Aviation returns to the 1930s

Summary: Disruption on a massive scale

• The aviation industry is headed for a previously unimagined level of disruption as the next few months unfold.
• So long as borders are closed, wholly or partially, international recovery is impossible.
• Encouraging passengers back into flying and relaxing border controls, will be key to recovery - but slowed by the deep recession that is now inevitable.
• Business and corporate travel will be subdued by a combination of weak economic conditions, employer concerns over duty of care and in the near term by the resurgence of teleconferencing.
• The industry profile will change drastically, affected by the reduction in high yield business travel, as airlines disappear or reinvent themselves and as opportunistic new entrants appear.
• Airports will need to adapt, expensively and innovatively: they may not be prepared.
• Environmental issues will still need to be addressed and can impact regrowth.
• The industry will resort to a greater reliance on loyalty programmes, IT solutions and E-commerce - and partnerships.

Today, national borders are closed, but passenger confidence will spawn recovery

Today, most national borders are effectively closed to airline operations. Once again it is the fear of illness, and perhaps death, that has been clearly demonstrated as a major deterrent to air travel. Air travel is itself a generic spreader of disease, as are other forms of transport; that is a prime motivator of government restrictions on international travel, making extensive cross border operations near-impossible.

But it will ultimately be the willingness - or not - of travellers to fly that will decide how and when air travel recovers. They will make their decisions based on their personal confidence about safety.

Clear evidence is now emerging that even short haul domestic travellers are actively deterred from flying where COVID-19 cases are surging; recent experiences in the US and elsewhere have shown that. Simply adding capacity and even ultra low fares will not persuade travellers back into the air if sanitary and health conditions are risky. The basic challenge is winning hearts and minds.

Safety should not be a marketing weapon

Some airlines are blocking middle seats as a token move towards social distancing, and they are marketing the fact as a travel incentive. This cannot ultimately allow commercial returns for the airline, but it may help build customer loyalty for the future.

For nearly a century, airlines have eschewed marketing passenger safety. Selling a "safer" inflight solution, whether by keeping a middle seat empty or using other differentiators, is not where airlines need to be. From a public point of view, it is clearly highly preferable for standards to be agreed - or set - across the industry. Seeking to differentiate on safety grounds can rapidly undermine consumer confidence in the industry overall.

In other words, aviation's recovery rests in the hands of airlines and airports collectively - not individually - to provide an environment for travel that is visibly and practically safe.

That won't be easy. It will require significant operational changes to provide the levels of comfort and security that the bulk of travellers need.

By the same token, governments have also shown they are unwilling to open borders unconditionally where their residents are likely to be at risk. It has to be assumed that these policies also reflect popular feeling, as well as a perceived national health responsibility.

So, for the time being, we remain firmly rooted in the 1930s.

How quickly we forget; being prepared

A few years after the briefly devastating 2003/04 SARS phenomenon, it was largely forgotten by most of the world, despite the WHO announcing that the next similar event was "not a matter of whether, but of when". Even the appearance of the H1N1 and MERS viruses did not enlighten national authorities, preoccupied with more pressing economic and political matters.

Exceptions were one or two prescient governments like Korea and Taiwan, allowing them to avoid the worst of the COVID-19 impact. Each had suffered quickly with SARS.

Even Hong Kong, where the flag carrier Cathay Pacific had been only days from being forced to ground its entire fleet, failed in its preparations.

Despite its proximity to mainland China, which can be seen by the naked eye from some regions, Taiwan, with a population of 24 million, has had only 486 cases and seven deaths from coronavirus as of midAug-2020.

Perhaps in the future other jurisdictions will be similarly well prepared - but probably not, particularly where the event is politicised in the conflict between the economy and avoiding infection. This increasingly appears a fallacy, as the two issues are joined at the hip.

"Unprecedented" is the word most often used. It means: There is no precedent for this uncertainty

Many observers have sought to extrapolate from earlier occurrences like the viral SARS and the Global Financial Crisis of 2008 onwards.

There is no precedent for what is happening now. This is important to recognise, because it makes sound predictions from our new starting point impossible. Some things will never be the same again (even though many things that appear impossible today may look different in a year's time).

Emphasising the scale of difference, in 2009 the century's steepest global year-onyear drop in passenger numbers occurred post-GFC, a fall of -0.4%*. Estimates for the full year 2020 are that passenger traffic will be down by some 60%. (*ICAO Annual Report 2015, Appx 1)

Even the (relatively) small jolt from the GFC provoked structural changes

At the same time, there are some indicators of likely broad trends, notably the erosion (perhaps temporary erosion, but certainly profound and extended) of business travel, and the opportunistic and innovative expansion of LCCs and short haul air travel.

Given the business proposition of the full service and network airline, relying for up to half of its revenue from business travel, that bifurcation is seemingly inevitable.

The post-GFC hiatus, where global economies were briefly stopped in their tracks, allowed and/or accelerated the expansion of low cost carriers, in Asia, Europe and Latin America; although not so much in the US, as Chapter 11 bankruptcies (paradoxically) came to the rescue of the major full service airlines and created a dominant oligopoly.

After the global financial crisis, questions were asked if the business market would ever recover. It did, but it took some time. (Importantly, at that time teleconferencing quality was poor and broadband WiFi was not widely available. Had the coronavirus struck a decade ago, the commercial impact would have been vastly greater than even it has been today. By the same token, the business travel recovery period was not distracted by what is now an arguably viable online alternative.)

Within SE Asia, with the tailwind of emerging economic prosperity, LCC seat capacity grew nearly threefold (from 80 million to 223 million) - from a 43% share to 56% in the decade from 2010 - while non-LCC capacity (105 million to 173 million) rose by only 70% over the period. At the other end of the market, Lufthansa, with its heavy reliance on business travel, offered an insight into the possible recovery rate and market transformation following that major financial upheaval.

