Uneasy jets

Financial Management, Mar 2003 by Hayward, Cathy

COVER FEATURE THE AIRLINE INDUSTRY

The 9/11 terrorist attacks on the US proved ruinous for many of the traditional long-haul airlines, but low-budget operators are prospering at their expense - for now. As war in the Middle East looms, Cathy Hayward asks the experts what the future holds for an industry still in a state of extreme uncertainty

Life in the airline industry has been especially turbulent over the past two years. It was almost grounded by the combination of overcapacity, the events of 11 September 2001 and the risk of further terrorism. And the outlook is looking even bleaker. A war in Iraq could push fuel prices to unseen levels and issues such as spiralling insurance costs and the threat of deep-vein thrombosis claims are threatening to send costs sky-high and share prices diving.

Many airlines have blamed the terrorist attacks on New York and Washington as the cause of all the industry's ills, but fundamental weaknesses were there long before 11 September, according to Pearse Reynolds, general manager of corporate travel in the UK and Ireland at American Express. "We started noticing a downturn in the first quarter of 2001 because of overcapacity in the market," he says. "There were simply too many seats, aircraft and airlines for the demand. The attacks just sharpened that decline."

Giovanni Bisignani, director-general of the International Air Transport Association (IATA), agrees: "Before 11 September the industry was showing a net loss on international services of almost 2 billion. The impact of 11 September was extremely harsh on an already frail operating environment."

Less than a week after the attack, Continental Airlines made 12,000 employees redundant. Within days, American Airlines, US Airways, British Airways and Virgin Atlantic followed suit, cutting 10 per cent of their workforces. Later in the year Swissair and Belgium's Sabena went bust. In May 2002 BA announced a 200 million loss, compared with a 150 million profit in 2001. Almost a year after the attacks, US Airways filed for bankruptcy protection after racking up losses of $2 billion. And United Airlines, the world's second-largest carrier, was forced to do the same in December.

But it was not all doom and gloom. In the low-cost sector easyJet saw its profit before tax rise 78 per cent to 71.6 million for the year ending 30 September 2002. And its passenger numbers were up 60 per cent to 11.4 million. These figures include two months of financial data from Go, which easyJet purchased in August 2002. Passenger numbers at Irish airline Ryanair increased by more than 40 per cent to 14.5 million last year and it reported record profits of 96 million for the first half of 2002. And Virgin Express, the nofrills airline partly owned by the Virgin Group, announced a 50 per cent increase in profit after tax on the previous year in its thirdquarter results in November 2002.

How the airlines have fared has depended largely on how they responded to 11 September, according to Toby Nichol, corporate communications manager at easyJet. "The aviation world reacted in two different ways: he says. "Traditional airlines started crying into their balance sheets and put up fares to deal with the predicted drop in revenue. Low-- cost airlines reacted in the opposite way. They launched, independently of each other, a `let's get flying again' campaign and cheap seats abounded in the last quarter of 2001. People were still prepared to travel, but didn't want to pay as much as theyhad before."

Travel patterns also changed after 11 September. The transatlantic market collapsed as Britons decided to holiday closer to home. Traffic to North America from London's three main airports fell by more than a third, according to the British Airports Authority (BAA), while traffic to other faraway destinations served by Gatwick, Heathrow and Stansted fell by 14 per cent. Airlines such as BA and Virgin Atlantic, which have based most of their profit on long-haul flights, felt the pinch accordingly.

The corporate market also suffered as businesses cut back on travel spending, fearing for their employees' safety. Traditional airlines tended to use business class to subsidise the rest of their operations, Reynolds says. "There has been huge pressure on the front of the cabin. People want to travel business class, but they don't want to paythe differentials."

It wasn't only passengers that the no-frills airlines stole from their competitors. Because of its financial crisis BA was forced to pull its European services out of Gatwick. EasyJet swooped in to fill the gap and is now the airport's second-biggest user after BA.

The "flag carriers" suffered after 11 September because they buried their heads in the sand, argues Stephen Hobday, national commercial sales manager at full-service regional airline Flybe (formerly British European). "It was a huge challenge and made airlines look at their business models. While the flag carriers panicked, other operators looked at creative opportunities." Flybe, for example, has developed a new partnership with Continental Airlines to sell its flights.