CAPA Outlook: State of the Industry May 2024

Transcript

Lori Ranson:My initial thought was to put up a huge disclaimer sign, since none of us knew about 5 months ago that a door plug would blow out in flight with knock-on effects that are going to last over the next couple of years and beyond. I decided to go in a different direction, and I started to think about major business models here in the Americas. legacies and LCCs and ULCCs, and how they're performing in different markets. This is CAPA data just showing domestic seat share in Canada. And Canada's been pretty consistent over the decades with 3 major airlines mainly coexisting peacefully. There have been some ULCC upstarts that entered the market during the last few years, And we know that one, Lynx, ended operations in February. At just 9 aircraft, Lynx wasn't huge, but it was scheduled to add 37 more MAX 8 in the coming years. So its exit does remove some future capacity depending on where those aircraft end up. Flair is the remaining ULCC after Soup was folded into WestJet's mainline. And we'll see what happens with the standalone ULCC model over the short to medium term. The other major development is Air Transat and Porter want to form a JV, which would deepen their codeshare and bolster traffic for each carrier, given Porter would essentially feed Air Transat's international flights. It seems mutually beneficial, and regulators should approve the deal, but we all know governments can sometimes be fickle about these tie-ups. Overall, demand in Canada seems robust, with the exception of some pressure in some markets during the winter months due to overcapacity. Air Canada sees a lot of opportunity in international markets this year, particularly in the Trans-Pacific, and WestJet is leveraging its strength in Western Canada while taking a more nuanced approach in Eastern Canada, but it does have some pretty strong offerings from Eastern Canada to Europe this this summer. While standalone ULCCs and LCCs have had well-documented challenges in Canada, in the U.S., those airlines have been building their seat share over the last 20 years. But some of those operators are performing better than others. Alaska would have been profitable in the first quarter absent the 737-9 grounding, and it believes it has a pretty good blueprint to replicate that profitability in future Q1s. It's trying to buy Hawaiian, and it remains to be seen if that merger will get the green light, given that the current administration tends to have a really negative view on consolidation, both inside and outside of the industry. JetBlue and Spirit are picking up the pieces and attempting to hash out their standalone plans after a U.S. court sided with the DOJ and decided the merger was anti-competitive. Spirit definitely has more near-term financial challenges with a looming debt payment next year and aircraft groundings from GTF issues. But JetBlue's first quarter performance wasn't stellar by any means, and it no longer expects a break-even financial performance this year. I think that this year and next year are really important for both those airlines to figure out how they're going to compete on a standalone basis. And despite the growth of low-cost seats in the US, the Big 4 still dominate the market. The ULCC model has recently been underperforming, and there's an argument that cost convergence is occurring and passengers are increasingly preferring premium products. And if you listen to airline management teams, passengers really want to entrench themselves into loyalty schemes at the major airlines. And that's a big part of the reason why we're seeing the growth in low-cost airlines. I don't think it's a surprise that Frontier is pushing back against that narrative, and it's making changes to sustain profitability, including a push into more out-and-back markets, moving capacity around, and doubling down on cost. In fact, it recently said its cost advantage to the industry widened by about 42% on a trailing 12-month basis. I think it's tough to conclude the ULCC model is unviable in the US, but ULCCs and even Southwest are thinking about their onboard prodding— onboard offerings as Delta, United, and American continue to rack up significant premium revenues. Frontier has introduced some business fares in the GDS channel and is introducing a premium-like seat in the front of the cabin. Where 2 rows have the middle seat blocked off. And even Southwest has hinted at some potential changes in its cabin offering, which may or may not reflect— it concedes the preference toward premium products may not be a cyclical trend. Overall, demand looks pretty good in the U.S. Transatlantic should be strong again this summer, though not as strong as last year's record performance. Some U.S. airlines have cited weakness in Latin leisure markets due to overcapacity, so that's going to have to even out at some point. And I think there are puts and takes with different carriers in the transpacific market as it recovers. If you look at Mexico, ULCCs have been the dominant player in the domestic market both by seats