Perhaps the best that can be said of the financial performance for the world airline industry in 1999 is that it was, at least, no worse than expected. The performance was not exactly bad. The industry duly turned in another profitable year. At issue, is the level of that profitability, with margins stubbornly stuck at only a few percentage points above break-even, despite an apparent boom elsewhere in the world economy.
Analysis of this year's Airline Business financial ranking of the world's top 150 airline groups, suggests that the industry ended 1999 with net margins virtually unchanged at 3.3%. Although that was a fraction up on the performance for 1998, there is little cause for celebration. Last year's net results contain a generous helping of windfall gains from the sale of shares in the computer reservation systems and Equant. Among the top 20 carriers alone that came close to providing a $3 billion net boost. If those gains were stripped away, the net margin would have come down closer to the 2% mark.
Such calculations are not always strictly scientific, given the vagaries of different accounting standards around the world, but as was already becoming clear a year ago, the overall picture is of an industry which appears to have hit a ceiling on profitability. The confident recovery of three years ago, it seems, was not the start of sustained improvement in airline results but the top of the current cycle.
That impression is borne out by the performance in terms of operating margins. These are taken as the earnings from operations before interest and tax - arguably the cleanest indicator of underling financial performance. Operating margins reached a new height in 1997 above 7%, only to slide again under the twin pressures of Asian economic crisis and soaring fuel prices. Last year they were back down to 5.7%, similar to the level at the start of this latest up cycle.
The figures in the Top 150 rankings relate to results at group level, including non-aviation businesses. However, there is evidence that the profits performance from core airline operations was, if anything, worse than the group result. The International Civil Aviation Organisation (ICAO) tentatively estimates that scheduled airlines produced an operating profit margin of only 4.1% in 1999 - down from 5.4% the year before. It has yet to give a firm estimate for net margins, but the indication is that it will slip back below 2.5%, having hovered just below 3% for the past two years.
The International Air Transport Association (IATA), looking at the international scheduled operations among its members, provides an equally downbeat picture. It too pegs operating margins at 4% and a miserable 1.6% at the net level. As a weary director general, Pierre Jeanniot remarks, it's not exactly the profitability to send hearts racing in the investment community. The causes are the familiar ones. Yields, measured per kilometre, dropped by a hefty 4% for a second year. At the same time, unit costs fell by 2%.It does not take higher mathematics to calculate the impact of that gap on break-even load factors.
Lacklustre outlook
IATA calculates that the equation should begin to improve a little. A better balance between traffic and capacity is expected to cut the decline in yields back towards its five-year annual average of 2%. Unit costs should also continue to decline, but only by around a single percentage point. There the culprit is a 30% hike in fuel, which as Jeanniot comments, will largely offset all other savings that the industry is dutifully making.
Last year, too, the fuel rise was a crucial one. Jet kerosene prices, monitored by ICIS-LOR part of the same company as Airline Business, averaged under ¢40 per gallon over 1998 before the hike. In 1999, the average rose above ¢50 as prices soared towards the end of the year. And in the first half of this year, jet kerosene has so far climbed close to some ¢75 per gallon - a 50% rise over the year.
Given that fuel accounts for somewhere in the region of 10% of airline operating costs, on paper, the latest hike could cost the industry some $10-15 billion extra this year. In reality, a mix of fuel hedging and currency fluctuations are likely to keep the damage down to perhaps only half that level. Yet even a $5 billion penalty could come uncomfortably close to wiping out half of industry net profits.
Asian recovery
Amidst the continuing profits plateau the high point is, perhaps, the strength of the recovery among Asia-Pacific's airline groups. After a tense couple of years struggling with the aftermath of economic crisis, the region as a whole was back on track in 1999 with profitability back up above the world average and revenue growth of close to 14%.
A year ago, Asian-Pacific carriers led by bankrupt Philippine Airlines, accounted for half of the top 20 ranking of heaviest net losses. This year, only a couple are among the major losers and six are back among the highest net profit -makers.
The turnarounds come no more dramatic than for Cathay Pacific. In 1998 it had posted the first loss in its 35 year history and was still deep in a desperate drive to slim down costs. A year later and Cathay is once more aggressively expanding and with profits to show from the enforced cost cutting. If first half profits for 2000 are an indication Cathay should be on course to join Singapore Airlines and the others at the top of the profits league again this year.
Yet there is still stress in elsewhere in the region. Malaysia, Indonesia and the Philippines were among the hardest hit by crisis and their carriers, like their economies, are still struggling to reform. Philippines Airlines has emerged from its bankruptcy, somewhat smaller but apparently in profit.
Japan's majors are still edging back to health after a couple of years of soul-searching and are now being buoyed by a domestic economy which finally looks to be growing again. The note in Japan is still one of caution, however, as the majors come to grips with the new realities of this year's domestic deregulation.
Leaders and laggards
If 1999 was the year of Asian recovery, then it was equally forgettable in Europe. Profit margins were more than halved as a summer of heavy capacity growth damaged yields and fuel rises put pressure on costs. The Association of European Airlines calculates that the oil price hike cost its members over $1 billion in 1999. That counts as the biggest single factor in a profits tumble that left the AEA carriers showing only $619 million in pre-tax income on international services, down from $2.3 billion for 1998.
Only one of the European top 100 airline groups actually managed to improve margins in the latest ranking - and that was a fast reviving Air France. Virgin Atlantic's parent also shows improvements, but for the year to April 1999 and it is fairly safe to assume that the 2000 results will not be so healthy when the finally emerge.
British Airways provided a sombre reminder of just how quickly profits can disappear in an airline industry charting its way through uncertain times. In 1998, BA had already lost its perennial place among the industry's highest profit makers. In the 1999 ranking, stripping out the exceptional gain from asset sales, it heads up the list of net loss makers. The task facing its new senior management team is to prove that profits recovery is equally dramatic despite the twin pressures of fuel and yields. That could be a message for the industry as a whole.
Source: Airline Business