These developments may be instructive to some extent, but never before has almost half the world's airline fleet been grounded, and most national borders have been effectively closed. Beyond that, at least another 50% of the "active" remaining fleet is effectively out of action, heavily underutilised.

As an indication of what the airlines themselves are thinking, an even greater proportion of the widebody aircraft fleet has been put out to pasture.

As for the prospects for improvement, IATA's Jul-2020 survey of airline CFOs and cargo heads painted a fairly pessimistic picture: 50% expect either a deterioration or no change in the next 12 months.

There has been no previous situation where such a depth of uncertainty and financial haemorrhaging has occurred - and with few signs of abatement at this stage (Russia, China and one or two domestic north Asian markets excepted).

Nor, vitally, is there any precedent for the restructuring that must inevitably occur in the next few months, once the mountain of government financial support and capital raisings evaporates.

The holding pattern: apply blunt instrument till it's "over"

When the scope of the coronavirus impact became apparent, the initial reflex response by government and the aviation industry alike was survival. No one knew how long "it" would last, but many believed that after a few short months things would spring back to a "new normal".

Industry bailouts, direct and indirect (through community-wide job support programmes), were designed simply to tide companies over until such normality could be restored. Mostly they were blunt instruments, with limited planning beyond stemming the short term cash flow crisis.

In the circumstances this was understandable, but its long term ineffectiveness was worsened by a complete absence of international community interests, reflecting an impulsive reversion to nationalism at a time when the opposite was desperately needed.

But it's not over, and things won't ever be the same again

As time has passed it became obvious that things would not be normal again; at least, would not be as they were in 2019. Equally it became obvious that more bailouts were going to be necessary if the breath-holding were to continue. For airlines, the main focus for now is reducing cash flow.

Most have downsized - a word whose immediate, euphemistic, meaning is sacking staff, or at least standing them down for an indefinite period.

Reducing services became unavoidable as political and other barriers were raised, and grounding aircraft, delaying orders, seeking respite from lessors and squeezing suppliers became de rigueur.

When the tide went out it was easy to see who was underdressed.

In a highly leveraged industry, very few airlines had cash reserves to see them through more than a few weeks or months. Aside from desperate appeals to governments for bailouts, the blood shedding prompted a flurry of capital raisings, much of it secured against what will be diminishing assets, leaving what will be left of the industry in a heavily indebted state.

These debts will consist of both commercial and government obligations.

Many airlines are too big to fail… A variety of financial support emerged, with a common theme

For many countries, the flag carrier is both iconic and seen as central to the national economy for one reason or another, prompting numerous interventions.

In the US, where the big four airlines had previously accounted for more than half of the world's airline profits, a USD25 billion government bailout package was accompanied by USD25 billion in conditioned loans (which not all airlines accepted). Another USD25 billion to preserve jobs - temporarily - is currently stalled in a divided Congress.

Latin American airlines were not so lucky. According to IATA, the region's governments have offered airlines just 1% of 2019 revenues in support, compared with 25% in North America and 15% in Europe. One result is to have forced three of the region's powerhouse airline groups - Avianca, Aeromexico and LATAM Airlines Group - into Chapter 11 bankruptcy.

In Europe, a variety of loan or credit guarantees and state aid has been issued to most of the better known brands. These have been piecemeal and usually nationalistic, chipping away at the fundamentals of the European open skies.

The largest beneficiary has been Lufthansa, receiving EUR9 billion in a combination of loan and partial (20% equity) nationalisation; Lufthansa Group airlines have also engaged in government funding.

In state aid and loans, SWISS and its subsidiary Edelweiss have received EUR1.42 billion, Austrian Airlines EUR450 million, and Brussels Airlines is to receive EUR290 million. Alarmingly, the Austrian package was accompanied by establishment of a price floor.

Air France is the recipient of a EUR7 billion package and its joint airline KLM another EUR3.4 billion from the Dutch government. International Airline Group received a modest EUR1.3 billion package in the form of loan guarantees.

Aeroflot received an initial EUR865 loan guarantee and the ever-impoverished Alitalia has been renationalised, with a EUR3 billion capital injection by its government.

TAP Air Portugal also received a government loan of EUR1.2 billion. (For full details of European governments' airline support, see "COVID-19 prompts dramatic increase in state aid to (some) European airlines" in this issue.)

All of this ignored the fact that the selfstanding survivor models were the big LCCs - in Europe Ryanair, and Wizz Air were well ahead of their larger full service peers in terms of cash reserves and undrawn credit facilities.

As the lockdowns began, Wizz Air and Ryanair had the largest cash reserves among European airlines.

Africa and the Middle East, very different markets

Africa's highly fragmented industry, with extensive government ownership, was struggling before and, where positive action is being taken, is now being folded even more under their governments' wings. This will make much needed consolidation and rationalisation even more unlikely.

According to IATA, the aviation industries in Rwanda, Senegal, Côte D'Ivoire and Burkina Faso have received just over USD300 million in support, and international funds are awaiting local bureaucratic blockages to disburse further support. The industry body talks of an industry on the edge of collapse if action is not taken quickly.

Only successful Ethiopian has solid cash reserves, but with a large international network, will struggle. For South African Airways, severely troubled for years, this may be the end of the road as political turmoil continues; there is minimal prospect of a bailout for the heavily indebted flag carrier, although a slim possibility of privatisation remains.

