Heightened terrorism threat creates climate for price war as HNA moves in on TAP

Dino D'Amore
By Dino D'Amore May 23, 2016 14:05

Heightened terrorism threat creates climate for price war as HNA moves in on TAP

A 7% stake in Portuguese flag carrier TAP will transfer from Atlantic Gateway, the private consortium that owns half of TAP, to HNA in the coming months as the latter will acquire part of the €90 million convertible bond in shares issued by Brazilian airline Azul to bail TAP out. Leaked information has stated that HNA will buy an initial 7% direct stake but that the HNA indirect stake could reach as much as 20%. In November 2015, HNA purchased 23.7% of Azul’s shares and thus this is a continuation of HNA’s investment in David Neelman’s aviation interests.

Last Friday, the Portuguese government signed an agreement to partially review the privatisation of the airline, at the same time boosting its stake in the company from 39% to 50%. But this government will not stop there. It has been elected on the back of a pledge to re-nationalize TAP, among other things. Neelman stands to gain from this sale back to Portugal’s government but if he cannot sell his remaining shares to extricate himself from TAP then he will be lumbered with an albatross around his neck since he will be hobbled from working to turn the airline around and cut costs. To that end, it is highly logical to bring in the might of HNA, which will pressure the Portuguese government and negotiate a way out of what is a tricky situation. No doubt Neelman could kiss HNA and the Portuguese government for their interest as both the Portuguese and Brazilian economies are in a poor state of affairs right now. With the Portuguese socialist government trying to gain power over TAP once again, the whole venture is turning into something very different from what Neelman would have hoped or wished for.

Meanwhile, Ryanair has posted a 43% increase in annual profits for the year to the end of March. These profits – excluding a €317.5 million gain from the sale of its stake in Aer Lingus – rose from €867 million to €1.24 billion as the airline carried 106 million passengers – an increase of 18%. Were it not for shocks during the reported year, Ryanair would have smashed broker targets, as it was the airline had to contend with more than 500 flight cancellations following the Brussels terror attacks and air traffic control strikes by Italian, Greek, Belgian and French air traffic control unions. (See below for full details).
The worry for the low-fare airline going forward  is for further shocks: “If there is a surprise, it may be on the downside, rather than the upside,” CEO Michael O’Leary has warned.
Ryanair CFO Neil Sorahan also stated that “fares are the biggest question mark” going forward. Fares in the peak summer period are likely to be flat or slightly down on last year, the airline said. Ryanair airline expects to carry around 116 million passengers this year and maintain its 93% load factor average by lowering average fares by around 7% with a promise to cut nonfuel costs by 1% this year.

Ryanair management are worried that the aircraft delivery stream may overtake them. The airline has received 31 737-800s so far this year alone with 52 more arriving within the next 12 months. That means Ryanair will have to either park, lease out, or take out of the fleet altogether older aircraft in order to slow growth and maintain load factors. This is not an option for the mighty Ryanair and as such management are willing to lower ticket prices to fill aircraft thus continuing expansion at the cost of rivals. Given the Ryanair financial cushion and its powerful market position, this is a relatively simple decision – take the fight to competitors and see if they can take it.

Looking at the European airline sector, it could be argued IAG has already prepped for a competitive pricing environment, and well it should for the airlines in the group are in the direct firing line of any Ryanair ticket price war. EasyJet and Ryanair have avoided each other to date and this insulates each from the other’s actions and thus it is to Air Berlin, Wizz, Jet2, Aer Lingus/Stobart Air, Flybe and to an extent Cityjet that one must expect the ticket price battle to hit hardest.

2016 could yet herald a start of airline margin decline precipitated on the main by terrorist action – hence yet another shock – but this time instead of a 9/11-style massive shock to the system putting customers off travelling, there is a general movement of travel interest away from specific destinations: North Africa, Turkey, Russia/Black sea, Ukraine, Paris and Brussels, the Greek Islands, Sicily and Cyprus. This pattern no doubt worries all easyJet shareholders but it does leave one very distinct question: Are people cancelling their sacred annual holiday in Europe and staying at home? No chance; it seems all heading for Spain and the Canary islands as bookings for Spain and its island territories are through the roof for summer 2016. Bookings for Maltese hotels are also way up on 2015 creating a need for re-deployment of aircraft or upscaling of the same. Ryanair, with 93% capacity on an all 737-800 fleet, does not have the ability to increase the size of aircraft on certain routes, thus it can only increase capacity by routing additional aircraft to those areas. This we could argue is the small chink in the otherwise very thick armour of Ryanair, whereas the redeployment of tourists away from some cities and areas as mentioned herein should actually suit the likes of IAG. We shall see.

Dino D'Amore
By Dino D'Amore May 23, 2016 14:05