Issue no. 228 July/August 2017

European consolidation: another one bites the dust This issue includes Page amazes how long a loss making airline can survive before it goes bust. Air Berlin has been struggling as a going concern since Air Berlin 1 I it came to the markets with its IPO and dubious “hybrid” operat- ing strategy in 2006. In the past ten years it has lost a total of €2.4bn at Garuda Indonesia: Financial the operang level (a negave margin of 6%) and €2.7bn at the net. In troubles follow quantum the past few years it has been kept alive through constant cash support leap 5 from major shareholder Ehad who took a 29% stake in 2011. Now, that shareholder has pulled the plug, and Air Berlin has filed for bankruptcy Icelandic hubbing: Can protecon,gaininga€150memergencycashloanfromtheFederalGer- Icelandair live with Wow? 10 man Government to keep operaons running to the end of the Summer season pending sale and reconstrucon of its parts. Copa: MAX Returns 15

There is not much value in the company would sll have a negave company. The aircra fleet is almost equity of €(1.4)bn. all leased. The net equity on the bal- The Air Berlin operaon does ance sheet at the end of March stood have some assets. It holds some at a negave €(2.1)bn excluding a 30% of the slots at the heavily con- now unrealisc credit to Ehad for strained Düsseldorf airport and 42% its “hybrid equity” funding of €358m. of the slots at Berlin Tegel. Whether “good”and “bad”) and it is usually the What had been promulgated as a res- these holdings can be monesed is case that the published operator will cue package, the divestment of the debatable: have possession of the slots. charter and tourist oriented business v Secondly, the only acve trad- to a new “bad Air Berlin” structure in- v Firstly Air Berlin has wet-leased ing markets in slots in Europe in- volving TUI, Austrian subsidiary Niki 40 aircra to Luhansa/Eurowings volve either London Gatwick or Lon- and Ehad (see Aviaon Strategy Oc- (as part of the split between the don Heathrow; and at these airports, tober 2016) has fallen apart, so the NAV represented at that me may represent a significant overstatement AIR BERLIN FINANCIAL DATA (€m) of the asset posion. Given that Ehad has washed 4,000 its hands from its investment and 3,000 Revenues reneged on a promise to keep 2,000 the company afloat for at least 18 Operang result months,itmaybethatitwilljustwrite 200 1,000 off its €358m perpetual converble, 0 a €350m loan granted in April this -200 year repayable in 2021, its €100m -400 investment in a new converble loan -600 issued in January and maturing in Net result -800 2019; Abu Dhabi could also just write -1,000 off its banks’ €245m loans recently 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 extended to April 2019. If so the

Published by Aviation Strategy Ltd Aviation Strategy ESTIMATED LESSOR EXPOSURE ISSN 2041-4021 (Online)

This newsleer is published ten mes a Air Berlin Niki year by Aviaon Strategy Limited Jan/Feb 737 A320 A321 A330 A320 A321 Total and Jul/Aug usually appear as combined is- sues. Our editorial policy is to analyse and GECAS 11 1 1 2 15 cover contemporary aviaon issues and air- AerCap 3 1 9 13 BOC Aviaon 3 3 6 line strategies in a clear, original and ob- Avolon 3 1 1 5 jecve manner. Aviaon Strategy does not BBAM 2 1 2 5 shy away from crical analysis, and takes a ICBC 3 1 4 global perspecve — with balanced cover- ALC 1 1 1 3 age of the European, American and Asian BoCom Leasing 1 2 3 markets. AWAS 1 1 2 Castlelake 1 1 2 CDB Leasing 2 2 Deucalion 2 2 Publisher: Hannover Leasing 2 2 ORIX 2 2 Keith McMullan 16 other lessors 4 8 1 2 1 16 James Halstead Total 10 37 6 15 1 13 82 Editorial Team Note: excludes aircra on wet-lease to Eurowings Keith McMullan kgm@aviaonstrategy.aero from our experience in slot valua- four disnct and disparate business ons, it is only long haul carriers who segments which could appeal to James Halstead are willing to pay for access. some opmisc buyer: jch@aviaonstrategy.aero v Thirdly, when and if Berlin Bran- denburg finally opens, Tegel is sched- v The tradional sun, sea, sex and Tel: +44(0)207-490-4453 uled to close, giving a finite me to sand seasonal operaons from Ger- the net present cash flow a slot pur- many and Austria to what the Ger- Subscriptions: chase may represent. mans always refer to as “tourisk” info@aviaonstrategy.aero v And fourthly, should Air Berlin fail desnaons.Thisiswhattheytriedto unsold, those slots will in any case be- offload to a new charter operaon to Copyright: come available to new entrants. be set up by TUI and Ehad as men- ©2017. All rights reserved oned above. Having said this, Air Berlin has v A significant domesc operaon Aviaon Strategy Ltd Registered No: 8511732 (England) Registered Office: 137-149 Goswell Rd AIR BERLIN: DISTINCT SEGMENTS London EC1V 7ET VAT No: GB 162 7100 38 SEATS FLIGHTS ISSN 2041-4021 (Online) Long haul Long haul The opinions expressed in this publicaon do not 10% 5% necessarily reflect the opinions of the editors, publisher or contributors. Every effort is made to Tourisk ensurethattheinformaoncontainedinthispub- Tourisk 36% licaon is accurate, but no legal reponsibility is ac- 39% cepted for any errors or omissions. The contents Europe of this publicaon, either in whole or in part, may Europe 37% not be copied, stored or reproduced in any for- 33% mat, printed or electronic form, without the writ- ten consent of the publisher.

Domesc Domesc 17% 19%

2 www.aviationstrategy.aero July/August 2017 fleet, pilots and cabin crew. GERMAN DOMESTIC SEAT FLOWS The government has put its oar in and has suggested that the only solu-

Share of total flights on is a break up, helpfully waking up airberlin Lufthansa Group to the fact that “the Air Berlin model Westerland Ryanair has failed”, with some policians sug- easyJet Other gesng that a large poron of the

Domestic traffic flows operaon should go to Luhansa to Total seats “foster a naonal aviaon champion” Cuxhaven Hamburg Rostock−Laage Heringsdorf (as if they didn’t have one already). At the same me the transport minister Alexander Dobrindt dis-

Bremen missed compeon concerns saying “there is no transfer of Air Berlin as a Berlin whole to Luhansa, there are parts of Hanover the business that will go to Luhansa Münster and there are interested pares for other bits of the business so we do Paderborn not expect cartel difficules”. Düsseldorf Dortmund Kassel Leipzig Meanwhile, aviaon veteran Dresden Hans Rudolf Wöhrl — the architect Köln Erfurt behind the sale of dba and LTU to Air Berlin in the first place — has Frankfurt entered the fray suggesng that he would consider acquiring the whole business if only someone Nürnberg would let him look at the books. This comment has been mirrored by Saarbrücken Ryanair’s Michael O’Leary who also Stuttgart Karlsruhe München stated that the bankruptcy process was a “stch up” to help strengthen Luhansa, indicang perhaps that

Memmingen Ryanair would only be interested in

Friedrichshafen Air Berlin if it were allowed to acquire the enrety of the bankrupt carrier and not just what might be le aer Luhansa has taken its pick of the assets. (the legacy of its acquision of dba) buying? There may be some value in in compeon with Luhansa and its the Niki brand — the Austrian leisure Failure brings opportunies subsidiaries. operaon — and in Austria Niki Air Berlin will disappear and its v A European point-to-point net- Lauda’s legacy may retain some local demise will change the German mar- work from German cies. kudos. The Air Berlin brand however ket, and possibly in a dramac way. v A long haul A330 operaon from is tainted by the decade of losses. For the past decade it has seemed Düsseldorf — the result of its acquisi- However, it appears from press that Luhansa has been happy to on of LTU. comments that Air Berlin is in talks co-exist in the domesc market with with a handful of players — including a financially weak competor, to The queson is what if anything perhaps Luhansa, Condor, TUI and curtail the incursion of easyJet and would a potenal purchaser be easyJet — vying to take on Air Berlin’s Ryanair.

