Despite the headlines, industry revenues appear to have fallen in real terms, writes Chris Tarry of CTAIRA, with analyses from Fabrice Tacoun
The Top 150 financial ranking of airline groups published in this month’s issue provides a useful document of record and also an opportunity for some industry analysis . A casual glance at the figures might suggest that history is simply repeating itself, and after three years of losses – admittedly far greater than in the past – the industry is on course to return to profitability, just as it did after previous downturns.
Some may be tempted to argue that this provides the rationale for the apparent acceleration in aircraft orders that has seen Airbus and Boeing report a net increase in their orderbooks of 685 aircraft in the first half of this year, compared with just 178 a year ago. In many cases we would argue that this is driven by cheap money rather than real prospects of a financial recovery in the industry. Looking beneath the headlines of the latest Top 150 ranking would seem to support the point.
First, it is worth remembering the economists’ concept of ”money illusion”. In broad terms, that argues that if the cash price for an item rises, it tends to create the impression that it is actually worth more. In reality, if you take into account the impact of inflation and currency fluctuations, the value may actually have declined over time.
This warning would appear to apply to airline revenue and yield calculations. On the surface it appears that the leading 150 airline groups have recovered from the post-9/11 slump, posting revenues of over $390 billion last year – 15% ahead of the record set back in 2000 when the cycle last peaked. Given that traffic has grown by 13-14% over that same period, then the industry would appear to have seen a modest rise in yields.
However, a couple of adjustments need to be made. First there has been inflation over the past four years, albeit relatively low in most parts of the world, which has diluted the real value of the dollar. Second, and more significant, these headline figures are translated into US dollars, which have declined dramatically against most major currencies over the past couple of years.
If revenues for the top 150 airlines are adjusted for both inflation and this currency translation effect, then it seems that they have actually fallen by around 1% in real terms since 2000. This in turn suggests a fall in real yields of more than 15% over the period or an average annual decline of 3.8%. That is nearly four times the traditionally accepted figure of 1% per year.
For the largest 50 airline groups the real revenue decline has been steeper still, in the region of 3%. While generalisations are inevitably dangerous, and some carriers have clearly outperformed the industry, the reality for many is that cost reduction remains of paramount importance. As we have argued many times in the past, traffic volume is no guarantee of economic success and certainly not if new traffic fails to generate new revenue growth.
Another interesting piece of analysis is the extent of the decline in the share of the world economy (measured in GDP), which is accounted for by the airline sector. Back in 2000 the revenue of the top 150 airlines accounted for just over 1% of world GDP, but by 2004 that had declined to 0.95%. Perhaps more worrying is the relatively greater decline in the share accounted for by the largest airline groups: the top 50 saw their share decline from 0.9% to 0.7% and the top 25 from 0.7% to 0.56%.
Not only have real yields fallen at a faster rate than in the past, but airline revenues have declined as a percentage of world spending. Given that traffic is well ahead of 2000 levels this provides further evidence of what we believe has been a structural shift in revenue.
Given that profit is the difference between revenue and cost, then if revenues are not growing in real terms, then cost needs to come down and sharply. Admittedly the weaker dollar eases the pain for non-US carriers on fuel and aircraft finance, but that has not been anywhere near enough to offset the 130% hike in oil prices since 2000. On last year’s performance, the industry would have had to shed around $30 billion of cost to achieve a presentable operating margin of 10%. The need is for more structural cost reduction.
The issue, now, is less about how much the industry loses this year but how it performs in 2006 against the background of rising delivery rates for new aircraft that will add further downward pressure on yields and revenues. A rendezvous with reality may be close at hand.
Source: Airline Business
