A spot of sunshine amidst the COVID-19 airline gloom?

A spot of sunshine amidst the COVID-19 airline gloom?

The wonderful beaches and scenery of Tenerife

Spain’s beaches are once again open for business

At the end of May, Spain confirmed that it would welcome UK tourists back from the start of July and last week the UK lifted its quarantine restrictions for travellers returning from most countries in Europe, including Spain.

Spain is Britain’s biggest tourist destination and airlines are ramping up their schedules, with many Britons seemingly anxious to escape the COVID gloom and the unreliable British weather and head for the beaches.

Let’s take a data driven look at how things are going on the main London – Spain markets. My thanks go to Pablo Fernandez for assistance with data extraction and visualisations.

Airline capacity ramps up

Although airlines have begun to resume flights and capacity is being progressively increased, it remains significantly below normal levels at what would usually be peak season. For the London-Spain market, published capacity for next week is 74% below the same week last year.

Published schedules show capacity rapidly increasing in the next few weeks with capacity for the first week of August only 20% below last year. Some smaller markets show capacity almost at last year’s levels.

2020 published seats from London. Source: OAG

However, published schedules look very unreliable, even four weeks out. For example easyJet are publishing schedules which suggest they will grow compared to last year.

Airline seats from London to Spain (w/c 3rd August 2020 versus w/c 5th August 2019).

That is clearly not what is going to happen. As recently as June 24th, they guided the market to an overall system capacity for the July-September quarter at 30% of the planned pre-COVID-19 capacity. To hit that number would require 66% of the published flights for the period from 20th July to the end of September to be cancelled. Frustrated customers have noted that the airline is delaying cancelling flights until the last minute, presumably to avoid the need to provide refunds, instead showing flights on their website as “sold out”.

I’m sure there will be downward adjustments made to other carriers published schedules too, but the gaps to the likely reality look much smaller. I’d guess that capacity on London-Spain for August will end up down about 50%, but that depends in part on how bookings go over the next few days and weeks.

Will there be demand to fill the seats?

There do seem to be some encouraging signs of returning demand. UK interest levels for flights to Spain on Kayak were running at 90% below last year during the lock down. But the figures have been improving during June and were only 34% down last week.

Source: kayak.com

Google searches show the same pickup, although it is only really evident on Alicante, Barcelona, Ibiza, Malaga and Tenerife.

Source: Google trends.

But even if bookings are now picking up, all airlines will be missing many bookings that should have been taken in earlier weeks.

Price war or price hikes?

One of the big questions has always been whether airlines would dump prices in order to make up for lost time and stimulate traffic, or whether prices would rise as airlines deal with the additional costs of new procedures and capacity restrictions in the new environment.

As usual, Ryanair have predicted a price war, something they do as a matter of course in difficult times. “When this thing is over there is going to be such massive discounting going on that there will be a large spike upward in travel and tourism for a period of time.” O’Leary knows that statements like this will generate headlines and free publicity for his cheap fares, and perhaps also deter nervous investors from providing finance to prop up less financially strong competitors.

Let us look at the evidence so far on flights from London to Spain. On the 6th July, I looked at prices selling on Expedia.co.uk for a return flight from London for twelve of the biggest markets. The itinerary was for outbound on the 1st August and back on the 10th.

Let us look first at the minimum round trip available fares to get an idea of “how low” each of the carriers was prepared to go.

Source: expedia.com

Immediately evident are the low prices for all carriers for both Barcelona and Madrid, two markets which in normal times have a strong business market and a lot of capacity.

On the big tourist markets of Malaga and Palma da Mallorca, easyJet are offering some very low lead in prices, generally on their less attractively timed flights. However, most of the itineraries on sale are at much higher prices, as shown here looking at the average fare version.

Source: expedia.com

You can also see the different pricing approaches of the three biggest carriers, British Airways, easyJet and Ryanair. Averaging across the markets, British Airway’s prices are 59% higher than easyJet’s, which in turn are 19% above Ryanair’s.

AirlineAverage Price (£)
British Airways363
Air Europa109
Average prices for all markets, all itineraries

How do these prices look compared to usual?

Unfortunately, I don’t have comparable data for what pricing looked like on these markets at the same time last year. easyJet’s average passenger yield per round trip for the July-September quarter in 2019 was £128. So an average fare of £229 looks very high. However, we are only really seeing the late booking part of the yield curve, which is always a lot higher than the average as many seats are usually sold early at much lower prices.

