Air Transport World

Airline profits should continue, but the winnings will be a bit lighter.(FORECAST2008)(Statistical data)

A year ago, ATW predicted that 2007 would be the peak year of the current airline earnings cycle. It appears we may have been correct. The good news is that barring a catastrophe the industry will enjoy a second consecutive year of profitability in 2008. The bad news is that it probably won't be as good as 2007. Measured against the losses of the first half of the decade, however, one reasonably may conclude that the bad news just isn't that bad. Expectations have been reset, not just owing to 9/11 and SARS but also because of $90/barrel crude.

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According to IATA, the industry earned an estimated $5.6 billion in 2007 after losing $500 million in 2006. That $5.6 billion represents just a 1.1% net margin on sales of $490 billion but is still the best performance since 1999, when earnings totaled $8.5 billion, and much better than anyone expected in January 2007.

For 2008, IATA Chief Economist Brian Pearce sees the net result declining to $5 billion on revenues of $514 billion, a 1% profit margin. He attributes this largely to two factors: Oil prices and a faltering US economy. "We've become much more gloomy about the US economy," he told ATW last month, citing the credit crunch driven by the collapse of the subprime mortgage market. World economic growth is expected to slip to 3.1% this year from 3.7% in 2007, with the US lagging well behind and possibly falling into recession.

Unfortunately, Pearce notes, "the problem for the airline industry is that [the US slowdown] isn't enough to pull the rug from under the oil price" given strong demand for the stuff in China. That's the other part of the story. At the beginning of 2007, expectations were that oil would settle in at around $61-$63/barrel. It didn't, instead averaging $73 and briefly hitting $100 in the fourth quarter. For 2008, IATA expects fuel to average $78/barrel.

Tactical measures such as fare surcharges, hedging and conservation activities certainly helped airlines to manage the price of fuel last year, but a bigger contributor was better-thanexpected travel demand and capacity discipline. Rising load factors have been "one of the key driving forces behind the improvement in profitability, despite fuel prices. Airlines have managed, particularly in North America, to push load factors up to very high levels," Pearce says.

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The challenge will be to repeat that performance this year because traffic growth is expected to slow in tandem with the cooling economy from an expected 5.9% last year to 4%, "the slowest it has been since 2003," according to Pearce. Concurrently, aircraft deliveries will ramp up. As IATA stated last month, "new capacity arriving at a time of slowing traffic growth will make it difficult to see higher fuel costs reflected in better yields. …

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