Airlines Alliance Membership and its Prospects in the Future - Research Paper Example

? Airline BusinessTable of Contents Introduction 3 The present airlines alliance membership and its prospects in the future 3 Rankings of these groups in terms of revenues, passenger numbers and RPKs in 2020 6 Comparisons between the groups in terms of size and leading airlines in other parts of the world in 2020 10 Prospects for the groups given the uncertainty surrounding the EU economies as a result of the debt crisis 11 Whether there will be greater consolidation amongst EU airlines 15 Conclusion 15 List of References 17 Bibliography 19 Introduction The airlines industry in Europe has recorded a combined net loss of $1.1bn in 2012 on account of the Eurozone crisis. The crisis has stood in the way of profitability of the industry considerably. However there are tentative signs in the airline industry towards a more profitable growth in the future. A significant extent of consolidation in the industry has been progressing and one of the latest moves to have taken place is IAG, the parent company of British Airways, taking over BMI British Midland, which strengthened its position considerably at the Heathrow Airport. The three leading flag carriers in Europe, Lufthansa, Air France-KLM and IAG have been demonstrating high operating costs and failure of their short and medium haul flights. The project analyzes the present position and future prospects of these airlines against the European crisis which shook the industry to a considerable extent. Based on the past trends of performance, future performances are estimated for these three airlines and their comparative positions in the industry too. A comparative analysis of the airlines against the emerging airlines in other parts of the world is also provided in the project (Bloomberg, 2012). The present airlines alliance membership and its prospects in the future Since the last decade the three major airlines in Europe, namely Lufthansa Group, IAG and Air France – KLM have all been demonstrating much better performance as compared to their American counterparts. They are showing much stronger growth while US Airlines have floundered and majorly filed for bankruptcy. However, the only major problem they are facing is on account of their own government strategies. One of these is on a macro level, which is the much criticized scheme of carbon trading by the European Union. The UK government has levied some of the hardest taxes on the aviation industry. The airfare passenger duty in UK is approaching ?100 on certain tickets. However it fundamentally does not consider adding capacity in London where it is most required. This issue would not have been very prominent if there was no competition. The low cost carriers have grown stronger over the years. Although they are confronted with the same government issues, they have lower operating costs as compared to the legacy airlines and can make higher profits at lower fares (Alemanno, 2011, p.35). International Airlines Group (IAG) joined the ranks of its full service peers Air France KLM Group and Lufthansa Group reported an operating loss with a high cost of fuel which was consequently responsible for nullity of the rise in passenger traffic along with rise in unit costs. The results show a deteriorating condition for IAG as compared to the other two airlines. The deteriorating results of IAG demonstrate a two tier performance inside the group. The Spanish unit of IAG incurred a huge loss amounting to ?170 million from its operating activities in the first 3 months of the year 2012. In the previous year the loss was ?100 million. The financial highlights for the 3 airlines is provided in the below table. (Source: CAPA, 2012) Fuel burden also seems to have taken the maximum toll on IAG as compared to the other airlines. Its operating expense grew by more than 11.5% to ?4.2 billion against a fuel price increase of 7.5%. The fuel costs of the organization during the first quarter of 2012 rose by 24.9% year on year which was driven by higher prices and the reduced impacts of emission charges and hedging (CAPA, 2012). On the other hand, all three airlines have confronted short haul cost options; however, Air France KLM seems to be the most disadvantaged out of all three. Despite its attempt to decentralize some of the short haul operations from its hub in Paris and thus bring down costs, Air France continues to remain far away from attaining competitiveness with the other low cost carriers in Europe. Despite being free from any serious competition the French flag carrier has failed to generate sufficient yields through its short haul network enough to compensate its high costs base (CAPA-a, 2012). Overall the costs pressure holds good for all three airlines. But, Lufthansa stands a better chance of handling the cost crisis successfully compared to the other two. Following is the prospects of the airlines in the future as against the future business conditions and markets. The airlines market in Europe has been showing steady growth over the last few decades and it has doubled its magnitude since 1990. However, the last 10 years the airlines industry has been primarily driven by the low cost carriers. Along with the emergence of budget airlines the growth trends of the established network carriers like Lufthansa, Air France KLM and IAG has somewhat come to a halt. Despite handling equal demand for air travel their relative market shares have fallen. The demand for air travel in Europe since 1990 has grown dramatically. This is shown in the following figure. It also throws light on the fact that the future prospects for the airlines remain bright despite the stiff competition that would be posed by the low cost carriers (HLL, 2012). Figure 1: Demand for Air Travel in Europe (HLL, 2012, p.10) Rankings