In the Middle East, the Gulf carriers have been more active than most internationally, carrying both passenger and freight shipments. Emirates is still awaiting any form of direct governmental support, although Dubai has made clear that fresh capital will be injected to support the airline. Etihad and Qatar Airways are in similar positions. In Qatar's case, the airline has also committed to maintaining its equity holdings in LATAM, IAG and Cathay Pacific.

The Israeli government issued El Al with a USD250 million loan, with the further prospect of renationalising the airline if necessary, but there is private investor interest as well.

Asia Pacific governments have generally been parsimonious

In Asia Pacific, the largesse has not been as widely disbursed as in Europe or North America.

Only two major airlines, Singapore Airlines and Cathay Pacific Airways, have received substantial government generosity. As high end network airlines with no domestic market, both have suffered more than most; SIA operated well less than 10% of its 2019 seat capacity as of mid-Aug-2020, while Cathay managed only a little over 5% of 2019 levels.

Thai Airways, a network airline with a substantial domestic market, has entered a form of government-sponsored bankruptcy and reconstruction. Graphically illustrating the benefits of a government being prepared, Taiwan's two major airlines, China Airlines and EVA Air, have sailed through the period in profit!

Singapore Inc came to SIA's rescue, funding up to 75% of its employees' pay, and the government backed Temasek Holdings - SIA's majority shareholder - underwrote an equity and debt raising. The flag carrier issued SGD5.3 billion in new equity and is raising up to SGD9.7 billion through 10 year mandatory convertible bonds.

There was also a SGD4 billion bridging loan facility with the Singaporean DBS Bank, to support "near-term liquidity requirements." But notably Temasek stated that these transactions will also "position SIA for growth beyond the pandemic".

In Cathay's case the government invested HKD19.5 billion through the purchase of new shares, and will provide bridging loans worth HKD7.8 billion. Major shareholders Swire Pacific (42.3%), Air China (28%) and Qatar Airways (9.4%) have taken up their entitlements, with only a slight reduction in their percentage holdings. The government will hold 6.1% of the shares. Cathay also has more options to raise money if necessary.

Air New Zealand, which dominates its domestic market and previously had a successful international network, acted quickly to reshape its business, essentially shrinking into becoming a domestic operation for the foreseeable future.

The airline received a two year loan facility worth NZD900 million to exercise should its cash reserves drop below certain thresholds. The government already owns 52% of the airline, since renationalisation after Air NZ's collapse in 2001 (but has played a wholly passive role), and retains the option either to seek repayment through a capital raising by the airline or convert the debt to equity. (Across the Tasman Sea however, Virgin Australia was obliged to enter voluntary administration.)

There are many other smaller examples. As time passes, it looks increasingly likely that the initial bailouts will be inadequate to fill the gap until the airlines are able to return to sustainable profitability.

A few airlines globally have also actually sought refuge in one form or another of bankruptcy provision, to allow restructuring or resale - or demise.

Short term survival ignores the real issues, but the learning process continues

To date, all strategies have one thing in common: they are about short term survival.

The normal - and often essential - human trait of optimism has effectively prevented serious discussion of what comes next.

But hope is no strategy.

Much more focus has been on solutions to the pandemic - but overhyped hopes are disproportionately outweighing the likely medium term impact of a vaccine or other cures, which are - in the best of outlooks - unlikely to have a widespread impact before at least the second half of 2021.

The outcome of that sort of thinking is "band-aid strategy", when what is needed is a globally coordinated programme of surgery and recovery. Instead, what happens when the funny money runs out will be unavoidable, and be much more disruptive for partners, consumers and business and tourism than it needs to be.

There will inevitably be extensive airline crises in the coming 12 months, with more substantial structural industry impairment. In some ways bankruptcy/restructuring where national laws allow it, may be a preferable alternative, helping them to ride out the storm, and one that others will follow.

This is the crisis we SERIOUSLY can't afford to waste

One glaring fact so often being overlooked in this current health and economic crisis is that the airline industry was perpetually unprofitable even before COVID-19.

So, in simple terms, most government industry supportive action looks no further than trying to perpetuate what has been demonstrated over decades to be a failed model.

Certainly there was a handful of dominant airlines that had made decent - not great, but decent - returns for a few years. But the vast majority of airlines were either losing money or failing to achieve anything like a reasonable return on investment.

That is not a reflection on the airlines, or even of the industry, for that matter. It purely and simply reflects the sorry state of the regulatory system that governments, unilaterally and bilaterally, have perpetuated.

For decades, airlines have failed to achieve a return on the weighted average cost of capital

And now, where governments are intervening to prop up airlines that are confronted by terrifying cash burns, their implied goal is simply to try to stagger through long enough to re-establish - wait for it - that same failed system. For confirmation from someone who had skin in the game, Warren Buffett can oblige.

"Warren Buffett has got it wrong again. By 2020 at the latest his US airline investments will all have started to unravel."
Airline Leader Issue #37 Nov/ Dec 2016, P 17

Warren Buffett on airlines, 2002:
"... the airline business has been extraordinary. It has eaten up capital over the past century like almost no other business because people seem to keep coming back to it and putting fresh money in. You've got huge fixed costs, you've got strong labour unions and you've got commodity pricing. That is not a great recipe for success."
The Telegraph, 2002

Warren Buffett on airlines, 2016:
"Mr Buffett, in Nov-2016 when taking a new stake in each of the biggest four airlines in the US, is banking on them continuing to make substantial profits in the long term because (1) they benefit from market concentration; and (2) there is concentration in their ownership, with a small number of hedge funds and others holding strong equity positions in each of the major carriers." Airline Leader Issue #37 Nov/Dec 2016, P 17

Warren Buffet on airlines, 2020:
Billionaire investor Warren Buffett, chairman of Berkshire Hathaway, told shareholders on Saturday that he had sold all of the company's airline stocks, admitting that he had made a mistake…"
Forbes, 04-May-2020

In 2016 he thought the system had changed sufficiently to ensure that airlines - or some of them - could be profitable indefinitely.

