Restructuring strategy for African airlines

The African airline industry is subject not only to challenges affecting the airline industry globally — high fuel costs, fierce competition, high labour and capital costs, narrow profit margins — but also to a unique array of challenges specific to African airlines in particular

6

BY STEVEN T. KARGMAN

The airline industry globally often faces serious financial and operational challenges, and in recent times it has not been uncommon to see airlines even in many industrialized countries undergo major restructurings. However, the travails facing airlines in Africa generally seem to be more acute than in most other parts of the world.

The disparity between the performance of African and non-African airlines is evident most clearly and strikingly in the profitability results for airlines in different regions around the globe. As shown in data from the International Air Transport Association (IATA), Africa stands out starkly as one of the few regions in the world where airlines in the region collectively have shown negative profitability in recent years. In fact, among the major airlines in Africa, very few operate on a profitable basis.

In this article, we will provide a brief overview of major challenges facing African airlines and how the African airlines can respond to these challenges through the use of restructuring and turnaround tools and techniques employed by troubled companies across a range of industries.

Challenges facing African airlines

The African airline industry is subject not only to challenges affecting the airline industry globally — e.g., high fuel costs, fierce competition, high labour and capital costs, narrow profit margins, etc — but also to a unique array of challenges specific to African airlines in particular. Airlines in Africa must potentially contend with a broad range of nettlesome issues specific to Africa such as high taxes and fees imposed by African governments, higher prices for jet fuel than in other parts of the world, payments owing to the airlines blocked by African governments seeking to limit the outflow of foreign exchange, and unfavourable regulatory environments such as limited landing hours.

African airlines also suffer from a balkanized air traffic market and limited connectivity across the continent, weak and/or volatile national currencies, excessive government involvement and even micro-management in the case of state-owned airlines, and strong competition from foreign carriers (particularly some of the Middle Eastern carriers) on intercontinental flights to and from Africa.

Like airlines in other parts of the world, African airlines can also be buffeted by a number of external factors. For example, a spike in global oil and jet fuel prices can potentially squeeze an airline’s bottom line, and passenger demand for air travel could be dampened by slow global or regional economic growth. Terrorist incidents, wars, civil disturbances or the outbreak of epidemics could also lead to a potential weakening of passenger demand.

Identifying and addressing problems at an early stage

Yet, whatever the source of the challenges facing African airlines, the key for such airlines, if feasible, is to address any such challenges at the earliest possible date. A crucial first step in this regard is for the airlines to have a pro-active and comprehensive monitoring and risk identification programme in place that will permit the airlines to identify problems at an early stage before they become too serious and too difficult to resolve or mitigate.

African airlines can potentially face a range of different pressures, from financial to business and operational/ performance. There are many reasons that African airlines might face financial pressure. For example, as noted above, if the price of jet fuel increases significantly, that could create major financial pressures for African airlines and potentially reduce their profit margins, particularly if the airlines have not hedged their fuel costs. Alternatively, financial pressures on African airlines may result simply from the need for the airlines to make high debt service payments to their lenders (whether banks, bondholders, or otherwise) and/or high lease payments to their lessors.

Similarly, beyond financial pressures, there could also be a broad range of factors that might adversely affect the business or operational performance of African airlines. For instance, certain African airlines may have too expansive a route structure, including particularly routes that are not profitable. Furthermore, there may simply be a lack of efficiency or productivity in the operations of the airlines. Aircraft may not be turned around quickly enough at airports, ground handling operations (whether overseen by the airline itself or by a third party) may not be processing luggage or cargo with sufficient speed, timeliness, and precision, and the airline’s customer service and ticketing/sales operations may not be handled in an efficient or effective manner.

Correctly diagnosing the problems

When an African airline is faced with major financial, business and/or operational challenges, it first needs to correctly diagnose what is the exact cause of the underlying problem as well as assess the severity of the problem. Specifically, among other issues, questions such as the following may need to be addressed: Is the airline facing a discrete set of problems or are the problems much more pervasive, and are the problems short-term or long term in nature? On the financial side, is the airline facing a liquidity problem or is it facing what is fundamentally a solvency problem?

Only after conducting such a comprehensive and detailed assessment can an African airline begin to focus on developing appropriate and effective strategies for addressing such challenges. Ideally, if the problems have been detected at an early stage, the airline can take steps at that time to develop a prompt and effective response that will resolve or mitigate the problems before they worsen and become even more difficult to resolve or mitigate at a later date.

Applying restructuring/turnaround tools and techniques

Nonetheless, if the problems facing an African airline have not been adequately addressed at an early stage when such problems may be more manageable, it may be necessary for the airline to consider using the tools and techniques from the restructuring and turnaround disciplines. These tools and techniques are often employed by troubled companies (irrespective of the industry in question) in order to overcome financial, operational and/or business challenges. When properly applied, restructuring and turnaround tools and techniques can put a troubled company back on a more stable and sustainable path going forward.

Thus, on financial matters, African airlines that are experiencing serious difficulties servicing their outstanding debt might well consider applying debt-restructuring techniques. A key aim of such techniques is to right-size the overall debt burden so that, after a debt restructuring is completed, the company is left with a so-called sustainable debt burden, i.e., an overall debt burden that it will find manageable to service in the future.

Likewise, the company’s schedule for making debt service payments (whether interest or principal payments), including the final maturity date on the debt, might need to be adjusted or rescheduled to the extent necessary so that the schedule for debt service payments will be better aligned with the company’s timetable for generating cash flow. As part of this exercise, it may even be necessary to build in certain specified grace periods with respect to debt service payments.

For African airlines with serious operational or business challenges, they would need to consider revising any existing business plan. The aim would be to ensure that the revised business plan takes account of any new circumstances or realities that the airlines had not anticipated when formulating their initial business plan.

For example, airlines may not have fully anticipated major fluctuations in demand, major escalations of costs, and/or new developments in business such as the increasing digitalization of various business functions, and so forth. Airlines facing such unanticipated developments may need to revise the overall business strategy set forth in their original business plan in order to address those un anticipated developments and to ensure the long-term viability of the airlines.

Moreover, to the extent that African airlines are facing serious operational or performance challenges, they might need to revisit and possibly revise any existing operating plans. The aim of the exercise would be to identify areas where the airlines could achieve greater efficiency, productivity and profitability in their operations and performance.

Importantly, however, when making changes to their operating plans, the relevant airlines should be very attentive to how any steps that they plan to take would affect a range of intangible assets, if any, that the airlines may possess. Such intangible assets, to the extent they exist, may include, among other things, the overall quality of the passenger experience on the airline, the airline’s reputation and track record for reliability and safety, and any existing goodwill that the airline may enjoy vis-à-vis its labour force and/or other key constituencies.

Conclusion

In short, African airlines, when faced with significant financial and/or business or operational challenges, should take the initial step of making a hard-headed assessment of the source, nature and severity of those challenges. It will generally be preferable, all things being equal, for such airlines to both identify and address problems at the earliest possible stage before those problems may become even more serious and likely more difficult to resolve.

Nonetheless, to the extent that the problems have not been identified and addressed at an early stage, it may be necessary for the airlines in question to develop and execute carefully tailored restructuring and turnaround strategies for addressing any serious challenges that the companies may then be confronting. In so doing, the airlines may thereby be laying the basis for repositioning themselves more favourably in the air travel marketplace. Indeed, ideally, the turnaround and restructuring strategy adopted by the relevant airlines can and should be designed to achieve that objective.

Writer is president, Kargman Associates, New York