of these groups in terms of revenues, passenger numbers and RPKs in 2020 On account of the deep financial crisis and the threat posed by some of the low cost carriers in the global market, majority of the leading airlines are indulging in structuring reforms. This is particularly done with respect to their passenger businesses and improvement of the unit costs of their short haul operators. Some of the strategic steps taken by the three organizations depict their future prospects and position in the industry. For example, Air France KLM has terminated its collective agreements and is seeking an improvement of its efficiency by 20% by 2014. On the other hand Lufthansa targets an enhancement in its operating profit by an amount of EUR 1.5bn by 2014. It is trying to do this through productivity improvement of its flight crew and also centralizing its administration functions across the airlines in the group (HSBC Global Research, 2012 p.11). On the other hand IAG primarily focuses on structural reforms across Iberia, in which the transferring of short haul operations to the entirely owned low cost operation Iberia Express are being resisted by unions bitterly. Air France KLM has been resorting to radical restructuring. This is done by seeking major productivity improvements through capacity moderation. Lufthansa is forcing itself through the structural changes having lost its highly regarded CFO. Although it holds a plausible threat of closure in Austria, it does not necessarily apply to its domestic business. The unit revenue improvement of the flag carriers is provided in the figure below. Figure 2: Unit Revenue Improvement for the flag carriers (HSBC Global Research, 2012 p.11) Considering the previous trends in revenue of the three airlines groups, a forecast has been done with regards to their performance till the year 2020. The trend lines for the three airlines groups, Lufthansa, Air France KLM and AIG are respectively provided in the diagrams below. Figure 3: Lufthansa, Forecasted revenue till 2020 (Source: Lufthansa Annual Report 2010) Figure 4: Air France KLM, Forecasted revenue till 2020 (Source: Yahoo Finance, 2012) Figure 5: IAG, Forecasted revenue till 2020 (Source: London Stock Exchange, 2012) In terms of revenue, the position of IAG and Lufthansa shows better prospects in 2020. They are depicting an upward trend showing less fluctuations and more growth over the years. Air France KLM on the other hand has been showing fluctuating trends over the years which depict a high revenue growth in 2020. Additionally, IAG shows a steeper upward rising trend line which shows a more rapid growth of revenue of this airlines group as compared to the other two. Thus it can be inferred from the trend that the strongest position in the market would be held by the International Airlines Group (HSBC Global Research, 2012 p.11). Comparisons between the groups in terms of size and leading airlines in other parts of the world in 2020 The Gulf carriers are fast growing. Carriers like Emirates, Etihad and Qatar are posing significant threat to the European flag carriers and also to the US and the South East Asian carriers. They have a location advantage situated at the intersection of many growth areas, such as India, Asia, Africa and the Mid East. Their bases are optimally located which helps them to operate as hubs for the rapidly growing flow of traffic such as between North America and South Asia, and between Africa and China. The high growth in the markets from North America to India and from Europe to Africa strengthens their competitive positions even further. Emirates airline, based in Dubai, has been increasingly resorting to developing its own strategy. However, the two comparatively smaller carriers such as Qatar Airways and Etihad demonstrate comparatively fewer destinations and origin demand to their home bases. They are more interested in entering into partnerships with the global giants in their way of reaching out to the global industry. Thus it can be inferred from their strategies that the future prospects of the European flag carriers are bright against the growth of small airlines from across the world. One of the positive developments for the European carriers is the global alliance between Qatar and Etihad. However this joint association would not reduce the threat towards the European carriers. However if the flag carriers could enter into partnerships with any one of them, they would be able to capture better growth of the market. They would also be in a better position to compete with their stiff upcoming competitors, the Emirates, in the future (HSBC Global Research, 2012 p.19). Prospects for the groups given the uncertainty surrounding the EU economies as a result of the debt crisis The emergence of financial crisis of 2009 shook the flag carriers, which are not consolidating their services, considerably, deepening alliances and driving to strengthen their balance sheets. The European economic crisis has been the cause of their restructuring efforts which shows prospects of the development of a lower value destructive airlines industry in the coming years. The following figure reflects the implications of the debt crisis on the three flag carriers in their share prices. Figure 6: Share prices of the three airlines during the crisis (HSBC Global Research, 2012 p.8) The unit revenues of the flag carriers in Europe are largely driven by the global economic environment rather than the economic conditions in Europe. The global economic trends in the future show better conditions than those in Europe. Moreover, the unit revenues of the flag carriers are dependent on business travel demands. In Europe also the business confidence is greater than the consumer confidence. This is demonstrated in the figure below. (HSBC Global Research, 2012 p.10) The future revenue