Does State Aid Actually Help the Recovery of Airlines?
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Does State Aid Actually Help the Recovery of Airlines?

Issue 5 - 2020
Does State Aid Actually Help the Recovery of Airlines?
The Aviation sector has been going through the biggest crisis in its history. State aid seems to be essential for the survival of the airlines. The topic of state aid is certainly on the minds of many who are wondering if the massive amounts of state aid is really free, or does state aid and support drag airline companies down into another bottomless pit?

Global air traffic came to a halt when the World Health Organization realized that COVID-19 was not a usual virus that affected a certain region and declared a pandemic. With the sudden and unexpected interruption in operations, the aviation sector started to work on various analyses and to build scenarios to estimate the negative financial impact of the pandemic. For the accurate identification of strategies for the recovery and survival of the sector, initially the existing status of the sector had to be defined. 

The picture revealed upon review of studies and efforts of many different organizations and enterprises, the IATA in particular is quite pessimistic. While it is mentioned that even airlines with the most robust financial structures have means that would keep them afloat for about 3 months, the survival of any airline does not seem possible without government support.

After emphasizing the critical role that aviation plays in countries throughout the modern world, a statement made by the IATA on March 24, 2020 underlined that support is needed to sustain this sector that creates significant economic value and employment opportunities for countries worldwide. The IATA clearly called for the financial support of governments and the statement included a list of suggestions addressing the governments on what they could do. 

1. Direct financial support to passenger and cargo carriers to compensate for reduced revenues and liquidity attributable to travel restrictions imposed as a result of COVID-19;

2. Loans, loan guarantees and support for the corporate bond market by the Government or Central Banks. The corporate bond market is a vital source of finance, but the eligibility of corporate bonds for central bank support needs to be extended and guaranteed by governments to provide access for a wider range of companies.

3. Tax relief: Rebates on payroll taxes paid to date in 2020 and/or an extension of payment terms for the rest of 2020, along with a temporary waiver of ticket taxes and other government-imposed levies.

The Airline Passenger Experience Association (APEX) encouraged governments worldwide to issue immediate tax relief for the airline industry due to the unprecedented disruption caused by COVID-19. APEX advocated that $250 billion should be issued in global government support for the aviation industry, with 80% going directly to airlines and 20% allocated to airline suppliers.

As a result of the pessimistic picture revealed by studies and assessments made by the sector’s most esteemed organizations, some countries have started to announce their support programs for the sector.  

Aircraft OEMs also affected by the global aviation crisis!

Perhaps many people at the time did not anticipate that the pandemic could last so long. As the process extended, the demand for travel remained at the zero level and the aviation sector struggled to stay alive, surviving only through evacuation and cargo operations. All these deepened the crisis and caused support programs to fall short of expectations.

The sector now has a bigger problem! As the pandemic extends on with no clear ending in sight, airlines have been reviewing their fleet, their processes, network and personnel plans and have started to make radical decisions. In addition to decisions such as retiring the relatively less efficient and older aircraft earlier than planned, and also returning leased aircraft before the expiration date of leasing, airline officials have started to reach out to Airbus and Boeing to cancel or postpone deliveries. As entire production programs and delivery schedules were flipped upside down, manufacturers asked for support from their governments as well. 

Boeing is seeking at least $60 billion in government aid for the aerospace manufacturing industry, which it says will be one of the most significant ways to help airlines, airports, suppliers and manufacturers remain in good financial standing as the coronavirus further strains their businesses and puts 2.5 million jobs at risk. Boeing’s request comes the same day President Donald Trump pledged to assist Boeing and travel-related industries. After that, with seven vaguely written words in the $2 trillion federal stimulus law, Congress carved out a special provision for Boeing, one of the nation`s largest manufacturers.  

Boeing isn’t mentioned by name in the 880-page bill, but the aerospace giant will qualify for as much as $17 billion in taxpayer relief through the language threaded into the fourth paragraph of page 513 of the CARES Act: “businesses critical to maintaining the national security.”

Additionally, European aircraft manufacturer Airbus has suggested that some government support may be needed if the coronavirus crisis lasts several months, that was as of mid-March 2020. In early June France’s government announced 15 billion Euros in rescue money for the pandemic battered aerospace industry, including plane maker Airbus and national airline Air France.

