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Global aviation industry: An overview - Views on News from Equitymaster
 
 
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  • Mar 26, 2007

    Global aviation industry: An overview

    In 2005, the global scheduled airline industry generated US$ 395 bn of revenues. After incurring huge aggregate losses for three consecutive years (2000 to 2003), the world aviation industry has witnessed a strong growth in passenger traffic since 2004. However, there is still some time before airline companies start making profits. As per IATA's (International Air Travel Association) latest estimates, the industry will book a smaller aggregate loss in 2006, before returning to modest profit in 2007.

    History of the aviation Industry: The air travel market grew up originally to meet the demand of business travelers as companies became increasingly wide-spread in their operations. On the other hand, rising income levels and extra leisure time led holidaymakers to travel to faraway places for their vacation. A further stimulus to the air travel market was provided by the deregulation and the privatisation of the aviation industry. State-owned carriers that hitherto enjoyed monopoly status were now exposed to competition from private players. However, one development that changed the entire landscape of the industry was the emergence of low cost carriers (LCCs). These carriers were able to offer significantly cheaper fares on account of their low-cost business models and thereby attract passengers who might not otherwise be willing to fly. LCCs have achieved rapid growth in market share in the U.S. domestic market, short-haul market in Europe and recently in Asia. Since 1970, the international passenger traffic has grown by an average rate of more than 6%, compared to a 7% increase in the domestic passenger traffic.

    Recent developments: The aviation industry is highly cyclical. However, in times of recession, the decline in the industry growth rate is much sharper when compared to the world economy. After witnessing a strong growth during the late 1990s, the industry saw a sharp reversal in fortune as a result of a global economic downturn in 2001. The situation was further aggravated by 9/11 attack, the Iraq war and the SARS epidemic. The mammoth financial losses incurred by the scheduled carriers during this period led to a long-overdue restructuring among the full service carriers (FSCs). Many airlines embarked upon severe cost-cutting and fleet-rationalisation programmes as they struggled to remain afloat. The conditions for FSCs were further worsened with the advent of budget carriers in the U.S. and Europe.

    There was however a strong rebound in traffic in 2004, led by a strong recovery in the world economic growth and which continued for the next two years (2005 and 2006). According to ICAO (International Civil Aviation Organisation), the revenue per passenger kilometers (calculated as the number of seats multiplied by the kilometers flown) for international services has grown by 8.5% in 2005 and is estimated to have grown by 6% in 2006. The strong growth in the traffic and recovery of higher fuel cost through surcharges resulted in strong revenue growth for airline companies. However, this did not translate into a recovery in profitability, primarily on account of a significant increase in fuel costs. According to IATA, the combined losses posted by the world's scheduled carriers amounted to US$ 6 bn in 2005, following a cumulative loss of US$ 36 bn in the previous four years.

    Future Outlook: As per the estimates of aircraft manufacturers and other industry bodies, the world passenger traffic is expected to grow at 5% p.a. in the medium to long-term. The growth will however be slower in matured economies, but faster in under-penetrated and growing economies like India and China. The primary reason for the increase in passenger traffic over the years has been decline in airline passenger yields. As per an estimate, after adjusting for the general inflation, the average airline yields (revenue per passenger kilometers) have almost halved since 1970. During the same period, the real revenue growth (by combining growth in traffic and decline in yields) has averaged only 2% to 3%. Since aviation industry is a high fixed cost industry, a small increase in operating cost can have a sharp impact on the profitability of the companies. High fuel prices, congestion cost, higher security and insurance cost can increase the overall cost of operations and thereby impact the demand for air travel services. However, there is room for cost reduction in the form of distribution cost and cost synergies from industry consolidation. Overall, we believe that consolidation is the only solution for addressing the problem of excess capacity and poor financial ratios of the company.

    All facts and figures have been sourced from the 'British Airways Fact Book 2007'.

     

     

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