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State-aid: Risks and benefits emerging from SARS-Cov-2

Updated: May 29

Here we go again. As any experienced executive in the aviation industry knows, this is an industry that has only one constant - change. Over the past 30 years, airline executives have (or should have) learned to expect the unexpected.


This has (or should have) made them more resilient. It also (should have) influenced their decision making. Certainty is not a word airline executives have much use for. Resilience, robustness, discipline, sustainability, creativity, focus, camaraderie, loyalty, safety... these are some of the words that help describe what managing in this industry is like. This should mean airline managers today are well prepared to face the current challenges. Sure, the scale is different, but the resilience, the discipline and the creativity needed to navigate this storm are the same.


There is no doubt that by now most people in the world realize travel and hospitality are some of the industries most affected by the current pandemic. Airlines, airports, hotels, tour operators, restaurants, resorts, water parks, cinemas etc. are all essentially shut down or severely constrained.


How is the world responding? Solutions vary. But relatively consistent is that governments around the world are racing to shore up the finances of these companies.

Airlines and airports around the world are being bailed out. But should they be?

Let's take a look at the following categories

  • Poorly managed airlines

  • Smaller well managed airlines

  • Large well managed airlines

  • Airlines critical to state fortunes

  • Airports

Poorly managed airlines

The list of poorly managed airlines is, unfortunately, long. From ill-fated strategies, to poor management capabilities, to airlines being used as political fodder, there are many airlines which simply are not run efficiently or with much competence. Thankfully, this relates mostly to small and medium sized airlines, however, it does include some of the world's largest airlines/airline groups.


Poorly managed airlines should shut down. But they stay propped up by subsidies. Even the strict European state-aid rules are relatively easy to circumvent. A crisis like the current one should force closures on a massive scale. Yet, after six months of Covid-19 affecting airlines, and three months since it became a global pandemic, we have yet to see many airline closures. Why?


Poorly managed airlines are able to take subsidies and survive longer than they should. In many countries, such state-aid would be illegal in normal circumstances, but exceptions are now being made. Hopefully, at least some will use this as an opportunity to finally restructure and get it right. That would require a total change in thinking, in strategy, in most cases a change in management capability, and perhaps a change in stakeholder interference. That's a tough ask.


However, history suggests most will squander the opportunity and tax payers will have been burdened for no reason.


Smaller airlines

Smaller airlines which struggled against monopolistic and oligopolistic behaviour by majors in some environments will finally have the chance to work with a stronger buffer. In Europe, the European Commission seems to be willing to allow cash injections which it would normally classify as illegal state-aid. This is a chance for airlines to get the strong footing they need to compete.


The opportunity for such airlines is created because the weaknesses in the strategies of larger airlines are now more visible. Larger airlines cannot continue to live off stealing traffic from other markets. The largest airlines in the world will need to cut 40% of capacity in the short term (12 months) and likely maintain up to 30% lower capacity as the new baseline. As these airlines cut capacity, they will need to pull back the excess (and irrational) capacity on smaller markets. Larger European carriers will have to pull back to once per day to Malta, once or twice a day to Zagreb. Once or twice per day to Prague. This will allow airlines such as Air Malta, Croatia Airlines, Czech Airlines, Bulgaria Air, Frontier, Hawaiian Air, Fiji Airways, Volotea, Finnair, etc. to compete more effectively. Even Virgin Australia would be a winner as Qantas is forced to pull back and domestic capacity in Australia rationalizes.


Large Airlines

Then there are the airlines which are well run and which don't need any state-aid. They learned from 9/11 and SARS and planned for crises which seem to roll in every decade or so. These airlines don't want the support, mostly because of the conditions which accompany them. But, if they don't take the financial support, they lose some, or all, of their advantage compared to competitors. For these reasons, many are taking the support, and accepting the problems that come with those support packages.


Air Canada implemented structural changes to the financial policy after 9/11 and SARS to ensure it maintained significant liquidity. Lufthansa shifted to owning more aircraft and accelerating depreciation to ensure value could be unlocked from owned and depreciated assets in the event of a liquidity crisis. Many airlines around the world implemented similar changes, yet it seems many airlines have forgotten, or are not using these strengths. Delta is an example of an airline showing great leadership. It has been, arguably, the most rational and reasonably managed airline for the past decade. They were the first to implement a comprehensive turnaround strategy to deal with the pandemic. Few airlines have followed suit. Many airlines seem to be stuck, unable or unwilling to change, unwilling to accept reality of the difficulties ahead. Or perhaps unwilling to change until they can cash in on significant state-aid. The resilience, courage, focus, discipline etc which should exist in these airlines seems to be absent.

Delta Airlines is one of the few showing that the resilience, focus and discipline from the past is paying dividends.

Airports

Airports are complex. There are those which have ambitious expansion plans which were questionable before the current situation and now seem absolutely unnecessary. But too many politicians, construction companies, lobbyists, and other special interest groups have their fingers in those pots and they will not want to see these projects cancelled. Some large airport expansions are already underway and are absolutely not needed and will not be needed for at least another 20-30 years.


Then we have other privately held airports with institutional investors. Such investors should know from past history that they need to plan for such risks. And they have the deep pockets to bail these companies out themselves. They accepted the commercial risks associated with those investments and enjoy exceptional returns. Tax payers should not be asked to bail such airports out.


Way forward

There are numerous and complex issues that will need to be sorted out. There is no doubt that the current environment is extremely challenging for airlines and airports. However, blindly throwing money at these industries is not the answer. Blanket industry subsidies artificially support poorly managed businesses while forcing well managed businesses to accept terms or be disadvantaged. Airlines and airports are critical, they form the backbone of transportation infrastructure for the movement of people and goods and are critical to many economies. But, efficient markets are also critical. Poor and unsustainable businesses need to be forced to shut down. Well managed and sustainable businesses need to be rewarded.


This is an industry which should be supported, but in the right way. So far, all the state-aid models we have seen, save for Singapore, seem to reward the wrong airlines and airports and burden industry leaders. This industry should be more careful and resist the urge to indulge, or it will suffer the consequences for decades to come.


#airlines #airports #aircraft #subsidies #state-aid #europeancompetioncommision #deltaairlines #aircanada #covid-19 #SARS-Cov-2

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