The equivalent figure for Ryanair’s July-Sep quarter in 2019 was £92 of fare revenue per round trip, so Ryanair’s current average fares to Spain of £193 are slightly more than double that.

BA certainly have a few lower lead-in fares, but with an average round trip fare of £363, they are clearly going for a yield maximisation strategy at this stage. The decision to concentrate flights at Heathrow may also be limiting their ability to compete on price, with per passenger airport fees much higher at Heathrow than at other London airports.

In conclusion

My overall conclusion is that carriers seem to be trying to keep late booking yields relatively high. easyJet are trying hard to stimulate volume on the big markets with some good headline prices, but are also trying to protect yields by restricting availability to their least attractively timed flights.

That is positive for yields but I think the upturn in bookings won’t be enough to fill all the flights now on sale and we will see some significant cancellations closer to departure, especially for easyJet.

Of course, there remain many more deeply troubled parts of the market. Business traffic will not return in September as strongly as it normally would. Also troubling for long haul airlines, top markets such as the US, India and China remain subject to travel restrictions and recent news from the US suggests that isn’t going to change any time soon. That doesn’t bode well for Virgin Atlantic’s rumoured £900m rescue deal.

So even if capacity and volumes will be significantly down on last year, the UK-Spain market does seem to be a somewhat sunnier spot amidst all the gloom.

Virgin Atlantic rescue: do the sums add up?

Rumoured £900m rescue package for Virgin Atlantic

Airlines worldwide have been scrambling to shore up their finances in the face of the COVID-19 tsunami that has engulfed the industry.

Back in April, Virgin Atlantic was one of the first to appeal for government aid, going cap in hand to the UK government for £500m of assistance. With Virgin Atlantic jointly owned by Delta, the biggest and richest airline in the world and Richard Branson, one of the world’s richest men, it wasn’t a good look.

Understandably, the UK government pushed back. They said they would only consider helping once Virgin Atlantic had demonstrated that they had fully exhausted all private sources of financing.

Three months later, we are approaching the moment of truth. Virgin have been in lengthy discussions with their shareholders, private equity groups and presumably also the UK government, reportedly seeking a £900m rescue package. So what kind of shape was Virgin in going into this crisis?

Pre crisis results

The last disclosed accounts are for the financial year ending December 2018. On the face of it, they showed a respectable level of cash at £489m. However, 20% of the cash was “restricted”, meaning that it wasn’t freely accessible and so couldn’t be used in a crisis. Unrestricted cash of £392m was well below the £620m of “deferred revenue on air travel and tour operations” shown on their balance sheet. That means that they didn’t have the cash required to refund customers if they had to cancel flights and holidays, something that any customer trying to claim a refund in recent times will know all too well.

Profitability was also signalling trouble ahead. In a year where arch rival British Airways made operating margins of 15%, Virgin Atlantic couldn’t even manage to break even, with an operating loss equal to 0.5% of revenues.

2018 is a long time ago, so what did the 2019 accounts show? We still don’t know. Virgin traditionally filed their accounts in April, but last year started dragging their feet and waited until July 3rd. 2019 was another strong year for British Airways, with operating margins of 14.5%. Something tells me that if the Virgin accounts show a return to profitability and an improving balance sheet, we would have seen them before now.

Burn baby, burn

British Airways is said to be burning £178m of cash a week. Virgin has not given any guidance on its cash burn rate, but in normal times its cash costs are about 25% of those of its larger rival. That suggests cash burn of about £45m a week. With the airline industry now having been grounded for about 15 weeks, that suggests it will have burnt £675m of cash. Even if things are somewhat better than that, it must be the case that Virgin has burnt through all of its cash and has a large stack of unpaid invoices and un-refunded customers on top.

£900m rescue package

There has been much written about the impending £900m rescue package and where it will come from. Reading between the lines of the reports, I’d guess the make up of the package will look something like this:

Branson / Virgin GroupNew equity200 
1 year of brand licence fees20 
DeltaOutstanding JV payment160 
1 year of services fees70 
New private equity debt250 
Lessors / other suppliers200 
£900m package, only half new money

Of this total, only £450m would actually be new cash (private equity debt and Virgin Group equity). The rest is either deferral or waiver of unpaid invoices or very near term costs.

