Air France-KLM, Delta Set to Win ITA Bid

Edward Russell

September 6th, 2022

The Italian Ministry of Economy and Finance last week entered “exclusive negotiations” with private equity firm Certares, as well as Air France-KLM and Delta Air Lines, in the privatization of state-owned ITA Airways. ITA replaced ailing Alitalia in October 2021. The ministry said the Certares-led consortium’s offer was “more in line” with the objectives of the sale than a competing bid from the Lufthansa Group and shipping giant MSC. Certares is understood to be providing the capital in its offer with Air France-KLM and Delta as commercial partners.

Air France-KLM “welcomes” the decision from the Italian government, it said in response. If their consortium is successful, the group would “become a commercial and operational partner” of ITA. Air France-KLM will not participate in the initial investment but could consider a minority stake in the future, it said.

The announcement comes as somewhat a surprise to those following the ITA deal. Lufthansa and MSC were widely seen as the preferred bidders prior to the submission of the latest offers on August 22. Details of those bids have not been released, however, Italian daily Corriere Della Serra has reported that the Certares-led group’s flexibility over the final shareholdings compared to a set offer from Lufthansa and MSC helped tip the scales.

Both groups value ITA at roughly €950 million ($952 million), according to Corriere Della Serra. The Certares consortium is offering around €600 million for a 55 percent stake, while Lufthansa and MSC sought to control 80 percent of the Italian airline.

“Both parties want to build on our business plan,” ITA CEO Fabio Lazzerini said in July when asked about the privatization. He declined to comment further on the process.

Whatever the reason, keeping ITA in their orbit is a big win for Air France-KLM and Delta. Italy is the fourth largest airline market in the EU after Germany, Spain, and France, and ITA is a key player there. While the airline is no longer the largest in the country, that title goes to Ryanair, it does control key slots and other assets at the Milan and Rome airports.

Air France-KLM is scheduled to fly roughly a 8.5 percent of capacity in the EU this year, Diio data show. With ITA, that share rises to more than 9.5 percent. The Lufthansa Group will fly nearly an 11 percent share.

And in the key transatlantic market between Europe and the U.S., the addition of ITA to Air France-KLM and Delta’s joint venture partnership will increase the airlines’ share of capacity by more than a point to nearly 29 percent this year, according to Diio. The Lufthansa Group and its partner United Airlines have a 25 percent share.

“Our joint offer together with MSC was the better solution for ITA,” a Lufthansa spokesperson said. “Apparently, a path is now being chosen that allows for more state influence and does not provide for a complete privatization of ITA,” in what appears to be a reference to the flexibility over shareholdings that Corriere Della Serra reported.

The Lufthansa spokesperson added that the group will “continue to expand” in Italy, including with its Italian subsidiary Air Dolomiti. Their comments echoed ones made by group CEO Carsten Spohr earlier in August when he said the Air Dolomiti fleet would grow “by a few aircraft” depending on the ITA decision. The group’s Italian subsidiary operates 17 Embraer E195s, according to FlightRadar24.

A Delta spokesperson said the airline “looks forward” to building “closer ties” with ITA.

Edward Russell

Newly Profitable Latam Bullish on Outlook

Latam Airlines Group has turned its first profit since the pandemic hit, and anticipates an even bigger boost from its new joint venture with Delta and exit from bankruptcy both of which are expected later this year.

Travel demand is recovering faster than the Chile-based airline group forecast just a year ago. Passenger traffic at its domestic and regional — international flights within South America — business segments are expected to fully recover by year end, an updated business plan released last week shows. That is, respectively, a quarter and a year earlier than previously forecast. Latam’s long-haul international business is expected to fully recover in the second quarter of 2023, more than a year earlier than the airline’s 2021 business plan.

The bullish forecast comes after Latam turned its first monthly profit since the pandemic began in July. The airline posted a $27.3 million operating profit on $896 million in revenues during the month. The airline still anticipates an operating loss for the year, but expects a full-year operating profit in 2023 with the amount surpassing $1 billion annually in 2024.