The money includes direct government investment, subsidies, loans and loan guarantees. It also includes a special fund jointly financed by the government, Airbus and other big manufacturers to support small suppliers. Airbus secured bailout cash as part of the French Government’s rescue deal for the aviation sector.

Tactical moves of Lufthansa CEO Spohr!

During this period of intense discussion regarding state aid, Lufthansa, the national flag carrier of Germany, stated that they were losing €1 million per hour during the pandemic.

Carsten Spohr, CEO of the company, declared that the company did not have any chance to survive under these circumstances. Spohr and Germany’s Prime Minister Angela Merkel started to negotiate on the rescue program of €9 billion. Support was granted but not wanting government interference in the management decisions of the airline, Spohr wanted distance to be maintained between the government and the company to avoid the bureaucracy’s intervention in the competitive structure of Lufthansa. 

Being very aware of its function as a protective shield, Spohr always brought up the option of bankruptcy on the agenda. Though it may seem quite a radical step, bankruptcy might provide the company the breath it needed to build a healthier future. Upon the decree of bankruptcy, restructuring of the company would be maintained while legally certain warrants might be obtained against the company’s creditors. Shortly before the pandemic, the German airline company Condor went through a similar process upon the bankruptcy of its main company Thomas Cook.

Following lengthy negotiations Lufthansa was granted state aid of €9 billion.  Of this amount €5.7 billion would be provided by Germany’s Economic Stability Fund; €4.7 billion of the amount would be transferred as equity capital and €1 billion would be transferred in cash to Lufthansa. According to the agreement, the Economic Stability Fund will own 20% of Lufthansa yet will have no say in the management of the company. Germany’s government will buy €300 million worth of Lufthansa shares (each at a cost of €2.56) and two members of the Executive Board of Lufthansa will be identified upon the recommendation of Germany’s government. Moreover, €3 billion was provided to Lufthansa from various banks on condition that it will be repaid in 3 years. The government intends to sell its Lufthansa shares by the end of 2023 as Lufthansa manages to weather the financial crisis.  Carsten Spohr seems to have gained more than he demanded during the negotiations.

However, the aforementioned aid package frustrated other airlines, particularly Ryanair, on the grounds that it removed the conditions required for fair competition and as a result of the objections made, for the ratification of the aid program, the European Union stipulated that Lufthansa should give up 72 slot pairs at Frankfurt and Munich airports. Spohr gambled once again by claiming that they would experience severe economic losses and fail to pay their debts, and he rejected the aid program and used the bankruptcy card again. 

After lengthy negotiations between the European Union and Lufthansa, the parties reached an agreement on the transfer of 24 slots. Moreover, Lufthansa’s executives managed to benefit from the situation by including two additional clauses in the agreement. According to these clauses, for the available slots, only the airline companies that do not conduct flights to Frankfurt and Munich and are registered in European Union member countries would be able to apply for the first one and a half years. Other airline companies will be able to make requests for these slots if no applications are made within the foreseen period. In the meantime, the airline companies that have previously received state aid from the European Union are prevented from obtaining the available slots in Frankfurt and Munich. Thus, Carsten Spohr managed to receive the aid package from the German government on his own terms.

 

The biggest support program in U.S. history 

The U.S. Senate and White House agreed on a large-scaled economic support program that aims to support employees and businesses to lessen the impact of the pandemic throughout the economy. The amount allocated to this pandemic program is higher than the rescue program that was approved for economic survival during the crisis in 2008 and 2009. Total value of the program is $2 trillion and one of the greatest shares of the package will be granted to the aviation industry. 

A total of $58 billion has been earmarked for the aviation industry, with $25 billion in loans and loan guarantees going to passenger airlines and an additional $25 billion going to grants to pay workers through September. Cargo air carriers have been allotted $8 billion in relief funds. The aid package prohibits stock buybacks and share dividends for at least a year after the loans have been repaid and restricts executive compensation.

