04-Sep-2015 4:00 PM

Aeroflot back in operating profit in 1H. Transaero acquisition to take its market share close to 50%

Analysis

The Aeroflot Group turned around an operating loss in 1H2014 into a profit in 1H2015. The depreciation of the RUB served to boost both revenue and operating costs, with a net negative impact, but Aeroflot managed to grow its RASK more rapidly than its CASK.

The Ukraine crisis and tense international relations continue to weigh on demand for travel to/from Russia. But demand for domestic flights is growing strongly.

Moreover, Aeroflot is taking advantage of capacity reductions by cautious international rivals and struggling domestic competitors to increase its leading share of the Russian air transport market. The group's market share now looks set to jump to embrace almost a half of all passengers to/from/within Russia once it completes the acquisition of second ranked Transaero.

Summary

Aeroflot Group turned around an operating loss in 1H2014 into a profit in 1H2015, with revenue increasing by 25.8%.
Demand for travel to/from Russia has been affected by the Ukraine crisis and tense international relations, but demand for domestic flights is growing strongly.
Aeroflot is taking advantage of capacity reductions by international rivals and struggling domestic competitors to increase its market share in the Russian air transport market.
The group's market share is set to increase further with the acquisition of Transaero, the second-ranked airline in Russia.
The group's passenger numbers increased by 14.0% in 1H2015, with strong growth in the domestic market and a decline in international markets.
Aeroflot's low-cost subsidiary, Pobeda, carried over one million passengers in its first six months of operation.

Operating result returns to profit in 1H2015

In 1H2015, the Aeroflot Group made a net loss of RUB3.451 billion (EUR54 million), which was 86% wider than its loss in the same period a year earlier. However, this year's result was adversely affected by an unrealised RUB8.848 billion (EUR137 million) loss on hedging derivatives.

The operating result, which more closely reflects the underlying performance of the business, was a profit of RUB5.886 billion (EUR91 million) in 1H2015, turning around from an operating loss of RUB1.384 billion (EUR29 million) in 1H2014. Revenue increased by 25.8% to RUB 176.467 billion (EUR2.736 billion) and the operating margin improved by 4.3ppts to 3.3%.

Adjusting for non-recurring expenses (which include RUB1.639 billion for the early return of aircraft at Orenair and Rossiya Airlines and RUB567 million for a fixed asset write off at Vladavia), the operating result was RUB8.072 billion (EUR125 million) in 1H2015, compared with a small profit of RUB713 million (EUR48 million) a year earlier.

Aeroflot Group financial highlights: 1H2015 vs 1H2014

Aeroflot Group development of operating income (RUB million): 1H2014 to 1H2015

Group ASKs up 8.7%; strong domestic growth but international contraction

The Aeroflot Group increased its capacity in ASKs by 8.7% in 1H2015 and this was matched by growth in RPKs, so that load factor remained flat at 75.7%. Domestic ASKs grew by 32.2%, but the group's international ASKs were cut by 4.5% as demand continued to soften as a result of the geopolitical environment.

Passenger numbers increased at the faster rate of 14.0%, concentrated in the domestic market (+33.4%), while traffic fell in international markets (-4.9%). The group outpaced growth in the total Russian market, where passenger numbers fell by 3.9% in 1H2015 (domestic passengers up 13.4% and international passengers down 15.6%).

The parent Aeroflot airline's passenger numbers grew by 9.3%, with increases recorded in both the international market (+7.4%) and the domestic market (+11.5%). The parent airline's load factor was 76.9% (+0.4 ppts), compared with the combined load factor of its subsidiary airlines of 71.8% (-1.5 ppts).

Aeroflot Group and JSC Aeroflot passenger traffic statistics: 1H2015 vs 1H2014

Double digit capacity growth to Asia

By region, the Aeroflot Group's strongest growth outside the domestic market was in Asia, with an ASK increase of 14.7%. In spite of this strong capacity growth, the group's load factor in Asia gained 4.1 ppts.

On European routes, ASKs were up by 3.4% and load factor was roughly flat (+0.1 ppts). There was also capacity growth in the Middle East (ASKs +8.6%), although here load factor dipped by 2.2 ppts as demand weakened on flights to Turkey.

Traffic growth to Asia and Europe was helped by higher capacity on some routes and by what Aeroflot called a "softening competitive landscape" as many foreign airlines cut capacity to/from Russia. Aeroflot's strategy of growing international transfer traffic through its hub at Moscow Sheremetyevo also stimulated growth on routes to Asia and Europe.

The group cut its ASKs to the Americas by 10.0%, reflecting its withdrawal from "commercially inefficient" routes to Toronto, Cancun and Punta Cana. The capacity cut helped to drive a 2.9 ppt load factor gain on flights to the region.

The group also cut ASKs on CIS routes, albeit at the lesser rate of 1.3%, but managed a 2.5 ppt gain in load factor in the region.

Aeroflot Group growth in passengers, ASK and RPK by region 1H2015

Aeroflot revenue increased by 26% in 1H2015

Aeroflot group revenue increased by 25.8% year on year, faster than the 8.7% increase in ASKs. The weakening of the RUB against USD and other international currencies boosted revenue by RUB30.904 billion (EUR479 million), accounting for 85% of the incremental revenue versus last year.

