BY LATIN AMERICA ADVISOR
Soaring fuel costs are forcing airlines around the world to slash routes and raise prices. How will Latin American airlines fare in the current environment? What do the adjustments by airlines mean for aircraft manufacturers, like Brazil's Embraer?
Bobby Booth, Chairman of the Board of Aviation Management Services: As fuel costs affect airlines and consumers around the world, the latest word is that with fuel remaining at $130 per barrel several large and small US airlines will default on their obligations to creditors beginning at the end of 2008 and early 2009. While Latin American carriers face the same problem of rising fuel costs, presently estimated to represent close to 50 percent of the airlines' total costs, the situation in the region is not the same. First of all, it is the region with the highest yields (fares) for both US majors and airlines in the region. The economies are healthy and growing which creates demand for air transportation, historically at about twice the growth rate of GDP, which means double-digit growth in demand. The Latin American 'model airlines'—Copa, LAN, TAM, and Gol (without Varig)—are all profitable and reporting significant growth so far this year. They also have fleets of next-generation aircraft, which helps them to reduce consumption and maintenance costs. And the US majors which serve the region—American, Continental, and Delta—are all reporting high growth rates in the first five months of the year, so much so that while they are cutting back service in the US and elsewhere, they are maintaining and even increasing their presence in Latin America. And then you have David Neeleman's 'Azul' startup in Brazil beginning in 2009. Less than 10 percent of the population of 500 million in Latin America and the Caribbean are using air transportation. This means regional jet manufacturers like Embraer have significant potential sales in the future.
Jerry Haar, Associate Dean and Professor in the College of Business Administration at Florida International University: The global airline industry is being whipsawed by escalating fuel costs, intense competition, productivity and pricing pressures, and the relentless quest to cut costs while maintaining quality. Latin American airlines are no exception. In fact, the economic good fortune of the region has resulted in the misfortune of the intensification of the aforementioned challenges. Companies like Embraer and Bombardier, specializing in regional jet manufacturing, will yield huge dividends for these firms as airlines are being forced to utilize smaller and more fuel-efficient planes for less than long-distance hauls (the Embraer RJ145 is used on flights from Dulles Airport to Detroit, not the Boeing 777). A special challenge for Latin American carriers such as LAN, TAM, Avianca, and Taca, is to maintain excellent service—their key distinguishing feature from that of US carriers—without raising prices significantly. Passengers on Latin American carriers, regardless of travel class, expect chicken cordon bleu and cabernet, not pretzels and Dr. Pepper.
Tapen Sinha, ING Comercial America Chair and Professor of Risk Management at Instituto Tecnologico Autonomo de Mexico: Airlines in Latin America will face the same problems as any airline around the world. They will have additional difficulties, as a sizeable proportion of their full price-paying customers are people who do business with the United States. With the slowdown of the American economy, the hardship will be felt even more. There are two elements that are different from the airlines in the US. First, many airlines in the region are government-owned. Thus, they have deeper pockets. Short-term losses do not amount to much. Second, governments of countries such as Venezuela, Brazil, and Mexico also benefit from high oil prices. They can provide direct and indirect subsidies to the airlines they own. The aircraft manufacturing business is somewhat different. Aircraft orders are placed with five to ten years of anticipation. Therefore, they are affected less by short-term oil price spikes. However, if the rise of oil prices becomes a secular trend, they will be negatively affected too.
Republished with permission from the Inter-American Dialogue's daily Latin America Advisor newsletter.