Emirates’ Terrible Half-Year

Madhu Unnikrishnan

November 15th, 2020

  • It’s a symbol of globalization, in a world with closed borders. That captures the uncomfortable predicament of Emirates, the Dubai-based giant entirely dependent on international traffic. Mercifully, it’s a big cargo player, which enabled it to muster some $3b in revenues during the six months from April through September (the figure excludes its Dnata subsidiary which produced another $644m). Normally, Emirates generates about $13b during its fiscal first half.

    As for losses, the airline’s net result for the half amounted to $3.4b. Operating margin, though it didn’t disclose this explicitly, appears to have been about negative 79% based on year-ago figures and this year’s 75% drop in y/y operating revenues, alongside a 52% fall in operating costs. Passenger ASK capacity was close to zero for eight full weeks after Dubai halted all scheduled flights to contain the Covid pandemic. A gradual resumption of passenger service began in late May, but ASKs for the entire half were down 91%.

    It’s a sobering time for Emirates, which hadn’t posted a half-year loss in 30 years. Throughout the 2010s, recall, it struggled to earn robust profit margins but nevertheless always remained in the black. As discussed in Airline Weekly’s Oct 25th feature story, its large fleet of giant A380s and B777s are a challenge as it now faces what could be several years of depressed air traffic. At the same time, future competitive threats loom from intercontinental-minded Indian carriers and LCCs equipped with longer-haul narrowbody aircraft. Emirates, remember, is not part of a major alliance, which makes those giant planes all that much harder to fill. A shift to smaller A350s and B787s should help over time.

    Currently, a weaker U.S. dollar means Emirates can earn more every time it sells in euros and yen and yuan, etc. It’s already taken steps to unbundle its product — even its premium product — to drive more ancillary sales. It plans a premium economy product. It has new interline arrangements with Airlink and FlySafair to help fill Johannesburg, Cape Town, and Durban flights. With help from a $2b capital injection by Dubai’s government, cash reserves remain strong. The airline cut its workforce by more than a third. Its loyalty plan, meanwhile, recently topped 27m members.

    Naturally, the future success of Emirates will depend on the future success of Dubai. Will the city still be a tourist magnet? Will it still be a central node in the global economy? Will it still be a premier aviation hub?
  • It began the decade with great hopes. Great excitement. Great potential. Air Canada was an impressive turnaround story in the 2010s, beginning the period in recovery from another near bankruptcy but ending it with a rock-solid balance sheet and good if not great profit margins. To take things to the next level, it started 2020 armed with a new loyalty plan, a new reservation system, new narrowbody planes, a 10% shareholding in its regional partner Chorus, maturing joint ventures (with United, Lufthansa, and Air China), and a deal to buy its rival Transat. In January, presenting at an AltaCorp investor event, executives insisted that Air Canada was better prepared than ever to withstand a future economic shock.

    And then one came, and it was bigger and worse than anyone could ever have imagined. Now, in a year of dashed hopes for all airlines, Air Canada finds itself more hobbled by the Covid crisis than most. Canada’s government did little to support its airline sector financially. And the country adopted some of the tightest travel restrictions anywhere, including a near-blanket ban on foreign nationals and a mandatory 14-day quarantine — with threats of jail time for noncompliance! — for anyone entering the country. What’s more, Canada’s Atlantic provinces sealed off their own internal borders to travelers from elsewhere in the country. Even so, Covid cases are sharply rising in Canada, dampening airline hopes for any imminent reopening of borders.

    Looking back at the third quarter, the super-tight restrictions meant that Air Canada suffered even steeper traffic and revenue declines than its peers in the U.S. It suffered bigger Q3 loss margins too, with operating margin at negative 129%. Revenues were down 86% y/y, while operating costs dropped only 62%. Capacity, measured in ASKs, shrank 82%. The carrier did get some cargo relief. Its cargo revenues jumped 22% y/y and represented almost 30% of total revenues. Transatlantic routes, including those to India and the Middle East, saw a particularly large cargo jump. Air Canada is now looking to permanently make cargo a more important part of its business, building capabilities to handle e-commerce for example, and planning to convert some B767s to freighters pending pilot negotiations.