The appearance of profitability is supported by the fact that so much commentary comes from the US - where massive bankruptcies, followed by massive consolidation, allowed a handful of airlines to make very large profits. But they became big and powerful operating in a goldfish bowl; that profitability wasn't echoed in the rest of the world.

The fact is, no sensible investor would invest in airlines; and when the mist starts to clear from the pandemic and the subsequent global recession, that will still be the case.

The only reason the industry has survived is that in the past airlines have made enough money to pay their debts and their suppliers.

The debt equation may have a shaky foundation in future

As IATA stated in its 2020 midyear report: "Historically, debt providers to the airline industry have been rewarded for their capital, usually invested with the security of a very mobile aircraft asset to back it."

"On average during previous business cycles, the airline industry has been able to generate enough revenue to pay its suppliers' bills and service its debt. On the other hand, even prior to the COVID-19 crisis, equity owners had not been rewarded adequately for risking their capital in all regions."

The report followed that by emphasising that "average airline returns have rarely been as high as the industry's cost of capital."

This, the report noted, was particularly relevant in the faster growth regions of the Asia Pacific and Latin America regions, which "have consistently generated below-WACC returns. The highly competitive nature of the market in Asia Pacific has prevented airlines from fully reflecting the increase in costs resulting in narrower operating margins." (www.iata.org/economics| 2020 Mid-year report 3Capital Providers)

Two points arise here, one of them new, the other long-standing.

When asset values shrink, how will traditional airlines raise capital?

First is the close nexus between asset-based credit and sustaining the industry. The airline industry is based around big boys' toys; today (or six months ago) the world's commercial airline fleet is worth a trillion dollars, most of it heavily encumbered.

Aircraft form the bulk of an airline's assets, so any substantial shift in values can mean a serious upheaval in the status of debt secured against them. Until this year, valuations were relatively stable, or at least predictable.

Now, for the time being, aircraft values are in suspended animation; when the time arrives that liquidation of some assets becomes unavoidable, a reckoning must occur. It will surely have a profound impact on the nature of the industry.

As a commentary in the Economist asked recently, "What is an A380 worth?"

On 20-Aug-2020 Qantas CEO Alan Joyce noted the airline had made an AUD1.4 billion "write down of assets including our A380 fleet, which reflects that these aircraft will be on the ground for years."

The A380 aircraft is a special case, whose value was in decline well before the virus struck, but a disproportionately large number of other widebody aircraft are also now grounded, and international long haul travel has decayed drastically.

Many are relatively new aircraft, although more venerable models will never fly commercially again. It is anybody's guess how these values will evolve - but they won't be upwards.

If, as IATA implies, airlines have historically merely managed to pay for their essential services and pay back creditors, while demolishing shareholder value, what happens when the basis for that credit evaporates? Something has to change.

A desperately flawed industry which urgently needs recalibration

A 21-Aug-2020 IATA study found that even before COVID, of "40 of the world's major airlines", only 80% had credit ratings exceeding "highly speculative".

Bear in mind, this was at a time when airline industry profitability was not in decline - it was near its peak!

In most industries, if 20% of the major players fell into the category of "extremely speculative" or "default or little prospect for recovery", drastic restructuring would be necessary. But not so the airlines.

Today - with an unknown period of massive instability and disruption still ahead, nearly 60% of those leading airlines have become "highly" or "extremely" speculative, with a third of that number in "default or little prospect for recovery".

A Bloomberg report in Aug-2020 calculated that as the world's airlines rushed to cover cash flow needs, they had raised USD49 billion in debt so far this year already, almost three times the amount in the full year 2019, as well as issuing USD47 billion in bonds.

At a time when airlines are going to need to raise more debt, the implication of this is that it will cost a lot more as time passes. Attracting equity will become a mountainous challenge.

Identifying the flaws is easy; deciding what to do is harder

Confronted with this state of affairs, it is reasonable to wonder at what stage governments might come together and relax some of the archaic restrictions on commercial operation that dog the airline industry - which leads to the second issue raised by IATA.

That is, the level of competition in many international markets. Barriers to airline entry are low; they may be complex - for example acquiring market access and airport slots - but the low hurdle allows great fragmentation.

In itself that is not unhealthy. Indeed, in a fast expanding market like Asia it is quite the reverse.

But when this situation of overcapacity and excess competition is underpinned by international regulations that effectively prevent mergers across borders, or any other form of rationalisation, the outcome, especially in the coming months, becomes explosive. Or to be more specific, unsustainable.

One thing that would seem low on the list of priorities in these circumstances is pouring more money into legacy airlines to overcome short term cash flow problems.

If the only future they can possibly face is of continuing insolvency (or government subsidy), perhaps it's time for a change.

Airports are the tail of the dog; radical change will have to happen

If the airline industry is facing massive disruption, airports can be seen as the tail of the dog. The fundamental commercial airport revenue model is broken.

Despite the popular focus on avoiding inflight infection, the real deterrent to flying is going to be the airports themselves. They are complex operations with multiple different stakeholders, and standardisation, let alone actual safety improvements, is far from satisfactory. That's with only perhaps 20% of previous throughput levels.

Aeronautical revenues will be sharply down for at least four years, as the airline industry recalibrates; and the long haul international passenger proportion (the most valuable for airports) will be particularly slow to recover.