“Pent up demand has been driving a faster recovery,” Latam said in the presentation echoing the rapid pick up in travel demand that airlines around the world have seen this year.

Travelers have surged back to the sky in Latin America as Covid travel restrictions have eased. Passenger traffic in the region was just 14 percent below 2019 levels in June, while the Brazilian domestic market — one of the largest in the world — was down just 4 percent, the latest IATA data show. This tracks with the improving fortunes outlined by many of the region’s airlines.

But high inflation and energy prices have already taken a bite out of Latam’s recovery plans. While demand and capacity are recovering faster than expected, unit revenues are expected to come in lower than previously forecasted in 2023 and 2024. And overall expenses are expected to be at least $2 billion higher, driven almost entirely by higher fuel costs, this year than they were in its 2021 business plan. Expenses will remain elevated for years to come.

Latam has also shrunk its fleet plan. Instead of growing to 331 aircraft by the end of 2026, the carrier now plans to operate 326 planes by the end of 2027. Latam did not elaborate on the rational for the reduction; however, its latest plan shows 18 narrowbodies leaving its fleet in 2024 that were not departing in the plan a year ago.

J.P. Morgan Latin American airlines analyst Fernando Abdalla warned in a report earlier in August that high fuel prices, and a “worsening” economic environment, could slow the growth of the region’s airlines. “Airlines are facing cost increases, especially on the fuel consumption side, in addition to declining load factors, which could be an indication that airlines have reached a ceiling on price increases and could reduce capacity to become more efficient,” he wrote.

But even with the uncertain environment, Latam is counting on at least one big boost to its intercontinental business: its partnership with Delta. First proposed in 2019, the tie up was delayed by the pandemic, Latam’s U.S. Chapter 11 filing in 2020, and regulatory approvals. But, after U.S. authorities tentatively approved the pact in June, Latam and Delta are on the cusp of finally linking their networks across the Americas with final approval expected any day. The joint venture will allow them to coordinate schedules and fares, share revenues and expenses, and otherwise cooperate on flights between the U.S. and South America. Both expect a significant financial upside from the deal in terms of additional passengers and added flying.

Planned growth — Latam and Delta have promised at least nine new U.S.-South America routes — could help them close their marketshare gap to leader American Airlines. Together, Latam and Delta will have a nearly 27 percent share of capacity in the market this year, compared to American’s 32 percent share, according to Diio. The partnership and growth would also position Latam and Delta well to compete against a long-planned joint venture between Avianca, Copa Airlines, and United in the market; the three airlines will have a 21 percent share of U.S.-South America capacity this year.

Latam, following the court approval of its restructuring plan in June, plans to exit bankruptcy in the fourth quarter. Delta, Qatar Airways, and the Cueto family, will be major shareholders in the airline.

Edward Russell

SriLankan Airlines May Privatize

The cash-strapped government of Sri Lanka plans to go ahead with the partial privatization of its national carrier, SriLankan Airlines. The government plans to sell a 51 percent stake in the airline, as well as 49 percent takes in both its catering and ground-handling units, Sri Lankan aviation minister Nimal Siripala de Silva said on August 29. He added that the government can no longer afford to inject money into loss-making SriLankan as the country suffers from a severe economic crisis.

Calling SriLankan a burden on the government treasury, de Silva said the government spends between $80-200 billion annually on the airline. SriLankan currently has $1.1 billion in debt, he added. Revenues from the sales could be used to pay off some of those debts.

The privatization proposal follows comments by Sri Lanka’s newly-elected prime minister Ranil Wickremesinghe. In his first address to the nation, he proposed a privatization plan for the country’s flag carrier to help generate funds and tackle the economic crisis.

SriLankan recorded its first profitable fourth quarter since 2006 for the fiscal year that ended on March 31, with a group net profit of $1.7 million. The financial turnaround was the result of various measures, including scaling down staff costs and overhead, renegotiating supplier contracts, increasing cargo revenue, and creating an ambitious growth plan that capitalizes on pent-up travel demand.