    Still, cargo’s helpful contribution  wasn’t enough to prevent 20k job cuts at Air Canada, this after adding 10k jobs during the previous five years. It’s also cutting routes, exiting several regional airports, accelerating retirement of 79 planes, deferring some B737 MAX and A220 deliveries, and even cancelling 10 MAX and 12 A220 orders. The cancellations represent 40% of all outstanding orders, which highlights just how radically forecasts for future business have changed. Air Canada will only fly about 25% of its capacity this quarter. But it does have flexibility to exercise options with Boeing and Airbus if demand recovers faster and quicker than expected. It can also look to the many used planes now available cheap and on short notice — it last year grabbed eight A321s made available when Iceland’s Wow Air went bust.

    Is there any good news besides cargo? Well, there’s some degree of domestic traffic recovery in transcon markets and routes within western Canada. Trends for Aeroplan and its associated credit cards are still positive. Rouge, the company’s low-cost unit, is now flying again. A trial to reduce quarantine time involving Covid tests is underway in Alberta province, which Toronto might adopt if successful. Finally, Ottawa seems ready to provide some airline industry financial support, prompting Air Canada to postpone some route cuts until it sees what’s on offer. MAXs should be back next quarter. And the Transat acquisition remains on track but at a much lower price (the deal still requires regulatory approval in Canada and the E.U.).

    Air Canada, meanwhile, is preparing to launch Doha flights next month, with the help of new partner Qatar Airways. India and China routes, when fully restored, should recover rather quickly given their large family-visit component. The airline is currently using all-business class A319s, typically used for sports charters, on leisure routes to places like Florida and highish-yield Caribbean destinations like Barbados. To encourage more travel, it’s offering free Covid health insurance and unlimited travel flight passes for a fixed fee. Transat’s A321 NEOs and leisure-oriented routes should help in rebuilding transatlantic business. Corporate demand, on the other hand, could take three to five years to recover, management thinks. It acknowledges some demand possibly lost forever to videoconferencing. And it admits that convenience will be sacrificed as it cuts flights and dismantles routes dependent on connecting feed — this too will deter some business travelers.

    The immediate focus, however, is on the upcoming Florida peak season, bookings for which tend to occur right about now. It’s not an enjoyable way for longtime CEO Calin Rovinescu to exit the stage. But retire he will in February, handing the controls to CFO Michael Rousseau.
  • Survival. That’s the number one goal for Norwegian at the moment, as cash reserves dwindle. Just after the Covid crisis began this spring, the Oslo-based LCC avoided extinction by radically restructuring its costs and financial obligations. It was able to do so without the help of a bankruptcy court, thanks to some government aid, coupled with the limited negotiating leverage of its creditors and suppliers — better they do a deal with Norwegian than watch it die. Aircraft lessors, for their part, winced at the thought having to find new homes for all those B737s and B787s in the middle of a worldwide industry crisis. AerCap and BOC, in fact, two major lessors, uncharacteristically agreed to replace the money Norwegian owed them with ownership stakes in the airline — AerCap and BOC are now its two largest shareholders.

    Norwegian did similar debt-for-equity swaps with lenders too. It cancelled its large Boeing order, consisting of five remaining B787s and 92 B737 MAXs. It secured major pay and work rule concessions from its labor unions. Combined with concessions secured from various suppliers, this brought the airline’s cost base to levels that seemed to give it a fighting chance of having a sustainable business when traffic starts to recover, presumably next summer.

    Unfortunately, it might not make it to next summer. During Q3, despite a period of modest demand recovery throughout Europe, Norwegian suffered close to $300m in net losses excluding special items, and a negative 151% operating margin. With only 25 planes in service at the end of the quarter, flying mostly domestic routes in Norway, revenues were down not, say 66% y/y like Ryanair, but 91%. ASK capacity was similarly down 94%. A 72% drop in operating costs was impressive but not enough. New travel restrictions this fall, plus the onset of the offpeak season, means that only six planes will operate this winter. So it begged for more government money. And the government last week said no.

    Why no? Because Oslo understands that Norway doesn’t really need Norwegian. Wizz Air is now offering some of the same domestic routes. A new startup airline with prominent backers should soon enter the scene. There’s SAS of course. And there’s Wideroe flying domestic routes. And besides, much of Norwegian’s flying is from bases outside the country, most importantly London where the airline’s longhaul services are concentrated.

    Thus, in its own words: “There is a significant risk that the company becomes insolvent and enters into bankruptcy.” To be clear, it’s not there yet, and management continues to seek more working capital from various stakeholders other than the state. It also continues to cut costs, announcing more layoffs last week.
  • Indonesia’s Garuda recorded a negative 156% operating margin in Q3, good news only when compared to its negative 368% hammering in Q2. The government-backed carrier, with debt troubles even before the crisis, saw Q3 revenues plummet 84% y/y on 65% less capacity. Operating costs declined 52%. To stay alive, Garuda is renegotiating contracts with lessors, bondholders, labor unions, and so on. It’s receiving government assistance. And commercially, it’s permanently closing unprofitable routes, offering novel products like inflight weddings, and making money where it can with charter flights and cargo.

