IATA Forecast:
Conundrums Jul/Aug 2023

IATA entitled, a little enigmatically, its half-year outlook, “Highly Resilient, Less Robust”. The resilience refers to the traffic recovery from the pandemic.

The recovery has been led by North America with traffic in that region expected to attain 2019 levels this year; this may now be on this pessimistic side with A4A estimating summer volumes to have reached record levels, A similar performance is expected for the Latin American and Caribbean region. Asia/Pacific has been the slowest to recover, the result of the rigorous international restrictions that were put in place. Europe will be very close to 2019 levels this year.

2024 is now the year of full recovery for all the six regions monitored by IATA. The global total is forecast to be 6% above 2019, increasing to 18% above in 2025.

There are lots of short-term risks: the slowness of China’s recovery and the fragility of some major economies in the new persistent inflation/high interest rate environment. There may also be, it has to be said, some new nasty variant of Covid lurking somewhere. This presumably is where there is lack of robustness of the industry.

IATA has decided that the long-term outlook for the industry is unchanged. The global traffic volume is predicted to grow by 3.4% pa, which will double passengers carried from 4 billion in 2019 to 8bn in 2040. IATA comments, “the uncertainty around climate change and the costs associated with the net zero transition raise major concerns around the outlook”. Among climate change activists the forecast raises apoplexy.

It is perhaps a little strange the high case offered by IATA refers to a “a quicker return to pre-coronavirus trends”and the low case to “macroeconomic conditions inflicting lasting damage”. The most relevant scenario is surely one where traffic growth has to be severely suppressed in order to achieve net zero, given the deep problems with alternative solutions, for example, Sustainable Aviation Fuel (see Aviation Strategy, June 2023).

IATA expects the global industry to return to profitability next year, a remarkable outcome after the huge loss of nearly $120bn in 2020 followed by $42bn in 2021. 2022 is estimated as a loss of $3.6bn, while 2024, according to IATA, will see a profit level of $9.8bn.

IATA has reproduced its regular chart comparing Weighted Average Cost of Capital (WACC) and Return on Invested Capital (ROIC), highlighting the negative gap that has re-emerged between the two financial ratios and commenting: “Historically the air transport industry has struggled to deliver the returns which equity investors expect for risking their capital”. This has been a theme, admonishing the industry for somehow “destroying capital”.

The WACC/ROIC comparison is very interesting though not just for the reason given by IATA. Investors invest in individual companies not industries, and at any point some companies are growing while other are declining. For instance, in the periods when new entrant LCCs undermined Legacy airlines, the gap between WACC and ROIC would probably have widened (because the cost of borrowing for incumbents would have increased as their profitability and balance sheets deteriorated while return on investment in the LCCs would not have been fully realised). So a positive structural development for the industry might not be indicated by a global WACC/ROIC comparison, the opposite in fact.

An inter-industry comparison would be fascinating but the reality is that other industries generally do not have the comprehensive data that aviation has as a result of its regulated past. We suspect that on this measurement many (most?) industries “destroy capital”. Indeed, according to Schumpeter, “creative destruction”, disruptive new technology wrecking incumbents' profitability, is the critical element in capitalism that drives progress.

It would be also interesting to try to work out whether a WACC/ROIC negative gap is related to increased negotiating power on behalf of labour (something IATA hints at) or changes on the production chain (manufacturers or lessors or airports improving their returns at the expense of airlines, a McKinsey thesis of some years ago).