Global Air Finance Outlook 2021

Transcript

Anup Mysoor:Welcome to CAPA Live and welcome to the CFO Session. Today's Chief Financial Officer is Erik Swelheim. CFO of KLM, the Dutch flag carrier which celebrated its 100th anniversary last year. Erik has not been CFO since the beginning, he has been CFO since 2012. My name is Anup Mysoor and I will be posing today's questions. Erik, to start off, let's have a little commercial update. KLM reported a €1.2 billion loss in 2020 in what was Described by you as an incredibly tough year, with cargo being your only positive. Based on current knowledge of the vaccine rollout, when do you hope to be positive at the EBITDA level, and what will be the growth drivers?

Erik Swelheim:Okay, thanks, Anup, and good morning, everybody. Indeed, it was an incredibly tough year last year for KLM. We had an €11 billion turnover in '19, and it fell down in '20 to just a little bit over €5 billion. We had about 10% of our network in April, and then in the summer it came up again. And in the end, the full year, we had about 50% less production, less capacity than in '19. And with that, we did relatively well compared to our competitors. And indeed, as you said, Anup, the secret was cargo. So our strategy was to keep our network as much as possible. So we flew almost 90% of our destinations. Thanks to cargo, especially intercontinental flights, we had good cargo revenues. I think your question, your hidden question was how do I see the future? Now, of course, I'm positive about the future. Recovery will come. The only problem is we do not know exactly when. So travel restrictions, demand, of course, is very important, and I'm sure it will come back. We think that leisure will pick up earlier than business, but it will come back.

Anup Mysoor:Thank you.

Erik Swelheim:When do you expect a positive EBITDA? Now, first of all, last year we had only a slightly negative EBITDA, also thanks to the support of the Dutch government. And I cannot tell you exactly when it comes back. It will come back, but my ambition is a bit higher than that. I want to have a positive operating profit and especially a positive net profit. So a bit more ambitious than only having a positive EBITDA.

Anup Mysoor:Thank you. Let me, let me move straight to a very topical issue. The Netherlands government has agreed to KLM's €3.4 billion restructuring plan. Your partners, the French government, will contribute an additional €4 billion to strengthen Air France-KLM's group balance sheet, potentially increasing its group stake from 14.3% to 29.9%. The French government has converted some of its debt into equity. Would you recommend that the Dutch government also adopt this balance sheet therapy? Do you see the Dutch government increasing its shareholding proportionally to the French government?

Erik Swelheim:Let me first get last year clear. You said a €3.4 billion restructuring plan. It was a €3.4 billion support from the Dutch government, and the Dutch government have been very loyal to KLM. and have continued to give its support to KLM, not only by— these are loans and guarantees for bank loans, but also salary support and also a delay of taxes. So they have been very supportive. In France, the French government gave a similar €7 billion support to Air France, also in state loan and guarantees for banks. So that helped a lot. Solving our liquidity issue. Now, what happened now more recently, last week actually, the French state gave some some balance sheet support to to Air France in the form as you described four billion. It's three billion conversion of a loan and one billion recapitalization. Also, the Dutch government is in in discussions with with European Commission for supporting KLM. They decided not to participate to the recapitalization. Of Air France-KLM, but are still in discussion with the European Commission to also find some way of support for KLM to support our balance sheet. And that's the actual situation. And that was your question? What I would advise the Dutch government to— now, we are of course in discussion with the Dutch government and the European Commission And we will find a way as well. I cannot tell you what exact form it will be, but hopefully we will come to an agreement soon as well with the European Commission.

Anup Mysoor:Thanks. No, you do answer my question. Let me now go to a more conventional question, which I think most people are used to hearing in a CFO session, which is the fleet. The KLM Group fleet, when we include Transavia, Cityhop, Martinair, etc., is over 200 aircraft. I mean, I've got a, a, from CAPA database of 207 aircraft. However, your fleet has an average age of about 11 years. In particular, you have 31 777s, which are 12 years on average, and 13 A330s, which are over 12 years. So what are the plans for these 44 older 777s and A330s in the new normal?