    Typically, Garuda gets about 6% of its total revenue from cargo. Last quarter it was 28%. The company is more generally “reviewing the whole business to prepare for a new era after Covid-19.” Helpfully, Garuda is a domestic-heavy airline with a large domestic market (Indonesia has 270m people, more than any other country except China, India, and the U.S.). Garuda currently has a domestic market share of about 35%, though this was 43% last year (its chief competitor is Lion Air). Also helpfully, Garuda has a 68-plane low-cost unit called Citilink, whose Q3 ASK capacity was down just 41%. Citilink was starting to fly A330 NEOs just before the crisis began, to pursue longhaul expansion that’s now suspended.

    One important market that will determine the timing and degree of Garuda’s recovery is religious pilgrimage traffic to Saudi Arabia. Another is the busy Singapore route.
  • In India, the LCC SpiceJet escaped from the harrowing July-to-September period with a negative 36% operating margin. That’s one of the least bad results among carriers worldwide, and better than its rival IndiGo’s negative 52% figure for the same quarter. SpiceJet was also rare in seeing its total operating revenues for calendar Q3 (down 63% y/y) decline less than its passenger capacity (down 71%). That’s usually a sign of ample cargo revenues and, sure enough, SpiceJet fortuitously began building its cargo capabilities before the crisis, so much so that its cargo revenues expanded nearly 200% y/y last quarter. It now flies 17 cargo-only planes including three widebodies to serve Europe, Africa, and central Asia. Cargo thus accounted for about a fifth of revenues last quarter, earning a segment margin of positive 9%. Cargo, keep in mind, was never much of big business for India’s airlines because India isn’t a major exporter.

    There’s actually another key component to SpiceJet’s relative success in keeping loss margins subdued. Large numbers of Indian citizens live and work abroad, meaning lots of repatriation assignments for carriers like SpiceJet. This business was so brisk, in fact, that the LCC began wet-leasing A330 NEOs to handle missions to places like London and Toronto. SpiceJet got creative too, launching seaplane service within Gujarat province, for tourists wishing to visit the Statue of Unity.

    Ultimately, however, for profits to return, SpiceJet’s core passenger business needs to revive. There was some revival last quarter as lockdowns eased. But Indian carriers are still not allowed to operate more than 60% of their pre-crisis capacity and are still subject to fare caps. As a major B737 MAX customer, SpiceJet did receive compensation from Boeing, which helped the LCC’s otherwise weak balance sheet. It looks forward to flying the plane again next quarter, alongside its Q400 turboprops deployed on regional routes. Fuel is cheap, which not only helps airlines but also India’s entire oil-poor economy. Non-fuel cost cutting achievements during the past few months, management believes, will have a longterm positive impact.

    As an LCC with a premium economy product, it might also be well positioned to win price-sensitive business travelers when they start to return. Hence the sentiment that the “worst is behind us.”
  • Cebu Pacific carries some cargo too, but not enough to avert a disastrous negative 336% operating margin last quarter. With tight border controls and extreme travel restrictions throughout the ASEAN region, Cebu’s Q3 revenues plummeted 89% y/y, but operating costs declined just 52%. Unlike most carriers around the world, which managed to restore a meaningful amount of capacity in Q3 relative to Q2, Cebu’s Q3 ASKs were still down 94%. Passenger counts were down 96%. Some domestic flying helps a little. But even here, domestic quarantine rules kept demand to a minimum. Of all major East Asian markets, Cebu noted, the Philippines has the most restrictive domestic travel rules.

    This month, the airline was due to receive a second all-freighter ATR turboprop, which will be welcome. Cargo yields last quarter rose 95%, and cargo revenues accounted for two-thirds of Cebu’s Q3 total (it was 8% of revenues a year ago). The government did provide some modest airline relief, include airport fee waivers. Earlier this quarter, tourist spots like Boracay started reopening. But Cebu expects the recovery to be long. Even as late as 2025, it anticipates flying 17% fewer ASKs than it did in 2019. Even so, it believes it can lower unit costs even more, thanks in part to newly arriving A321 NEOs. It has A330 NEOs on order as well.  
  • In the world that once was, before the days of Covid-19, the LCC Jeju Air would torment its bigger and higher-cost rivals. But it’s currently Korean Air, with its massive cargo business, that’s the envy of the industry. Jeju Air’s predominantly passenger business, all involving shorthaul routes, suffered a negative 118% Q3 operating margin, spoiling what’s typically a peak period. An 84% y/y collapse in revenues reveals the depths of the demand destruction it faces, even as domestic traffic to its namesake island Jeju recovers some. In fact, Jeju’s airport, during October, saw passenger volumes down just 24% y/y, compared to 58% for all Korean airports.

