Good afternoon to those joining us in Singapore and across Asia. And good morning to those who are joining us from Europe, the Middle East and Africa.
We have some good news today. We are revising upwards our outlook for 2012 airline industry profits—from $3 billion to $4.1 billion. Last year the airlines made $8.4 billion. So the fall in profitability this year will not be as bad as we had previously expected.
But we should not get too excited. This is a $1.1 billon revision on revenues of $636 billion. So the net profit margin will be 0.6% instead of 0.5%. That of course is a miniscule margin, but in the past the industry would have been losing money with oil prices averaging $110 a barrel and global GDP growth 2.1%. That is dangerously close the 2.0% mark below which historically airlines have returned a collective loss. Today is good news…it means that airlines are keeping their heads above water better than we thought…in a very difficult operating environment.
Let me explore what we see happening in the industry. The operating environment has remained largely the same since our last forecast in June.
The Eurozone crisis is continuing despite the best efforts of politicians. The recent quantitative easing in the US and Japan has not yet translated into more robust economic growth. And the ripple effects of the slowdown in China are still being calculated. Business confidence is low. And that is having a direct impact on airline fortunes.
There has been little relief in one of our largest cost items—fuel. Oil prices have been volatile but in line with the expectations that we had in June. So we are still basing our outlook on oil at $110/barrel.
On the passenger side of the business, we have seen a more robust performance in traffic volumes during the first half of the year than expected. People are flying in greater numbers despite the economic uncertainty. And we have increased our passenger projections by a half a percentage point to 5.3% growth for the year. This is, however, below the 6.0% historical trend. And, if we look into which market segments are growing we can see that the premium side of the business is suffering. In July, for example, the number of economy passengers was up 3.0%, but the number of premium travelers was down 0.5%.
The impact of low business confidence is even more evident on the cargo side of the business. In June we thought that we might end the year with a small 0.3% gain in cargo volumes. But cargo volumes are actually contracting and we expect to end the year 0.4% below previous year levels.
In general, this is all bad news. And you are probably wondering how airlines have squeezed out some extra profit in these conditions. Indeed, only a few years ago, turning a profit with oil over $100/barrel would have been unthinkable. And today we are predicting a profit at $110 in a weak economic environment. Generally high oil prices accompanied strong economic performance which provided some offsetting revenues.
Airlines are delivering profits in these difficult times as a result of their own strong operational performance. This is, in part, evidence that the consolidation that has taken place in recent years is strengthening the business. In addition, airlines have restructured their businesses,
cut costs, improved processes, invested in more fuel efficient aircraft and much more. This combination of actions is keeping the industry’s head above water—but with a profit margin of just 0.6%. It is far from an acceptable return, but almost amazing given the circumstances.
Yields are a good measure of how better performance is moving profitability in the right direction. Yields are deeply impacted by capacity. And the situation today is tricky. There has been some weak growth in the passenger business, but cargo growth is declining. This asymmetrical demand is difficult to manage because about half of cargo travels in the bellies of passenger aircraft. Nonetheless, airlines have managed to maintain global passenger load factors close to 80%. And we expect that will lead to a 2.5% improvement in yields—a full percentage point higher than our previous outlook. The cargo side is less positive. We expect cargo yields to decline by 2.0% this year.
While these are general trends, we should be aware that the industry situation is, by no means, uniform.
European airlines are the weakest. In June we expected them to make a loss of $1.1 billion. We now see that loss at $1.2 billion. Not only is the economy weak with the Eurozone crisis, Europe has some very unfriendly conditions for doing business—onerous regulations, high taxes, insufficient capacity at many key airports and an air traffic management system badly in need of modernization. I think that we are all aware of the long-delayed Single European Sky project.
Asia-Pacific airlines, on the other hand, are expected to be the best performers, making a $2.3 billion profit—which is $300 million more than we had previously expected. Despite a slow- down in the Chinese economy, Chinese domestic demand is still growing at nearly 10%. And the demand for regional and long-haul travel (including in the premium classes) has held up better than expected in the face of economic uncertainty. This good news has been moderated by the poor performance of cargo. Asia-Pacific carriers account for about 40% of the global cargo market. So they are more exposed than carriers in other regions to the current weakness.
North American airlines have shown the greatest improvement in prospects since our last forecast. We now see them making $1.9 billion profits—$500 million better than our June projections. This has been driven largely by a trimming of capacity which has given them the highest load factors and improved yields. Notably, North America and Latin America are the only two regions that are expected to see profits rise in 2012 over 2011 levels.
