FINANCIAL FORECAST

June 2013

PERFORMANCE IMPROVING DESPITE CONDITIONS

Airline financial performance continues to improve slowly, despite difficult business conditions. In this forecast we have further upgraded our forecast for industry profits in 2013. The lines in the chart below are pointing up a little more steeply in 2013. We now expected the industry to generate net post-tax profits of $12.7 billion, compared to the $10.6 billion forecast in March. The direction of change is positive, but thats a still very thin 1.8% margin on revenues of over $700 billion.

Airline net post-tax profit margins

8.0% 6.0% 4.0% Asia-Pacific 2.0% 0.0% -2.0% -4.0% -6.0% 2007 2008 2009 2010 2011 2012 2013 N America Europe

Source: ICAO, IATA

The reason for the upgrade is that we have seen further evidence that structural changes have taken place, improving the ability of the industry to generate profits given economic conditions. In fact, recent economic conditions have been mixed. The outlook for global economic growth has deteriorated slightly as the recession in Europe proves to be deeper than expected. However, oil prices are lower this year, partly because of softer growth expectations but also because expectations of new supply from the USA are having a stronger impact on prices. These changes net out to have a slightly positive impact on the forecast for airline profits, but the more material influence has been a structural improvement in airline performance. The improvement is most clearly seen in North America, where margins have been improving since 2011 despite continued high jet fuel prices and sluggish economic growth. Consolidation, on domestic markets through mergers and on the North Atlantic through joint ventures, has more than offset difficult market conditions. Asia-Pacific airlines continue to generate the highest margins, but they have fallen sharply since 2010 largely due to the weakness in cargo markets. A moderate upturn in cargo this year should help to improve profits in this region. European performance is also improving, from a low level.
System-wide global commercial airlines 2009 0.4% 2013F Global 12.7 Regions North America 1.2% 5.7% 3.0% 3.2% 4.2% -2.7 4.2 1.7 2.4 4.4 Europe -2.2% 2.4% 0.6% 0.7% 1.3% -4.3 1.9 0.4 0.3 1.6 Asia-Pacific 2.8% 8.0% 3.7% 3.5% 5.0% 2.7 11.1 5.5 3.7 4.6 Middle East -1.5% 3.7% 3.0% 2.8% 3.4% -0.6 0.9 0.9 1.0 1.5 Latin America 2.8% 5.1% 1.9% 2.1% 2.8% 0.5 1.0 0.2 0.3 0.6 Africa -1.2% 1.7% 0.7% -0.7% 0.9% -0.1 0.1 0.0 -0.1 0.1 Source: ICAO revised data 2009-11. IATA estimates for regions in 2011. IATA estimate for 2012 and forecast for 2013. Note: bank ruptcy reorganization costs are excluded. Also ICAO made some substantial revisions to historic data in their 2013 Annual Report to the Council. EBIT margin, % revenues 2010 2011 2012E 5.0% 2.2% 2.2% 2013F 3.4% 2009 -4.6 Net profits, $ billion 2010 2011 2012E 19.2 8.8 7.6

IATA Economics www.iata.org/economics

June 2013 Industry Financial Forecast

HESITANT UPTURN OF ECONOMIC CYCLE

We are still expecting a moderate acceleration in economic growth this year after two consecutive years of slowdown. But the expected pace of that acceleration has been cut and we now see structural change and airline efficiency measures to be the more important drivers of an improved financial performance this year. The trajectory of business confidence has influenced not only the path of air freight volumes, but also industry profitability. Confidence and airline performance peaked in 2010 before declining over the following two years. There have been two false dawns, in early 2011 and early 2012. Both were followed by a fall in hopes for revived economic growth, largely due to renewed pessimism over the Eurozone. Since a low point towards the end of last year business confidence has risen once more. In recent months the improvement has stalled. At the moment the pattern of business confidence looks worryingly like a repeat of the 2011 and 2012 false dawns. However, export orders have continued to rise, which leads us to think the improvement in business confidence and economic growth is not over yet.