Retail sales in turn currently rely on passenger throughput models, especially international flyers, a market that will also be circumscribed by health and safety issues. Physical shopping, the sanitation of products on sale, will have to be rethought to avoid viral transmission. Then there is carparking revenue, a substantial proportion of many airports' models, again correlated with passenger throughput.

In its present form that revenue will be severely damaged. There will be some proportionate growth as travellers eschew public transport for health reasons, but numbers will still fall very much short of restoring earlier levels.

Redesigning the airport experience will take much more than token measures

But perhaps the most important test is not on the revenue side, it is the cost element: the entire airport throughput architecture must be redesigned to accommodate social distancing and other sanitary needs. This needs to take account of such operational issues as spacing between airline slots, to avoid congestion at peak times, but also significant structural adjustments to allow for adequate spacing as passengers pass through the airport, as well as greatly enhanced airflow conditions.

Most airports are necessarily focussed on the need to find ways of recreating revenue streams, but few have awoken to the reality (or don't want to) that significant structural changes will be required to ensure safety through the passenger journey.

Even simple things like ensuring domestic and international passengers don't mingle will be a challenge, unless there are physical barriers. Screening for everyone - travellers and the myriad staff from different origins - in the airport environment will become mandatory, requiring much more space as traffic returns.

According to Dr Anthony Fauci, director of the US National Institute of Allergy and Infectious Diseases quoted in the New York Times, "The crowded nature of things in an airport has always made me uncomfortable, particularly in a less modern one. People are literally nose to nose waiting to get on the plane".

Dr Fauci believed new terminals needed to allow "enough space for people to spread out, offer high-efficiency particulate air filtration and distribute free masks".

Tellingly, he added, "You can't throw up your hands and say it is impossible".

On the sort of scale envisaged, the task may indeed well look impossible at a time when finances and creditor patience are thinly stretched. For that reason, most airports will fall well short of the necessary standards.

Moreover, it will take many years before coordinated standards are established globally. But as Dr Fauci stressed, terminal construction changes should not be planned just for the coronavirus, but also for other respiratory illnesses that will appear in future.

Paying for much-needed structural changes will require innovation

From an investment point of view, there is already trouble. Major airport investors are patient, low return, low risk investors such as pension funds. Airports are such high capital investment items, with long lead times, so future investment will be shaky at best. Airports have become high risk, and in oversupply.

They also carry a lot of (fortunately, mostly) long term debt. But they were relying on airlines to fund their development sites, runways etc., before they became operational. That cash flow will be sorely missed.

Add to that the fact that at least a quarter, perhaps even half, of the 2019 airlines and service levels will be gone in 2021, even the best scenario is grim. The only thing keeping airport share prices up is the lack of alternatives - airlines need airports to fly between - but that bubble will burst when reality bites.

How to find new sources of revenue? That is the key question. The answer is not easy, for so long as aircraft don't come.

E-commerce, online sales, partnerships with big retailers, perhaps. But the big attraction of airports was the reliable and constantly growing passenger throughput. Removing that feature means bold decisions and a great deal of thinking outside the box.

Corporate travel: going from Broadway to watching TV

Before the pandemic, corporate travel had become an "essential" part of doing business. It had also created a secondary phenomenon, "bleisure", which made business travel one of the most prized work assets for millennials and many others. In turn, it created a marketplace for intermediaries and ground providers who actively promoted the practice.

This virtuous circle also supported the employers' doing-business goals, and while the good times lasted, few seriously questioned the need for what was a burgeoning travel activity. Attending events, large and small, came to be considered core to the business, supported usually by the employee being "rewarded" with the travel experience and returning with a bag of sales.

The pandemic has forced a suspension of most of that travel. The rapidly improving online methods of doing business - and availability of broadband WiFi - have made it possible to conduct high volumes of business in a way that simply could not have been supported a decade ago.

It's certainly not as socially inspiring as face-to-face meetings and mixing business with pleasure. But the bean counters have noticed a difference.

As the world moves into a deep recession and companies search actively for cost savings, travel will be, as it always has been, among the first to go under the microscope.

So, cost-benefit justifications for that next trip will become more onerous. The cost savings may be substantial, but the ultimate judgment has to be around whether the returns - short and long term - are sufficient to outweigh the cost.

The business travel status quo has been disrupted

If nothing else, the disruption caused over recent months has allowed a real time assessment of the ROI of travel. How much is really essential? What was travel uniquely able to deliver?

Then there are other important intangibles, like establishing duty of care guidelines for staff travel; until health and safety standards are sufficient, companies will be cautious about sending their employees out on business travel - and any prospect of including uncontrolled "bleisure" side trips will surely attract close scrutiny.

Challenging questions like these will be widely debated in meetings and in boardrooms. The answers will vary between companies and at different times, but from the perspective of airlines, the news is mostly bad.

No one can accurately assess what the impact on the airline industry will be in coming months. Even if an optimistic 50% of business travel does return over the next 12 months, will that be in time to save the airlines who rely so heavily on it?

There are just too many variables: weak economic conditions, higher airfares, poorer connectivity and fewer airline and route options, unpredicted international border closures, budget cuts, and even the continuing and competing improvement in teleconferencing.

On the positive side, like discretionary travel, there should be an initial recovery surge of wanting to reconnect physically with important clients and make new acquaintances, but the move is likely to be heavily constrained by the negatives.

Loyalty and frequent flyer programmes: "seismic change" coming

Over the past decade loyalty programmes have evolved rapidly in step with developments in IT and data analytics, in the process largely changing the shape of what was already becoming much more than a simple loyalty model.

The pandemic has accelerated this shift, to an extent that FFPs too promise to be yet one more element in the disruption of the airline industry.

