On Air New Zealand’s Bumpy Path To Covid Recovery
Air New Zealand’s new non-stop service to JFK international airport in New York recently received a ton of free publicity, even though the airline's mishandling of passenger baggage on the first New York to Auckland run was also an epic embarrassment. Since it was ordinary taxpayers who bailed out the national airline during its time of Covid need, all of us have a vested interest in the airline’s recovery plans. Expect some turbulence during the next few years.
First, the (reasonably) good news. This month’s New York direct flight will be followed by a similar direct service to Chicago next month. On the airline’s New York route, Air New Zealand will enjoy a virtual nine month monopoly from this part of the world, given that Qantas says it won’t start flying directly into JFK until mid 2023. After that time, the competition will ramp up on what Air New Zealand is calling its “flagship” route.
Thanks to Covid, both airlines have gone through the fire. In the year to June this year, Air New Zealand posted a loss of $NZ725 million compared to a loss of $NZ 444 million in the previous financial year. As with other international carriers, cargo has been a bright spot for Air New Zealand amid the Covid gloom. It increased by 32% to $NZ1 billion, in the year to June.
It is only a small consolation, but Qantas seems in even worse shape: Qantas lost $1.86 billion dollars this year on top of $1.83 billion the year before. “This result ,”says Qantas Group Chief Executive Officer Alan Joyce, “takes the statutory loss before tax impact of COVID on the Qantas Group to nearly $A7 billion. and our total revenue losses to AU$25 billion. These figures are staggering…”Along the recovery path, Qantas has been having a lot of self-inflicted bad press – both for outsourcing its maintenance work (allegedly putting its safety record at risk) and for cancelling its vegetarian and halal options on some flights.
Loving business
Looking ahead, the key problem facing Air New Zealand is one that’s being felt by all international carriers: tourism numbers may be bouncing back post Covid, but this is not a particularly profitable part of the market. There are only a few revenue gains possible from cabin redesign (to encourage premium economy travel) and from higher ticket prices overall.
Yet for all long haul carriers, business class is where the big bucks reside. Worldwide, that sector is still currently lagging an estimated 25- to 30 % behind pre-Covid levels. The volume and the frequency of corporate travel is expected to bounce back only very slowly - by 2024-25 at the earliest, if at all. It seems likely therefore that tourist travel will cost more semi-permanently, to mitigate this decline. New Zealand’s slumping currency will also mean that eventually, Air New Zealand may be paying more for its aviation fuel, thus putting additional pressure on ticket prices.
The current differences in ticket pricing tells some of the story. A one way economy ticket on that new Auckland to New York flight currently costs about $NZ1450. But a business class ticket can set the firm back by circa $NZ8,000 or more. Add in steeply rising hotel accommodation costs, and it isn’t hard to see why cost-conscious corporations are querying the value to their shareholders of face to face meetings, compared to video conferencing. (There are likely to be flow on effects of all this on the viability of New Zealand’s array of new convention centres.)
It isn’t as if business can’t afford to travel, either. In the year to June, Bloomberg recently reported, US corporate profits rose to $3US trillion, or 27% above pre-pandemic levels, but that is not being reflected in the business travel bookings. There appears to have been a shift in basic business behaviours.
Oh, and while there are transient signs of relief on global airline fuel costs, some airlines are already explicitly adding a “fuel charge” to their normal ticket prices. To repeat: New Zealand will be paying to import airline fuel (and everything else) with a currency that’s rapidly declining in value.
Bobcats on the loose
Here's the wider problem. Much as the Reserve Bank is doing here, the US Federal Reserve is sharply raising US interest rates in order to clobber domestic inflation, and investors and currency speculators are flocking to the greenback to reap the benefits. As a result small currencies around the world – like the Kiwi dollar – are getting hammered.
For now, it doesn’t seem to matter that some of the countries getting whacked are customers for American exports. Killing inflation is the overriding goal, even if the actions currently being taken are raising the risk that the global economy will tip into recession, mid 2023. Among other things, that would be bad for tourism, for high flying business executives, and for Air New Zealand’s hopes for recovery. Here’s how Bloomberg News recently described the situation:
From a certain perspective, the US using massive interest-rate hikes to solve its inflation problem is a little like you releasing hungry bobcats throughout your neighbourhood to get rid of the raccoons in your attic. Also, you have special bobcat defences and your neighbours don’t. The bobcats may or may not take care of your raccoon problem, but they will definitely give you a lot of scared, angry neighbours with missing pets.
The Fed’s inflation campaign is boosting the dollar, but that necessarily means it’s crushing other currencies around the world. Other central banks are raising rates too — some people just have to keep up with the Joneses, whether that means installing an in-ground pool or raising interest rates or releasing murderous bobcats — compounding the damage being done to the global economy.
Even so, hey… Surely there‘s a limit to the collateral damage that even the most stone-faced central banker would accept in the global war against inflation? No. maybe not:
…Markets are starting to think the Fed will raise its target rate by a full 100 basis points at its next meeting [ie. today]. This would be a little like releasing murder clowns to fight the raccoons because the bobcats weren’t acting fast enough – although this would signal panic and possibly break something in the financial system. It would certainly further stress out a fragile global economy…”
Meaning: We should feel concerned about the greenback’s inexorable rise, given the impact this will have on the price of everything that our pure-blooded market economy now has to import. On the upside… At least Air New Zealand will be able to market New Zealand as a low cost destination for anyone flush with US dollars in their wallets. That aside, let's hope that Air New Zealand has in place some robust forward hedging on the currency in general, and on the cost of its aviation fuel in particular. It probably has. But for how long?