Business confidence and air freight volumes

Source: Markit/JP Morgan, IATA
60 15

Business Confidence 50=no change

55

14

50

13

45

12

40
Business Confidence

11

35

FTKs

10

Air FTKs, billions

30 2008 2009 2010 2011 2012 2013

Source: IATA, JP Morgan/Markit

The ups and downs of business confidence and air cargo over the past three years have mirrored periods of optimism and pessimism over the Eurozone. Consumers in the developed markets of Europe and North America are important drivers of the high value/low volume goods shipped by air. However, in the past decade there has been a dramatic change in the pattern of trade, with far more growth from the emerging economies.
International trade in gooods
250

+20%

Indexed to equal 100 in January 2000

200

Emerging economies 150

-5%
100 Advanced economies

50 1993

Source: Netherland CPB

1995 1997 1999 2001 2003 2005 2007 2009 2011 2013

IATA Economics www.iata.org/economics

June 2013 Industry Financial Forecast

Air transport is much more closely linked to trade developments than GDP. A boom in domestic construction or even government spending usually does little to support air travel or air cargo. The pattern of trade in recent years has been reflected in air transport developments. Trade by the developed economies has not recovered to pre-recession levels, and has recently deteriorated because of the recession in Europe. By contrast, emerging economy trade has boomed. Much of the growth in air travel is currently being driven by markets linked to emerging economies. China is no longer expected to grow at a 10%+ pace. But the 7 to 8% being targeted remains a relatively strong source of growth. Other emerging economies are expected to continue to expand at a much faster pace than the mature Western economies. Largely for this reason, we are forecasting that air travel continues to expand at a pace close to its trend of the past 20 years.
System-wide global commercial airlines Global Regions North America Europe Asia-Pacific Middle East Latin America Africa Source: IATA. Domestic and international traffic. Passenger traffic (RPK), % change over year 2010 2009 2011 2012 2013F -1.6 7.7 5.9 5.3 5.3 -5.2 -3.7 1.0 11.8 2.7 -3.4 4.1 5.0 10.6 16.7 15.8 10.5 2.3 9.0 5.4 8.5 11.4 0.3 1.4 4.4 6.9 13.9 8.6 5.9 1.7 4.0 6.3 15.0 9.8 7.5 Passenger capacity (ASK), % change over year 2009 2010 2011 2012 2013F 4.3 -1.7 4.4 6.3 4.2 -6.1 -3.4 0.0 14.5 4.4 -0.8 2.1 2.5 5.2 12.5 10.4 8.2 2.5 9.5 5.9 8.9 9.8 2.6 0.5 2.7 6.1 11.3 8.1 4.6 0.7 2.7 5.6 12.6 7.8 6.7

The table above shows our forecasts for air travel, measured by RPKs (a change from previous versions of this table, which merged passenger and cargo flows in RTKs). The pace of forecast growth in RPKs has been cut fractionally from our previous forecast, due to a similar reduction in forecast economic growth and trade. Air freight volumes have been similarly lowered, though we still expect this to be the first year of positive growth, after two years of decline.

SOME WAY TO GO BEFORE RETURNS ADEQUATE

2012 worldwide airline financial results per departing passenger 240 220 200 180 160 140 120 100 80 60 40 20 0 $228.26
Ancillary $12.09

$225.72

$2.54

Air fare $181.91

Costs $225.70

Cargo & other $34.26

Revenues

Costs

Net profit

Sources: Ancillary revenues from Idea Works 2012 estimate, other data IATA. Costs include operating items and debt interest.

Improved financial performance has followed the consolidation most evident in North American markets. But there have also been changes in other markets. New entry has fallen since the financial crisis made access to capital harder. Exit has increased in the new entrant point-to-point market and in the small and medium-sized network airline markets. All of this has allowed the industry to raise load factors further despite rising numbers of new aircraft delivered. Of course, if seats are filled at fares less than the full cost of a seat then high load factors will not improve profitability. In fact, airlines have managed to keep passenger yields rising, albeit at a much slower pace than last year. The second change helping to improve financial
3

Travel markets have been expanding faster than the historic relationship with global GDP because growth has been concentrated in the emerging economies, where economic activity generates proportionately more air passengers than the mature developed markets. The industry has also changed the historic relationships between airline profits and global GDP. In the past, whenever global economic growth (aggregated using market exchange rates) slowed to the rates seen last year, airline industry profits would slip into loss. The fact that airlines continue to generate profits, albeit at a relatively low rate, is evidence of a structural improvement in financial performance.
IATA Economics www.iata.org/economics

June 2013 Industry Financial Forecast

performance has been the introduction of ancillary revenue streams, Fares have not kept pace with the rise in unit costs over the past two years. However, unit revenues have done, with weaker fares offset by higher load factors and rising ancillary revenues.