There is also talk of “freeing up £250m of credit card cash”. Remember that £200m+ gap between Virgin’s unrestricted cash and the customer money they were sitting on? Well that is what this item is related to. If Virgin customers are due refunds and Virgin doesn’t have the cash to pay, it is the credit card companies that are on the hook. So all this means is that if the restructuring goes forward, the first £250m of cash from new bookings won’t be withheld by the credit card companies, as would otherwise be the case. It is not new money.

So if this restructuring goes ahead, where will that leave Virgin? I think the best case scenario is that this deal will really only put them back into the same cash position as they were at before the crisis. Given that they didn’t make money in the pre crisis world, I really can’t see how this is anywhere near enough money to see them through the crisis, which is far from over.

UK government to the rescue?

Maybe the “£900m private money“ headline will be enough to provide cover for the UK government to stump up equity, debt or guarantees on the several hundred millions of additional financing that are likely to be required to see Virgin through the losses it will incur during the rest of 2020.

The big question which nobody seems to have answered yet is how a business that consistently lost money in the boom years is suddenly going to become viable and able to repay its debts in the much more difficult post COVID world.

I guess that is a question for another day.

British Airways pilot deal, what does it tell us?

Another victim of COVID-19?

British Airways reportedly reaches union deal for pilot reductions

According to media reports, a deal has been reached between British Airways and its pilots which will see pilot numbers reduce by 650, with 350 permanent job losses and 300 pilots placed into a “rehire pool” on 50% pay. Working pilots will take a 15% pay cut, half of which is permanent and half will “snap back” once all the pilots in the rehire pool have been brought back.

What does this deal say about BA’s short and longer term plans for capacity and for its attempt to rebuild profitability in a post COVID world?

Implications for capacity

650 pilots represents about 15% of BA’s pilot force. Capacity reductions during 2020 have been and will continue to be much greater than that. So I think that 15% lines up with reduction in the number of flights that BA is planning for summer 2021, compared to the pre-crisis level. The flying reduction might be a little more than this due to “natural attrition” of pilots every year. The reduction in flying could be less, if the deal contains any pilot productivity elements, although that looks unlikely to me.

The “rehire pool” suggests that BA intends to add back close to half of those flights quite quickly, maybe within 1-2 years, depending on how well demand recovers and how the competitive environment develops.

Is this the end for the 747-400?

In terms of overall capacity, it is highly likely that BA will be skewing its flight reductions towards the larger aircraft types, trying to retain its overall network shape whilst aligning seat count to reduced demand. Almost certainly the ageing 747-400 fleet will bear the brunt of the reductions, consistent with reports that the majority of the “pooled” pilots will be from that fleet. When they return from the pool, I’m sure they will be retraining for different aircraft types.

The big question is the future of BA’s largest aircraft type, the A380, of which it has 12. Air France KLM have already taken the decision to retire its A380s and Lufthansa have reduced their fleet and withdrawn them from Frankfurt, although it may still operate the aircraft from Munich from 2022. Personally, I think that BA will continue to operate the A380, preferring to accelerate the retirement of the entire 747-400 fleet whilst minimising capital spend on new aircraft. BA has just started taking delivery of A350-1000 and 787-10 aircraft, which will be the most fuel efficient of all its wide-body aircraft types. I would expect BA to continue taking deliveries of these types, albeit at a reduced rate.

What does the deal mean for unit costs?

Taking into account the impact of focusing reductions on larger aircraft, I would expect BA’s seat capacity to fall by more than its number of flights or flying hours. So a 15% reduction in pilots probably equates to at least a 20% overall reduction in capacity, which would align with the reduction in demand expected by most commentators for next year compared to pre-COVID levels.

Whilst the pilot pool is in place, the cost per operating pilot would be reduced under this deal by 10.9%. This is less than the headline 15% pay cut due to the non-flying pool pilots getting half salary. That means that pilot pay costs during this phase fall by 24%, which should be at least in line with the capacity cut. That will be needed, as it is clear that average yields will be down too. Business travel seems certain to recover more slowly than leisure and prices will be under pressure as airlines fight to rebuild their businesses and stimulate demand.

Once the pooled pilots have been brought back, total pilot costs will be down 15%, with cost per pilot down 7.5%. Again, a helpful contribution to counteract ongoing yield pressures.

In conclusion

Overall, this looks to me like a carefully crafted deal which should help BA get back to profitability, provided that demand recovers at least as well as expected in 2021 and government restrictions are lifted to allow airlines to meet that demand.

Profits are certainly going to be needed, as BA will need to start rebuilding its balance sheet after what looks set to be a brutal 2020 of eye-watering losses and rapidly mounting debt levels.