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Aer Lingus’ Transformation Plan; a ray of hope at last?

Aer Lingus CEO, Christoph Mueller
Aer Lingus CEO, Christoph Mueller

Despite a continuing stream of less than attractive results, the arrival of a new CEO at Aer Lingus may have sparked something of a revival. The markets liked it yesterday anyway, pushing the carrier’s share price up 12%.

Aer Lingus has been excessively frugal with its public disclosures in the past, as if giving information out would go straight off its bottom line. If Cristoph Mueller’s strategy is to be more open, then the reaction to yesterday’s announcement should vindicate the new approach.

Yesterday’s announcement, like many other airlines’ reports recently, clutches at the reduction in the rate of decline, rather than any marked improvement. Despite already large capacity reductions, yields are still looking weak.

2Q2009 results highlights

  • Total revenues: - 9.7%;
  • Passenger numbers: + 7% to 3.08 million (+10.0% increase in short-haul -13.2% on long-haul;
  • Average passenger revenue: -14.8%
  • Short-haul capacity(ASKs):  +10.5%;
  • Long haul-capacity: -18.0%;
  • Load factor: +1.3 ppts to 80.4% (short haul +1.4 ppts to 82.0 %, and long haul +0.6 ppts to 77.8%.):  
  • Yields: Short-haul: -12.3%, “partly offset by an increase of 8.5% in ancillary revenue” per pax: Long haul: -17.0% year, for an overall decline of 17.6% on the same period last year.

Not a lot of sparkle there, but some straws of hope and, at least a clear direction on where the emphasis is to be, tackling Ryanair (and others) head on.

A two phase Transformation: Confronting the “Peer Group”

With this background, the key points of the Transformation Plan are to:

  • reduce costs;
  • remove “legacy work practices”; and
  • improve revenue.

These moves are designed to “position the Group to compete more effectively against a peer group with significantly lower operating costs.”

The Plan has two phases – first to establish the operating platform, then to grow revenue (with more cost cuts to come, these through business efficiencies). According to the Board’s announcement:

  • “The first stage of the Transformation Plan will deliver substantial reductions in operating costs, enhance productivity and implement changes in the Group’s pension arrangements”; then,
  • “The second phase will focus on delivering revenue growth through a series of commercial initiatives and further cost savings through a series of business process improvements.”  

Annual operating costs savings in this first phase, excluding fuel, are projected at EUR97, consisting of EUR74 million in staff cost savings and EUR23 million in non-staff cost savings.

“Maintain balance sheet strength”

An immediate focus is to make the ship look more robust. Aer Lingus is not well positioned from a balance sheet point of view. The carrier has suffered heavy losses this year, with net cash down 38.8% since 31-Dec-2008, from EUR653.9 million to EUR399.9 million as at 30-Sep-2009. This represented “an outflow of EUR107 million in respect of restructuring costs, provided for in 2008, the final payments for two new A330 aircraft delivered in the first half, and the net cash flow from operating activities.”

To address this shortcoming, Aer Lingus “must continue to reduce any costs within our control so that we can cope with continued falling fares, compete and maintain balance sheet strength.”

Reducing staff costs is designed to “yield operating costs savings, excluding fuel, of EUR97 million per annum, consisting of EUR74 million in staff costs savings and EUR23 million in non-staff costs savings.” 

And capital commitments are being stripped from the balance sheet. Aircraft-related measures are:

(1) Sale and leaseback

“Aer Lingus continues to evaluate the business’ network and fleet needs and optimise fleet ownership costs.  As part of this, on 7th October 2009 the airline published an RFI for Sale or Sale and Leaseback of a number of its aircraft.”

(2) Aircraft deferrals

In August the company announced agreement with Airbus on a “revised delivery schedule for three A330s and two A350s…. at no additional cost to the Group.” This new delivery schedule along with revised pre-delivery payment schedules “will result in significant reductions in medium term capital commitments for the Group.”

(3) Lease terminations

And, with a view both to reducing capacity and “capital commitments”, two lease terminations have been negotiated, presumably with some financial penalties. Reducing costs will inevitably mean further shrinking and long haul is clearly the area where Aer Lingus is to cut back. Last month, an A330 lease termination was negotiated, 18 months ahead of schedule, and a further A330 lease is to be terminated in Mar-2010, 14 months ahead of schedule.

This may be seen as compromising the airline’s longer term future. But if it is financially unsustainable in the short term, the longer term is no more than a concept.

Aer Lingus’ new openness and a direct approach to managing the way out of its present strife will at least give the carrier a prospect of making the concept a reality. If successful, the very fact that its “peer group” (Ryanair) is the most aggressive cost-cutting airline in Europe should position the flag carrier well to compete with all-comers.

But it is still at the bottom of a very deep hole. Persuading the staff of the need for the new deep cuts – there are negotiations on 18-Nov-2009 – will be the first step. The new CEO has the temporary advantage of offering a ray of hope under his administration, but despite years of cuts, “legacy practices” remain well entrenched.

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