Full Year 2017 Legacy Carrier Performance - Making Hay, the Sun was Shining

Our coverage of European legacy airlines opens with a review of operations in 2017, and it looks like we picked a decent year to get cracking. As this is the first legacy airline review (keen readers will note that we’ve been covering European LCCs on a quarterly basis for a while now), first up here are a few items of housekeeping before we properly get started.

This article covers six of the largest individual legacy airlines in Europe – Lufthansa, Air France, British Airways, SAS, KLM and Aer Lingus. We will be adding more airlines to this list as the year progresses and our coverage grows, but it’s not bad for starters. Within the main airline we also include wholly-owned regionals, so LH Cityline, Hop!, BA Cityflyer and KLM Cityhopper are all wrapped up in the numbers; services provided by franchises such as flybe and Stobart Air are not, as they do their own thing. The numbers also concentrate as far as possible on each passenger airline only, so frilly bits such as third party maintenance, dedicated cargo and logistics and any significant non-operational items are excluded if they can be identified.

We refer to the airlines as legacy carriers to differentiate them from LCCs and regionals. It’s not a detrimental reference, it’s just that they have been around for a long time, they follow a hub-feed business model, and they are mostly pretty big. Together, this group of airlines accounted for around 30% of European airline ASKs in 2017. Along with our quarterly LCC review, we are now reporting on almost 60% of Europe’s air transport industry.

OK, moving on to the subject in question, let’s look at the numbers.

2017 seat capacity and growth vs 2016

Growth at some of Europe’s largest hub airlines was carefully managed in 2017, with Lufthansa, Air France and British Airways recording a very modest 1%, while SAS barely budged at all. Most of the growth came from KLM, with 10% more seats than they had in 2016, and Aer Lingus, who posted a 6% increase. However, KLM’s surge may be crimped in the near future, as slot limits at Schiphol won’t be raised until at least 2020. The airline’s average aircraft size has grown by 11 seats in the last five years, so that trend needs to continue if the airline wants to keep getting bigger. 

The total number of seats offered by our group of legacy carriers came to just over 300 million in 2017, which is a 2% increase over 2016, and in absolute terms saw just over six million seats added to the market. That represents a slight increase from 2016, when growth just scraped 1%. To give these figures some scope, Europe’s largest LCCs managed 396 million seats between them in 2017, an increase of 11% over 2016 and 38 million new seats during the year.

Fortunately for our airlines, passenger numbers grew at a faster rate than seats were added, so all of those extra seats, and more, were filled. The airlines added just under nine million new passengers during 2017, so around five million more passengers than they added in 2016. The combination of fewer new seats but more new passengers meant that load factors were on the up, rising by more than one point to average just over 78% for the year. However, this average number does mask a disparity between the short-haul and long-haul operations that most airlines seem keen to hide. Our estimates suggest that average load factors on intra-European services was just under 75%, but long-haul recorded a figure of just over 83%.

These load factors will be below those you may have seen in airline reports and press releases. In a future RDC Insights article we’ll be lifting the lid on how some airlines might creatively increase their load factors without anyone really noticing. 

Financial Performance

Although growth among the larger legacy airlines was limited in 2017, it doesn’t always follow that perpetual growth is a good thing when it comes to airline finances. Indeed, freezing capacity while increasing fares is a very good way to improve the bottom line if direct competition is limited. Like, for example, at a hub airport with a single dominant airline. So if our airlines restricted growth but managed to attract more passengers, you’d hope that the financials would benefit. And the good news is, they have.

Change in revenue and profit per passenger, 2017

Both measures of revenue per passenger and profit per passenger improved in 2017; revenue per passenger by a modest 2%, to EUR 246 per passenger, while profit per passenger recorded an impressive 21% gain to EUR 22.5 per passenger. And more passengers at a higher profit per passenger both augur well for the bottom line.

Once again we can dig below the surface to see how these numbers compare for short-haul (intra-Europe) and long-haul (everything else) operations. Taking long-haul first, we estimate that the average revenue per passenger is around EUR 575 per passenger, producing a profit per passenger of around EUR 144; that’s a profit margin of around 25%. Which means that intra-Europe is pretty bad. The average revenue per passenger here comes in at around EUR 117, which produces a loss per passenger of around EUR 25.

Now before you all start shouting at me, it is true that plenty of intra-European flights act as feeders for long-haul services, so it’s not fair that the long-haul should get all the glory and the short-haul should pocket all the losses. That’s a fair assessment, but the point is that most intra-European services by our legacy airlines don’t in themselves make money, and they probably never will. Whilst at EUR 117 per passenger they are making significant losses, their low cost competitors are making a EUR 2.7 billion profit at an average revenue per passenger of EUR 72. So most legacy services within Europe only want you if you’re transferring to a long-haul flight, because as point-to-point services the majority of them don’t make economic sense.