The extraordinary value that now attaches to some of the more advanced programmes has become apparent as, for example United Airlines raising USD5 billion secured against its MileagePlus loyalty product.

In the process, the airline made clear just how profitable the programme is. And, like some other airline programmes, the capital value of MileagePlus exceeded that of its "parent" airline, even when valued at a x12 multiple, relatively low for such a strong operation, but limited by its connection with the parent airline.

Developments in coming months could well change the nature of this parent-child relationship. Where some parents may become extinct in 2021, there will be reassessments of the nature of FFPs as selfstanding entities.

The likelihood is that this could spell a new era for self-standing loyalty programmes.

In a special feature in this issue of Airline Leader, On Point Loyalty's Evert de Boer suggests their outstanding value and the ongoing crisis could be a catalyst for seismic change for loyalty programmes.

Gone (from the headlines) but not forgotten: airlines and the environment

Whatever the solution to the pandemic might be for the aviation industry, it can safely be said that there is no vaccine for the environment.

The sight of Greta Thunberg sailing across the Atlantic to New York might seem a generation ago, but the powerful pressure of the need for emissions reduction has not abated in the least.

The absence of vapour trails from the sky in many parts of the world has only intensified the feeling that aviation is significantly damaging the environment. The pressure will not relent, and an airline industry struggling to recover from the massive hit of the coronavirus will be forced to confront an environmental movement anxious to build on the emissions reductions that have accrued over the past six months.

In his special report in this issue, "Emissions reduction should play a major part in aviation's post-COVID recovery", Chris Lyle, of Air Transport Economics, adopts a controversial tone in pointing a path for the aviation industry.

Mr Lyle also places the pandemic's remarkable impact on aviation in context: while aviation previously accounted for less than 3% of emissions, 10% of the recent decline in global CO2 emissions attributable to the COVID-19 pandemic was the result of the reduction in air transport operations.

Some European governments have linked airline bailouts to making emissions reductions and the movement to reduce very short haul flying has gathered strong momentum.

But elsewhere in the world the sheer goal of survival has overwhelmed environmental commitments - but they will reappear.

E-Commerce: a salvation lifeboat (and disrupter)?

If necessity is the mother of invention, adversity must be the father. One positive outcome of the pandemic's drastic impact is the innovations that surely will rapidly emerge.

In the early part of the pandemic's impact and as much of the world was confined to home working, e-commerce has unsurprisingly boomed. This accelerated development, along with a rapid conversion to card-rather-than-cash usage, is unlikely to unravel. Online e-commerce deliveries evolved 10-years-in-8-weeks, as a McKinsey study described it.

These habits will support new opportunities for the aviation industry - well beyond the short term boom in dedicated air freight operations - which have helped some airlines generate at least some substitute cash as passenger travel dried up.

But the shift from in-store to personal shopping has mixed benefits for a specialist like FedEx, which might be expected to have profited greatly. Residential one-off deliveries are costly and much less lucrative than business drop-offs, where hundreds of pieces may be left at one location.

But as airlines, airports and the industry overall search anxiously for ways of reducing the hurt, expanding the use of information technology and e-commerce is likely to attract renewed attention.

For airlines, finding new avenues for ancillary revenue, whether through loyalty programmes or directly flight-related charges, will be a focus. For airports, replacing lost retail revenues (not to mention aeronautical charges) becomes essential, and more than one is actively exploring the opportunities for e-commerce and online sales.

The need for new directions will surely spawn new relationships and partnerships, both within the industry and across corporate borders, as part of a new rationalisation process.

An airline sector that is hurting badly and will be cash-strapped for many months may find it hard to allocate funds towards expensive IT activities, but there are many non-aviation operators which have the complementary skills and capabilities, as well as being cashed up.

As this occurs, the ties between (unprofitable) airline operations and (profitable) selling and data usage could well be loosened. This would be a logical outcome and, as it evolved, could help overcome the highly unhelpful regulatory boundaries around foreign ownership in the airline industry itself. This in turn engages the critical role that branding and national iconism have played in the industry.

Wherever it leads, each step surely disrupts further what was a highly unworkable and fundamentally unsustainable airline industry.

The end game: living with coronavirus

Recovery will be messy. Passenger confidence will be essential to market revitalisation. A vaccine will not be the silver bullet that some excessively exuberant optimists hope for.

There will inevitably be several vaccines produced worldwide, starting for example with Russia's, announced in early-Aug-2020, and then China's mid-Aug-2020 announcement that trials are starting respectively with Mr Putin's daughter and Chinese health officials as guinea pigs. Even after production, vaccines will take many months to produce widespread global coverage, and among other things there will be many anti-science anti-vaxxers to muddy the waters. The US administration's untidy rush for a pre-election solution could also well prove significantly counterproductive in persuading an uncertain public to rush the barriers.

Achieving standardised acceptance by governments of the various vaccines will be challenging, made more so because new discoveries will continue to be made, about the virus and its "cures". The lines between science and politics will also frequently be blurred in this process.

In the absence of strong leadership there will also be a patchwork of other recovery measures taken, like on-arrival testing (greatly reducing any quarantine requirements, although doubts exist about the effectiveness of this approach with current tests). There will be multiple measures taken to reduce the impact of the virus, and there will be evolving governmental strategies to manage smaller outbreaks, allowing greater risk tolerance.

Better control of outbreaks and improved testing procedures will add to the momentum as governments and people become more educated about - and better able to manage - the risks. (China, for example, is very effectively requiring the use of personal QR codes to track and warn of infections, but not all countries can expect the widespread discipline necessary to make that work.)

Everyone is learning as they go along, as well as learning to "live with it".

"Travel Bubbles", or corridors, offer some promise. Waving not drowning

Complicating the opening of international markets further is the way they will gradually open up.

