When IATA further raised its industry outlook for 2015 and forecast another likely improvement in profits for this year, it left the industry with an unusual but welcome problem. How do airlines enjoy their new found profits without attracting the kind of attention that could undermine their ability to sustain them?
IATA's latest outlook for 2015 and 2016, envisioning combined profits of $70 billion, would make them by a distance the most profitable for airlines since records began. Put into context, it almost matches the $82 billion the industry made in the seven profitable years between 2004 and 2014. And around half of that was wiped out by the four loss-making years over the same period.
The association has been at pains to point out the new profit highs merely bring the industry in line with the profits of other 'normal' sectors. Much of its communication around the profits has been to highlight that margins – still at single-digit levels – are only now outpacing returns on investor capital.
"What we are trying to point out is that this level profits, which while exceptional for the airline industry, is treated as commonplace in virtually every other sector in the economy," says IATA chief economist Brian Pearce.
"Indeed, it should be," he adds. "For an industry that is increasingly private-sector, you have got to pay investors for risking their capital. So that level of profits we should be seeing the industry get every year in order to attract the capital to expand."
That message is important, both in helping to attract investment for the industry but also to ensure its new profitability does not attracted unwanted attention from politicians and regulators.
The tax drives on air travel of a few years ago which accompanied many government climate-change initiatives, resulting in green taxes and increased air passenger duties, seem to have eased of late in favour of tapping the economic benefits from air travel. But the perception of travel as a luxury item has always left it at the mercy of politicians and regulators.
The most profitable sector, the consolidated US industry, has already caught the eye of the nation's justice department. It last year launched a probe into alleged capacity collusion among the four biggest airlines in the USA. "We are being attacked for being profitable," Nick Calio, head of US airline body A4A, argued last year.
Neither are airline industry profits likely to go unnoticed by suppliers, which will increase the pressure to get their share of the spoils. Keeping labour expectations realistic during times of profit is particularly hard. Restructuring Lufthansa, for example, faces the challenge of securing a new cost structure for its airline unit at the same time as the group is on track to deliver €2 billion ($2.2 billion) in operating profits.
"We cannot expect to fly for too long with a tailwind of low oil prices," warned chief executive Carsten Spohr last year, insisting that the need for a competitive cost structure remained crucial to future growth.
This underlines another challenge for airlines. The industry's new-found profit levels are far from universal; almost four-fifths of the industry profits in 2015 were generated by European and North American carriers and only the latter region – at 9.5% – had a net profit margin above 4%.
Within the other regions, the picture remains mixed. For example, collective profits in Europe may be strong but this is led by a relatively small number of high-performing players. It leaves plenty of airlines, it what remains a relatively unconsolidated market, still feeding on the crumbs left at the table.
Figures for 2010 and 2014 – roughly comparable years as regards overall industry profits – show the 10 most profitable airlines in 2014 generating collective profits of $12.7 billion, compared with $11.2 billion in 2010. The gulf between the most profitable carriers and the rest of the industry will be even higher in 2015.
CYCLING AROUND
There is also the question of how long these kind of profits levels can be maintained. The step up in profits have been fuelled by the rapid fall in the oil price and a largely benign – if extremely mixed – economic environment. While the outlook for both this year is largely for more of the same, airlines will need no reminders of the impact of surging oil prices.
Similarly, the economic backdrop is uncertain – especially given that traditional models of an economic cycle's duration suggest a downturn may not be far away.
Pearce says: "They've typically been eight or nine years and the last downturn was 2009. But I think it's a mistake to think there are regular cycles, because we don't have regular cycles anymore. What we do see are shocks. They are periodic but not forecastable."
CTAIRA analyst Chis Tarry adds that "the economic cycle as we have known it no longer exists", pointing to the different set of economic relationships and dynamics in play.
But he cautions: "The reality is that the economic outlook continues to deteriorate and that 'downside risk' remains – what we have seen most recently is a consumer slowdown in Asia.
"More broadly what we seem to be seeing is a fundamental weakness in (or lack of) demand at current and previous price levels." Tarry suggests that this is something that will be increasingly evident in the airline industry too.
"How many more years of profits can we have?" asks Rob Morris, head of Flightglobal consultancy Ascend, describing the current economic position as "bumping along the top" of the cycle. "If 2016 is another profit it will be seven consecutive years of net profits – that's a relatively long cycle. And everyone is hypothesising higher production rates up to 2020. That's another four years – and that's a really long cycle. Can we sustain growth for all that while?
"The backlog is more than half the installed fleet. There is a feeling of 'if we build it, the market will take it'. But that might not happen."
Morris also points to the unknown impact that potential interest-rate rises could have on airlines' ability to finance fleet expansion. "Last time round, interest rates were low, but that's the great unknown. What happens if they start to go up, even by a couple of percent? That might have a fundamental impact if aircraft finance isn't available."
Source: Cirium Dashboard
