first to be hit, faces perhaps one of the greatest challenges in resuming its activities. This post will examine core challenges and opportunities the industry faces moving forward.
Financial Repercussions
Airlines are fast running out of cash. On top of that, they have huge financial obligations in the forms of promised refunds and rebookings that they have offered to passengers in the wake of COVID-19. The Center for Aviation (CAPA) predicts that most airlines will collapse by May this year unless governments provide liquidity for the airlines to cover operating expenditures. Based on the gross level of cash and cash equivalents, the airlines that are most comfortably liquid are low-cost carriers Wizz Air and Ryanair. Wizz Air said it has liquidity to last one and a half years. CAPA revealed that Finnair, has 133 days of liquidity, IAG (American Airlines, British Airways, Iberia, Vueling) has 132 days and easyJet 113. Air France-KLM, Turkish and Lufthansa Group have 81, 66 and 51 days respectively.
IATA, the industry lobby association, claims that airline losses could reach USD314bn in 2020. IATA belives that carriers who will lose the most are designated national carriers since they operate under more complex optimization pressures than low-cost carriers (diplomatic roles, maintaining levels of employment etc). The association called on national governments to introduce a raft of short-term and medium term rescue measures, such as relief on taxes, charges and slot allocations. Governments around the world have agreed. The US government has already earmarked a USD25bn package for the US airline industry. Airlines have access to direct aid from the USD2.2 trillion Coronavirus Aid, Relief, and Economic Security Act (Cares Act). The monies will be used to continue to cover operating expenditures such as salaries. Major airline bailouts including American, Delta, Southwest, JetBlue and United are not unconditional. The Wall Street Journal reports that while the airlines wanted the loans to be forgiven, US Treasury Secretary, Steven Mnuchin, told them that 30 per cent of the assistance would need to be repaid, and that airlines would have to offer stock warrants — giving the government the right to buy shares in the companies — on a percentage of the rescue funds allocated.
Air-France KLM will receive up to 11 billion euros in financial aid from the French and Dutch government. The Dutch government indicated that it would provide between 2 to 4 billion euros in state aid to KLM, while the French cabinet announced a support package of 7 billion euros for Air France. While the deal has yet to be approved by EU competition authorities, the arrangement involves conditions. KLM will not be able to pay dividends or award bonuses for as long as it receives state support and workers will have to take a pay cut. The Italian government will take control of Alitalia from June 2020. This follows news that Alitalia’s turnover has plunged 87.5% in 2020 to date. A new company will be created with the Italian State being the owner. Rumors have emerged that Lufthansa Group is seeking an EUR8bn bailout from the German government. This is in addition to an estimated EUR700mn cash injection from the Austrian government for their struggling national carrier, Austrian Airlines, which is part of Lufthansa Group. The Swiss government has also agreed in principle to support an aid package worth around CHF1.5 billion Lufthansa unit Swiss International Airlines via state-backed bank loans.
Dubai pledged financial assistance for state-owned Emirates Airlines. The government will inject new equity into the carrier, one of the world’s leading long-haul airlines, during this “critical period”, Sheikh Hamdan bin Mohammed Al Maktoum. Likewise, the Singapore government injected up to S$19 billion for the flag carrier, Singapore Airlines, whereas its majority shareholder, Temasek Holdings, said it would underwrite the sale of shares and convertible bonds for up to S$15 billion. SAS Scandinavian Airlines received a payment guarantee of 3 billion Swedish kroner by the governments of Denmark and Sweden after most flights scheduled for April were cancelled. One exception to this financial disaster has been Qatar Airways that has continued to operate with reduced capacity playing an important diplomatic role for the State of Qatar in its promise to ‘get people back home’ during the lockdown.
Other airlines have not been so lucky. The South African government has refused South African Airways an additional loan of approximately EUR500m. The South African government has effectively accepted the collapse of the national carrier in order to transition the sector into a more competitive one. Virgin Atlantic has been told to re-submit a bid for a GBP500m state bailout package. The government was left unimpressed with an initial funding bid according to reports in the Financial Times. Virgin Atlantic, owned 51 percent by Sir Richard Branson’s Virgin Group and 49 per cent by Delta Air Lines requested emergency financial help in March. The airline is seeking a bailout, split between a commercial loan and a credit guarantee to release funds from card companies withholding payments.
Numerous carriers have offered plans for renewal packages. Norwegian Air Shuttle says up to € 1.1 billion in debt could be converted into new shares to raise funds. The plan must be endorsed by bondholders at meetings scheduled for April 30, by leasing companies on May 3, and by shareholders at an extraordinary general meeting on May 4. The airline is also planning a new capital increase which will allow it to raise up to 400 million NOK. Cathay Pacific is also considering removing seats from 777s in order to carry cargo in the passenger cabin. Cathay has a dedicated cargo fleet of twenty 747 freighters are already at near capacity so Cathay is supporting them with cargo-only flights on passenger aircraft.
Beyond Bailouts
Liquidity rescues are only the first steps in the future of passenger airlines. Many more painful issues remain on the table. Many of these topics will be the basis of future posts, the remainder of this article will provide an overview on the key issues:
Public Health and Flying
Even when the economies emerge from lockdown, there is little clarity on how airlines can transport people and do so in line with public health guidelines on personal protective equipment and physical distancing. Various ideas have been floated from having the middle seat free in economy class to spot health checks at the airport (COVID19, temperature etc.). IATA believes that said that leaving the middle seat vacant was among likely conditions for a resumption of air travel – according to their data, airlines can break even at 75 percent capacity.
Reduced Passenger Numbers
There are numerous reasons why COVID19 may have long term impacts on the fleet structures of passenger airlines. First, until a scaled vaccine is available, there are going to be fewer people flying. Border restrictions imposed in the crisis phase of the pandemic will likely be slow to be lifted (especially if governments expect a second wave of infections) creating challenges for passengers. Second, companies are now discovering how much can be done without flying employees to meetings. This may reduce business travel. Third, leisure travelers may be reluctant to get on the plane fearing COVID19 infection. They may choose alternative ways of going on vacation.
Increased Environmental and Sustainability Pressures
With airliners grounded worldwide, people have witnessed quieter skies and cleaner air. While it is likely that once lockdown is lifted, we may return to previous habits and the skies will get noisier and dirtier. However, the fact that people have noticed the benefits of less CO2 emissions and noise pollution, airline executives may be under pressure to restructure their fleets – decommissioning older planes and replacing them with more fuel efficient and environmentally cleaner and quieter planes. American Airlines is likely to accelerate ongoing fleet transformations. Possibilities include retiring its ageing Boeing 767-300ER and E190 fleets early. The ban on most European travel may accelerate a decision on American’s remaining 17 767s. Some of its 34 Boeing 757-200s, could also be retired.
Corporate Governance, State Ownership and Competition
As governments begin to take ownership of airlines, the presence of government representatives on the boards of the airlines may impact key restructuring and strategic decisions not just at the bailed out carriers but also those airlines who survived the economic hit from COVID19. In return for money, executives may be required to maintain employment levels at the airline. Low cost carriers who have not benefited from the largess of taxpayers will be monitoring for attempts by bailed out carriers to abuse the support they have received to enrich executives and avoid difficult cost restructuring. This will only mean one thing: legal challenges around distortions caused by state subsidy.
I will be reflecting on these key issues in future blog posts.
Airline Analysts 