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The Airline Fiasco in Argentina as Peso Collapses and New Plan Goes Awry

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Via Wolf Street

The curse of pushing volume by selling tickets below cost became an even bigger curse with the peso massacre.

By MC01, a frequent commenter on WOLF STREET:

On 27 December 2016, the Federal Government of Argentina, under new President Mauricio Macri, launched the “Revolución de los aviones,” the brainchild of the Minister of Transports, Guillermo Dietrich, an ambitious plan aimed at overhauling the stagnant airline industry in Argentina.

While often called “deregulation,” it was actually a far-reaching and ambitious plan supported by annual expenditures of about $1.5 billion by the Federal Government in the airline sector over the 2017-2020 timeframe, including modernization of many Argentine airports and the construction of the first airport “wholly dedicated to low-cost airlines,” El Palomar, near Buenos Aires.

Aerolíneas Argentinas, the flag carrier which was hastily re-nationalized in 2008 to avoid an ignominious bankruptcy, was another target of Dietrich’s reforming fury: A perpetual financial black hole, under the “Revolución” plan it was not merely to compete in a deregulated market, but was also expected to become able “to stand on its own legs,” meaning it is to become if not profitable at least able to break even in all but the absolutely worst years. Part of this plan was an ambitious albeit chaotic fleet modernization aimed at cutting operating costs while increasing capabilities.

If the plan aimed at increasing the number of airlines active in Argentina and the number of passengers flown, it succeeded beyond anybody’s wildest dreams.

In June 2019, about 1.2 million passengers flew on internal revenue-generating flights, up 26% year on year. Newly refurbished airports such as Iguazú saw traffic increase by 80% over the same time frame. The three companies that dominated the internal market for many years — Austral/Aerolíneas Argentinas, Andes Líneas Aéreas, and LATAM Argentina – now have a host of competitors, including LASA, JetSmart Argentina, Norwegian Argentina, and the most aggressive and fastest growing of the lot, Flybondi.

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One of the curses of the modern air transport industry is that it has become impossible to tell exactly how much growth is due to healthy economic conditions, and how much is the result of selling tickets below cost.

And  it seems Aerolíneas Argentinas took this to the letter: To beat Flybondi and LASA at their own game last May, it made headlines by offering tickets on several routes for 499 pesos. At the time. In US dollar terms, these tickets were sold for $20, about $6 below estimated breakeven costs. And there are bigger troubles brewing.

These Argentine airlines have overwhelmingly peso-denominated revenues but a lot of bills to pay in foreign currencies, chiefly the US dollar and euro, for absolutely vital expenses, ranging from crew training to aircraft leases. With such a rapidly depreciating currency, paying these bills is increasingly hard.

But to maintain growth figures that investors expect, the already paper-thin margins on tickets need to be slashed even further, and the temptation to take over unprofitable routes just to show an increase in passenger numbers becomes too strong to resist.

And there are many hints this situation may have already reached critical mass.

Flybondi, the most aggressive and fastest growing startup, had ambitious plans to double their fleet in 2019, from 5 to 10 aircraft. These plans have been postponed “indefinitely” as falling revenues in foreign-currency terms are ironically impacting the company at a moment when passenger numbers are growing by the month.

Flybondi is an extreme case: all of their fleet is leased, and the lessors expect to be paid in hard currencies. As the Jet Airways fiasco has shown, repossessing an aircraft from a deadbeat lessee is a quick process, and a mostly or wholly leased fleet guarantees the situation will quickly spiral out of control the moment lessors smell financial troubles.

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Norwegian Air Argentina, a subsidiary of legendary money-loser Norwegian Air Shuttle, is in somehow even worse condition. The airline was originally to be equipped with brand new Airbus A320neo from an order originally signed by Norwegian in 2012 when the company could seemingly do no wrong.

However, Norwegian’s worsening financial situation forces the group to slash expenditures and sell assets. Operations in Argentina started with four Boeing 737-800 transferred from existing stocks. One aircraft was returned to Europe earlier this year, leaving just three to start revenue-generating flights in September.

Norwegian’s situation is steadily deteriorating: Besides the financial woes leading to route cancellations, one of the company’s Boeing 787 recently suffered an uncontained engine failure which showered parts of the city of Rome with metal debris and brought back attention to the snake-bitten Rolls-Royce Trent 1000 engine, forcing Norwegian once again to ground their 787 fleet and lease substitute aircraft.

Andes Líneas Aéreas, a historical Argentine company perhaps better known for providing charter flights to the country’s most iconic football clubs (River Plate, Boca Juniors, etc.), has not merely shelved plans for expansion but returned all of their leased Boeing 737-800s earlier this year and is flying a fleet of obsolescent McDonnel-Douglas MD-83.

According to the company, this is due to the freefall of the peso making lease payments “extremely expensive.” Andes is presently laying off some staff and reducing flight frequency, hinting their troubles may have just started.

To complicate matters further, there’s a presidential election coming up in October. The recent primary election – after which the peso plunged 25% as stocks and the government’s foreign-currency bonds crashed – indicates that there may be a change in government. Argentina has a time-honored tradition of governments scrapping their predecessors’ reforms just out of spite, and it looks increasingly like the “Revolución de los aviones” may be an early casualty.

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Aerolíneas Argentinas and their politically powerful unions don’t seem to mind the idea of going back to the “good old days,” but they better be careful what they wish for. The company’s financial situation continues to deteriorate as it managed to lose an eye-watering $489 million in Fiscal Year 2018 and looks set to have an equally bad 2019. It will take a lot of political clout to patch these enormous holes in the budget. By MC01, a frequent commenter on WOLF STREET

Rolls-Royce’s debacle for the Boeing 787 Dreamliner. And China is learning it the hard way. Read… The Engines of Large Airliners and the Costly Challenges Manufacturers Face

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