July/August 2017 www.aviationstrategy.aero 3 sons must be that it has been easier GERMAN MARKET CAPACITY SHARES to develop services elsewhere in Eu- rope. INTERNATIONAL DOMESTIC Having said that, Ryanair has an 8% share of capacity out of Germany, Ryanair 1% Luhansa Group and easyJet 3% — albeit less than half Other 1% 40% their respecve market shares in Eu- (hub traffic Other Air Berlin Luhansa Group 29%) 29% 26% rope as a whole. Both have a strong 72% presence at Berlin Schönefeld, but of (hub traffic the two only Ryanair operates do- 51%) mesc services. It made a major push TUIfly 2% (non-hub traffic (non-hub traffic 19%) 10%) SunExpress 2% into Cologne/Bonn and Frankfurt this THY 2% year and has ended up with a 20% Condor 3% share of capacity on Cologne to Berlin easyJet 3% Air Berlin Ryanair route, a noceable presence in Frank- 8% 7% furt and 2% share of domesc capac- ity. And the domesc market is the transfer of these routes to its Whatever the Air Berlin prey vibrant, reflecng the coun- lower cost subsidiary germanwings bankruptcy soluon, the com- try’s federal nature and historically has been a focus of its strategy in the peve landscape in Germany is independent states. Unlike some past few years. Air Berlin has been likely to change dramacally. Could it other European countries Germany the next largest operator with 26% be that the German domesc market is relavely decentralised and there of capacity. Even Transport Minister could mirror the development in the are significant flows of domesc air Dobrindt might accept that should UK — with the LCCs dominang the traffic between industrial centres Luhansa take on Air Berlin’s domes- non-hub routes? Is this an incenve and state capitals (see map on the c services it would be a somewhat for the LCCs to adjust their product preceding page), with the federal ancompeve move. to make it more aracve to the capital distanced from the financial Why haven’t Ryanair and easyJet conservave German consumer and, centre (Luhansa’s hub in Frankfurt), made greater inroads into the Ger- more importantly, change the local the industrial Nord-Rhein Wesalia man market? One of the main rea- market percepon of LCCs? (the most populous state in the Federaon), Hanseac Hamburg, and Bavaria. TOP 30 GERMAN CITY-PAIRS BY CARRIER Furthermore nine of the top 12 3.5 Others city-pairs by annual seat capacity on Luhansa Group 3.0 routes involving Germany are domes- Air Berlin c (see chart on the current page). 2.5 Ryanair easyJet Luhansa as a group has a 71% share of all domesc German capac- 2.0 ity (see chart on this page). Three 1.5 quarters of this is essenal to its net- 1.0 work business — providing feed to its annual seats (millions) two hubs at Frankfurt and Munich. 0.5 The other quarter is perhaps main- 0.0 HAM-LON DUS-PMI HAM-PMI BER-CGN LON-MUC DUS-MUC CGN-MUC FRA-VIE BER-STR MUC-PAR FRA-PAR DXB-FRA FRA-MIL BER-FRA FRA-LON HAM-MUC FRA-HAM FRA-MUC BER-PAR BER-ZRH FRA-NYC BER-VIE DUS-ZRH FRA-MAD BER-MUC BER-LON tained to connue to provide its cor- BER-DUS DUS-LON DUS-VIE AMS-MUC DXB-MUC porate contracts with services as an encouragement to use its long haul services. With its high cost base, it Note: Seats arriving and deparng German airports 2017. Domesc routes in blue has struggled to make profits; and

4 www.aviationstrategy.aero July/August 2017 Garuda Indonesia: Financial troubles follow quantum leap

significant fall in prof- costs/ASK rose 3.8% in the half, to 5.1¢. Overall though, despite Cilink its in 2016 and a drop into 7.1¢. The data show the same ad- reporng a 19.6% rise in revenue W the red for the first-half versetrendsforinternaonalservices in H1 2017, to $264.8m, its net loss of 2017, Garuda Indonesia is facing at the mainline (1.1 m passengers in worsened by a huge 139.5%, to troubled mes. A new CEO has just H1 2017), where passenger yield fell $51m. 12 months to turn around Indonesia’s 5.5% to 6.0¢, and CASK rose 3.1% to Pahala Nugraha Mansury, a flag carrier; what are the chances of 5.4¢. former banker, became president succeeding? Other than the mainline, the & CEO of Garuda Indonesia in April Founded back in 1947, today Garuda group has six major busi- this year (replacing Arif Wibowo, Garuda Indonesia offers services to ness units/subsidiaries, the most who lasted just over two years), 61 domesc and 73 internaonal important of which is Cilink, the with a warning/mandate from Rini desnaons around the globe and is group’s LCC. Launched in 2001 and Soemarno, Indonesia’s state-owned one of the Asia/Pacific region’s major based in Jakarta (as is the mainline), it enterprises minister, that the airline airlines. In 2016 the Garuda group operates a fleet of 57 aircra to more needs “a thorough restructuring in saw revenue rise 1.3% to US$3.9bn than 30 desnaons domescally both operaons and finances”. (the company reports its results in and across the Asia/Pacific region. The new leadership can’t blame US dollars), based on a 6.2% rise in Cilink carried 5.6m passengers in the rise in costs so far this year purely group passengers carried, to 35m. H1 2017 (up 7.8% year-on-year), but on fuel — though it accounts for just However, operang profits fell 41.3% costs per ASK rose even faster here over 27% of all operang costs, and to $99.1m, and the net profit was than at the mainline — up 10.5% to fuel costs rose by 36.5% in H1 2017 down 88% compared with 2015, to 4.8¢. Even aer stripping out fuel, compared with the first half of 2016. just $9.4m. CASK rose 6.5% in January-June 2017, That’s because every other category The trend connued into this to 3.1¢. The only bright news in a sea of major costs rose at the group, with year. In the first half of 2017 the of red KPIs for the group was a 5.8% — for example — “general adminis- Garuda group saw revenue rise by rise in yield for Cilink in H1 2017, to traon” costs rising by a massive 60% 7%, to $1,886.5m, of which $1,636m came from scheduled passenger revenue (up 4.6% year-on-year), with GARUDA INDONESIA FINANCIAL RESULTS ($m) passengers carried up 3.9% to 17.2m. 300 4,000 But an operang loss of $37.8m in H1 250 Operang profit 2016 increased to a $214.5m operat- Revenues 3,000 200 ing loss in January-June 2017, and a net loss of $63.2m in the first half of 150 2,000 100 2016 grew to become a $283.8m net 1,000 loss in H1 2017. 50 The first half figures for the full- 0 service Garuda Indonesia mainline -50 are discouraging — the majority of Net result passengers (5.0m out of the total -350 mainline total of 6.1m) were car- -400 ried on domesc Garuda services, 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 where passenger yield dropped 3.8% year-on-year, to 7.9US¢ — whereas