Erik Swelheim:Yeah, first of all, you're talking to a CFO, and CFO likes to sweat his assets. No, but seriously, I think what was important for us was to phase out the 747 fleet, and we have done that, and we replaced them with very modern 787s, as you know. The 44 aircraft you're speaking of are indeed 777s and Airbuses. The 777-300s are not that old, they're at least 8 years old. Average, and two of them arrived last month. So they're they're they're very new, and that shows also our our you know how how well the the triple seven three hundred is is doing for us. So we think that's a very efficient and good aircraft for for KLM. The triple seven two hundreds are indeed a bit older. There's not the hurry to replace them. So they're fourteen fifteen years old on average. We will use them for some more years and replacement will be later. I think what you mentioned is true. The Airbuses, 13 of them, there we have more flexibility. The Airbus A330-300s are all leased, so we have flexibility there to phase out when we want. And the Airbus A330-200s are mainly owned, and there again we have flexibility to replace them if we are Ready to do that. So again, 777 is doing quite well for us. Airbus's the 300 doing well for us as well, but more flexibility there, and that that's I think the the positive thing of having operating leases flexibility to phase them out earlier.

Anup Mysoor:Eric, if you phase out the 330s, does KLM mainline become an all Boeing fleet?

Erik Swelheim:No, we always keep open to replace them for both brands. But indeed, with a 777 and a 787 fleet, it looks very much on the long haul to be all Boeing. And the nice thing as well is that the same pilots fly our 777s and our 787s. That's a very efficient fleet, which is good for a CFO as well.

Anup Mysoor:There's a— if you include your mainline 737 fleet and the Transavia fleet, I mean, you have a huge fleet of 90 aircraft of 737s. And what are the plans for these 737s? Because they're also well-sweated assets at 12 to 14 years of age.

Erik Swelheim:There I would tend to agree with you. So we have indeed 50 aircraft at KLM and And about 40 at Transavia, all 737s. There we are currently replacing at KLM and also Transavia the 737-700s. At KLM, replacing them for Embraer 195s E2s. So they're very modern and efficient aircraft for us. And we think the timing is very well because after this, the decision was before the crisis, after the crisis, They're excellent for us to connect smaller destinations with our international network. So we're very happy with that decision. And then you come to the bigger amount, the 737-800s, both at KLM and Transavia. And there we keep all options open. So we're looking at both Boeing and Airbus for replacing them. And that needs to be done, needs to be decided in the coming years. But again, there's no hurry for that.

Anup Mysoor:You mentioned operating leasing as a possibility for some flexibility, but in the past, have you maintained some portion of your fleet as unencumbered, and are you planning to continue such a strategy going forward? And with regard to the older fleet, is there any plan to refinance The older fleet?

Erik Swelheim:Yeah, our operating leases are more or less 50%. As I said, that it's mainly for flexibility reasons. So we are having a part of your fleet in operating leases is always good because it keeps your flexibility in phasing out or renewing aircraft if you want. We have— I wouldn't call it a strategy. We've had the luxury of having some intercommuter aircraft. So we have had Very good years between 15 and 19, very good performance at KLM, and therefore we decided not to finance some of our long-haul aircraft. So we see that as a cushion. Indeed, in the past year we have financed them, so it worked well. So we had them and we financed them. We intend to finance our new aircraft as well. We do not intend to finance older aircraft. It is very, very difficult at the moment. Our experience is that aircraft, maximum 3 to 4 years old, are quite easy to finance. And we will use all opportunities to finance our aircraft. In the past, we did a lot of JOLCOs, Japanese operating leases, but now we're looking at other possibilities as well. So indeed, our long-haul aircraft will be financed.

Anup Mysoor:And I see you have one delivery, a 787-10 delivering in 2021. What's the plan for that aircraft?

Erik Swelheim:No, we will finance our aircraft. So we have, of course, we have had the support of the government loan and the guarantee on the bank loans, €3.4 billion. That is, for the time being, enough for us. But if we have an opportunity to finance cheaper, then we will do that.

Anup Mysoor:And we can better finance aircraft than use the I also noticed that your Embraer E2s, you have 25, have already been financed in terms of agreements, 15 with Aircastle and 10 with ICBC Leasing. Interesting that you have a mix of US and Chinese lessors. Are you happy with the E2 lease rate factors?

Erik Swelheim:Again, Anup, you're talking to a CFO, so CFO is never happy with lease rates. But I think we're in a very good position. My fleet development department tells me that they're good rates. And again, I mean, it's always expensive, but again, here flexibility is the key, and therefore we're happy to get them. We have 2 now, and the remainder is coming in the next years.

Anup Mysoor:Let me move to a topic which has become a very, very big issue since last year, which is liquidity. The pandemic has proven again that liquidity, cash, and undrawn lines are essential for this industry. Do you have a large revolving credit line with your relationship banks which you may consider expanding in the future? And what would be your advice and what would be your ideal cash cushion going forward as a percentage of revenue? For example, Wizz Air made the headlines with a 57% of 2019 cash cushion when they went into the pandemic?

