With exclusive comments from Tom Klein, a Senior Managing Director at Certares, AeroTime takes a look at the short-term future outlook of the aviation industry.
As the COVID-19 pandemic seemed to end, or at least the world found a way to live with the virus, it looked like the aviation industry had managed to reach the light at the end of the tunnel.
The temporary spike in passenger numbers recorded between 2020 and 2021 provided plenty of hope that the industry could ride the wave of recovery and even go beyond levels seen in 2019.
However, fortunes changed, and unprecedented events occurred, such as Russia’s invasion of Ukraine, leading to a shift in global interests.
At the same time, airlines were posting record revenues. American Airlines (A1G) (AAL), the largest airline by fleet size in the world, finished Q3 2022 with “revenues of $13.5 billion in the third quarter, a 13% increase versus 2019 and a record for any quarter in company history.” Delta Air Lines, another United States (US)-based carrier, ended the same quarter with “adjusted revenue 3 percent higher and unit revenues up 23 percent compared to 2019, marking the highest revenue and unit revenue quarter in Delta’s history,” according to the airline’s President, Glen Hauenstein. Other regions experienced their share of record-breaking results, such as Ryanair’s recovery from 39.1 million passengers in H1 FY2022 to 95.1 million in H1 FY2023, or a strong showing by Japan-based All Nippon Airways (ANA), as the airline reversed a six-month loss in 2021 to a six-month profit by the end of September 2022, from ¥115.5 billion ($823.9 million) to ¥30.2 billion ($214.4 million).
While reviewing the airline sector for Seeking Alpha in the United States, Daniel Martins, one of the founders of a California-based hedge fund firm, noted that it remains tricky to invest in the aviation industry.
“At a high level, betting on such a procyclical sector is most appropriate during the early stage of recovery in economic activity. Instead, what I see happening today is a long overdue rebound in travel demand that could still be severely dented, should inflation and rapidly rising interest rates lead to something that resembles a recession next year,” Martins concluded his analysis.
Mixed fortunes and signals
Looking at record-breaking revenue quarters one could assume that aviation is recovering well, even if fortunes have seemingly changed during the year. However, signals have been mixed, especially considering that Q3 is typically a peak travel period, as the Northern Hemisphere enjoys its fair share of sunshine across continents.
Some of the previously mentioned airlines have issued warning signs, such as Ryanair expressing caution despite having experienced quite the recovery despite having quite the recovery. “The recovery for the remainder of FY23 remains fragile and could yet be impacted by new Covid variants or adverse geopolitical events,” the airline’s H1 FY2023 financial report noted, continuing that the company hopes to avoid “any repeat of last year’s Omicron lockdowns which damaged last Christmas at such short notice.”
The Ireland-based carrier said in its outlook that “as is normal, at this time of year, we have almost zero visibility into Q4 [Q4 FY2023, from January 1, 2023, to March 31, 2023 – ed. note] which is traditionally our weakest quarter and which this year doesn’t have any Easter benefit.”
The upcoming, as well as the first quarter of the next calendar year, will provide short-term guidance on how consumers are dealing with the current financial difficulties, including inflation. While the Irish low-cost carrier argued that “we expect to grow strongly in a recession as consumers won’t stop flying, but rather they will become more price sensitive,” the same could not be said about travel across oceans, including the Atlantic and the Pacific.
“We haven’t seen Asia fully recover. So outbound China International is almost zero. Japan is not nearly back to pre-recovery levels,” Tom Klein, a Senior Managing Director of Certares, an investment management company, told AeroTime during an exclusive interview. According to Klein, these areas are important for airlines and the global economy, which indicates that it is currently too early to claim that the industry has fully recovered.
With high fares, such as those seen for travel between the United States and Europe tripling to what it was prior to the pandemic, “you are seeing a big revenue surge, but it is really based on fares,” Klein continued.
And while leisure travel continued to boom, business travel lagged. This is despite the fact that while the pandemic introduced various work-from-home and teleconferencing solutions, in-person meetings are still a vital part of sealing a deal and improving customer relationships. However, economic uncertainty seems to be causing companies to tighten their belts when it comes to business travel, which is therefore unable to recover as quickly as leisure travel did.
In a survey, jointly conducted by Tourism Economics, the US Travel Association, and J.D. Power, “a smaller share of business travelers in Q3 expect to take at least one trip in the next six months, compared to Q2,” as mostly large companies (1001+ employees) “have implemented cost controls or spending limits,” the results of the survey indicated. Looking forward, though, the economic conditions “point to moderating business activity during 2022 Q4 relative to 2022 Q3,” the survey noted.
Klein still pointed out that passengers are back and that early forecasts indicate that the trend will continue, even if some of those customers were part of the so-called pent-up demand travelers.
