Ryanair’s (Relatively) Weak 2019 Becomes Weaker 2020

Madhu Unnikrishnan

May 24th, 2020

  • Long before anyone heard of Covid-19, Ryanair was facing uncharacteristically severe earnings pressure. To be clear, its 13% operating margin last year was nothing to be embarrassed about. But far from repeating its 2018 distinction as world’s most profitable airline, it didn’t even make the top 10 in 2019.

    Much of its woe came during the first half of the calendar year, when German and Austrian markets faced heavy overcapacity, when Ryanair’s labor and fuel costs were spiking, and when Brexit concerns were depressing U.K. demand. Schedule planning in the context of the B737 MAX grounding would become another headache later in the year. Recall that during the January-to-March period of 2019, Ryanair’s operating margin was an awful negative 17%, with about four points of that attributable to heavy losses at Lauda Air in Austria.

    Surely that would be a low point. Ryanair after all was still Europe’s low-cost leader, with airport, ground handling, maintenance, and aircraft ownership costs nobody else could match. What it couldn’t foresee is the greatest industry demand shock of all time. Or, for that matter, an epic collapse in oil prices that would render its aggressive fuel hedging strategy an expensive mistake. Alas, in this year’s calendar Q1, Ryanair posted net losses exceeding $650m, or $265m excluding unrealized hedge losses and other special items. As bad as that negative 17% operating margin was last year, the figure was negative 21% this year. Revenues declined 6% y/y on 1% less ASK capacity (Cirium). Operating costs declined just 3%, with fuel costs alone down 7%.

    The immediate pre-crisis period, covering the 2019/20 winter season, showed strong y/y earnings improvement, fueled by rising ancillary sales and a stronger European fare environment thanks to aircraft shortages and rival bankruptcies. Ryanair was also making progress with its new strategy of allocating flying across multiple subsidiaries, including Vienna-based Lauda but also Buzz in Poland and Malta Air.

    Today, all but a handful of the group’s planes are grounded and will remain so until early July. That would mark a nearly four-month grounding, compared to the handful of days it was grounded after the 9/11 attacks of 2001. Assuming Europe proceeds with plans to remove travel restrictions and reopen tourist resorts, Ryanair expects to have about 40% of its normal capacity running in July, and then roughly 60% in August.

    But even while optimistic that people will fly, it’s under no illusions about making any money this peak season. For calendar Q2, it sees losses exceeding $220m. And then “hopefully, a little bit less” in Q3. Survival won’t be in question. Ryanair entered the crisis with a fortress balance sheet loaded with valuable assets — it owns about 90% of its aircraft, all B737-800s (minus Lauda’s 26 A320s). It currently has some $4.5b in cash. Weekly cash burn is now about $66m, down from $220m in March. Of that $66m, meanwhile, $50m is outflow linked to bad fuel hedges. That figure will decrease as hedges settle and burn off in the coming months. But cash outflow from refunds will increase by a roughly offsetting amount.

    By the summer though, the airline should have some cash generation from bookings. And even if it doesn’t, executives say they can continue on for “a year or two” without liquidity trouble. It also, keep in mind, is accessing $730m in low-rate emergency U.K. government lending. As for its costs, 50% pay cuts are already in place. And management is playing hardball with unions for longterm concessions. More base closures are likely, following last week’s decision to close Lauda’s chief base in Vienna because unions refused to accede to company demands. It’s planning to cut a minimum 3,000 jobs company-wide. But if unions don’t grant 20% pay cuts, that figure will be higher. Nobody said Ryanair achieved its success by being nice.

    It’s negotiating with Boeing too, for MAX compensation, for fewer deliveries over the next 24 months, and for some larger MAX 10s if the price is right (the airline hopes to finally get its first of up to 210 MAXs this winter). Airbus, meanwhile, hasn’t provided any attractive offers as of yet. Ryanair does expect to receive attractive offers from airports big and small across Europe as traffic begins to recover. It sees several years of subdued oil prices. Labor costs will be a lot lower after enacting pay cuts. Rivals like Norwegian will be a lot smaller. Others like easyJet are deferring large numbers of aircraft deliveries.

    In recent weeks, bookings and flight searches are up, albeit off a very small base. Families in northern Europe, it says, are looking to take two-week holidays to places like Italy, Spain, and Portugal, whose beach resorts have low Covid infection rates. Italy will open to tourism in June, without any quarantines for arriving passengers. In the U.K. and Ireland, by contrast, arriving passengers will be required to self-isolate for two full weeks, a policy Ryanair’s CEO Michael O’Leary called absurd and unenforceable.

