Eurozone Crisis Biggest Risk to Airline Profits

The International Air Transport Association (IATA) downgraded its central forecast for airline profits from $4.9 billion to $3.5 billion for a net margin of 0.6 percent  for 2012 in a revision to its industry outlook. For 2011, profitability remains weak but unchanged at $6.9 billion for a net margin of 1.2 percent, IATA said.

The Eurozone crisis puts severe downside risk on the 2012 outlook as illustrated by the recently published OECD economic outlook, IATA said. In a worst case scenario, should the Eurozone crisis evolve into a full-blown banking crises and European recession, IATA estimates that the global aviation industry could suffer losses exceeding $8 billion in 2012.

“The biggest risk facing airline profitability over the next year is the economic turmoil that would result from a failure of governments to resolve the Eurozone sovereign debt crisis. Such an outcome could lead to losses of over $8 billion—the largest since the 2008 financial crisis,” said Tony Tyler, IATA’s director general and CEO.

“The global forecast for 2011 is unchanged at $6.9 billion. But regional differences have widened, reflecting the very different economic environments facing airlines in different parts of the world. And the overall margin of 1.2 percent tells you just how difficult the battle for profitability in this business is,” said Tyler.

European carriers are by far in the most challenging position, IATA said. Higher passenger taxes and weak home market economies have limited profitability in Europe. The region’s carriers are forecast to generate a collective profit of just $1.0 billion, down from the previously forecast $1.4 billion, and an EBIT margin of 1.2 percent. Low profitability has been despite European airlines being one of the fastest growing regions in terms of traffic this year. Yields have suffered and the base of strong demand grows more fragile as the sovereign debt crisis escalates.

North American carriers are in a much more benign environment, IATA said. They have seen yield and load factor improvements as a result of tight capacity management, which has improved profitability to $2.0 billion (up from the previously forecast $1.5 billion). The U.S. economy has also grown at a faster pace than Europe. This gives the region the strongest EBIT margin of 3.2 percent. None-the-less, the bankruptcy filing of American Airlines indicates that the region faces intense competitive challenges as well, IATA said.

At the global level, passenger demand is expected to expand by 6.1 percent, which is stronger than the 5.9 percent forecast by IATA in September. "Air travel growth has persisted at a stronger pace than we had expected. This travel strength, along with tight capacity management, particularly in North America, has kept load factors high and is supporting a 4.0 percent increase in yields. This has helped a modest increase in forecast revenues, which we expect to total $596 billion this year."

"Even if government intervention averts a banking crisis it is unlikely that Europe will avoid a brief recession," IATA said. "Business and consumer confidence has already fallen too far. Global GDP growth forecasts for 2012 have been revised downwards to 2.1 percent. Historically the airline industry has seen profit turn into loss whenever global GDP growth falls below 2 percent. This is driving the downgrade in the 2012 outlook."

All regions are expected to show profit deterioration from 2011, IATA reports, noting that regional  differences in 2012 are stark: European carriers are expected to fall into losses of $600 million, hit by the weakness of their home market economies and further increases in passenger taxes, while North American carriers are expected to generate profits of $1.7 billion, maintaining the strongest EBIT margin of 2.4 percent, as limited capacity growth is providing some protection against the downward pressure on profits.

“Even our best case scenario for 2012 is for a net margin of just 0.6 percent on revenues of $618 billion. But the industry is really moving at two speeds with highly taxed European carriers headed into the red,” Tyler said.

The threat of a banking crisis is a major concern to IATA, who cites the OECD's worst case scenario for 2012, which accepts the possibility of the Eurozone crisis deteriorating into a renewed banking crisis. Based on the OECD’s view that this scenario would cut global GDP growth to 0.8 percent, IATA estimates that this has the potential to cause global industry losses of $8.3 billion.

"In this scenario, all regions would fall into losses. Europe would be expected to post the deepest losses at $4.4 billion, followed by North America at $1.8 billion and Asia-Pacific at $1.1 billion. The Middle East and Latin America would both be expected to post $400 million losses, while Africa would be $200 million in the red, " IATA said.

Tyler said, “This admittedly worst-case—but by no means unimaginable—scenario should serve as a wake-up call to governments around the world. In a good year, the airline industry does not cover its cost of capital, much less in a bad one. But in a bad year, aviation’s ability to deliver connectivity and keep the heart of the global economy pumping becomes even more vital to initiating a recovery. Government policies need to recognize aviation’s vital contribution to the health of the economy.”


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