July/August 2017 www.aviationstrategy.aero 5 aggressive growth in order to keep GARUDA ASKs PER AIRLINE EMPLOYEE expanding its market share. Many of the group’s internaonal routes 7,500 are believed to be unprofitable (par- 7,000 cularly to Europe), yet the com- pany keeps expanding internaonally 6,500 (no doubt encouraged by its majority shareholder — the government) in an 6,000 aempt to develop Jakarta as a ma- jor transit hub against mulple local 5,500 rivals. Jakarta’s Soekarno–Haa Inter- 5,000 naonal airport — 20km north-east of the capital — is relavely young 4,500 2011 2012 2013 2014 2015 2016 (opening domescally in 1985 and internaonally in 1991), but is now operang at full capacity, with its to $183m in H1 2017. aircra was envisaged; in short, the three terminals and two runways car- mantra for Garuda — yet again — rying some 59m passengers in 2016. Expansion mania was expansion. A third runway is under construcon, It’s difficult to unpick the limited However, that ambion was although it won’t be completed unl amount of data available in Garuda’s severely dented by the reduced 2018, and while a fourth terminal is public accounts, but the underlying profitability through 2016, leading unlikely before 2022, an upgraded driver of rising costs is a combinaon to furious aempts to cut costs as Terminal 3 will be completed this of poor management control and Wibowo tried to avoid the group year. the group’s unrelenng focus on posng losses — which ulmately In the meanme, Garuda’s expansion. Passengers carried have was to no avail. expansion connues apace. In risen from just 6m in 2006 to 35m Mansury now has the task to halt January-May 2017 Garuda’s inter- in 2016 (a compound growth rate of and reverse the group’s downturn, naonal passengers carried rose 14.5% pa), with the fleet quadrupling but that will be hard to do given by 24.1% — way ahead of almost over the same period and fuelled that the airline sll seems intent on all other legacy competors in the by its so-called “Quantum Leap” strategy that was launched in 2009 with the aim of transforming Garuda GARUDA GROUP TRAFFIC DATA from an essenally moribund airline 60,000 80 into a modern-day carrier. Load Factor The problem that Garuda made 50,000 RPK for itself aer this inial phase, was ASK that it connued to believe that 40,000 75 growth was the panacea for all its problems. Under the previous chief 30,000 execuve, Wibowo (who started in December 2014), the group’s 20,000 70 “Sky Beyond” strategy targeted a domesc market share of 50%, 10,000 an internaonal share of 50% and 0 65 achievement of more than $10bn in 2011 2012 2013 2014 2015 2016 turnover annually by the early 2020s. To do that a fleet of well over 300

6 www.aviationstrategy.aero July/August 2017 pansion focus is partly being driven GARUDA INDONESIA ROUTE MAP by the relentless wave of compe- on from LCCs. AirAsia Indonesia (see Sabang−We Island Banda Aceh Lhoksumawe Aviaon Strategy, June 2017) oper- Tambolaka Kuala Namu Tarakan Kuala Lumpur London Siborong−Borong Berau Amsterdam Sibolga Singapore Manado ates out of three hubs in Indonesia Batam Gorontalo Ternate Gunungsitoli Pekanbaru PangkalpinangTanjung Pinang Putussibau Pontianak Sintang Palangkaraya Palu Manokwari — Jakarta, Surabaya and Medan. The Padang Balikpapan Luwuk Sorong Biak Ketapang Jambi Jayapura Palembang TanjungPangkalanbuun Pandan Tampa Padang Nabire biggest challenge, however, comes Banjarmasin Kendari Ambon Bengkulu Tembagapura Bandar Lampung Ujung Pandang Baubau Langgur from Lion Air, which launched in 1999 HLP Solo CitySurabaya Jakarta Saumlaki Maumere Dili and today operates out of the same Bandung Semarang Merauke Malang Bima Yogyakarta Jember Ende Lombok Banyuwangi Labuan Bajo three hub airports as AirAsia with a Denpasar Bali Sumbawa Besar Kupang fleet of 109 737s and three A330s.

Beijing Lion Air’s services connect more Seoul Tokyo Haneda Osaka Tokyo Narita than 100 desnaons domes-

Chengdu Shanghai cally (where it has the largest market Madinah share, ahead of Garuda) and through- Jeddah Guangzhou Hong Kong out Asia, and scarily (from Garuda’s Mumbai point of view) it has an outstanding Bangkok order book for 203 737 MAXs and 737-900ERs. Banda Aceh Kuala Namu Kuala Lumpur Garuda Indonesia Singapore By its own esmate Garuda Citilink Jointly served had a 39.5% share of the domesc Ujung Pandang market in the first half of 2017 (down Jakarta Dili Denpasar Bali from 40.6% in H1 2016) and a 28.0% Surabaya share of the internaonal market (compared with 27.1% in January- June 2016), and the airline seems to

Perth be obsessed with increasing those

Sydney percentages. Melbourne Variable cost efforts Garuda has been and is carrying out cost-cung exercises, which in 2016 Asia/Pacific market (passengers car- while a Jakarta-Moscow service using concentrated on items such as fleet ried in the total Asia/Pacific market A330-200s was announced to launch opmisaon, reduced insurance rose 5.8% in the same period). in August and a Jakarta to Los Angeles costs and opmised maintenance Garuda’s internaonal network via Tokyo route is scheduled to start programmes, aimed at on saving now covers Asia (36 desnaons), in November with 777-300ERs. US$250m on an annual basis. Africa (two), the US (Chicago, Los Garuda Indonesia joined However, progress has been Angeles, New York, San Francisco SkyTeam in March 2014 and has mixed; for example, producvity in and Seale), Middle East (seven) a total of 27 codeshare partners terms of ASKs per airline employee and Europe (23). Most of these are (the latest of which is Saudia, which has improved steadily over the last code shares, and it only actually started in August), though inter- few years (see chart on the preceding operates to 17 Asia/Pacific desna- esngly throughout its expansion page). On the other hand, fleet ons outside Indonesia, London and strategy, while capacity has risen raonalisaon is painfully slow. The Amsterdam in Europe, and two in the steadily (see chart on the facing Garuda groups currently operates a Middle East (see map on the current page), the airline has struggled to fleet of 200, but this is split between page). Services from Bali to Chengdu li passenger load factor above the 11 different types. — the group’s fourth Chinese des- mid-70s. The mainline operates 73 737- naon — started in June this year To be fair to management, the ex- 800s, 18 CRJ-1000s, 16 ATR 7-600s,

July/August 2017 www.aviationstrategy.aero 7 two 747-400s, 10 777-300ERS, seven A330-200s and 17 A330-300s. To GARUDA MATCHES LIONAIR GROWTH RATE make maers worse even the LCC 300 — Cilink — operates four types: Lionair five 737-300s, three 737-500s, 45 250 A320-200s and four A320-200neos. In short, the fleet strategy is a mess. 200 By the end of this year the total Garuda fleet will increase to 202 aircra but 150 the mix will change only slightly, with the two 747-400s exing at the main- 100 line. However, by the end of 2017 Others 50 the total number of models won’t re- Seat Capacity (Index 2010=100) duce as one new type will be added, 0 with mainline receiving the first of an 2010 2011 2012 2013 2014 2015 2016 outstanding order for 50 737MAX-8s Notes: Garuda includes Cilink, Lionair includes Baq and Wings, Others = All other carriers op- (placed in 2014), which will all be de- erang domescally or to/from Indonesia livered by 2023. Cilink also has an outstanding order for 25 A320neos and the main- Other measures that are being the total fleet of 200, all but 22 are line for six more of the model. Ad- implemented include adding an extra leased, though so far Garuda has only dionally, Garuda has an order for 79 seats for each 777-300ER aircra, managed to renegoate exisng con- 14 A330-900s, placed last year, which and a renegoaon of all contracts tracts with a single lessor. will start arriving in 2019. with manufacturers and lessors. Of In terms of revenue genera- on, although ancillary revenue is rising there are other areas where GARUDA FLEET PROFILE Garuda is significantly behind its rivals (whether legacy or LCCs); for In service example, 51% of all its cket sales 2015 2016 2017e (On order) originate from travel agencies, with 747-400 2 2 the Garuda’s cket offices accounng 777-300 9 10 10 (1) for another 23% and just 24% coming A330-200 9 7 7 from e-commerce sources. A330-300 13 17 17 A330-900 (14) Mansury’s challenge Widebody 33 36 34 (15) Mansury says that “the phase of busi- Garuda 737-800 81 75 73 ness cycle that Garuda Indonesia is 737MAX-8 1 (49) going through is only temporary” — CRJ 1000 18 18 18 (2) ATR72 11 15 18 which may be wishful thinking given thatuponhisappointmentSoemarno Narrowbody 110 108 110 (51) warnedthat“wegivehim12months” Total 143 144 144 (64) to turn the airline around, 737-300 5 5 5 The airline is “taking acon” 737-500 3 3 3 to improve revenue, with a beer A320ceo 36 44 50 balance of ASK versus RPK growth, Cilink A320neo 4 (31) and improving passenger yield — Total 44 52 58 (31) although at the same me is says Group Total 187 196 202 (95) it wants to connue to increase market share both domescally