and passengers for quite some time. Pressure in the domestic market looks to be easing after Mexico's safety upgrade by the US, and there was less capacity in the first quarter after Volaris and Aeroméxico had to ground A320neos and 737-9s for inspections. Maybe similar to Canada, Mexico's 3 largest airlines have coexisted for a while, and Aeroméxico can leverage its position as the country's only full-service airline But in the transborder market, tensions between the U.S. and Mexico resulted in DOT tentatively rejecting the renewal of Aeromexico and Delta's JV. Delta says it's working with the U.S. government on what it calls a less punitive approach, so there could be a final ruling handed down in a few months. That relationship really plays a major role in each airline's transborder strategy, and Delta has warned about 2 dozen risks Routes risk being cut if the government mandates that the partnership has to end. And Aeromexico has already trimmed some of its Eurex routes for the summer schedule. Colombia reflects how the fate of ULCCs varies in the Americas. 2 ultra-low-cost airlines exited the market last year, but 2 carriers have really dominated the market for a long time, and that's Avianca and LATAM. I think there's a little bit of a different cost convergence happening in Latin America as those 2 airlines really slashed their cost in bankruptcy to compete with ULCCs. JetSmart did launch domestic operations in Colombia earlier this year, and it's part of Inigo Partners. So it arrives in the market with strong backing, and it already has existing domestic franchises in Chile, Argentina, and Peru. and operates on intra-regional routes. Brazil is one market in the Americas that really doesn't have a true ULCC, and the domestic seat and passenger share has changed since the pandemic. LATAM has risen to the top spot and now GOL's in Chapter 11. There are some reports about potential consolidation in the market, which often happens when an airline takes a formal restructuring. Maybe this is something that we can talk about over the next couple of days, but I do think it's interesting how the fate of ULCCs and LCCs has varied across different markets in the Americas over the last couple of years, and I think there's more to unfold. This slide just shows traffic for global regions from December to February. Just really solid growth. year over year. At times, I think it's useful to make comparisons to 2019, but with traffic, given supply chain issues and other industry challenges, it's not a total accurate comparison. And here we have deliveries for the first quarter. Not surprising, essentially flat year over year and down about 14% for 2019. The latest problems with Boeing are making it even more difficult for airlines to plan. Just a couple of anecdotal examples. Southwest was supposed to take delivery of 79 aircraft this year, and now that target has fallen to 20. United's narrow-body deliveries have also dropped to 61 compared to 101 at the start of the year. And now those airlines have surplus staff, and Southwest expects its headcount to drop by 2,000 this year, and United is also taking steps to reduce its headcount. The knock-on effects of uncertainty in deliveries are really challenging, including increased costs when a lot of airlines are working through cost inflation from new labor contracts. I think United CFO really sums up the situation pretty nicely with this quote. I will say Embraer has gotten to be the standout at the moment. It recently affirmed its guidance of 74 commercial deliveries this year, up from 64 last year. And Embraer has also drawn praise from American's CEO for its reliable performance throughout the pandemic. This engine chart really puts the geared turbofan challenges into a bit of perspective. You can see GTF hours per month per engine down significantly from July to February. Belarus had an average of 29 aircraft on the ground in the first quarter, and the carrier CEO has expressed concern about Pratt's ability to enhance maintenance capacity and availability of materials. And according to its baseline estimate, Spirit says absent any mitigation from Pratt, it could start next year with over 40 aircraft on the ground, and that could swell to 70 by the end of the year. There are also some broader challenges in the maintenance space. TD Cowen has concluded maintenance costs are really problematic, up 20% for U.S. carriers in the first quarter. And it also points out deliveries— delivered aircraft in the last decade now need to undergo their first major maintenance cycle. And if you add the Pratt issues onto that, there are just a lot of aircraft on the ground that need maintenance. So those are obviously some significant and lingering challenges facing the industry, but there are bright spots. Business travel recovery continues to gain traction and demand remains strong. And we just need to watch out for who the winners and losers are going to be in managing revenue and cost. So thank you for your time and enjoy the conference. Thank you.

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