A jet fuel shortage, as well as foreign exchange challenges, is costing SriLankan roughly $7 million a month in added expenses and lost revenue, SriLankan Chief Commercial Officer Richard Nuttall told Economy Next in August. At the time, the carrier was flying roughly 90 percent of its schedule.

SriLankan, which celebrated its 43rd birthday on August 31, is a tiny player in Asian aviation scene. In 2019, the Oneworld alliance carrier flew less than 1 percent of passenger capacity in the region, according to Diio schedules. Its share, at nearly 2 percent, was only slightly higher in South Asia.

The carrier operates 24 aircraft, split evenly between Airbus A320 family and Airbus A330 jets. Its fleet includes six new A320neo and A321neo aircraft.

Peden Doma Bhatia

In Other News

  • Lufthansa said it cancelled more than 800 flights, or more than 70 percent of its schedule, on Friday, September 2, due to a one-day strike by its pilots’ union, Vereinigung Cockpit. The airline and union have sparred in contract negotiations over pay increases. Lufthansa management has nixed one request by the union: to harmonize pilot pay across of the group’s German subsidiaries. “We cannot do that because that will really put our company at such a strategic disadvantage position against the other airlines,” group Chief Financial Officer Remco Steenbergen said in August. Lufthansa estimated that the strike affected some 130,000 travelers.
  • Australian authorities signed off on Korean Air‘s plan to merge with competitor Asiana last week. The approval follows similar moves from most Asian governments, including South Korea, on the deal that Korean Air hopes too close by the end of this year. The airline is still awaiting regulatory nods in China and Japan, as well as the EU, UK, and U.S.
  • The economics of new pilot pay agreements at U.S. regionals CommutAir and particularly Mesa Airlines are likely to drive further unit cost escalation, an analysis by Raymond James analysts last week found. While CommutAir parent United can easily absorb the costs of its new pilot pay package, Mesa’s new rates could be an estimated 36-point drag on its pre-tax margins. And, being an independent airline unlike CommutAir, there is no guarantee that Mesa could pass on all of those additional costs to its partners American and United. Raymond James’ estimates that, if the costs are passed on to mainline carriers, they could increase unit costs excluding fuel by 1.3-3.3 points annually. Analysts also expect an outsize impact of the pay increases on pilot supply at U.S. budget airlines, including Allegiant Air, Frontier Airlines, and Spirit Airlines because they pay the least and have the lowest average seniority rates.
  • In earnings news, the Chinese Big 3 bled cash during the first half of the year. Operating losses totaled 17 billion yuan ($2.5 billion) at Air China, 15.7 billion yuan at China Eastern Airlines, and 10.6 billion yuan at China Southern Airlines. All three have been hit hard by China’s zero-Covid policy that has severely curtailed domestic travel in different parts of the country this year. International travel remains all but closed for most Chinese citizens and visitors. Compared to 2021, revenues dropped 36 percent at Air China, 44 percent at China Eastern, and 21 percent at China Southern. Half a world away in Europe, AirBaltic reported a €59.3 million ($59 million) net loss in the first half of 2022. Revenues at the Latvian airline jumped 270 percent year-over-year to nearly €192 million, but were still down 13 percent compared to 2019.
  • Delta agreed to buy 385 million gallons of sustainable aviation fuel from DG Fuels last week. The supplier will provide Delta with 55 million gallons of SAF annually for seven years beginning in 2027. To put that in perspective, 55 million gallons represents just 1.3 percent of all of Delta’s fuel usage in 2019. However, the agreement is notable for being the first SAF offtake deal unveiled in the U.S. since the passage of the Inflation Reduction Act and its sustainable fuel incentives earlier in August. Delta said the agreement would help “expand availability of SAF” in the market.

Edward Russell

Edward Russell

September 6th, 2022