The concept of travel bubbles was discussed among some Asian countries quite early on as recovery seemed imminent, but the realisation of these bubbles has been impeded by a) resurgences in COVID-19 cases, but also by b) the politics and complexities of bilateral agreements.

Even at the simplest level, bilateral "bubbles" can be too hard. Although two countries with no COVID cases might agree to bilateral operations, each must limit access to third countries' travellers. Otherwise, their own travellers risk mingling with a third country's arrivals who may be infected - either at airport or at the destination.

This is more than speculative; New Zealand, which is nearly unique in being completely clear of infection at present, had considered a bubble with a neighbouring COVID-free Pacific island holiday destination. But New Zealand has dismissed the idea because of fears that the neighbour would also allow access to other, infected, countries and segregation would be impossible.

At the same time, NZ Prime Minister Jacinda Ardern has said a travel bubble won't be possible with New Zealand's biggest market, Australia, until that country has 28 successive days with no community transmission.

Even though Australia has fared well so far, a recent outbreak in Victoria and the internal closure of several state borders means that the prospect remains far off. Then, after three months of no infections, New Zealand itself was forced to shut down its major city when a surprise outbreak occurred there.

Where even bilateral bubbles are difficult, multilateral opening is inevitably much more complex. The hybrid "domestic" European Union market is perhaps an exception, although it is clear that unilateral protective measures will continue as new "waves" occur and are always possible - for example, the UK's sudden imposition of 14 day quarantine on returning visitors to Spain. And, Spain is "waving" again in late Aug2020.

A vaccine will first be valuable in "bubbles"

Unrealistic expectations around a miracle cure for international operations will be tempered by several factors, once a widely accepted vaccine is available, probably in 2H2021, in particular the need for multilateral recognition of its value (where notably several competitors appear likely); accreditation and border recognition processes will also be necessary.

History shows this to be a very lengthy process, involving intensive intergovernmental negotiations.

However, the prospects for bilateral reopening between like-minded governments are much better and this is where the genesis of reopening on a wider scale will occur.

The airline industry of the future

By mid 2021 the shape of the future airline industry will become much more apparent. Upheaval, disruption, defaults and departures in the meantime are inevitable, but getting closer to that future profile will depend on a range of factors. A closer look at those ingredients is a step in that direction.

External Factors

1. The world will be confronted by a global recession, compounded by levels of debt and unemployment that would have been unimaginable at any other time in history - including during the great depression of the 1930s;
2. International borders will reopen only slowly and remain subject to reclosure if new waves of infection occur;
3. This will reduce discretionary spending and business travel;
4. Meanwhile there is a mountain of cash in private hands, with interest rates at - and likely to remain at - alltime lows;
5. There is continuing uncertainty around the pandemic and its health and political effects, reducing traveller willingness to fly and erecting border controls;
6. A high probability of greater state involvement in airlines and a more restrictive regulatory regime;
7. Environmental pressures will increase as vapour trails and airport noise return.

Airlines

1. There will be as much as 30% fewer substantial airlines;
2. Those that remain will be substantially downsized;
3. The result will be poorer connectivity and higher fares;
4. Many airlines will be "subsidised" now, distorting the competitive balance and provoking bilateral issues;
5. Asset values will be diminished as surplus aircraft languish on the ground;
6. Most surviving airlines will be highly indebted, with very weak credit ratings (and high borrowing costs);
7. Higher costs will be imposed because of the need for special health precautions;
8. Critical business travel revenues will take years to recover;
9. Low asset values and cheap money will enable new (low cost) entry;
10. IT, E-commerce and external partnerships will be more actively exploited in bids to seek innovative revenue streams.

Airports

1. With greatly reduced airline activity, notably for more lucrative international services, much lower aeronautical activity will flow through to reduced retail and parking revenues;
2. Heavy long term debt loads will need to be renegotiated, although most private airports have strong liquidity and lines of credit;
3. As S&P ratings describes it, "airports will face a long haul to recovery";
4. E-commerce will be exploited much more actively to secure new revenue streams;
5. New private construction projects will falter;
6. For opportunistic and cashed-up airport investors, primary and secondary acquisitions could occur.

What airline model will work best, post COVID?

The successful model will have low costs, operating narrowbody equipment in a significant domestic market (or e.g. within the EU), and in "corridors" or "bubbles" as they open up. Ideally, it will have a protected domestic market.

International and business traffic will be slow to recover, implying headwinds for full service airlines, which will struggle to offset their higher cost bases with higher yields.

The full service airline model is broken, temporarily at least

The full service airline model is broken, making structural change imminent. The loss of business travellers is a massive disrupter.

Full service carriers rely on higher yielding business traffic for as much as 40% of revenue; even the more optimistic of assessments is that business and corporate business will drop by 30% in 2021. Some put the likely revenue fall as high as 70% in the short term. The convenience and cost-effectiveness of teleconferencing will play a large part in compensating for the inability to travel.

And more than ever, the "short term" will be a critical period in the future of the airline industry. For the time being, as government support is underwriting airlines, the sharp edges of the pandemic impact have not yet cut deep.

Once that temporary prop is removed, the process of merely borrowing to reduce cash losses will quickly need to be replaced by genuine profitability, and probably higher fares. And, sadly, vast numbers of redundancies.

At that stage, would-be business airlines will have to make some difficult judgments.

In a weak economy, with both leisure/ VFR and business travel affected - and with revenue management models that were designed for a different era - pricing business travel fares will be highly complex, as illustrated in the following simple diagram.

Any full service airline that does not have a domestic market will struggle.

There is a host of factors that determines what the predominant medium term airline profile will be. In turn this leads into aircraft types as well.