Despite the controversy caused by the grant structure applicable to the largest US carriers, 10 major airlines have confirmed they will accept financial aid under the CARES Act. They can only accept 70% of the funds as grants, while the remaining 30% will be provided as a low-interest loan. American will receive an aid package worth $5.8 billion in grants and loans, and Delta will receive $5.4 billion. Southwest noted that it is set to receive $3.2 billion and JetBlue revealed it is getting $935 million in assistance. The other airlines accepting aid are United, Alaska Airlines, Allegiant Air, Frontier Airlines, Hawaiian Airlines and SkyWest Airlines. 

All commercial service airports, all reliever airports and some public-owned general aviation airports in the US are eligible for a share of $10 million in CARES Act funding to go towards airport capital expenditures, operating expenses including payroll and utilities, and debt payments.

Alitalia receives $540M in government aid

After providing multiple bailouts and announcing plans to take over Alitalia, the Italian government is injecting another $540 million into the airline. Alitalia is the only airline in Italy operating under a public service obligation agreement, and thus will be the sole recipient of funding. The government unveiled plan to eventually shrink Alitalia’s 113-aircraft fleet to a maximum of 70 to save on costs. Alitalia will also furlough an additional 2,900 employees until October 31, which amounts to half of its workforce. The Italian government provided $3.26 billion in capital for the newly nationalized Alitalia.

The Russian government has issued an order to distribute over $315 million in state funds to airlines suffering losses as a result of COVID-19. The Aeroflot Group, which is 51.2% state-owned and includes Aeroflot, Aurora, Pobeda and Rossiya, is set to receive a third of the financial aid, while the rest will go to other major carriers including the S7 Group, UTair and Ural Airlines.

The French government provided its local aerospace industry with $17 billion, a figure that includes $7.9 billion in loans previously set aside for Air France as well as support to keep Airbus and smaller companies competitive. Air France-KLM CEO Ben Smith announced the airline will be cutting 40% of French domestic flights by next year in accordance with the environmental conditions included in a $7.9-billion bailout.

The Hong Kong government provided a $5-billion bailout for Cathay Pacific in exchange for a 6.1% stake in the company and two “observer” seats on the board of governors. Bailout for Cathay Pacific avoids an Air China takeover of the airline for now.

The Austrian government will back Lufthansa’s Austrian Airlines by providing it with $508 million in loans and grants, which is expected to save most of the company’s 7,000 jobs.

Swiss government approved US$1.34 billion in loan guarantees, which were directed largely towards flag carrier Swiss Air Lines and sister airline Edelweiss.

KLM Royal Dutch Airlines has announced that it secured a total amount of EUR 3.4 billion of financial state support. 

The financing ensures that KLM can continue its activities and that the company’s position is strengthened towards the future.

How much of the state aid is to be reimbursed?

While the aviation industry struggles to recover from the most challenging turbulence it has ever hit throughout its long history, the IATA declared the total amount of state aid received by airline companies as of May 15 was $123 billion. At this point, it will be useful to underline that the $9 billion in state aid granted to Lufthansa by Germany’s government is not included in this amount. Therefore, it is projected that the amount of support received by airline companies may increase until the end of the pandemic.

These incentives granted to airline companies by states involve many different breakdowns as well. Low-interest loans, payment support, tax discounts, direct cash flow are only a few of them. In other words, a part of the state aid is registered as debt for the companies and they are to be reimbursed.

The report prepared by the IATA reveals that $67 billion of the $123 billion received by airline companies are composed of liabilities to be repaid. $50 billion out of the liabilities to be repaid has been registered as state aid granted as direct loans. State guaranteed loans are second on the list of items to be reimbursed. In other words, if the airline companies fail to pay their debts, the liabilities will be transferred to the governments. 

On the other hand, while the state aid in the U.S. correspond to nearly one-fourth of the turnover of the airline companies, this amount is 15% in Europe and at the level of just 1% in South America, Africa and in the Middle East.

Even though the state aid granted to airline companies are vital for the normalization of the sector after the crisis, there’s also the opposite side of the coin to consider. According to the IATA, the amount of debt incurred by airline companies may reach $550 billion by the end of 2020! This means that after the pandemic, airline companies may face the risk of bankruptcy due to the debt burden caused by the aid, and this is one of the factors that support the argument claiming that after the global pandemic nothing will ever be the same in the aviation sector… 


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