“We think that in general, business travel is still lagging, while leisure travel has boomed. As business travel comes back, even if leisure travel moderates a little bit, I think we get back to 2019 levels in a relatively near future,” Klein said.
Consumer spending and cash reserves
One factor that could indicate whether pent-up demand was a short-term trend could be household savings which boomed during the early stages of the pandemic.
According to Eurostat data, in the European Union (EU), the seasonally and calendar-adjusted household saving rate jumped to 23.89% in Q2 2020, followed by a temporary dip during the next six months, before going upwards once again in Q1 2021, as the rate stood at 21.07%.
The statistic, indicating the total amount of net savings as a percentage of net household disposable income, then dipped to 12.55% as of Q2 2022.
According to the Organisation for Economic Co-operation and Development (OECD) forecast of household savings, the rate is set to dwindle further, including in some of the largest economies in the world, such as Germany and the US.
Still, Klein indicates that while the industry is a little cautious, it will be important to monitor whether consumers can continue spending like they were able to do when COVID-19 regulations were largely abolished across the globe, and they were free to travel once again.
“Whether or not that can continue in an environment where there’s a little bit of inflation, and maybe a little pullback in the economy, is anybody’s guess,” he added.
Getting back to 2019 levels should be the goal of the industry going forward, Klein noted, which will provide the foundations for further growth. “At some point over the next couple of years, we will return to the normal growth in the industry, which is kind of north of the [global – ed. note] General Domestic Product (GDP). If the global GDP is 2%, travel goes a little faster than that,” Klein specified.
However, he still warned that the future still carries a fair amount of uncertainty because there are still questions about how various macroeconomic factors can impact consumers.
The International Air Transport Association (IATA)’s Quarterly Air Transport Chartbook for Q3 2022 also indicated that while bookings are healthy for the coming months, as of September 7, 2022, only 12% of airline ticket sales were for the period from January 2023 and beyond. Furthermore, according to IATA, “consumer surveys confirm that geopolitical and macroeconomic concerns have overtaken COVID-19 as the primary risk.”
To counteract the doom and gloom, IATA noted that following the shock the industry experienced in 2020, “the improvement has been nothing short of spectacular. In 2022 we expect industry losses to shrink to USD 9.7 billion for a net loss margin of -1.2%.” Furthermore, the association’s surveyed Chief Financial Officers (CFO) and cargo executives are positive about the outlook, with nearly 80% expecting greater profitability over the coming 12 months, which is an outlook that is “just shy of the high set in 2010”.
“Undoubtedly, the strong recovery seen in the passenger business this year is a key driver of this positive outlook for profitability going forward,” concluded IATA’s Q3 2022 analysis.
Responding to growing passenger demand
Assuming the post positive, or a somewhat positive, outlook for the short-term future, the question is whether the airline industry is prepared to handle the surge in traffic, something that was quite difficult to handle during the peak summer months.
In general, the problem has been three-fold. For one, aircraft deliveries have been delayed from Airbus and Boeing. The problem, at least according to Air Lease Corporation’s (ALC) Executive Chairman Steven Udvar-Házy, will get worse before it gets better. The executive stated during the Skift Aviation Forum that every aircraft scheduled for delivery during this and the following year “is delayed,” with Udvar-Házy predicting that manufacturers will be able to meet their obligations in 2023 or 2024. Interestingly, ALC’s lease retention rate now stands at 90%, while the historic rate stood at about 60%. That means that airlines have to operate older aircraft and even resort to restoring or bringing older jets out of retirement, which would have otherwise made little economic sense.
Ryanair’s Chief Executive Michael O’Leary put it bluntly when he said that Boeing’s inability to meet the agreed delivery schedule hampered the airline’s growth, with the US planemaker delivering just half of the contracted 737 MAX aircraft before Christmas.
The Irish low-cost carrier was not the only airline impacted by delays, and the failure to meet contractual obligations is also an issue across the Atlantic Ocean. JetBlue (JBLU), for example, stated that “due to Airbus delivery delays, our capacity planning assumptions assume delivery in 2023 of a minimum of 14 A220 aircraft, five A321neo aircraft, and three A321neo LR, for a total of at least 22 aircraft.” In its prior assessment, the airline anticipated that it would receive 29 aircraft throughout the year.
Finally, there’s the problem of a lack of crew and other personnel. Airports, such as Amsterdam Schiphol Airport (AMS) were forced to introduce passenger caps (AMS recently extended its cap until March 2023) to alleviate some of the pressure caused by their full-strength operation.
“Keeping to a maximum number of travellers is vital. We want to ensure the safety of employees and travelers, in addition to providing a more reliable airport process,” stated Hanne Buis, the Chief Operating Officer (COO) of Royal Schiphol Group in September 2022. “Together with the security companies and unions, we are working hard on making structural improvements – a daunting task in a very tight labor market,” she added.
