Risky business ahead as profits decline

When airline leaders gathered in South Korea in early June for the International Air Transport Association (IATA) 75th Annual General Meeting and World Air Transport Summit (WATS) there was no shortage of critical issues to discuss. Centre stage were emissions reductions progress, infrastructure challenges and not surprisingly, the 737 MAX global grounding. Associate editor and chief correspondent, Tom Ballantyne, reports from Seoul.

June 1st 2019

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It did not come as a shock to the world’s airline leaders to hear from the director general and CEO of the International Air Transport Association (IATA) that their profits would shrink this year. Read More » At the Seoul gathering of the industry’s elite, Alexandre de Junaic said estimated income for 2019 would be US$28 billion, down from the $35.5 billion forecast by the association last December.

“This year will be the 10th consecutive year in the black for the airline industry,” he said. “But margins are being squeezed by rising costs right across the board, including labor, fuel and infrastructure. Stiff competition among airlines keeps yields from rising. Weakening of global trade is likely to continue as the U.S.-China trade war intensifies. This primarily impacts the cargo business, but passenger traffic could be impacted as tensions rise. Airlines will still turn a profit this year, but there is no easy money to be made.”

Nearly half of total profits for the year will be earned in North America at US$15 million. Asia-Pacific airlines are expected to deliver a combined net profit of $6 billion, down from $7.7 billion in 2018. The forecast results represent a meagre net profit per passenger of $3.51 in the region compared with a global average net profit per passenger of $6.12.

The Asia-Pacific is delivering a very diverse performance, de Juniac said. “Accounting for about 40% of global air cargo traffic makes the Asia-Pacific the most exposed region to weakness in world trade. Combined with higher fuel costs present conditions are squeezing the region’s profits.”

In 2019, overall costs are expected to grow by 7.4%, outpacing a 6.5% rise in revenue. As a result, net margins are forecast to drop back from 3.7% in 2018 to 3.2% for the year. Return on invested capital earned from airlines is forecast to be 7.4% against 7.9% in 2018. IATA said these numbers exceed the average cost of capital of 7.3%, but “the buffer is extremely thin”.

“The job of spreading financial resilience throughout the industry is only half completed with a major gap in profitability between the performance of airlines in North America, Europe and the Asia-Pacific and that of airlines in Africa, Latin America and the Middle East,” it said.

The good news is airlines appear to have broken free from the boom to bust cycle, IATA said. “A downturn in the trading environment no longer plunges the industry into a deep crisis. But under present circumstances, the great achievement of the industry in creating value for investors with normal levels of profitability is at risk. Airlines will create value for investors in 2019 with above cost-of-capital returns, but only just,” de Juniac told delegates in Seoul.

For airlines, environmental issues were again a priority of the gathering’s agenda. Since the start of the year, airlines have been recording their emissions, a preliminary step leading to the launch of the global market-based offset program CORSIA (Carbon Offsetting and Reduction Scheme for International Aviation) in 2021.

Aviation is the only global industry to implement such measures, but airline industry leaders remain concerned their achievements in reducing emissions are not being recognized by consumers worldwide. In recent months there has been a wave of protests across the world, including demonstrations organized by school children that complain governments are falling short in reducing climate risk. Some Europe-based protest groups, particularly Extinction Rebellion movement, have called for governments to ban short-haul flying.

IATA’s director of aviation environment, Michael Gill, said: “we have been pushing ahead with our climate action and it has brought about significant results. We are tracking ahead of our 1.5% fuel efficiency improvement target and are well on our way to CORSIA implementation.”

Gill said said the industry “must show more ambition and willingness to drive the strategy we have in place”. “We have so much to contribute to social and economic development. We don’t want to deprive future generations of the opportunity that aviation offers,” he said.

The IATA annual general meeting, which preceded the World Air Transport Summit and was attended by representatives of its 290 strong airline membership, overwhelmingly passed a resolution that called on governments to implement CORSIA as agreed through the United Nation’s International Civil Aviation Organization (ICAO).

CORSIA aims to cap net CO2 emissions from international aviation at 2020 levels - or carbon neutral growth. AGM participants also keenly supported the industry’s next climate action commitment of cutting net emissions to half of 2005 levels by 2050. Airlines were urged to implement all available fuel efficiency measures and to participate fully in a long-term switchover to sustainable aviation fuels, which are critical to achieving the industry’s 2050 commitment, IATA said.

Behind the scenes and during media briefings at the conference, the MAX issue continued to be the centre of attention for delegates. IATA member airlines operating the aircraft are concerned the global grounding of the airplane type will not be done simultaneously across the globe.

An example of the importance of the issue was the U.S. where the MAX may be cleared to fly domestically while regulators in other countries delay a decision on the type’s return to the skies.

Members of a CEO panel said variations in the dates for lifting the grounding would complicate matters for international carriers. Singapore Airlines (SIA) CEO, Goh Choon Phong, said airlines in nations such as the U.S. may be able to operate domestically once the ban is removed, but his airline group had no domestic market and therefore no such option. SIA subsidiary SilkAir has six B737 MAX 8s on the ground with another 31 on order.

“Everything I operate is international. Beyond having the approvals of the authorities in Singapore, we would need approvals from other countries to which we operate,” Goh said. The group would require a “minimum viable set of countries” allowing the MAX to fly in order to return it to service with SilkAir, he added.

Lufthansa group CEO, Carsten Spohr, said while the U.S. Federal Aviation Administration (FAA) may allow the aircraft to return to service, other regulators may not quickly follow suit. “It would be difficult to explain to passengers the aircraft is safe in some parts of the world but not safe elsewhere,” he said.

On the sidelines of the meeting, Malaysia Airlines Berhad group CEO, Izham Ismail, said all options were on the table regarding its order for 25 MAXs, which are due to begin arriving in Kuala Lumpur from July next year.

“We went through two tragic incidents, so I must uphold safety at all costs. I need adequate assurances from the manufacturer and regulators around the world that the plane is safe,” he said. “Deep conversations with Boeing” on the issue were taking place, he said, and added he believed the U.S. plane maker would solve its MAX problems. While a number of Boeing executives were in Seoul, including Boeing Commercial Airplanes (BCA) president and chief executive Kevin McAllister, they kept a relatively low public profile and concentrated on private meetings with customers.

IATA’s de Juniac said he aimed to have a second meeting with operators, regulators and manufacturers in coming weeks to set out priorities for the MAX’s re-entry into service. “We want to assess the situation and clearly identify what still needs to be done,” he told Airline Business Daily in Seoul.

In a statement, Boeing said: “We will be engaging in meaningful discussions with our customers regarding the economic impacts from the grounding.” It added no MAX orders had been cancelled - as opposed to being deferred - as a result of the Lion Air and Ethiopian Airlines accidents. IATA said the MAX could return to service from August or September. Other forecasts put the MAX returning to flying as late as December.

Qantas Airways group CEO, Alan Joyce, said he was confident Boeing would resolve its problems and confirmed the MAX would be considered in single aisle re-fleeting assessments for the group’s current generation 737s. Japan Airlines president, Yuji Akasaka, also said the MAX remained “a good option to consider” regardless of the accidents.

“While passenger traffic demand is holding up, the impact of worsening trade relations [on consumer confidence] could dampen demand. Aviation needs borders that are open to people and to trade. Nobody wins from trade wars, protectionist policies or isolationist agendas. But everybody benefits from growing connectivity. A more inclusive globalization must be the way forward.” de Juniac concluded.