Erik Swelheim:Yeah, that's quite a lot. I think we kept quite a lot of cash already in the past. Our ambition was to be around 20% of revenues. Now, KLM has about €11 billion of revenues, so our cash, available cash, was around €2 billion, €1.3 billion in cash, and then we had a credit line from banks, which we never used since this crisis. Of about six or seven hundred million, so we had around twenty percent. I think that that is what we found was was a reasonable cash cushion. Also because it's you know the airline business is is very event driven. It's it's cyclical. So that's the reason why we think that's already quite a lot of a lot of cash. Today we have even more because the as I explained three point four billion two point four billion is a credit line from banks which we have. Still available, so that's even more than 20%. But after crisis, I expect to go down to the 20% or even a bit less. It's quite expensive at the moment because we're paying on both sides. We're paying to get the cash from the banks, and if we keep the cash, we also pay. So it's a double cost, and CFOs don't like that too much. So I think it will not be economically feasible to keep higher cash than that.

Anup Mysoor:20% used to be a great number when we look at the history, but last year has been a tough one.

Erik Swelheim:Yeah, no, that— okay, of course it makes you think and whether you need more, but it is expensive. And let's— I think we will come back, come down. It's also a luxury. I think I will be happy to stay at 20%. Oh, let's have that as an ambition for the next years.

Anup Mysoor:Let's move on to the bond market. Do you have any plans to issue public capital markets debt?

Erik Swelheim:Now, the short answer is no, and let me explain why. KLM is, of course, a non-listed company. We are part of the Air France-KLM Group, so for KLM, it's not very logical to go to the bond market. It's not impossible, so I will not exclude it, but it's not the most logical step for KLM. So we will first look at other ways of financing and then maybe go to other sources, but don't exclude anything, but it's not the logical step.

Anup Mysoor:There's been a very, very topical issue, and particularly for the Air France-KLM Group, and that's on fuel hedging. You announced that you were overhedged because of a reduction in capacity last year. And how is that going to impact on your future fuel hedging policy?

Erik Swelheim:Now, let me first say it's not a particular topic for Air France-KLM. Our European competitors had the same. Traditionally, the American carriers hedge a bit less, and the rest of the world is a bit— it's a bit of a mixed picture. We had a very strict hedging policy, and I like very much to have a clear policy and to stick to that policy, because if you don't do that, it is more speculation. And you hedge, of course, against the rise in fuel prices, but you also hedge a competitive position, so against your competitors. So we look at European competitors, how they're hedged, and I think I can say that we do more or less the same. I come back to— I like to have this strict policy, and this policy was always to prevent against sudden price, some fuel rise in fuel prices, and you do that by instruments that protect you against the increase of fuel price, but you also have a downward risk if the fuel price comes down. I think what happened in this crisis was very particular. Normally, if the fuel price comes down, your hedging portfolio becomes negative, gets a negative value, but you benefit from the lower fuel price. That's hedging. What happened now is that our hedge portfolio became negative, but our fuel consumption was almost down to 10%. So we were, as they call that, fully overhedged. This is a risk maybe we have never— we've overseen, we've never realized too well. And of course, we've spent time on adjusting our fuel policy. And without giving your exact details, it's not a secret that you can do— you can change your hedge policy in 2 ways. You can play with the tenor, so the duration of your hedges, and with the instruments. And both we will do. So if you shorten the delay you hedge, you reduce your risk. And if you want to pay premiums, you can also only hedge the fuel rise and have no risk on sudden drops. So, of course, we've learned from this crisis. We've learned from this situation. Fortunately, it is all over now. So, the hedge portfolio has again a positive or a nullish value. And yes, we have adopted our fuel strategy.

Anup Mysoor:There's another very interesting point, which is KLM has actually got a branded corporate biofuel program called the KLM Corporate Sustainable Aviation Fuel Program and operated the world's first passenger service using synthetic fuel blend. How do you believe the industry will evolve to contribute significantly to the reduction of CO2 emissions?

Erik Swelheim:I clearly believe this is one of the key topics going forward for our whole industry. I tell nothing new if I say that fleet renewal is one of the main sources of CO2 reduction. So we have introduced the 787s replacing the 747. That's a huge improvement in terms of fuel consumption per passenger. That helps a lot. KLM has been quite active as well in the sustainable aircraft fuels. I think our first flight with some SAFs was in 2011, so it's 10 years ago now. I think the problem is that the volumes are still very low, and that creates a chicken and egg problem, that because the volumes are so low, I think the price is still extremely high. So compared to fossil fuels, the price is very high. One of the things I think we should do is to create demand, to increase demand, and ask large oil companies to produce sustainable aircraft fuels. That's one of the ways we will be working on. We have, as we say, corporate biofuel programs. So we ask our customers and our corporate customers to contribute to the additional costs we currently have on SAFs. But this is certainly one of the solutions that exist today that we want to develop further. There are, of course, many other examples. We've done the electrification of our ground equipment at KLM. For a big part now, now they all are ways of reducing fuel consumption, and we evaluate all of them. And I believe that setting clear targets is also one of the things you should do. Our clear target is by 2030 to reduce our CO2 emission by at least 15% compared to 2005. That's even per passenger, that is about 30%. So it's important achievements already, but we need to do more. And for the whole industry, this is one of the key challenges going forward.

