Airline executives may have felt themselves entitled to a wry smile as the new breed of Internet stocks wobbled alarmingly last month. Airlines have been battling for years to win the kind of financial market approval that the dot.coms appeared to take for granted. To see some of the froth being blown off these newcomers was no doubt cause for some private schadenfreude. But the joy should not be too unbounded. The airline industry is not exactly a dependable profit-earner either.
It is true that the fashion for high tech stocks had sent prices soaring well above any visible means of support. The bubble needed to deflate before an outright burst. It is also true that other, fundamentally profitable businesses, found themselves unfairly shunned as unfashionable "old economy" companies.
Late last year, when asked about the success of his proposed Virgin mobile phone plans, Richard Branson seemed genuinely depressed at the fact that even before its launch, the business had already achieved a higher market value than the airline that he has struggled to build over 16 years. Some of the travel auction sites reached values higher than the carriers whose tickets they vended.
The truth is, that the airline industry, for all its glamour, is no longer in it youth and the young turks of the information age are. It is now more than half a century (and the last century at that) since the dawn of the jet age.
But if the airline industry is middle aged, then it has so far displayed few of the dependable virtues which maturity is supposed to bring. To most investors the business still looks like a sporty game, riding the highs and lows of the economic cycle. Sections of the business, led by the US majors, may now be making profits like never before, but they have an uphill battle to convince investors that they will not again descend into a bloodbath of red ink once the downturn comes. The issue is one of consistency and the industry's track record does not look great. Fund managers, looking back over the last decade, will hardly be reassured by what they see.
To borrow some analysis from Sam Buttrick of Paine Webber, as a five-year investment proposal, the airline industry since 1970 has under-performed the market 90% of the time. Over the past decade alone it has trailed the market by 10%. In short, it has been a one-way bet in the wrong direction.
Even the current sustained profitability merits closer inspection. The 1999 financial figures from the International Air Transport Association are at best lukewarm. Having at last looked ready to cut free in 1997, profits have again plateaued, skimming along the ceiling rather than soaring to new heights.
By IATA's calculations net profits on international operations have averaged no better than 1.4% over the past two years. As IATA director general Pierre Jeanniot remarks, that is not exactly setting the world on fire.
Much of the blame may be laid at the door of fuel prices and currency fluctuations. Yet it is exactly because margins are so fragile that movements in these input prices matter so desperately.
Others may point to the fact that aviation is still turning in healthy growth rates, and that is certainly a bonus. But, just like the new e-businesses, at some point it needs to deliver on the potential. Although international traffic may have grown by close to 7% last year, that appears to have come at the price of a punishing 4% decline in yields. The price may be too high.
Of course, sectors of the industry, such as the low-cost start-ups, have displayed the sort of youthful and fashionable vigour that is also the attraction of the dot.coms. Like them the fledgling airlines are a risky bet, with more failures than winners. Unlike the online darlings the successes have not always outweighed the failures. Few if any airline stocks will ever deliver the staggering multiples that a timely investment would produce in a budding Microsoft or Amazon.com. More convincing to investors have been those carriers, like Southwest, that have turned out a steady stream of earnings through bad times as well as good.
For all that, the airline industry has some tempting assets, not least, brand recognition and revenue management skills that the dot.coms would die for. The challenge is to build on those assets. Portfolio managers are creatures of habit; above all, they want to see consistency. That requires a clear demonstration of a strategy that will deliver on promises and lead to stability and measurable success. Easy words; not so easy to apply them to the turmoils of the airline industry. But while this industry is not yet an old dog, neither can it claim to be a young pup. The time has come to show it can learn new tricks and deliver on some of the old ones.
Source: Airline Business