8 www.aviationstrategy.aero July/August 2017 the last 12 months, and the stock GARUDA SHARE PRICE PERFORMANCE has underperformed around 85% of Indonesia-listed stocks over the 800 750 period. Today the price is hovering 700 just under the Rp350 level, and it 650 600 will have to rise significantly over the 550 next few quarters if Mansury wants 500 to retain his job. 450 Shareholders will be nervous by 400 the 9.3% rise in financial debt at Garudainjustsixmonths—totaldebt 350 stood at $1.9bn as at the end of June 300 2017, and net gearing rose from 1.1x as at December 31st 2016 to 2.1x on 250 2012 2013 2014 2015 2016 2017 June 30th 2017. More worryingly per- haps, cash fell by 29.2% year-on-year, to $381m at the end of June 2017, and internaonally. That seems an execuve charter airline owned by which management blames largely impossible mix, not least because Indonesian businessman Chairul on “the significant growth of operat- Mansury will be spending a lot of his Tanjung), with the group lisng ing expenses”. me trying to keep shareholders on on the Jakarta stock exchange in Whichever way you look at it, board, negoang with more than 25 February 2011. Since then, however, Mansury has a very tough job ahead, lessors to reduce leasing costs, and the share price has fluctuated wildly and unless he can effecvely reign smoothing concern among creditors (see chart on this page) — rising well back expansion in order to give the and the stock market in general. above the Rp700 level in 2013 before airline breathing space to cut costs, The Indonesian state sll owns plunging to almost touch Rp300 in the group is more than likely to have 60.5% of the airline, with 24.6% 2015. Aer a recovery in early 2016 yet another CEO in place someme in owned by PT Trans Airways (an the price has fallen sharply over 2018.

Aviaon Strategy has produced in recent years special analyses for our clients on a wide range of subjects. Examples include:

v Implicaons of Virtual Mergers on the v Intra-European Supply and Demand North Atlanc Scenarios v The Future of Airline Ownership v Super-Connectors: Financial and v Air Cargo in the Internet Era Strategic Analysis v LCC and ULCC Models v Key Trends in Operang Leasing v Business Jet Operang Leasing Prospects

For further informaon please contact: info@aviaonstrategy.aero

July/August 2017 www.aviationstrategy.aero 9 Icelandic hubbing: Can Icelandair live with Wow?

, populaon 334,000, plays subsidiary of an investment/leasing tual mergers among the Luhansa an increasingly important, if company called Flugleiðir, owned Group/United-Connental, Air I widely unrecognised, role in the largelybytheleadingbanks;although France-KLM/Delta-Northwest and North Atlanc market, with two com- Icelandair accounted for just over IAG/American-USAirways creang peng hub systems funnelling traffic half of revenues, growth and profits the condions for oligopolisc prof- from Europe to America via Keflavik were seen to come from the excing its in this region, and opening up Airport (KEF). But can Icelandair and world of financial and corporate opportunies for lower cost new Wow connue to co-exist with their investments (at one point it owned entrants. rapid expansion strategies? over 10% of easyJet). The KEF network is the only 24- In the mid-2000s Iceland submit- Flugleiðir promised its sharehold- hour hub system in Europe or North ted to a bout of financial madness, ers an annual return of 20% pa, which America, taking advantage of me turning from fishing to speculave of course did not materialise. In 2009 differences between Iceland and Eu- trading as its main industry. Ice- as the investments turned toxic, Ice- rope (minus 2-3hours) and N. Amer- land’s banks, recently deregulated, landair had to announce a net loss ica (plus 3-4 hours). Icelandair’s first accumulated foreign debt, invested of ISK10.8bn, a loss margin on rev- wave departs from KEF in the morn- ludicrously in subprime mortgages, enuesof13.3%,anditteeteredonthe ing, arriving in Europe around mid- complex financial instruments edge of bankruptcy. This was, how- day with the return flight scheduled and global property markets. And ever, a major turning point for the for early aernoon, arriving back at when the financial crisis struck, and company as it reverted to concentrat- KEF at midday. The eastbound wave Lehmans collapsed, the three main ing on its aviaon operaons, specifi- then leaves in the early aernoon ar- Icelandic banks went spectacularly cally building its hub operaon at KEF, riving at American cies in the early bankrupt, GDP plunged by over 10% as well as promong inbound tourism aernoon, deparng in the late aer- in 2009 and 2010, and the country to the island. noon and arrive back at KEF in next had to partly default on its foreign Coincidentally, this was the me morning to connect with the west- debt, which peaked at ISK15.7tr when the North Atlanc market bound wave. In the five peak months, ($190bn). was rapidly consolidang with vir- May-September, a second eastbound The recovery has been as remark- able as the collapse. The government naonalised the banks (and sent ICELANDAIR FINANCIAL RESULTS (US$m) dozens of bankers to jail, a stark 150 1,500 contrast with the US fall-out), a Revenues support package from the IMF was 100 Operang profit 1,000 agreed, debt was restructured and repaid — foreign debt today is down to ISK 280bn ($2.6bn). The Icelandic 50 500 economy has rebounded, this me based on sustainable tourism, with 0 0 GDP in 2016 growing by 7.2% (again a highly favourable contrast with some -50 the EU states’ economic performance Net Profit post the financial crisis). -100 Icelandair was in the centre of the 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 financial crisis. The airline became a

10 www.aviationstrategy.aero July/August 2017 only 11 European cies. ICELANDAIR ROUTE MAP The hub system has been the main driver behind Icelandair’s rapid traffic growth — from 2.0m interna- onal passengers in 2012 to 3.7m Anchorage in 2016 (plus 0.3m passengers on domesc and regional services to Greenland, the Faroes and northern

Vancouver Portland Scotland operated by Air Iceland). Seattle Connecng Passengers, the “via” Edmonton market in Icelandair’s terminology, now account for 54% or 2.2m of the projected 2017 total of 4m. The “to” Denver market, mostly inbound tourism, ac-

Minneapolis Ilulissat counts for about 34%, and is a target Kangerlussuaq Helsinki for expansion through the promoon Nuuk Ísafjörður Trondheim Chicago Kulusuk Akureyri Egilsstaðir Stockholm Oslo of year-round holiday packages, Narsarsuaq Toronto StavangerGothenburg Copenhagen with the aim of smoothing the high Montréal Reykjavik Billund Newark Aberdeen Washington Glasgow Hamburg seasonality of the market. The “from” Philadelphia New YorkBoston Belfast Amsterdam Manchester Frankfurt Birmingham Halifax LondonBrussels Munich market, Icelandic outbound travel, Tampa London Paris Zürich Orlando Paris Geneva Milan accounts for the remaining 12%. It is interesng to note that Aer Barcelona Madrid Lingus, which carries about 1.6m pas- sengers across the Atlanc, has iden- Note:EquidistantmapprojeconbasedonReykjavik(greatcircleroutesappearasstraightlines). fied Icelandair (and by implicaon, Thickness of lines directly related to seat capacity. Wow) as one of its biggest threats. CEO Stephen Kavanagh earlier this wave starts up in the mid-morning. 496 connecon opons. How conve- year urged Dublin airport to improve The 28 European points and 18 nient many of these connecon op- its connecvity or lose business to North American points produce, ac- ons are is, however, quesonable: Reykjavik. Passenger throughput at cording to Icelandair, a remarkable daily year-round flights are offered to KEF has soared from 1.8m in 2009 to