    But volumes don’t tell the whole story. Yields are down sharply as Korean airlines including Jeju move planes from international to domestic markets, leading to overcapacity. In normal times, Jeju has an outsized presence in Japan, a market hurt by political tensions last year. A Korea-Japan travel bubble, if one is established, would be a major boost. In December, by the way, Jeju nearly bought 51% of its LCC rival Eastar. But it’s since backed out of the deal. 
  • With “strong cost control measures,” the UAE’s Air Arabia held Q3 net losses to just $12m, with operating margin registering at a relatively mild negative 20%. Charter flying, cargo, and a portfolio of non-airline businesses also helped. Still, revenues declined 80% y/y, with the resumption of scheduled flying limited and gradual. Air Arabia did, in July, launch a new joint venture airline in Abu Dhabi with Etihad, starting with service to Alexandria in Egypt. Competition will be stiff, however, as Wizz Air starts its own Abu Dhabi joint venture. FlyDubai, meanwhile, is just down the road. Air Arabia Abu Dhabi currently serves eight cities, the latest being Nepal’s mountaintop capital Kathmandu.

    Outside of the UAE, Air Arabia also operates from Morocco and Egypt. Indian subcontinent migrant worker traffic to and from the Arabian Peninsula is a critical market, and one that needs to recover for Air Arabia to revive its pre-crisis success. Russia, Turkey and Iran are important markets too. For its Moroccan venture, family-visit traffic to Europe is key. More recently, Air Arabia has stretched its Sharjah network to more distant cities like Kuala Lumpur and Vienna, courtesy of the five long-range A321 NEOs it now flies; a sixth will arrive next year. It hasn’t yet announced any flying to Israel, despite newly available rights. Will Air Arabia receive additional government aid? Media reports suggest it’s asking.
  • Air Astana, the national airline of Kazakhstan, reported a Q3 operating margin of negative 18%. The carrier, partly owned by a British defense firm, saw revenues and operating costs decline 68% and 54% y/y, respectively. Late last month, Air Astana announced its winter season schedule, which includes cuts to some key markets like Turkey and Germany but also some new charter flying to resort destinations like Sharm el Sheikh in Egypt. The Maldives is another. In the meantime, it continues to operate domestic routes alongside its new low-cost unit Air Arystan.

    Warning of the “financial and social consequences,” Air Astana urged governments to quickly adopt passenger testing protocols to get people flying again. “Travel, tourism and leisure industries are collectively a massive generator of global economic activity and jobs. It is vital that these industries are able to restart in a meaningful way at a point early in 2021,” the company said in a statement.

    In an interview with Business Traveler magazine last month, CEO Peter Foster said point-to-point leisure trips are emerging as a staple of the Covid era. Beach spots in Vietnam and Thailand are now of interest to the airline. Foster said flights to Dubai and Antalya in Turkey are currently pretty full with leisure travelers.
  • Back in Canada, the regional airline Chorus earned a positive 18% operating margin last quarter. But that includes the wage subsidies it received from Canada’s government (Air Canada flagged its wage subsidies as a special item). Add back $33m in subsidy income to its wage expense, and operating margin for Chorus would have been negative 4%.

    Chorus has several business lines. Its core business flying as Air Canada Express is today just a quarter what it was a year ago in terms of capacity. It expects to run about 20% to 30% of normal capacity this winter, before improved testing regimes, relaxed travel restrictions, and ultimately vaccines allow traffic to return to something resembling normal. Chorus is also a major lessor of regional aircraft, including the increasingly popular A220. And while it does have exposure to some bankrupt carriers — Aeromexico and Virgin Australia fly its planes, for example — it believes the regional airline sector will be most resilient during the recovery.

    Chorus separately provides some maintenance, charter, air ambulance, and cargo services. During its earnings call, the company declined to comment on a recent non-binding bid to acquire the company.   

Madhu Unnikrishnan

November 15th, 2020