    Quarantines will eventually get lifted though. Longer lasting will be the impact of government aid, which Ryanair says will distort competition and depress fares. O’Leary points to the $14b Lufthansa stands to receive, the $11b Air France/KLM is getting, the nearly $4b allocated to Alitalia, the $2b for TUI, and so on. Also frustrating: Discriminatory aid like the airline tax refunds France is granting to Air France only. Ryanair is suing to stop some of these aid packages. But it recognizes that fares will be low until at least 2022, with taxpayer funds indirectly subsidizing travelers.

    The good news is that low fares, combined with attractive hotel pricing, will stimulate demand. So Ryanair expects to fill something like half its seats this summer, and then hopefully more like three-quarters in the winter. Longterm, the LCC sees enormous opportunity as the price of key cost items plummet (i.e. fuel, planes, labor, airport fees, etc.). And yes, it’s still extremely bullish on the B737 MAX.

Weak International Demand Hurts Taiwan’s Airlines

  • The SARS epidemic of the early 2000s gave Taiwan a scare it wouldn’t forget. H1N1 later that decade reinforced its fears. As a result, it was about as prepared as a place could be for the Covid pandemic, detecting and addressing the problem early. Its preparation and diligence worked, with a mere seven recorded Covid deaths to date. If there’s one place in the world that’s defeated the virus, it’s Taiwan.

    But that’s small consolation for the island’s airlines. Though life is relatively normal on the streets of cities like Taipei and Kaohsiung, the economy is hardly immune to what’s happening abroad. China Airlines (CAL), for one, suffered a negative 9% operating margin during the turbulent first quarter, with revenues sinking 19% y/y. Operating costs fell just 10%, on 15% less ASK capacity. The fact is, Taiwan’s airlines get just a small portion of their revenue from domestic markets. And international markets began closing in late January, first on cross-Strait mainland routes during the busy Chinese New Year period. By March, CAL’s total ASK capacity was down 45%. By April it was down 96%.

    One of Taiwan’s strategies in containing the virus, after all, is keeping its borders closed. And they’ll likely stay closed until October, when the first foreign tourists are expected to return. On a brighter note, CAL is a major cargo carrier, with freight accounting for about 30% of total revenues during normal times. Now, it’s the locomotive for the whole company. Cargo revenues in April, in fact, more than doubled y/y, even as passenger revenues were near zero. The boom is likely to be temporary however, and the longterm outlook for cargo isn’t rosy. Not with trade wars and moves to repatriate supply chains.

    At the same time, Beijing is stepping up threats against Taiwan, which it regards as a breakaway province. That’s in the context of arguably the tensest-ever relations between China and the U.S. Dangerous times indeed.

    On the more mundane matter of airline opportunities, CAL could begin to see some on the passenger side, if Taiwan joins the prospective Australia-New Zealand travel bubble. The airline still owns a small LCC branded as Tigerair. Before the crisis, CAL was adding A350s and planned to start taking A321 NEOs next year. B777s were replacing B747s on the freighter side.
  • CAL’s rival EVA Air, typically larger by revenues but not last quarter, is faring better during the crisis so far. Its Q1 operating margin was only negative 1%, continuing a trend of outperforming its hometown rival. A year ago, EVA earned an 8% Q1 margin compared to CAL’s 2%. For all of 2019, the difference was narrower but still significant: 5% to 2%. In this year’s Q1 however, EVA experienced a much steeper 32% y/y decline in revenues.

    One reason is that CAL saw a stronger and earlier pickup in cargo revenues, though by April (after Q1 was finished) EVA too was seeing a y/y doubling in revenues from freight. On the passenger side, EVA’s revenues rose 15% in January before declining 37% and 68% in February and March, respectively. Passenger ASK capacity for the quarter fell 10%. The airline was hoping 2020 would be a year of growth in markets like North America, for which it ordered B787-10s and even B777-9s. The Taiwanese market was becoming more competitive pre-crisis however, with the new-entrant Starlux in the mix, and with LCCs proliferating. 

Southeast Asia Demand Dries Up

  • Philippine Airlines is one of the carriers just now getting around to reporting its fourth-quarter 2019 results. Not that they have much relevance in the radically altered world of 2020, but for what it’s worth, PAL earned a decent 6% operating margin. The quarter was notable for declining costs, with fuel outlays alone down 26% y/y. Total operating costs fell 17%, far outpacing a 6% drop in revenues. This is despite what Cirium schedule data shows to be a 16% increase in Q4 ASK capacity. New planes like A350-900s, A321 NEOs, and Q400s are helping PAL become a more efficient airline.