ICELANDAIR AND WOW SEAT CAPACITY BY TOP TEN CITY PAIRS (000 Seats to/from Reykjavik, 2016 est)

North America Europe Icelandair WOW Total Icelandair share Icelandair WOW Total Icelandair share New York/Newark 348 143 491 71% London (LGW & LHR) 456 260 717 64% Boston 250 145 395 63% Copenhagen 409 153 562 73% Toronto 180 125 305 59% Paris 287 209 496 58% Washington 199 199 100% Amsterdam 232 209 441 53% Seale 180 180 100% Stockholm 227 79 306 74% San Francisco 157 157 Frankfurt 165 129 295 56% Los Angeles 155 155 Oslo 207 207 100% Balmore 145 145 Helsinki 194 194 100% Montréal 26 106 132 19% Munich 156 156 100% Denver 130 130 100% Berlin 143 143 Others (11 cies) 544 93 636 85% Others (26 cies) 707 482 1,189 59% TOTAL 1,855 1,069 2,924 63% TOTAL 3,039 1,666 4,704 65%

Note: Desnaons in blue served by both carriers. Also service by both carriers on Brussels and Milan

July/August 2017 www.aviationstrategy.aero 11 geng to, then connecng at, LHR or WOW AIR ROUTE MAP DUB. Icelandair has remained prof- San Francisco itable since the recovery from the Los Angeles financial melt-down, but pressure is mounng on both revenues and costs. In 2016 passenger volume grew by 20% but passenger rev- enues rose only 12%, from $849m to $947m. Total revenue increased by Stockholm 13% from $1.14bn to $1.28 with an

Warsaw Toronto Copenhagen increased contribuon from the ho- Reykjavik Pittsburgh Montréal Berlin Edinburgh tel/tourism/airport division (which Amsterdam Baltimore Düsseldorf Newark Boston Brussels Dublin FrankfurtSalzburg London accounts for about 20% of the total). Cork Bristol Paris Milan Operang costs, however, shot Lyon Miami up by 17% from $0.91bn to $1.06bn Barcelona despite a decline in fuel costs of 5%. Alicante Costs that should be controllable looked as if they were out of control Note: Equidistant map projecon based on Reykjavik — personnel up 27% and ground (great circle routes appear as straight lines). Thickness of lines directly related to seat capacity. Tenerife handling, largely provided through Las Palmas the fully owned subsidiary IGS, also up 27%. Icelandair management 6.8m last year. The range of secondary cies aributed much of the inflaon KEF can offer very fast on the current served by Icelandair and to the strengthening of the krona ground transfers for passengers sim- Wow includes on the American side: against the US dollar. (The Group ply because there is only one termi- Edmonton, Portland, Orlando, Pis- reports in US dollars, which repre- nal with all the gates compacted into burgh, Halifax and Tampa; and on the sent the largest proporon of its a small area. The downside is that at European side: Hamburg, Edinburgh, revenues, 37%; only 25% of rev- peak mes it is uncomfortably over- Birmingham. Billund, Cork, Bristol, enues are generated from Icelandic crowded, stretched to the limit it ap- Gothenberg, Bergen and Lyon. This residents; revenues in euros and pears, which must present a barrier, must raise a serious queson about Danish/Norwegian crowns account albeit a solvable one, to Icelandair’s the long-haul low cost models that for 22%, and sterling 7%, with 9% and Wow’s expansion. ancipate business from linking sec- others.) But a more fundamental On the major transatlanc routes ondary points in Europe and America reason was a 15% surge in employee Icelandair has to sell flights which are with direct service. The Icelandic numbers — 3,384 average FTEs in apparently significantly less arac- carriers offer the alternave of con- 2015, 3,900 in 2016 — a response ve than direct services — for exam- solidang thin traffic flows through to what Icelandair describe as the ple, London to New York via Reykjavik their mid-Atlanc hub in a medium to stresses of rapid expansion. adds 500-600km to the aircra rout- low cost operaon. Consequently, EBIT fell to $120m ing and at least two and half hours Just how far the mid-Atlanc hub in 2016, 12% down on 2015. Net in- to the passenger journey compared concept can be taken is illustrated by come was down 20% to $89m. the LON-NYC direct. But for passen- the recent start-up of a three-mes The adverse trend has connued gers from Scandinavia, or those orig- a week Q400 service from Belfast into this year, with Icelandair facing inang or desned to smaller cies, City (the downtown airport) by Air the twin problems of yield pressure whose alternave is a connecon at Iceland, the turboprop subsidiary, to due to increased compeon and ca- a European global hub at LHR, CDG, KEF, providing mulple onward con- pacity, and an escalaon in its oper- AMS or FRA, the disadvantage re- necons from Northern Ireland to ang expenses in what is a high cost duces, disappears in many cases. North America, as an alternave to country.

12 www.aviationstrategy.aero July/August 2017 food and alcohol are charged in ICELANDAIR GROUP FLEET the former, included in the laer) and Saga (40” pitch) — Wow is a ICELANDAIR ICELANDAIR LOFTLEIÐIR AIR ICELAND ULCC model. The aircra are densely Fleet Orders CARGO configured with one class only, 220 seats on the A321, up to 350 on the 757-200/300 26 2 2 767-300 4 2 A330. Passengers are encouraged to 737-700/800 3 bring their own food and make their 737-MAX 8/9 16 own entertainment. Fares on Wow Q200/400 5 are consistently the lowest across the F50 4 Atlanc, undercung Icelandair on TOTAL 30 16 2 7 9 Economy, and Icelandair’s fares are Note: MAX 8 deliveries, 2018-2021, MAX 9 deliveries 2019-2021 in turn very compeve especially on thinner routes where the only Figures for the first half of 2017 $(24)m, against a profit of $9m in the compeon is a Legacy carrier. show passenger numbers up 14% to same period last year. Although a ULCC in product 1.76m, but passenger revenue only These trends should be wor- terms, Wow operates a very similar increased by 7% to $393m. Total rev- risome for Björgólfur Jóhannsson, hub system to Icelandair, with waves enues, including cargo and the ho- CEO since 2008 (though Icelanders of flights connecng up traffic flows tel/tourism division, were $422m, up are phlegmac — one of the 757s between Europe and North America 9%. But operang costs grew by 16%; is named Eyjaallajökull, aer — Wow’s waves arrive about an hour fuel was up slightly but again there the volcano which brought airline before Icelandair’s . was a huge increase in personnel chaos when it erupted in 2010). His In fact, there is a substanal costs, up by 40%. strategic response lies in a $30m overlap between the two systems: There was a loss at EBIT level, profit improvement programme, both carriers concentrate capacity $(31)m, in contrast to a $11m profit in focusing on network expansion, on major cies — London (both the first half of 2016. The net loss was beer connecvity with domesc Heathrow and Gatwick), Paris Am- flights, efficiencies in ground han- sterdam, Frankfurt Copenhagen dling and rebranding of classes. This and Stockholm, New York (JFK and ICELANDAIR GROUP may seem a lile low-key given the Newark), Boston and Toronto. The BALANCE SHEET ever-growing threat posed by Wow cies where both carriers compete Air. account for 48% of joint seat capacity June 30, 2017 US$ millions Wow Air was founded as a A320- on the European side and 27% on Fixed Assets (Fleet) 642.8 operang LCC in 2011 by IT and tele- the American side. On the smaller Intangibles & Investments 208.6 coms entrepreneur Skúli Mogensen. routes there is generally no com- Deposits 67.4 Non-Current Assets 918.8 It took over Iceland Express in the peon between the two airlines, following year. Morgensen retains Cash and equiv. 360.1 either Icelandair or Wow operates. Receivables 211.6 ght control of the airline through That is unl this summer, when Inventories 30.8 an investment company called Titan, Current Assets 602.5 which has not as yet revealed any Total Assets 1,521.3 financial details, but it is clear that WOW AIR FLEET Payables 335.7 the airline is aiming at even faster Prepayments 372.3 Current Liabilies 708 growth than Icelandair’s. Esmated Fleet Orders Long-term Loans 249.7 passenger volume was 1.6m in 2016, A320-200/neo 3 Deferred Tax 46.9 and 3.0m is the target for 2017. A321-200/neo 11 6 Non-Current Liabilies 296.6 Whereas Icelandair offers a A330-300 3 A330-900neo 4 Total Liabilies 1,004.6 medium service product — three Shareholders’ Equity 516.7 classes, Economy, Economy Comfort TOTAL 17 10 (the main difference being that that Note: 7 deliveries scheduled for 2018