Airlines are also facing less-than-ideal employee rosters, with large incentives offered for newly recruited personnel. One example is the $100,000 bonus offered by American Airlines (A1G) (AAL)-associated regionals, including Piedmont Airlines, for captains to join the smaller companies. Piedmont Airlines’ CEO said that it will have a gap in pilot availability between 2023 and 2024 and that it is looking for people to cover that period, offering not only the bonus but also the ability to advance through the ranks within American Airlines’ (A1G) (AAL) career eco-system for pilots.
Digitalization of air traffic management
Digitalization will be another space to monitor, as Klein pointed out that “the biggest bang for the buck for the industry is the modernization of the operating systems and modernization of air traffic control, which really isn’t within the airline’s control.”
According to the director at Certares, governments in the EU and US have to step up. Investing in air traffic control management “would have a significant impact on the efficiencies of airlines, their green footprint, and the general operating performance that happens day-to-day to satisfy customers.”
An example of this can be seen with the French Air Traffic Control (ATC) system, where one of the Area Control Centers (ACC) was upgraded to the latest 4-FLIGHT ATC system in October 2022. A leaflet, prepared by the French Ministry of Ecology, noted that while the French Air Traffic Management (ATM) system handled more than 3 million flights in 2019, the system’s “architecture dates back to the 1970s and it is no longer fitted to handle the latest generation of technological standards and the new, operational concepts involved in the Single European Sky.” With the launch of 4-FLIGHT, the direction des Services de la navigation aérienne (DSNA), expects a safer, more sustainable, and cost-efficient system that will also increase the potential capacity controllers can handle while directing aircraft from and to the French ACCs.
“The coronavirus pandemic has brought about deep changes. Aviation is becoming more environmentally friendly, driven by the digital transformation of the sector. With 4-FLIGHT, France now has a new-generation technological base that will be equipped to deal with these new air transport challenges,” Florian Guillermet, the director of the DSNA, was quoted as saying.
Even then, ATC is not the only area where there is potential for digitalization. While airports and airlines have partnered to implement facial recognition and other touchless technologies, there are parts of the air travel chain where manual labor is the only option. While passengers get themselves on the plane, Klein pointed out, “bags and cargo cannot get themselves to the plane, there have to be people involved.”
The breakdown happened, especially during the Summer, because companies did not foresee “what’s required from a manpower perspective and being able to deploy the people required to serve the customer.”
These are not threats, but rather opportunities for the airline industry to move forward and improve the customer experience as it continues to move away from the pandemic.
Outlook remains positive and opportunity-filled
Despite the chaos experienced throughout the summer and the currently unfavorable economic conditions, air travel appears to have restabilized.
“Even with economic and geopolitical uncertainties, the demand for air transport continues to recover ground. The outlier is still China with its pursuit of a zero COVID strategy keeping borders largely closed and creating a demand roller coaster ride for its domestic market,” commented Willie Walsh, IATA’s Director General, when the association published an overview of the passenger market as of September 2022. “Strong demand is helping the industry cope with sky high fuel prices,” continued Walsh, adding that airlines need to pay attention to passengers’ wishes and their feedback after dealing with pandemic-related travel complexities.
The question to ask as we move forward is whether consolidation, a term that has floated around the industry throughout the most intense moments of the pandemic, will truly become a phenomenon in the industry.
And in some form, it has. whether it would be the saga “Who Will Buy Spirit Airlines (S64) (SAVE)?” or Avianca (AVHOQ) and GOL Airlines joining forces under a single holding company. The latter, according to a jointly released announcement “customers to benefit from the best fares, access to more destinations, more frequent flights and seamless connections, and the ability to earn and use points across LifeMiles and Smiles, the brands’ market-leading loyalty programs.”
Even then, North America remains an extremely consolidated market, with a few big players and old and new niche carriers trying to chip away at the market share.
“It is no surprise that there has been years and years of consolidation in the US market, and as new carriers emerge over time, they get to a point where their organic growth just cannot make them big enough to compete the way they want to,” Klein assessed.
A good example could well be the Spirit Airlines (S64) (SAVE)-JetBlue (JBLU) merger, as the airlines have reached their limit of growth.
Another continent to monitor, according to Klein, could be Africa, which “is more healthy than it has ever been in our lifetime”.
“Prior to the pandemic, five of the fastest-growing tourism markets in the world were on the continent. And if you look at the age demographic of the continent, it is quite young,” he added. With a young demographic and more opportunities, Klein expects Africa “to be a very rich place for travel growth over the next couple of decades.”
“I think companies that do not pay attention and do not invest there will be sorry they did not,” Klein concluded.