    But not that much more efficient. Its decent Q4 operating result notwithstanding, PAL entered 2020 a deeply troubled airline, with three straight years of net losses, and a mere 1% operating margin for all of 2019. Its 2019 net result, in fact, was its steepest in company history, prompting major turnaround efforts. Overstaffing is one problem. Heavy longterm debt and lease obligations are another. The new year started out with volcanic ash disruptions causing flight cancellations. That was just before Covid-19 began rearing its ugly head in China. Already by the end of January, PAL was cancelling flights to several markets in northeast Asia including Korea and Taiwan.

    Before the pandemic, PAL was planning to relaunch Los Angeles nonstops from Cebu, open Manila service to Perth, and reduce its headcount through voluntary employee buyouts. It had a strong ally in Japan’s ANA, a 10% shareholder. Even today, the Philippine peso remains pretty strong, as it was throughout 2019. It was hopeful that Manila would finally see some badly needed airport infrastructure investment.

    Right now though, it’s main focus is crisis management, and trying to avoid bankruptcy. A fifth of its revenue is domestic, where demand will likely revive first. Adding more domestic flying from Cebu, Davao and Manila Clark is still a goal. PAL hopes to soon start welcoming Chinese and Korean tourists again. The fate of Filipino migrant workers, critical to the economy, is more uncertain with globalization under threat. All of the country’s airlines (Cebu Pacific and AirAsia’s local affiliate are PAL’s two main rivals) are asking the government for aid. PAL itself reportedly received an emergency capital injection from the tycoon who owns it.  
  • A “catastrophe” is how Bangkok Airlines describes the impact of Covid-19 on Thailand’s tourism industry, which accounts perhaps one-tenth of the country’s entire economy. During Q1, international tourist arrivals declined 38% y/y, and 54% from within East Asia. From China, Thailand’s number-one source of tourists in normal times, the y/y decline in arrivals last quarter was 60%. Adding to the pain and frustration was the fact that January through March is typically peak season for Thai tourism — last year, Bangkok Airways generated a 13% Q1 operating margin.

    This year, unsurprisingly, was a much different story. Operating margin was just 4%, with revenues tumbling 21% on 12% less ASK capacity. Operating costs decreased 13%, with fuel costs alone also down 13%. The company is more than just an airline. Only 69% of its Q1 revenues in fact came from passenger air service. It also owns and operates three Thai airports, most importantly the one serving the beach resort Samui. And it sells ground handling, cargo handling, and catering services to other airlines serving Thailand. It did win some new customers for all these activities but still, revenues inevitably dropped across all of its business lines given the virtual shutdown of all flying in late March.

    As recently as 2016, Bangkok Air was a quiet superstar, earning double digit margins. During recent years though, extreme fare competition made shorthaul flying tough. Foreign LCCs like VietJet and Lion Air entered the market with local joint ventures. AirAsia’s Thai venture expanded. And Thai Airways and Nok Air remained important players as well. Bangkok Airways was always somewhat shielded with its more upscale full-service model, its large network of codeshare partners, the more than half of its passengers originating outside of Thailand, and a dominant position at the airports it owned.

    But by 2019, these advantages failed to avert a full-year operating loss (margin was negative 2%). Now it has to navigate its way out of the industry’s greatest crisis ever. Thai Airways, its top rival but also a codeshare partner, is now restructuring and sure to downsize in bankruptcy. Nok Air has problems just as grave. But even as capacity seems set to contract, demand revival will take time. Thai AirAsia for one, sees a U-shaped recovery in tourism from Asia, with tourism from Western markets like Europe and the U.S. taking longer.

    Unhelpfully, wildfires in Thailand’s north are complicating efforts to lure back visitors. Bangkok Airways though, isn’t abandoning longterm endeavors, including the new training center it’s building in Bangkok, or the aviation services business it’s developing in Utapao. One thing it hasn’t yet done is order any future replacements for its A320-family fleet. Most of these are smaller A319s, an out-of-favor aircraft type.
  • In these dark times for public health and the economy, the airline industry was hit with another somber punch: A fatal accident. A Pakistan International Airlines A320, flying domestically from Lahore to Karachi, crashed upon landing, killing 97 people. Two survived.   

Madhu Unnikrishnan

May 24th, 2020