Low cost and low frills airlines should perform better - and target cost conscious business travellers

Undoubtedly LCCs will lose some of their low cost edge as health and sanitary procedures slow turnarounds and add levelling costs in other areas. Softer economic conditions will reduce the stimulatory effect of low fares.

But the LCCs' previous lack of reliance on high yield business traffic opens up opportunities to tap into that market, assuming an ability to provide regular and solid frequency of product.

Southwest Airlines, although no longer a "classic" LCC, has for example sounded a warning in the US domestic market, promoting a planned new reliance on GDSs to deliver higher yielding passengers.

An ideal time for new beginners?

There is, however, a wild card in this dark scenario. It's an ill wind…

Conditions are near perfect for new entrants - although which markets will be open to operations remains a key issue.

Cash is cheap and there is plenty of it. The same bountiful conditions will apply to aircraft, qualified crews, and virtually every other ingredient necessary to start a new airline.

On this occasion, like no other, there will almost inevitably be plenty of airport slots. For the time being, in many cases slots are being held in abeyance for the previous incumbents, but as the survivors cut back on services and others exit or are consolidated, slots will have to be relinquished.

For now, all that is missing is passengers…. But they will return eventually.

Demand will recover at some stage - that much is certain

There is undoubtedly a high degree of pent-up desire for travel among some market segments.

In the UK, some low cost operators are reporting very high levels of demand for summer 2021 holidays in Europe. Europe's TUI Group stated on 12-Aug-2020 that its holiday bookings for summer 2021 were 145% higher than 2019's bookings had been for summer 2020. Notably it is a low price segment, but it is an indicator.

Summer 2021 is far enough into the future for people to make bookings on the assumption that infections, travel restrictions and economic weakness may have receded into the past by then.

However, unless and until the threat of the virus is removed (or, more likely, reduced), and contact tracing is radically improved, both of these assumptions remain fragile.

A return to the 1970s marketplace?

Three decades after the "modern" system of commercial aviation began, the 1970s was still characterised by government intervention, state subsidy, and restrictive access controls; the interests of consumers and tourism came well down the list of priorities.

In the absence of proactive policy coordination, the default outcome in future, after all, is a return to the 1970s.

Increased government intervention, of which there are already strong hints, and a more restrictive international marketplace dominated by subsidised airlines is a looming and very real threat.

Where governments pour billions of taxpayer money (or debt) into airlines, those taxpayers may want to receive some dividends, even though they are also consumers and may equally want to enjoy the opportunity for low priced travel.

For the likely airline survivors in those conditions, whether or not they are dinosaurs, a very convenient force may work in their favour: the environment.

The only practicable way to achieve the goals of some of the more extreme environmental demands is to reduce the amount of flying. Alternative fuels will never replace fossil fuels entirely and electric power will not be viable within the next 15 years. A controlled marketplace would not encourage price stimulation or lower fares.

So long as regulatory decisions are taken unilaterally there can be no intelligent outcome. At its heart, international aviation is an intergovernmental matter, as coronavirus is making so apparent, so deciding on substantial change that meets a wider public need requires governments to come together collectively if sensible outcomes are to be achieved.

One possibility is for the EU (and UK) and the US to come together to unravel the rigid nationality rule in bilateral agreements. Even this is highly unlikely; China is even less likely to join in such an approach. Whether ICAO can play a significant umbrella role, beyond offering a coordination of health standards - itself a vital role - is questionable, but in extreme circumstances it does offer a global forum for discussion.

Perhaps even a "virtual" escape from the crisis

Another intriguing prospect in this massive shake-up is the advancement of often-theorised "virtual airlines". The combination of cheap aircraft and plentiful cheap cash could prompt investment in airline operations that segregate the traditional marketing and selling roles from actual operation of the metal.

Although attempts have been made at this over the years without notable success, the time may at last be right for "white-label" services that offer specifically branded services to fill the many cracks that will appear in global aviation over the next five years. Given regulatory willingness, this approach could solve many shortcomings.

Most governments in Asia, being the fastest growing region (before and after COVID), tacitly support relaxation of cross-border ownership rules, as illustrated by the host of so-called cross-border joint ventures. Latin American airlines are largely similarly inclined.

For now, the prospect of coordinated action remains a mere speck, but it may be that specific offerings can chip away at the unhelpful edifice of national ownership rules.

As conditions deteriorate in 2021, the attraction of not "wasting" this enormous industry crisis may just come to the fore. If not now, it never will.

In Conclusion

No medical expert believes COVID-19 will be the last event of its kind. Hopefully our leaders will be better prepared next time around, although history should not lead to an assumption of any longer term preparedness.

We will have to prepare to live with the constant threat of infection. And, as always, aviation and travel will prove themselves the most fragile of industries.

Yet, realistically, there are few signs of any concerted effort to establish the basis for a more resilient and financially sound future. For the moment, protectionism and other forms of government support loom large, but that cannot support the wider public interest.

The sort of change needed is more likely to devolve from within - provoked externally from the industry's creditors and investors. One thing is certain, as industry assets are revalued in coming months, these forces will become increasingly influential.

The industry will not attract the investment it needs unless major change occurs. Warren Buffett and his kin won't make the same mistake again. Nor will lenders, and this raises fundamental questions about an industry that has been constructed around raising debt.

In the meantime, the industry - airlines, airports and the entire feeding chain - must come together to convince travellers to return to the skies. That will entail providing consistency across the travel journey and levels of sanitary protection that are both visible and real.

Until that happens, and governments are confident that gateways can open up again, we shall remain confined back in the 1930s. Even getting to the 1970s will be a major challenge.