Return on invested capital in airlines and their WACC

10.0 9.0 8.0 WACC

With $4-5 trillion of new capital estimated to be required to buy the aircraft needed to serve the expansion in demand from emerging markets over the next 20 years, this level of return is still inadequate. Structural improvements in financial performance have taken place. More are needed.

% of invested capital

7.0 6.0 5.0 4.0 3.0 2.0 1.0 0.0 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013F ROIC Investor value losses

Source: IATA

These changes are in the right direction. This level of profitability in 2013 represents a return on invested capital of 4.8%. This would enable the industry to pay for its debt interest costs and pay equity investors a small dividend. However, returns of 4.8% are still materially lower than the 7-8% investors should expect to earn at a minimum (the cost of capital).

System-wide global commercial airlines REVENUES, $ billion % change Passenger Cargo Traffic volumes Passenger growth, tkp, % Sched passenger numbers, millions Cargo growth, tkp, % Freight tonnes, millions World economic growth, % Passenger yield, % Cargo yield % EXPENSES, $ billion % change Fuel % of expenses Crude oil price, Brent, $/b Jet kerosene price, $/b Non-Fuel cents per atk (non-fuel unit cost) % change Break-even weight load factor, % Weight load factor achieved, % Passenger load factor achieved, % OPERATING PROFIT, $ billion % margin NET PROFIT, $ billion % margin

2003 322 5.2 249 40 1.8 1,805 4.7 35.0 2.8 2.9 1.2 323 4.0 44 14 28.8 34.7 279 39.6 0.4 59.8 59.6 70.2 -1.4 -0.4 -7.5 -2.3

2004 379 17.7 294 47 13.6 2,014 10.3 38.4 4.2 3.7 5.1 376 16.2 65 17 38.3 49.7 311 40.1 1.4 60.6 61.1 72.0 3.3 0.9 -5.6 -1.5

2005 413 9.1 323 48 8.1 2,157 2.5 39.4 3.4 1.7 0.3 409 8.9 91 22 54.5 71.0 318 38.9 -3.0 60.8 61.5 73.5 4.4 1.1 -4.1 -1.0

2006 465 12.5 365 53 6.2 2,277 6.3 41.8 4.0 6.6 4.4 450 10.1 117 26 65.1 81.9 333 38.9 0.0 60.3 62.3 74.3 15.0 3.2 5.0 1.1

2007 510 9.6 399 59 7.5 2,478 4.7 44.4 3.8 1.7 5.6 490 8.8 134 27 73.0 90.0 356 38.9 0.1 59.9 62.4 74.9 19.9 3.9 14.7 2.9

2008 570 11.7 444 63 2.7 2,515 -0.7 42.9 1.7 8.2 7.0 571 16.5 188 33 99.0 126.7 383 40.8 4.8 61.8 61.7 76.0 -1.1 -0.2 -26.1 -4.6

2009 476 -16.5 374 48 -2.4 2,479 -8.8 42.6 -2.3 -13.7 -15.2 474 -16.9 123 26 62.0 71.1 351 39.0 -4.4 61.4 61.6 76.0 1.9 0.4 -4.6 -1.0

2010 579 21.8 445 66 8.8 2,681 19.4 50.7 3.9 9.6 14.4 550 16.1 139 25 79.4 91.4 412 43.3 11.2 62.0 65.3 78.4 28.9 5.0 19.2 3.3

2011 636 9.7 497 67 6.2 2,845 -0.1 51.4 2.6 5.0 1.3 622 12.9 176 28 111.2 127.5 446 44.5 2.8 63.2 64.7 78.4 14.1 2.2 8.8 1.4

2012E 680 6.9 542 62 5.3 2,977 -1.1 51.4 2.1 3.5 -6.3 665 7.0 210 32 111.8 129.6 455 44.3 -0.5 63.8 65.2 79.2 14.8 2.2 7.6 1.1

2013F 711 4.6 572 62 5.3 3,128 1.5 52.1 2.2 0.3 -2.0 687 3.3 214 31 108.0 127.4 473 44.3 0.0 63.2 65.4 80.3 23.9 3.4 12.7 1.8

Source: ICAO data to 2009-11 (note revisions to 2009 and 2010 data). IATA estimate for 2012 and forecast for 2013. Passenger and freight numbers are global system-wide collected by IATA, including some non-ICAO states. Bankruptcy reorganization charges excluded.

IATA Economics www.iata.org/economics