momentum for the flag carriers, Lufthansa, IAG and Air France KLM also looks favourable. The figure below demonstrates the relation between capacity growth by quarter and yield for the three airlines. Evidently, there does not seem to exist any negative correlation. The capacity growth is not the only factor which determines yield performance. During sessions of economic growth, there is a positive correlation with higher capacity of growth, increases in oil prices which consequently gets passed through as fare hikes and greater premium traffic which also supports greater yield. Thus the analysis reveals that the airlines are in a better position to take advantage of any emergence of economic crisis or challenging economic conditions (HSBC Global Research, 2012 p.12). Whether there will be greater consolidation amongst EU airlines The airlines industry shows a trend of liberalization over the last 30 years. The industry has been increasingly reflecting a trend of cross regional deals. The industry is increasingly consolidating within regions and moving against the control restrictions and ownership of the regulatory structure. With the occurrence of such deals more prospective and competitive deals can be expected to happen in the future (HSBC Global Research, 2012 p.17). Greater consolidation between the airlines would make them better equipped to handle any emerging debt crisis. One of the most prominent moves was made by IAG which took over BMI British Midland for strengthening its competitive position at the London Heathrow Airport. Even amidst the debt crisis in the European Union, consolidation has taken place through a spate of airlines failures. Meanwhile the leading carriers in Europe are resorting to cost reduction at their medium and short haul operations. Even amidst the possibility of consolidation between the smaller and emerging airlines the prospects of consolidation between the European carriers remain high (Aerospace, 2012). Conclusion The analysis reveals that the three major airlines in Europe, namely Lufthansa, IAG and Air France - KLM have been significantly shaken by the European crisis. This has consequently resulted in big losses for the organizations, which subsequently calls for significant restructuring and alignment of these organizations too. With the emergence of many small and medium carriers the large airlines are subject to significant threat too. Air France KLM appears to be in the most unprofitable position in terms of its short haul operations. With regard to the past trends of these three airlines, an analysis is done to forecast its future prospects in the industry. A very steep and rapid growth is predicted by the IAG group which also reflects its better competitive position against the other two in the year 2020. A relatively strong position is held by Air France KLM in terms of its revenue growth which has been rather fluctuating in the recent past. Research reveals that future prospects of consolidation are about to grow stronger between these airlines with the involvement of the smaller and emerging ones in the gulf region because of their profitable position and high traffic. It also shows that prospects of consolidation between the three large flag carriers are high which makes them better equipped to beat the emergence of economic crisis better. List of References Aerospace. (2012). European airlines: Consolidation should improve prospects. [Online]. Available at: http://www.ft.com/intl/cms/s/03ee7ba8-b484-11e1-bb2e-00144feabdc0,Authorised=false.html?_i_location=http%3A%2F%2Fwww.ft.com%2Fcms%2Fs%2F0%2F03ee7ba8-b484-11e1-bb2e-00144feabdc0.html&_i_referer=http%3A%2F%2Fsearch.ft.com%2Fsearch%3FqueryText%3Dconsolidation%2Bmust%2Bimprove%2Bprospects#axzz22I6dqrWU. [Accessed on August 01, 2012]. Alemanno, A. (2011). Governing Disasters: The Challenges of Emergency Risk Regulation. Edward Elgar Publishing. Bloomberg. (2012). Air France-KLM Quarterly Loss Narrows on Cost Reductions. [Online]. Available at: http://www.bloomberg.com/news/2012-07-30/air-france-klm-quarterly-loss-narrows-on-lower-operating-costs.html. [Accessed on August 01, 2012]. CAPA. (2012). IAG first quarter operating loss doubles on shabby Iberia performance and pilot strikes. [Online]. Available at: http://centreforaviation.com/analysis/iag-first-quarter-operating-loss-doubles-on-shabby-iberia-performance-and-pilot-strikes-73751. [Accessed on July 31, 2012]. CAPA-a. (2012). AG, Lufthansa and Air France-KLM confront short-haul cost options; Air France will be sorely tested. [Online]. Available at: http://centreforaviation.com/analysis/iag-lufthansa-and-air-france-klm-confront-short-haul-cost-options-air-france-will-be-sorely-tested-72702. [Accessed on July 31, 2012]. HLL. (2012). Future Scenarios for the European Airline Industry. [Pdf]. Available at: http://www.jac-conference.org/jac/system/application/views/images_ce/RB_airline.pdf. [Accessed on July 31, 2012]. HSBC Global Research. (2012). European Airlines. [Pdf]. Available at: https://www.research.hsbc.com/midas/Res/RDV?p=pdf&key=jQ0zwmck98&n=331743.PDF. [Accessed on July 31, 2012]. London Stock Exchange. [2012]. INTERNATIONAL CONSOLIDATED AIRLINES GROUP S.A. ORD EUR0.50 (CDI). [Online]. Available at: http://www.londonstockexchange.com/exchange/prices-and-markets/stocks/summary/company-summary.html?fourWayKey=ES0177542018GBGBXSET1. [Accessed on July 31, 2012]. Yahoo Finance. (2012). Air France-KLM SA (AF.PA). [Online]. Available at: http://in.finance.yahoo.com/q/is?s=AF.PA&annual. [Accessed on July 31, 2012]. Bibliography Air France KLM. (2011). Corporate social responsibility report 2010-11. [Pdf]. Available at: http://www.klm.com/csr/en/images/AFKLM%20CSR%20report%202010-11_tcm696-350742.pdf. [Accessed on July 31, 2012]. AR-2011. (2011). Lufthansa. [Pdf]. 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