Full-service airlines, hamstrung by large debt incurred to survive the pandemic financial crisis and minimal recovery of the lucrative corporate travel segment, need to reevaluate their business models, as well as fleet and finance strategies, to return to growth mode, according to Alix Partners.
The global consulting firm and turnaround specialist recommended a series of steps airlines should take to create a sustainable business post-recovery, including greater focus on generating revenue from carrying cargo.
“While network decisions are typically driven by passenger demand and cargo is a secondary consideration, airlines must rethink this strategy as flying cargo-only flights has proven a critical source of revenue,” managing directors Eric Bernardini, the aviation practice co-lead, and Daniel Imison wrote in a new industry analysis.
During the pandemic, airlines grounded much of their fleets to conserve cash while the passenger market fell into a depression, but quickly switched many aircraft into auxiliary freighters when shippers clamored for more capacity to move critical medical supplies and a surge in cross-border shipments as economies recovered. Many cargo divisions, buoyed by high rates, generated record revenues.
Airline industry officials have also said airlines now better appreciate the significant financial contribution cargo can make to their bottom lines.
To ensure liquidity, airlines borrowed heavily, but management is under pressure to repay that debt as soon as possible. Net debt for a sample of leading global airlines has increased by 22% to $402 billion, much of it guaranteed, or directly provided, by various governments, according to their analysis.
(Source: Capital IQ, Alix Partners)
U.S. airlines ended 2020 with $163 billion in debt, adding $55 billion to their liabilities, according to Airlines for America (A4A).
The situation will get worse in 2021, with airlines burning through billions of dollars in cash that may require them to seek additional financing. A4A forecasts the U.S. airline industry will carry $172 billion in debt by the end of this year. Interest expense for major domestic carriers doubled to $3.8 billion last year and is estimated to reach $5.5 billion in 2021, according to the trade association.
Expectations for larger cash reserves so airlines can tap capital markets and better weather extreme events without relying on federal assistance will also act as a drag on profitability, airline industry officials say.
(Source: Airlines for America)
Airlines are already raising prices to cover higher fuel costs and higher interest charges. Executives say they will use free cash flow to pay down debt, as it comes due, to repair balance sheets.
Mainline carriers that get most of their profits from premium business travel need to rethink their long-haul offerings, potentially expand premium economy and take advantage of the high demand for air cargo services, the Alix Partners research note said.
It recommended airlines:
Invest in systems that provide more real-time data, such as bookings, web searches and local travel restrictions, to improve demand forecasting, which will enable management to better plan operations.
Review their capital structure and divest noncore operations such as catering, training and maintenance, or subsidiaries, to generate cash and give themselves a more flexible cost structure.
Maintain a focus on taking out costs that do not directly impact the passenger experience, such as maintenance, indirect purchases and marketing.
Creatively reset fleet strategy, making sure to have the right mix of aircraft types and numbers, that can flex to meet changing market conditions. Airlines must look to minimize the total cost of ownership and consider maintenance and operating costs, not just purchase or lease costs.
Create a smarter network strategy. Full-service carriers must balance adding new leisure destinations with offering convenient schedules to attract valuable business travelers. Cargo opportunities should also be taken into account when planning routes.
Matching service offerings to consumer demand.
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For airlines in 2020, cargo no substitute for people