US carriers should be able to navigate the US restriction on travel from Europe, but ratings will come under pressure and the spectre of a big name carrier defaulting on debt repayments, or even going insolvent, is now a genuine risk say analysts.
The announcement by US President Trump of a 30-day ban on EU travel starting on the March poses significant downside risk for US carrier says analysts, with Cowen’s Helane Becker saying that currently 11% of American Airline's 2019 passenger revenue came from transatlantic travel, with the figure rising to 15% for Delta and 17% for United.
Following a period of consolidation and balance sheet strengthening US carriers has previously been regarded as among the best-placed globally to survive any – pre-Covid19 – aviation downturn ,but Becker said that the US administration’s latest move was chipping away at their financial strength, particularly given difficulties in predicting future actions.
“What is absolutely clear to us is that there is zero predictability to the fear that exists, and the actions being taken, making it nearly impossible to get ahead of. We continue to believe near-term US bankruptcies are unlikely, but our conviction is diminishing. Airlines are in cash preservation mode,” said Becker.
This view was backed by any analyst note from ratings agency Fitch which said that while most of its US rated airlines should be able to absorb a temporary drop in demand, while staying within current rating levels and credit metrics, this could change as the virus spreads.
“The US ban on travel from Europe significantly raises pressure on international carriers in the near term. Coronavirus' rapidly increasing effect on air travel is placing downward pressure on global airline credit profiles, especially as there are risks that demand takes materially longer than previous shocks to recover,” said Fitch Ratings in a note.
Fitch said that current stress scenarios being considered included a protracted increase in cases that causes a sharper and more sustained drop in demand than the Sars virus in 2002/03, even if a similar recovery trajectory was followed.
“Larger rated airlines would likely experience rating pressure, due to greater than expected reduction in demand draining liquidity and pressuring credit metrics. Financial distress is likely among smaller regional carriers or those already under pressure but widespread bankruptcies among rated carriers would not be anticipated.”
Fitch highlighted, American Airlines, Hawaiian Airlines and Spirit Airlines are most at risk for negative rating action. The agency said that American’s large debt balances had made the carrier borderline for a downgrade prior to the onset on Covid 19. While Hawaiian has limited geographic diversification and a large exposure to Asia. Despite Spirit's low cost structure and good liquidity Fitch said its rating is already on negative outlook due to its high leverage.
The ratings agency also pointed to Alaska Air as facing risk from geographic concentration, given its home market of Seattle is heavily affected by the virus. It also said that WestJet's positive outlook could be revised, as Covid 19 may delay planned de-leveraging following its leveraged buyout last year.
Fitch also said that while a temporary drop in demand would be partly offset by lower fuel prices this relief could be deferred to 2021 due to high fuel hedging positions. This point was also made by Becker, who said that while low oil prices are still a tailwind for airlines it, “doesn't help if a large percent of the fleet is grounded. It seems as though there is no real floor in earnings.”
“We believe consensus estimates need to be slashed. The airlines are in cash preservation mode, and we fully expect to see credit facilities extended and increased in the next week. We previously stated US airline bankruptcies were unlikely and in the near-term that still remains the case but if bookings do not improve in the next 3 months things could deteriorate quickly”, Becker added.
Recently a number of US carriers have tapped credit facilities, with Becker saying that United raised $2.0 billion earlier this week, Delta $1.0 billion the previous week and American $0.5 billion two weeks ago.
“We expect all the airlines are talking to their banks about raising capital to get through the downturn. It's probably not going to be enough in the short term. Discretionary CAPEX is being postponed. We expect domestic air fares to come down as airlines encourage people to book summer vacations to raise cash,” said Becker.
Scope Ratings was equally downbeat about the prospects for carriers, saying there is a rising risk of airlines defaulting on their debt payments that would have a knock-on effect of a steep decline in aircraft values across the board.
“Investors need to brace themselves for a direct hit on aircraft values which will increase the credit risk of aircraft-financing transactions,” said Helene Spro, aviation finance analyst at Scope. “Investors exposed to some highly leveraged transactions are likely to see a loss,” she added.
Spro also said that Aircraft-leasing companies also face challenging times and will find it harder to efficiently remarket their fleets. While the Scope analyst said that the largest lessors, which have diverse customer bases and the cash resources to cushion their finances from a prolonged grounding of aircraft, will have some measure of protection from the market turbulence, the same was not true of smaller firms.
“The sector at large will find it hard to escape the consequences of a rapid slowdown in global economic growth and recessions in some major economies,” says Spro. She also said that aircraft makers Boeing and Airbus Group also face repercussions from the pandemic.
For Boeing, the timing of return of the B737MAX jetliner to commercial service may be one casualty if regulators turn their attention to pandemic-related travel issues rather than focus on the recertification of the aircraft. If the crisis results in many airlines defaulting, the B737MAX might be recertified amid a glut of aircraft on the market - at least for a short period.
Spro said that Airbus and Boeing face the additional headache that long-haul travel is proving particularly vulnerable to the efforts to contain the virus. “This could mean a quicker end to the service life of A380 superjumbos than previously expected,” said Spro.
The decision by the US to ban flights from much of Europe, including the Nordic region which is home to specialist long-haul airlines such as Norwegian Air Shuttle and Finnair, will lead to the grounding of even more widebody aircraft said Spro.
“We expect older widebody aircraft such as the A330-300, B777-200 and B777-300 will see a significant decline in value, with potentially the retirement of some older models, whereas latest designs B787 and the A350 are likely to fare better even if their valuations will decline too,” says Spro.