Anup Mysoor:Thanks, Erik. This is a very, very topical issue, and I'm sure that we'll be hearing a lot more on it. Let me go back to a more traditional issue, which is foreign exchange. And, you know, you have a largely euro revenue base and a large US dollar expense base. How are you hedging foreign exchange, especially post-pandemic?

Erik Swelheim:No, first of all, that's not true for KLM. At KLM, we are naturally well hedged. So if you see, our revenues in US dollars are not too far from our costs in US dollars, so that's the natural hedge. And then the remainder we hedge traditionally on the market. But we are happy to have this natural hedge position where things are quite equal.

Anup Mysoor:That's very fortunate. What about interest rates? You've been— half the fleet is operating lease, and then you also have quite large bank lines. What are you doing on the Fixed versus floating on interest rates?

Erik Swelheim:No, because for a long time now the interest rates are quite low. We have been fixing interest rates and every time it gets lower, so we were wrong. But still, I think what you do is if you buy aircraft, you make your business case and you base it on certain interest rates. And now they're very low and we benefit from that. That's before the crisis, because since the crisis, I think our interest rates will go up. But we fixed the interest rates, and now I cannot say we shouldn't have done it. We were very happy with the— we fixed it at very acceptable rates, and we couldn't foresee that interest rates are falling and falling. Now, for the first time, we see interest rates going up, so we're happy with the decisions we made. It is fixed, and that we will continue doing.

Anup Mysoor:If I may, can I ask a very personal question? Because I fly through Schiphol to get to my hometown of Mysuru, but the biggest city, of course, is Bangalore. And you do a thrice-weekly frequency between Schiphol and Bangalore. When are you expanding that to daily?

Erik Swelheim:Now, to build back our network is depending on many things. So first of all, demand from travelers. Secondly, travel restrictions. So when will they be changed? Then the government of India has a very big say in it as well. So they restrict us currently on the number of times we can fly to India. So currently we're not flying to Bangalore. We flew to Bangalore 3 times a week. We may come back later this year with 2 or 3 times a week if the Indian government helps us as well. And then, yeah, depending on demand and you and your friends using KLM. So if you do that, then we may come to a daily operation from Bangalore to Amsterdam.

Anup Mysoor:I have had my 2 doses of my vaccine, and so I wanted to know your view on vaccine passports or vaccine certification certificates.

Erik Swelheim:Now, I'm very happy that what you see in the Netherlands at the moment is that there are a lot of testing, whether it's events or concerts or even holidays. The KLM subsidiary, together with a travel agent, organized a holiday to Greece for a week, testing how you can do it safely. So for us, it is very important that flying becomes— is felt as being extremely safe. So we do everything to make it safe, but if you can have testing before the flight, if you can have vaccine passports, that will all help. To get the perception of flying, making flying safe again, and that's most important for us. We believe it's safe, and we believe that if vaccination is at a certain level, we will all go on holiday again, fly again for business. I think everybody can't wait to come back again. We have confidence that it will happen, and And anything that will help making that possible, of course, we support very much.

Anup Mysoor:And as a final question to you, and a personal opinion in many ways, amongst European airlines, please could you name 3 winners and 3 losers in the post-COVID European airline market?

Erik Swelheim:Yeah, you don't want me to mention names. I can only say that I think the airlines, they use the past year, year and a half to transform successfully will be the winners of the future. And I'm not only talking about having efficient costs, it's also about what we talked about, sustainability, it's about customer focus, that will be extremely important for the future. And I can only hope, and I work every day hard here to make KLM one of them, and I'm confident that KLM will be one of them.

Anup Mysoor:Thank you, Erik. I mean, you've celebrated your 100th anniversary, and I wish you another 100 years.

Erik Swelheim:Thank you very much, Anup. And then I promise you that we will review Bangalore and fly as much as possible as we can.

Anup Mysoor:Thank you. Bye-bye.

Erik Swelheim:Thank you.

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