Turkish Airlines: becoming a force to be reckoned with


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These days, Turkish Airlines' name seems to appear whenever there is an airline to be bought in Europe. The airline has been suggested as a buyer for Austrian Airlines, Alitalia and, more hopefully, Bosnia-Herzegovina's B&H Airlines. Continuing - and growing - profitability has allowed these indulgences, as Turkish establishes itself as a frontline carrier. Joining the Star Alliance in April this year has done it no harm and the majority privately held airline links closely to Lufthansa, sharing with the Star leader a 50:50 joint holding in Antalya-based SunExpress (making its bid for Austrian more intriguing).

Last week THY/Turkish reported yet another strong financial performance. In the first quarter of the year profit had tripled, to TRY124.7 million (USD104 million) on strong passenger growth. For the second quarter, and despite fuel price increases (Turkish does not hedge its fuel), operating revenue grew 37% year-on-year, to USD2,131 million. Net profit was up by another remarkable 219%, at USD208 million with an EBITDAR margin of 21.3%. Passenger numbers rose 15%, to 10.3 million, and, despite adding 10% capacity (ASKs), load factor increased 3ppts, to 72.9%. At the end of the first quarter (2Q numbers are not yet available), Turkish held EUR239 million in cash reserves.

Anxious to expand, so far Turkish has done so organically, but recognises that its future depends on being better represented across a wider European base. Its geographic situation, uniquely straddling Europe and Asia, offers it a potentially valuable hub role, not totally dissimilar from the one played by Gulf airlines situated four hours' flying time to the southeast.

The flag carrier benefits from the overhang of a more restrictive era, owning an international 49% market share and 65% of the domestic market. Meanwhile, 25% of its revenue is earned domestically and, while this dilutes the revenue shares of its international routes relative to numbers flown (below), Far East markets still deliver a disproportionately high 17% of revenue.

Turkish Airlines' international passenger traffic by region: 1H 2008

Source: Turkish Airlines; Centre for Asia Pacific Aviation

Turkey is also strategically located in a triangle of trade groups including the EU/CIS states, together with Central Asian Muslim Republics and Middle East/North Africa, offering good potential for connectivity between high growth/high value regions. With a population of 72 million and high GDP growth, the main economic concern at present is an even higher level of inflation (the Central bank's target level for 2008 is 9.3%). However, inbound tourism continues to flourish and a good mix of business traffic into Istanbul provides a decent yield profile on Turkish's core routes.

The strength of its representation on Asian and central Asian routes differentiates it - and suggests a particular strategic advantage in the unlikely event that the carrier was successful in its bid for Austrian - although closer cooperation with Lufthansa could see that equation evolve progressively, if Turkish expands its relationship within Star.

Turkish Airlines' route network

Source: Turkish Airlines

A nice revenue-expense profile

Turkey has the advantage of hanging off the edge of the large economic grouping of the EU, where Turkish Airlines derives much of its revenue, while enjoying a low cost base. The last two years' trend in USD-EUR exchange rates has helped, by delivering a cost profile largely in USD and the local TRY. This helps explain its rapid rise and continuing profitability in recent years. A reverse currency equation would not be so helpful, but nothing can undermine the fact that this is an airline on the rise.

Turkish Airlines: Revenue-Expense profile 1Q 08

Source: Turkish Airlines

This equation also works well for a major, rapidly growing local scheduled/charter competitor, Pegasus Airlines, which is like Turkish based in Istanbul, but at the city's Sabiha Gökçen Airport, rather than Ataturk. Pegasus has grown to become the largest private scheduled airline in the country, flying over 3 million scheduled passengers in 2007 (a 20-fold year-on-year increase), and a total of 4.1 million passengers last year. It will commence London Stansted service later this month, hoping to tap into a UK holiday real estate buyers' market.

To buy into B&H Airlines?

The B&H Airlines privatisation bid, on which Turkish has been working for some six months, mainly involves buying access to the now-stabilised and fast growing tourism market of Bosnia and Herzegovina. The airline itself is tiny and still carries the financial scars of years of fighting and infrastructure destruction. That process is scheduled for completion at the end of this month. Turkish aims to acquire the 49% minority holding on offer - which comes with an extensive likelihood of substantial investment to follow.
This would be one small step in preparing for a role as a full European participant, whether or not Turkey is admitted to the EU in the near future. Turkish Airlines' continuing profitability will ensure that it attracts increasing attention among its peers in Europe and elsewhere. As a result, there will be one or two others who will perhaps be interested in an inwards investment in Turkey's thriving airline industry, rather than the other direction.

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