The worry is that if our currency does stay down in the basement ( i.e. below 60 cents to the dollar) the cost of the aviation fuel imports to meet the airline’s needs may eventually cancel out any uptick in tourism passengers, and the recent declines in global aviation fuel prices to boot. As this IATA data Fuel Price Analysis shows, those recent declines are still sitting well above where prices were a year ago, at the depths of the Covid trough.
Business class blues
Some 18 months ago, the McKinsey management consultancy firm set out a Covid recovery path for the global airline industry:
Unlike the 2008 global financial crisis, which was purely economic and weakened spending power, COVID-19 has changed consumer behaviour—and the airline sector—irrevocably.
As the McKinsey analysts pointed out, the aviation industry’s dependence on business travel for its financial health is going to be problematic in the post-Covid world, because – as mentioned - fewer business executives will be travelling, and less often:
Business travel will take longer to recover, and even then, we estimate it will only likely recover to around 80 percent of prepandemic levels by 2024. Remote work and other flexible working arrangements are likely to remain in some form post-pandemic, and people will take fewer corporate trips.
Leisure travel is bouncing back quite quickly, largely thanks to the pent up demand to take vacations and visit friends and family, but business travel routinely takes longer to revive. As McKinsey points out, business travel had still not returned to pre-GFC levels by the time that Covid hit. Here’s the problem in a nutshell:
While leisure passengers fill up most of the seats on flights and help cover a portion of fixed costs, their overall financial contributions in net marginal terms are negligible, if not negative. Most of the profits earned on a long-haul flight are generated by a small group of high-yielding passengers, often traveling for business. But this pool of profit-generating passengers has shrunk because of the pandemic.
That’s why those direct to New York, and direct to Chicago routes are something of a gamble – in that they primarily service (at a premium) those (a) very valuable but (b) unpredictable business travellers. The uncertainty could have price implications, McKinsey suggested, for leisure travellers:
Most carriers price point-to-point nonstop flights at a premium. Travelers who value time over price—mostly business travellers—book these nonstop flights. Leisure travellers, even those travelling in premium classes, are more price sensitive and may choose an indirect routing. This large gap between non-stop pricing and connect pricing may need to narrow. (My emphasis.)
You get the picture. People who can’t write their travel costs off against the firm are likely to be facing fare increases, and for a reduced array of hub-and-spoke airport connections. The economies of flying the smaller wide-bodied planes like Boeing 787s have always hinged on the inputs from business travellers. Without enough of them, long haul airlines will need to revert to flying really big, wide-bodied Airbus A350s and Boeing 777s packed to the rafters with tourists, and flying them fewer times a week.
Fewer business executives flying less often are only part of the problem. Airlines that have been propped up through Covid by government loans (eg Air New Zealand, Air Portugal, Baltic Air etc) usually have a ten year window to repay the loans, but the repayment costs hangover will gradually be passed on in ticket price hikes to some of the taxpayers who funded the Covid bailout loans in the first place. Think of it as a form of wealth tax, levied on the people best placed to afford it.
Shorter term, there will be other ticket price pressures. In the last few months, the glut of leisure travellers with pent up demand have collided head on with the reduced capacity created by airlines that cut back staff, outsourced tasks and reduced their in-house skillsets to satisfy their shareholders and justify their CEO bonuses during the depths of the pandemic:
It will take time for airlines to restore capacity, and bottlenecks such as delays in bringing aircraft back to service and crew retraining could lead to a supply–demand gap, resulting in higher short tern ticket prices. [My emphasis.]
The fierce battles between airlines to recruit enough pilots, engineers, technicians, baggage handlers and cabin crews to restore capacity ASAP is already being reflected in the cancellations and baggage pile-ups and screwups that are poison to airline loyalty. Resolving them is bound to put upwards pressure on wages. This again, will boost ticket prices.
But wait… Finally, there’s more. In this new and fragile competitive climate, those airlines that invest in IT and digitalisation of services are more likely to prosper. Again, though, the upfront cost of that investment is going to put further upward pressure on ticket prices. Still, there appears to be a pressing need for airlines to play catch-up in this area, given the relative lack of forward investment in IT made by the airline industry globally, during its boom years. Here’s McKinsey again:
Before the pandemic, airlines spent roughly 5 percent of their revenue on IT. This is relatively low compared with other sectors. By means of comparison, the retail industry spends around 6 percent on average, and financial services 10 percent.
The good news in all of this? Well… Basic market logic suggests that when Qantas does begin offering its own direct to New York flights from June 2023, the Australasian competition with Air New Zealand should see something of a price war on that route, for a while at least. Would Air New Zealand be able to fight a sustained price war on its flagship route, and how might this affect its overall journey back to recovery? Tune in again, later.
The Funeral Funnel
The British know how to put on a show. Very astute for the Australian Broadcasting Corporation to send 27 people to London for the Queen’s funeral, and our state broadcaster must have had about ten staffers on site. Yet in both Australia and New Zealand, the state broadcasters ran the BBC funeral coverage non-stop regardless, while our team did only vox pop variations on “ How are you feeling? Why are you here? What did Her Majesty mean to you?” Fab.
Thankfully, the Duchess of Sussex had a pretty good week from the British tabloids, by usual standards. But they’ll think of something. After all:
Meghan Markle could easily win over the press. She just needs to stop smiling, frowning, talking too much, not talking enough, supporting her husband, not supporting her husband, sitting, standing, trying too hard to fit in, and not doing enough to fit in. Simple.
Finally, if this is the dynamo we’re relying on to inform New Zealanders on why we should choose to become a republic, we’re in trouble.
Air travel – its the thing of the day!
Oh, the good old days. Here’s a track from 1962…and yes, the vocalist does sound a lot like Sam Cooke, but isn’t.