Scheduled passenger revenue was up 30%, while charter revenue plummeted by 71%. Cargo revenue grew by 16.3% and other revenue increased by 39.9%.

Scheduled passenger revenue grew fastest in Asia, where it grew by 58.5%, much faster than the 14.7% ASK growth in the region. There was also strong revenue growth on routes in Russia (+33.6%, a little faster than ASK growth), CIS (+23.3%), Middle East (+22.1%) and Europe (+19.2%). Domestic routes accounted for 40% of traffic revenue, followed by Europe (26%) and Asia (17%).

Aeroflot Group revenues: 1H2015 vs 1H2014

Aeroflot Group passenger traffic revenue by region 1H2015 vs 1H2014

Passenger RASK up 12.4%

The Aeroflot group's passenger revenue per ASK grew by 12.4%, or by 13.8% excluding its LCC subsidiary Pobeda, driven by yield growth (particularly on international markets). The domestic market experienced a 3.7% increase in yield, but this was offset by a dip in load factor so that domestic scheduled passenger revenue per ASK grew by only 0.7%.

On international markets, yield was up 18.7% and passenger RASK was up 21.6%. Currency movements had a significant positive impact on international yields.

Aeroflot attributed its yield improvement to "active revenue management", in addition to the positive impact of RUB devaluation on yield on inbound and transit routes. Moreover, the negative impact of reductions in EUR denominated outbound fares is being reduced. The group said that the "aggressive pricing" of domestic competitors was affecting yields within Russia.

Aeroflot Group yield (passenger revenue per RPK) and passenger RASK 1H2015 versus 1H2014

Costs up 20%; CASK up 11%

Operating costs were up by 20.4%, faster than the growth in ASKs, but slower than the increase in revenue. Fuel costs grew by 11.1%, faster than capacity growth in spite of lower market prices for jet fuel, due to the weaker RUB versus USD.

Ex fuel costs increased by 24.1%, also inflated by RUB depreciation. In addition to the impact on fuel costs as reported in RUB, currency movements also had a significant impact on other USD-denominated costs such as operating leases, maintenance and aircraft, traffic and passenger servicing.

The Aeroflot group's cost per ASK (CASK) increased by 10.8%, but the company says that without the impact of foreign exchange and non-recurring expenses, it was down by 11.1%. Currency movements increased costs by RUB31.448 billion (EUR488 million), so that the net impact on operating profit was negative by RUB544 million (EUR8 million).

Aeroflot Group operating costs 1H2015 versus 1H2014

LCC subsidiary Pobeda carries more than one million passengers in its first six months

Aeroflot's low cost airline, Pobeda, commenced operations just before 1H2015 (in Dec-2014) with a service to Volgograd. Launched as a replacement for its predecessor Dobrolet (forced to close as a result of European Union sanctions), it is the only Russian LCC and deploys a fleet of 12 Boeing 737-800 aircraft.

Pobeda carried 1.1 million passengers, at a load factor of 81.0%, in the half year, when it accounted for 6.2% of the group's total. With its principal hub at Moscow Vnukovo, it has 15 regular destinations and operated 37 routes in the 2015 summer schedule (including seasonal routes).

Pobeda aims to have 40 aircraft on 47 routes (including international destinations), carrying ten million passengers in 2018.

Pobeda monthly passenger numbers ('000) and load factor % Dec-2014 to Jun-2015

Pobeda network

See related reports:

Aeroflot Group's leading Russian market share to receive further boost from Transaero acqusition

The Aeroflot Group, still majority owned by the Russian government, has benefited in market share terms in the past from being the state's designated leader of the consolidation of the airline market in Russia. The group now has more than three times the passenger numbers of its nearest competitor in the Russian market and more than the combined numbers of its nearest four competitors.

As others cut capacity (in particular UTair and foreign airlines), the Aeroflot Group's market share among all airlines operating in Russia has grown from 31% of passengers in 1H2014 to 37% in 1H2015.

It now looks set to increase this share further through the acquisition of a 75% stake Russia's number two ranked airline Transaero, whose passenger share was 12% in 1H2015. Aeroflot has been prompted into this course of action by the Russian government, essentially in order to save the heavily indebted Transaero from bankruptcy.

Russia: share of airline passenger numbers 1H2014 and 1H2015

The near 50% combined market share of the two groups has attracted the attention of Russia's Federal Antimonopoly Service (FAS), but it seems likely to be approved. In a statement on 2-Sep-2015, FAS Head Igor Artemyev stated: "I have said that I prefer the alternative of bankruptcy ... we will ask Aeroflot to sell a part of their routes, where it gains a monopoly as a result with a consolidation with Transaero Airlines."

Although this transaction will present significant operational challenges as it executes the acquisition, Aeroflot has significant experience of integrating subsidiary airlines into the group. Moreover, the deal will further accelerate the consolidation of the Russian airline industry, cementing Aeroflot's undisputed market leadership.

The group's 1H2015 results show a welcome return to operating profit growth, after a 43% reduction in FY2014, in spite of the difficult geopolitical backdrop affecting demand for international traffic to/from Russia. Its business appears to be robust despite the challenges that it faces.