Comment: Turbulence ahead?

Comment: Turbulence ahead?

Airline profits are soaring amid intense competition in Europe and ‘there has to be pain somewhere’. Ian Taylor reports

EasyJet reported profits of £408 million this week as chief executive chief executive Carolyn McCall left for broadcaster ITV declaring the carrier “in good hands”.

Ryanair is looking at a €1.4 billion profit for the 12 months to March on top of £1.3 billion in 2017, despite cancelling the flights of 700,000 passengers between September and March after messing up its pilot rostering.

British Airways owner IAG is on course to report a full-year operating profit of €3 billion, up from €2.5 billion a year ago.

IAG’s network rivals Lufthansa Group and Air France-KLM are also on course for record profits – Lufthansa reporting a net profit of more than €1.85 billion for the nine months to September and Air France-KLM a 64% increase to €700 million in operating profit for the nine months.

In the US, net profits at Delta Air Lines ($4.4 billion), United ($2.9 billion) and American Airlines ($2.7 billion) for 2016 were in eye-watering territory and results for 2017 look set to be no different.

Airline profits have never been higher.

Yet in Europe, Monarch Airlines of the UK was the third carrier to cease trading in five months at the start of October following Alitalia – which went into administration in May – and Air Berlin, which entered administration in August and ceased flying in October.

Air Berlin and Alitalia ran into terminal problems when major shareholder Etihad pulled the plug on them. But overcapacity in Europe was the underlying problem for all three airlines, driving down fares and squeezing yields.

Graham Pickett, Deloitte global lead partner for travel and aviation, said: “The airlines that have fallen have been on the list of potential failures for a while because of high costs and a competitive market.

“All of them were struggling with the level of competition on their routes and the fact that passengers were paying less for their trips than a year ago.”

But he said: “There is not a wholesale problem across the industry. Airlines are still enjoying relatively low fuel prices and we still see more people travelling. However, people are paying less, so yield is an issue and that is the tale across the globe.

“The average price of flying from the UK to Spain was £30-£40 less in summer 2017 than summer 2016.

“Next year we’ll see single-aisle aircraft flying across the Atlantic, when 53 airlines already operate across the North Atlantic and flight numbers show a sizeable increase. So there is pressure on yields.

“There are also too many aircraft. We’ve seen a lot of next-generation aircraft come into the global fleet – the Boeing 787, Airbus A350, Boeing 737 MAX and Airbus A320 Neo.

“That has reduced operating costs, and we expected the old generation aircraft to come out. But with fuel prices low, airlines have used the old aircraft on new routes, in some cases experimental routes.

“There comes a point when there needs to be an adjustment through consolidation or airline parking aircraft. A number of airlines are grounding aircraft and I suspect we’ll see more of that.”

The airline sector is notoriously cyclical, with years of losses typically following profitable periods. Yet 2017 has marked an eighth consecutive year of collective profit for members of airline association IATA.

Could we be at the top of the cycle?

Pickett said: “Airbus and Boeing’s order books grew rapidly for four to five years. In the last 18 months, orders have dried up.

“Ryanair, easyJet and Norwegian are adding capacity. It’s a favourable situation for the consumer. But demand is not growing at the same rate as the number of aircraft.

“We must see airline profitability coming under pressure as costs rise and passenger yields see further downward pressure.”

He suggested: “Airlines will gradually adjust their fleets by taking out old aircraft.”

Pickett acknowledged carriers have seldom adjusted this way in the past, but he said: “Airlines are in a better position economically, with strong balance sheets, and the industry is better managed today than it has ever been.”

His colleague, Deloitte consulting director Martin Bowman, agreed suggesting adjustments to capacity are “more of a management issue than a necessity. The fuel price is forecast to remain relatively stable and we can set that against positive demand.”

Pickett added: “The only real worry is on the lessor side. There are a number of global aircraft lessors. Often these focus on particular aircraft types. An increase in interest rates could put them under pressure where they predominantly have older generation aircraft in their fleets.

“There is tension building in the profile of aircraft coming off lease over the next few years which will put pressure on residual values as well as lease rates. There has to be pain somewhere.”

*This is an extract from the forthcoming Travel Weekly Insight Report 2017-18, published in partnership with Deloitte.

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