But enough of the negative, 2017 was a good year for our legacy airlines, with more passengers paying more money to use their services. This chart shows the profits made by our legacy airlines in millions of Euros, with the blue bars showing the results for 2017, and the grey bars showing the corresponding results in 2016. All airlines bar SAS performed better in 2017, building on the sound foundations laid in 2016.

Estimated legacy airline profits in 2017 and 2016

It should be said that overall SAS did improve on 2016’s results, but a number of non-operational one-offs (eg slot sales) that we’ve excluded helped their bottom line. Without them, we think that passenger operations didn’t do quite so well as they did in 2017. Elsewhere it was a good year for everyone, with double-digit growth in profitability across the board.

This next chart shows the year broken down into calendar quarters (where Q1 is January to March) so we can see over what periods our legacy airlines made their money. The timing of Easter had a big impact in the first half of the year, as it fell in the second quarter in 2017. This meant that Q1 was unable to benefit from Easter holiday revenues, and without them our airlines just about broke even. Still, performance was much better than for Europe’s LCCs, who posted a combined loss of EUR 600 million in the first quarter. On that basis, long-haul operations seem to hold up better in Q1 than do short-haul.

Combined quarterly legacy airlines profit/loss, 2017

The rest of the year was a sea of black ink. Our legacy airlines made money in every quarter, topping out at almost EUR 3 billion in Q3 before falling back in Q4 to a still-respectable EUR 600 million profit. 

From these numbers, we can be pretty confident that 2017 was likely to have been one of the most profitable years ever for Europe’s major legacy airlines. Based on a cost estimate of around EUR 52.5 billion and a revenue estimate of EUR 57.8 billion, we estimate that they made a combined profit of something like EUR 5.3 billion for the year, a profit margin of around 9%. To put this into context, their European LCC competitors generated a combined profit margin of around 11% in 2017, but off less than half of the legacy airlines total revenue.

Route and Continent Economics

As we saw earlier in the piece, there is a sharp divergence in the performance of intra-European routes and those to destinations further afield. In this last section we look at this performance in a little more detail, firstly at the route level, and then at the destination continent level.

Intra-European routes accounted for around 70% of the routes flown by our legacy airlines, and almost 92% of all departures. This shows that Europe is still a very big part of legacy operations thanks to the feed it provides for long-haul services, even though our analysis suggests it is significantly loss-making in isolation. So it’s not surprising, therefore, that the next chart shows a mixed picture when we consider how many legacy airline routes were profitable in 2017, and how many were loss-makers.

Estimated route performance in 2017

Of the 1,500 airline/route combinations flown by our group of legacy airlines in 2017, our figures suggest that around 35% of them were comfortably profitable in 2017 (a profit margin of 10% or more). If we include a share of those that we consider to be on the positive side of the breakeven point, it’s likely that at best, 50% of legacy routes were profitable last year.

At the other end of the scale, we estimate that around 40% of routes were comfortably loss-making (a profit margin of -10% or worse), and again if we include a portion of those on the negative side of breakeven, then not surprisingly,  it’s likely that at best the other 50% of routes will be loss making.

Given the scale of intra-European operations, it follows that most of the loss-makers will be to European destinations; our analysis suggests that only one in four intra-European routes were comfortably profitable, while a little over half were comfortably loss-making.

The final chart shows what this means in terms of overall profitability by continent or region.

Profitability by destination continent, 2017

Starting at the right-hand side of the chart, the thread of negative commentary about intra-European routes running through this article manifests itself as a significant annual loss of just over EUR 4 billion. To some extent this could be seen as the cost associated with providing global hubs, and in this light it’s not surprising that the legacy airlines are adopting more and more the trappings of LCCs by charging for anything they can, waving goodbye to formerly free stuff like sandwiches and baggage allowances. After all, if you’re carrying most of your passengers at below cost, why exacerbate the problem by giving them free stuff as well?

But elsewhere, things look much better. Every other world region makes a positive contribution, though the standout destination is North America, contributing more than EUR 5 billion to the bottom lines of our legacy group. If low-cost long-haul is going to work, then North America continues to offer the biggest market and the greatest potential for disruption. It also offers the biggest threat to legacy airlines in the medium term, hence the development of LLCLHCs (that’s legacy low-cost long-haul carriers) such as Joon and Level, with Eurowings also growing on the long haul.

In Conclusion

2017 was a year of making hay while the sun shone for our legacy airline group. More passengers paid more money than they did in 2016, giving our airlines nice, juicy profits. But the worry of low-cost competition on long-haul services, especially to North America, is bringing further change to the legacy business model, with both Joon and Level commencing operations during the year.

It’s true that Norwegian is experiencing growing pains, and WOW is but a small player on the transatlantic, but feeder operations set up by both EasyJet and Ryanair look set to change the landscape should they become viable and prosper. It has been a sunny year for the legacies, but there are clearly some clouds on the horizon.

by Richard Leigh  Richard Leigh