Middle East airlines have also seen a major improvement in their prospects—from $400 million to $700 million for the year. They have been very competitive in both cargo and passenger markets. In addition to growing their long-haul business with increasing market share on routes connecting via the Gulf hubs, they have taken the majority of what little growth there has been in the cargo market this year.
Latin American carriers like those in North America, are expected to improve their profitability this year with an unchanged forecast for profits of $400 million.
For African airlines we see an improvement over the previous forecast to breakeven. We now expect them to break even—the same result as in 2011.
So, to sum it all up, capacity management has led to yield improvements in passenger markets. This has more than offset the impact of weak cargo markets. So, while we were expecting profits to fall from $8.4 billion in 2011 to $3 billion this year, that will now be somewhat cushioned….and we expect the industry to make $4.1 billion in 2012. But just to emphasize—even with this improvement, the 0.6% net profit margin that this will deliver is far from a sustainable return. The news today is good, but it is still a very tough business.
Looking into 2013, the situation is expected to improve moderately. Most likely the external factors will not change dramatically. Fuel prices are forecast to soften very slightly to $105/barrel for Brent. This and recent government and central bank actions are expected to improve GDP growth from 2.1% to 2.5%. This combination will result in industry profits gaining ground to $7.5 billion. But against anticipated revenues of $660 billion, that will be a 1.1% profit margin.
Aviation creates employment for 57 million people and supports $2.2 trillion of global GDP. We are critical to global supply chains, connecting people to business and making the global village possible. Aviation delivers enormous value to the world. That airlines struggle to eke out an unsustainable 1.1% net profit margin is clear evidence that aviation still faces many challenges.
Taxes, Regulations and Capacity
Some of those challenges are progressively being dealt with by airlines. And that has led to the improved performance that is evidenced in today’s announcement. But others require the action of governments.
And so we continue our mantra calling on governments for
- Taxes that don’t kill growth
- Regulation that facilitates growth and
- Capacity that accommodates growth
Having traveled around Asia for these past two weeks, I am reminded of how important this is for governments to understand. The situation is not “perfect” in this part of the world. But we have great examples of countries like South Korea where the government not only understands this—but has acted upon it. And aviation-friendly policies are helping to propel its economy forward in a very positive way. Singapore, China, Hong Kong are other examples.
And then you look to Europe. The region is among the most in need of the economic growth that aviation can provide. Yet we still see high taxes, cumbersome regulation and capacity constraints. There are lessons for Europe to learn from other parts of the world.
And, of course, Europe is also at the center of one of the industry’s biggest political issues. That’s the unilateral and extraterritorial imposition of the EU emissions trading scheme (ETS) on international aviation.
The industry is making progress towards its climate change goals of
- Improving fuel efficiency by 1.5% annually to 2020
- Capping net emissions from 2020 with carbon neutral growth
- And cutting emissions in half by 2050 compared to 2005 levels
But this is in danger of being over-shadowed by wrangling over Europe’s ETS plan. Let me be clear: the industry is not opposed to market based measures. They will be vital to meeting our targets—at least temporarily until technology-led solutions are fully developed and in place. The problem is that countries see Europe’s plan as an attack on their sovereignty because Europe will effectively collect as tax for activities in the airspace of other sovereign states and territories.
About 25 countries have met three times (in Delhi, Moscow and Washington) to make their opposition to Europe clear. They have also been clear in their support for a global solution on market-based measures agreed through the International Civil Aviation Organization (ICAO). China has been in the forefront of opposition with a formal government policy forbidding its carriers to participate. And late last month similar legislation in the US took a major step forward in the Senate.
Nobody wants a trade war--certainly not the Europeans. Trade is vital to re-starting their stalled economies. Recognizing the potential trade impact of Europe’s plans, several European ministers outside of the Directorate General for Climate Action have called recently for a delay in implementation to allow time for the ICAO process to work. And of course the airlines cannot be caught in a trade war either—as you can see from our weak profitability.
We need to make the ICAO process a success. Technical experts are making great progress on narrowing down policy options in preparation for the 2013 ICAO Assembly. Now we need Europe to find a find a way to remove the roadblock to progress that its ETS plans have become—and create the space for global consensus to develop.
With that, I am happy to take your questions.