July/August 2017 www.aviationstrategy.aero 13 have their bases of operaons at ICELANDAIR SHARE PRICE PERFORMANCE the same airport. Nor do LCCs have the same base airport (Ryanair at 40 35 Stansted and Dublin, easyJet at Luton 30 and Gatwick). Nor are network car- 25 rier hubs based at the same airport 20 in Europe, nor in the US (with the excepon of United and American at 15 ORD). So Icelandair and Wow are a Íkr (logscale) 10 unique combinaon — long haul hubbing airlines, one medium ser- vice, the other very low cost, based at the same small airport and com- 5 2012 2013 2014 2015 2016 2017 peng mostly for the same traffic. Could a take-over or merger be a possibility? Icelandair announced the start-up planning for the delivery of 11 air- Icelandair’s balance sheet is fairly of operaons to Cleveland, Ohio, a crainthenextcoupleofyears,seven solid at the moment — a debt/equity city that has not registered on the of which will arrive in 2018 — 220- rao of 2/1 and $360m in cash. The radar of transatlanc airlines, and seat A321neos and 350-seat A330- Icelandair Group is listed on the Nas- then Wow has commied to the 900neos — a doubling in seat capac- daq Iceland exchange, and 76% of the same route. Perhaps an indicaon of ity. shares are controlled by 20 local in- an intensificaon of intra-Icelandic Can the KEF infrastructure ab- vestment funds and financial instu- rivalry. sorb such an expansion in capacity? ons.Havingbeenworthclosetozero Up to now Icelandair has mostly Can the two airlines connue to steal in 2010 the market capitalisaon rose ulised 757s and 767s but from next away traffic from the network carri- to ISK177bn in 2015 but has fallen year will be introducing the 737MAX ers (and maybe thwart the expansion back to ISK70bn ($672m) as at August — three 154-seat MAX-8s, followed plans of the point-to-point long haul 2017. Wow’s financial resources are by another six plus seven 174-seat LCCs)? not revealed but it is likely that the MAX-9s during 2019-2021. According Different airline models of course company is well capitalised as a result to Icelandair, the MAXs will be an ad- co-exist — point-to-point LCCs of the funds received from Morgen- dion to the 757 fleet rather than and networking global carriers — son’s sale of his telecom company, OX a replacement. Meanwhile, Wow is throughout the world, but they rarely Communicaons, to Nokia in 2010.

ICELANDAIR TRAFFIC PROFILE 2011 (1.7m pax) 2014 (2.6m pax) 2017 (4m pax)

From 17% From From 12% 24% Via 40% Via Via 49% To 54% 34% To To 34% 36%

Note: For definons, see text

14 www.aviationstrategy.aero July/August 2017 Copa: MAX Returns

two tough years, Copa has a brand new FFP that can be Copa’s success is due to many fac- Panama’s Copa is seeing further developed, while upgrades to tors, which mostly remain intact or A its profit margins bounce itsreservaonssystemandITcapabil- are being reinforced. Panama City’s back as Lan America’s economies ies will allow it to sell more ancillary Tocumen Internaonal Airport will and air travel demand gradually products and benefit more from air- see a significant increase in capacity recover. As a result, Copa is now line partnerships. in 2018, which will strengthen its role cauously returning to the growth The management believes that as the region’s largest and most effi- mode; its ASMs are projected to these new strategies, coupled with cient hub. Copa has retained its rela- increase by 8% in 2017 and in the cost and efficiency iniaves, will en- vely low unit costs and high service “high single digits” range in 2018, able Copa to return to its historical quality. aer only 1.5% and 4.4% growth in high(17-21%)operangmarginsover But investor opinion is divided on 2016 and 2015, respecvely. the next several years. whether Copa will recapture its for- But Copa will not be returning to Copa used to consistently achieve mer posion as an industry high-flyer the heady growth rates of the past. Its industry-leading operang margins with 20%-level margins. There are CEO Pedro Heilbron has talked about because of its hugely successful “Hub some concerns that the hub strategy the long-term growth rate averaging of the Americas” strategy, which is under threat from LCCs coming around 6% annually. In the next cou- channels traffic between North, in and introducing point-to-point ple of years at least the growth will South and Central America via the services that bypass Panama City. mainly come from higher aircra ul- Panama City hub. The business Such incursions have increased in isaon and upgauging. model is very “defensible” because Copa’smarketsinthepast12months. This new expansion phase is it focuses on underserved thin mar- Mexican ULCC Volaris has launched a seeing several new strategies, which kets where point-to-point service is Costa Rica-based unit that competes Copa’s management discussed in generally not an opon. directly with Copa on some Central more depth in recent earnings calls and at the company’s annual investor day, held on June 1 in New York. COPA’S FINANCIAL RESULTS (US$m) First, there is Wingo — Copa’s 600 3,000 first foray into LCC operaons. The Revenues 500 Bogotá-based venture began opera- 2,500 ons in December 2016 with an inial 400 Operang Profit 2,000 focus on the Central American mar- 300 1,500 ket. 200 Second, the 737 MAX will play a 1,000 100 key role in facilitang Copa’s growth 500 and keeping its unit costs in check. 0 The airline has 71 MAXs on firm order, -100 Net Result with the MAX 9 deliveries starng in -200 August 2018 and the MAX 10 deliver- -300 ies in 2021. (Copa became one of the 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 laer’s launch customers at the Paris Note: Excluding significant special items in the past three years, Copa would have reported the Air Show.) following net profits: $201.4m in 2016, $226m in 2015 and $486.2m in 2014. Third, there are aracve oppor- Source: Company reports tunies to grow ancillary revenues.

July/August 2017 www.aviationstrategy.aero 15 kets. Currencies have strengthened COPA’S OPERATING MARGINS from their worst points in 2015 and, importantly, stabilised. IMF forecasts 25 Lan America’s GDP to grow by 1.1% in 2017 and 2% in 2018, following a 20 1% decline in 2016 and 0.5% growth in 2015. 15 Although the airline benefits from Panama’s use of the US dollar 10 as its currency (which enables Copa to earn significant dollar revenues), about half of its total traffic is con- 5 necng, which means that its results also benefit from the posive trends 0 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 20162017F* in other Lan American countries. Notes: Excluding large fuel hedge losses, Copa would have reported operang margins of 16.7% Copa’s unit revenues are now im- and 16.1% in 2016 and 2015, respecvely. * Mid-point of Copa’s 15-17% forecast. Source: Com- proving — up 6% and 7.5% in Q1 and pany reports Q2, respecvely. In January-June, traffic (RPKs) surged by 12% and the load factor by 4.1 points to 81.9%. In American routes and is awaing loss for 2015. the second quarter, Copa’s revenues authorisaon for US-Central America Those headwinds are now behind grew by 17%, operang margin more operaons. LCCs such as Interjet and the airline. Copa has significantly re- than doubled to 14.4% and adjusted VivaColombia are also growing in the duced operaons to Venezuela and net income almost tripled to $63m. region. no longer sells in bolívars nor has bolí- The management subsequently Improving results vars on its balance sheet. The out-of- raised its 2017 operang margin moneyfuelhedgeshaverolledoffand guidance from 15-17% to 16-18%. Copa weathered Lan America’s eco- there are currently no hedges. Copa has a history of managing nomic and currency woes well, at So Copa is benefing fully from recessions well. This me around, the least compared to its peers in the theimprovingdemandandyieldenvi- smartest acon was to slow growth. region. Its operang margin dipped ronment in most Lan American mar- The benefit is clearly visible in the for two years but sll remained in double-digits — 11.8% in 2015 and 12.4% in 2016. Furthermore, if fuel COPA’s UNIT REVENUES AND COSTS hedge losses were excluded, Copa 15 would have reported 16%-plus oper- ang margins for both of those years. 14 Unit revenues But the net results have seen wild 13 swings in the past three years be- 12 cause of losses or gains associated 11 with currency devaluaons and the 10 mark-to-market of fuel hedge con- US¢/ASM tracts. Copa had a heavy exposure 9 Unit costs Ex-fuel unit costs to the Venezuelan market (9% of its 8 revenues in 2014), so it was hit hard 7 by the currency remiance issues. A 6 massive $433m currency translaon 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 loss related to the Venezuelan bolí- var led to Copa reporng a $225m net Source: Company reports

