Back to the future

The future is looking bright for companies in Middle East aviation.
ANALYSIS, Aviation

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Last year was one of the aviation industry’s worst ever, but the biggest players in the Middle East are confident that the future if looking bright.

Tim Clark doesn’t do nervous. As a veteran of the aviation industry and president of Dubai-based Emirates Airline, he’s spent years strutting the global business stage. He’s used to handling problems. Big problems.

“It’s an ash cloud. We’ll deal with it, we’ll get on with it,” Clark told reporters back in April.

All around him the aviation industry was grinding to a halt as volcanic ash from Iceland threatened to see airlines lose up to $50 million a day. The news was disastrous; the global economic downturn had already wreaked havoc on the industry, seeing it lose a combined $9.4 billion last year.

But Clark had another set of figures on his mind. The news that Emirates was on track to make just under $1 billion profit for the previous year was just about to be made public.

Across Dubai, in the UAE capital Abu Dhabi, Etihad’s CEO James Hogan was also studying his figures, which showed the carrier will be in the black next year - just eight years after launching.

In fact, Middle East carriers are expected to post a profit of $100 million this year - their first since 2005 - according to the latest research from the International Air Transport Association (IATA).

The predictions are significantly better than IATA’s March forecast figures, which indicated that regional carriers would lose $400 million this year.

Local carriers posted a $600 million loss last year as the industry saw some of the worst declines in passenger traffic since World War Two. In total, IATA expects airlines to make a global profit of $2.5 billion in 2010. It’s a major improvement compared with IATA’s previous forecast released in March of a $2.8 billion loss.

“Subject to no further external shocks (volcanic ash, war, epidemics, oil price hikes), and a continued improvement in general global economy, it would appear that we are now moving out of the bottom of the cycle,” says Simon McLean, COO of Waha Leasing, an Abu Dhabi-based investment holding company with interests in aircraft.

“There are positive indications of a turnaround in the leasing market with some improvement in demand and, consequently, of asset values and lease rental levels. On a general note, there is a lot of confidence and growing competition in the aviation sector with substantial amounts of new equity entering the market and existing players re-affirming their commitment to the aviation sector.”

Just when the world was ready to write off the entire aviation industry as a long lost cause, it appears to be back with a bang. Industry revenues are forecast to be $545 billion in 2010, up from the $483 billion the previous year, but still below the $564 billion in 2008.

“The global economy is recovering from the depths of the financial crisis much more quickly than what could have been anticipated. Airlines are benefiting from a strong traffic rebound that is pushing the industry into the black,” says Giovanni Bisignani, IATA’s director general and CEO.

“We thought that it would take at least three years to recover the $81 billion (14.3%) drop in revenues in 2009. But the $62 billion top line improvement this year puts us about 75% on the way to pre-crisis levels.”

So where will the action be? Top of the list, thanks to the likes of Clark and Hogan, is the Middle East.

Fears that premium class travellers would desert the industry have proved unfounded, and the region’s relatively strong growth rate means more travel, and more business, both of which are expected to have a positive impact on the aviation sector.

“The airline industry yet again stands as a microcosm for national economies,” Douglas McNeill, analyst at Charles Stanley Securities told The Guardian. “We are seeing a shift in power from West to East.”

A report by investment bank UBS, published last month, says that Middle East carriers account for eight percent of global traffic while the region is well-placed to attract more long-haul stopover traffic as it is located less than 8340km from 86% of the world’s total population.

This year, Middle East carriers will add 83 new aircraft to their fleet and 50 next year, which will represent 8.3% and 4.9% of deliveries worldwide.

Emirates is expecting to receive eight of its delayed A380s between January and December, while Abu Dhabi’s Etihad Airways is expecting three new Airbus A330 jetliners this year, as a result of pushing back the delivery of its ten A380s from 2012 to 2013.

Europe has been flagged as a major source for most of this new capacity, as Middle East airlines account for 36% of traffic flow to and from Europe.

Traffic between the Middle East region and Europe is believed to have grown 7.1% in the second quarter of this year.

In terms of routes, Dubai-London generates the most traffic and last year represented 17% of the combined capacity of all the top 20 international routes from the Middle East.

The same route accounted for an average of 1141 flights per week last year. “The recovery from this crisis is asymmetrical,” says Bisignani.  “Worsening conditions in Europe are in sharp contrast to improvements in all other regions.”

But it’s not just the Middle East that is seeing growth, and plenty of it. Asia-Pacific carriers are continuing to benefit from strong regional growth set against a backdrop of gross domestic product growth.

The Asia economy (excluding Japan) is expected to increase 2.9% while China will outpace that with GDP growth of 9.9%. As a result, the region’s carriers are expected to deliver the largest profit at $2.2 billion.

This is more than double the previously forecast $900 million in March and a major reversal from the $2.7 billion combined losses last year.

“Globally, the picture is more encouraging with Asia-Pacific carriers expecting profits of around $2.2 billion - about two-thirds of the combined result during the 2007 peak when the aviation industry made $14.7 billion profit,” Bisignani continues.

North American carriers - long seen as the weakest link in the industry - are expected to return a profit of $1.9 billion this year. This is a major reversal from the previously forecast $1.8 billion loss, and the $2.7 billion that the region’s carriers lost in 2009. The US economy is growing with a 3.3% GDP expansion.

Carriers are improving efficiencies as a result of demand growth, capacity cuts and domestic mergers. Meanwhile, Latin American carriers will show a profit of $900 million. Having posted a $500 million profit in 2009, Latin America will be the only region to post two consecutive years of profit.

Even African carriers are expected to post around $100million in profit, their first since 2002. But of course, its not all positive, especially when Europe is factored in.

According to IATA, Europe will be the only region in the red with a $2.8 billion loss. European GDP growth of 0.9% is not enough to support a recovery and the currency crisis clouds the future with uncertainty. Moreover, 70% of the $1.8 billion loss in revenue as a result of the volcanic ash crisis was borne by European carriers. A series of labour strikes and strike threats have also impacted the region’s performance.

Ironically, as the likes of Emirates Airline and Etihad go from strength to strength, so-called iconic carriers such as British Airways are facing a battle for survival. The British carrier is making close to $1 billion of loss a year, almost exactly the same as Emirates is making in profit.

During May’s BA strikes, which are reported to cost the national carrier over $10 million a day, Bisignani claimed unions were “out of touch with reality” and added that he doesn’t believe airlines should be expected to pay salary increases given the fragility of the sector in Europe.

Despite the overall improvement, he warns that the industry is still fragile.

“Even with all of our hard work, the result is just a 0.5% margin, which does not even cover our cost of capital. The industry is fragile. The challenge to build a healthy industry requires even greater alignment of governments, labour and industry partners,” Bisignani warns.

“They must all understand that this industry needs to continue reducing costs, gain efficiencies and be able to re-structure itself to be sustainably profitable. We must all be prepared for a greater change.”

What happens in Europe remains the big fear and the great unknown. The worst case scenario is a collapse of the single currency, which could severely impact all major European carriers. With the 20% decline in the Euro, foreign travellers, particularly those from the Gulf region, are paying less for their flights to the continent.

Ultimately, that could result in a two tier industry. But for Clark and his Middle Eastern airline colleagues, there
is little doubt which tier they will be sitting on.

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