16 www.aviationstrategy.aero July/August 2017 could compete with Copa’s Panama COPA’S CAPACITY GROWTH hub. In an August 9 report, Bradesco BBI analysts cited increasing compe- 50 on from ULCCs in Central America as 45 one of two reasons they had an “un- 40 derperform” rang on Copa’s NYSE- 35 listed shares. The other reason was 30 unaracve valuaon. 25 Copa’s share price has recov- 20 ered well from the depths that it 15 plummeted to in 2015-2016, which has reflected Lan America’s im- 10 proved fundamentals and Copa’s 5 beer profit outlook. Most analysts 0 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 20162017F* currently have a “hold” recommen- daon on the stock, mainly because Note: Copa’s projecon (June 2017) Source: Company reports of the valuaon. The senment is not helped by the fact that Copa’s load factor trends: up to and includ- dividend from $0.51 to $0.75 per unit revenue recovery is flaening ing 2015, Copa’s passenger load fac- share for the second half of 2017. out in the second half of 2017 due tor was in the mid-70s, but in 2016 it This year’s ASM growth will come to tougher comparisons (its RASM rose to the 80% level for the first me. enrely from increased aircra uli- recovery began in H2 2016). The management noted at the in- saon. Copa is simply reducing capac- The Panama hub advantage vestor day that Copa also benefited ity less in the low season (Q4) now from “proacve and dynamic capac- that demand paerns are stronger. One of Copa’s greatest strengths is ity deployment”, which meant exit- In Copa’s second-quarter earn- being based in Panama — a stable ing five markets but adding eight new ings call in early August, the manage- dollar-based economy with a free- ones in 2015-2016. When demand ment reassured investors that they trade zone, low taxes, low labour collapsed in markets such as Brazil, had so far seen only raonal be- costs and growing tourism. It is home Copa found good uses for the aircra haviour from other Lan American to many regional offices of mulna- in new higher-demand markets (es- airlines in response tothe demand re- onal corporaons and benefits from pecially to the US). covery in the region. Brazil-US routes strong public and private sector in- Another accomplishment was to havecertainlyseenairlinesbringback vestment. maintain compeve unit costs in a capacity, but Copa is not a major The expansion of the Panama low-growth environment. Copa’s ex- player in those markets. Canal, completed in 2016, has fuel CASM, which had been on a Nor is Copa a major player in the provided an enormous economic steady downward trend since 2008, Central America-US East Coast mar- boost. Panama connues to be the fell by another 3% in 2015 to 6.4¢ and ket that Volaris Costa Rica hopes to fastest-growing economy in Lan remained at that level in 2016. serve. Those routes account for a rel- America, with 5.8% and 6% GDP And Copa has connued to avely small poron of Copa’s rev- growth projected for 2017 and 2018, reward shareholders. In addion enues or network and already have a respecvely (IMF, April 2017). to paying regular dividends, it has large number of operators, so the im- Panama’s populaon is only completed more than half of the pact may not be material. While Copa 4.2m, but its steady growth and $250m inaugural share repurchase isfacingsomepricingpressureinCen- emerging middle classes have con- programme that the board autho- tral America, the management gener- tributed to the growth of O&D traffic, rised in late 2014. Given the strong ally played down the effect of Volaris which accounts for half of Copa’s to- cash posion and vastly improved Costa Rica. tal traffic and makes Copa’s business earnings this year, the board recently But some analysts disagree, ar- model more sustainable in the longer approved an increase in the quarterly guing that the ULCC’s Costa Rica hub term.

July/August 2017 www.aviationstrategy.aero 17 peak mes already for some years, COPA ROUTE MAP so the new capacity will come none too soon. However, Copa execuves noted in early August that the further

Montréal delay with T2’s full opening may not Toronto San Francisco Chicago Boston maer because most of the MAX 9 New York Las Vegas Washington deliveries, and especially the net in- Los Angeles crease in aircra, will not happen un- l late 2018. New Orleans Tampa Orlando Monterrey Premium RASM, low CASM Fort Lauderdale Miami Nassau Havana Santa Clara Guadalajara Copa enjoys the very unusual combi- Cancun Holguin Mexico City Montego Bay Port AuSantiago Prince Saint Maarten Belize City PuntaSan Cana Juan naon of premium unit revenues and Kingston Santo Domingo San Pedro Sula Guatemala City Barranquilla Tegucigalpa Aruba low unit costs. The strong RASM re- San Salvador CartagenaMaracaibo San Andres Curaçao Managua Caracas flects a high business traffic content, Liberia Port Of Spain San Jose Valencia lack of compeon, a high-quality David Bucaramanga Georgetown Pereira Medellin Bogotà product and a strong brand. Cali While increasing compeon Panama City Quito Guayaquil Manaus with LCCs may pressure RASM in the future, Copa’s management is Chiclayo Recife focused on maintaining what they Lima call a “world class product offering”. Brasilia Operaonal excellence is a key part Santa Cruz Belo Horizonte of that and Copa has maintained it.

São Paulo Rio De Janeiro This year FlightStats named it “most Asunciòn on-me airline in Lan America” for

Porto Alegre Cordoba the fourth consecuve year, while Santiago Rosario OAG recognised it as “second most Buenos Aires Montevideo on-me airline in the world” for the second consecuve year — amazing achievements for a hub-and-spoke carrier. Copa’s strategy works because phases since 2004 have increased to- Copa’s low unit costs reflect a the Panama hub is highly efficient tal gates from 14 to 34 and have pro- modern streamlined fleet, efficient and because Copa offers convenient vided new taxiways and ramp and operaons and Panama’s low labour schedules, high-quality service and support areas. The current Phase 2 costs. The ex-fuel CASM of 6.4¢ is excellent on-me performance. expansion will add a new south termi- among the lowest in the world for a Tocumen is geographically well nal (T2), with 20 addional gates and full-service carrier. located, allowing 737NGs to fly new areas for customs, immigraon, The management is focused on nonstop praccally anywhere in the security and baggage handling. achieving further cost savings. Copa Americas. The airport benefits from One point of concern, though, is is about half way through a company- two sea-level runways and offers that Phase 2 is running behind sched- wide $50m cost-cung programme. easy transfers and short connecng ule.Itiscurrentlyexpectedtobecom- There are cost reducon opportuni- mes. Copa accounts for more than pleted towards the end of 2018. How- es in distribuon, maintenance and 80% of the daily flights there. ever, eight remote posions from T2 supplies. The 737 MAX will of course Tocumen is one of the few ma- were acvated in 2016 and a “so be very helpful in keeping unit costs in jor airports in the region where in- opening” of 3-4 gates is expected in check. frastructure provision has kept pace Q2 2018. Copa’s efficiency projects in- with airlines’ needs. Two expansion Copa has been short of gates at clude migrang to a new unified

18 www.aviationstrategy.aero July/August 2017 MRO programme, which will allow LCC. Wingo operates “administra- Cost savings will mainly come it to manage maintenance more vely and funconally” under Copa from a higher seang density on efficiently for both Boeing and Em- Colombia (which includes using the the 737-700s, direct distribuon, braer aircra and integrate the MAX laer’s operang cerficate) but has lower on-board service costs and less more easily. Copa also connues to separate commercial structures, dis- complexity generally. insource more heavy maintenance tribuon systems, customer service, According to Copa execuves, and is undertaking a $14m hangar management, fleet and brand. Wingo is performing beer than expansion due to be completed next By keeping Wingo commercially expected. It will lose money this year year. separate from Copa Airlines and Copa but the losses will be lower than Copa Diversifying with Wingo Colombia, which are full-service air- Colombia’s in those markets. Back in lines, the group should avoid brand May CEO Pedro Heilbron said that he The new lower-cost unit Wingo, confusion. But Wingo will benefit expected it would take a few years for which is part of Copa Colombia, is from the economies of scale, busi- Wingo to become profitable. aimed at reversing losses in Colom- ness culture and support offered Wingo accounts for only 2-3% of bia, compeng with LCCs more by the Copa family, which should the group’s revenues, so the losses effecvely and tapping growth facilitate beer cost controls and are not material to Copa. The group opportunies in Central American “reliable service and operaons”. clearly views the venture as strategi- leisure markets. Wingo’s inial fleet consists of callyimportantforthelongterm,now Copa has operated an airline in four Copa Colombia 737-700s, which that LCC growth in Copa’s markets is Colombia since 2005, when it ac- it operates in single-class configura- accelerang. According to CAPA, LCCs quired an inial 85.6% stake (now on with 142 seats (of which 28 have currently account for only 8% of the 99.9%) in AeroRepública, now Copa extra pitch). Copa Colombia operates weekly airline seats in Central Amer- Colombia. Colombia is Lan Amer- its 737-700s with 124 seats. ica, which is among the lowest pene- ica’s third largest market in terms of Wingo’s current route network traon rates for any world region or populaon (48.8m in 2016), shares a (most of which it took over from sub-region. border with Panama and represents a Copa Colombia), covers 15 cies in Growth plans significant market for many Panama- nine countries. It includes six points nian companies (for historic, cultural in Colombia and nine elsewhere in Copa’s network (including the Colom- and business reasons). South and Central America, Mexico bian units) currently includes 75 des- But Copa has not succeeded in and the Caribbean. The operaons naons in 31 countries in North, making Copa Colombia profitable, are mainly point-to-point and out Central and South America and the despite replacing the unit’s old fleet of Bogotá. In Panama it operates to Caribbean. Codeshares with Star and and later slashing its domesc op- the city’s secondary airport (Pacifico) other partners extend the coverage eraons and refocusing it on the while Copa Colombia operates to to another 146 desnaons. internaonal market. The unit’s Tocumen. Copa also benefits from an un- non-Panama internaonal routes Wingo offers low basic fares usually deep strategic relaonship had predominantly leisure traffic (though not ULCC-level) and charges with United, which dates back to the and low yields, while compeon extra fees for everything except late 1990s when the US and Panama domescally had escalated aer carry-on bags and water. Numerous signed an open skies agreement and VivaColombia entered the scene. ancillary offerings make it possible Connental acquired a 49% stake in So, most of Copa Colombia’s to “fly well” (part of the airline’s Copa. The stake was sold a decade network has been converted to the slogan) if one so chooses. The opons ago but the partnership is going lower-cost business model. Copa include checked bags, express check strong and last year the agreement Colombia connues to operate the in, seat selecon, seat with more was extended through to 2021. more business-oriented Colombia- legroom and, of course, food and Aer adding numerous new des- Panama routes, which it took over drinks. Wingo says that it offers its naons (especially in North Amer- from Copa years ago. passengers a “cool, friendly and ica) over several years, in 2016 Copa An added benefit is that it is a low-cost experience that makes them added only three new cies. This year lower-risk approach to seng up an feel good”. will see just two: Denver (its 13th

July/August 2017 www.aviationstrategy.aero 19 enues. Long-term debt was $1.17bn, COPA SHARE PRICE PERFORMANCE all of which was aircra related. Adjusted net debt/EBITDA rao was 160 150 only 1.7 mes — by far the lowest in 140 130 its Lan America peer group. 120 110 But Copa has also other impor- 100 tant projects in the works, notably 90 further developing its new Connect- 80 Miles loyalty programme, upgrading 70 its reservaons system and pursuing

US$ (logscale) 60 ancillary revenue opportunies. 50 Copa only launched its own FFP in July 2015, because it previously par- 40 cipated in partner United’s Mileage- Plus plan. Having its own plan al- 2012 2013 2014 2015 2016 2017 lows it to build a more direct rela- onship with its customers and de- US desnaon) and Mendoza (Ar- or not at all in the next seven years. velop new revenue streams. The pro- genna), both in Q4. However, Copa “Conservave” fleet growth (at 2% gramme has been well received and will connue to add frequencies in ex- CAGR) would result in only 115 air- Copa expects it to boost its operat- isng markets. crabyyear-end2024,while“aggres- ing margin by around one percentage The strategy is to connue to sive” growth (at 7% CAGR) would give point in 2018. strengthen the intra-Lan America Copa 170-plus aircra. Having postponed a planned mi- operaons and the Panama hub with In any case, ASM growth will graon to Sabre late last year, Copa more desnaons and frequencies. connue because the MAXs will has for now instead chosen to up- According to the June investor day replace many smaller-gauge 737NGs. grade its HP Shares reservaons sys- presentaon, Copa has idenfied They will also enable Copa to operate tem. That work is expected to be 20-plus potenally aracve un- longer routes, potenally opening completed in the first half of 2018. derserved desnaons. There are up the Pacific Northwest/Western The upgrades will allow Copa to do a no plans to operate to other world Canada and the far south of South lot more in terms of selling ancillary regions. America. Of the 71 MAX orders, Copa products. Notably, Copa has connued has so far specified that 15 of the The airline is working on a num- to serve Venezuela even as many aircra will be MAX 9s (deliveries in ber of ancillary iniaves and con- other airlines have pulled out due to 2H 2018 and 2019) and 15 will be sidering others that are “consistent tough condions and safety fears as MAX 10s (deliveries in 2021-2022). with the Copa brand”. While most the country’s crisis has deepened. The fleet is also likely to eventually of the benefits will come aer 2018, Venezuela-Panama demand has held include some MAX 8s. Copa is ancipang $10m addional up and the routes remain profitable. Copa expects to operate the E190 revenue this year from selling a sec- Copa and its Colombian units at least for the next 4-5 years. By 2018 ond checked bag, upgrades and pre- currently operate a 101-strong fleet, the E190 fleet will have been brought mium seats. Those revenues are pro- consisng of 66 737-800s, 14 737- down to 19 (from 27 at one point), jected to grow to $20-40m in 2018 700s and 21 E190s. There are firm which are all owned and which the and $40-60m in 2019. New ancillary orders for two more 737NGs for airline feels is the ideal number of revenue streams could be instrumen- delivery in 2018 and 71 737 MAXs 100-seaters. tal in helping Copa get back to the (2018-2024 delivery). Copa is a good candidate for 20%-level operang margins. However, significant lease expira- growth because it has one of the ons (31 up to 2024) and some 15 strongest balance sheets in the By Heini Nuunen owned older aircra give Copa flexi- industry. At the end of June, it had heini@theaviaoneconomist.com bility to grow its fleet at a fast pace $924.6m in cash or 39% of LTM rev-

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