22-Jul-2014 8:50 PM

Meridiana: losses narrowed in 2013, but cost reductions remain crucial for Italy's other airline

Analysis

Etihad's planned investment in Alitalia has attracted most of the aviation headlines in Italy recently. But what of Italy's number two indigenous airline, Sardinia-based Meridiana?

Together with its subsidiary Air Italy, Meridiana has a market share of 4% ranked by the number of scheduled seats to/from Italy in the week of 21-Jul-2014. The 2013 annual report of its parent group reveals that it narrowed its losses last year, by lowering cost per passenger more quickly than the fall in revenue per passenger.

Nevertheless, with strong LCC competition continuing to grow, revenue per passenger is likely to remain under pressure and Meridiana will need to find further cost efficiencies if it is to return to profitability. Recent industrial action over plans to outsource part of its operations to other airlines and over its redundancy programme highlight the scale of the challenge in achieving this.

Meridiana narrowed losses in 2013, but losses nevertheless, as revenues fall 23%

The airline's parent company, Meridiana S.p.A., owns 100% of the airline holding company Meridiana fly. The latter is the umbrella company for two airline brands, Meridiana and Air Italy, and also has a tour operator and maintenance division.

Most of the financial results and analysis in this report focus on data provided by Meridiana S.p.A on the Meridiana fly sub-group.

Meridiana S.p.A. Group structure

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The Meridiana fly Group narrowed its net loss by 56% from EUR216 million in 2012 to EUR95 million in 2013. At the operating level, the loss narrowed by 57% to EUR85 million. Total revenues fell by 23% to EUR503 million.

Meridiana fly/Air Italy consolidated total revenue, operating result and net result: 2012 and 2013

EUR million	2012	2013	Change
Total Revenue	656.1	503.1	-23.3%
Operating result	-198.1	-85.2	-57.0%
Net result	-216.1	-95.3	-55.9%

The air transport group consisting of Meridiana fly and Air Italy is the biggest unit of the Meridiana Group, whose net loss narrowed from a proforma EUR161 million in 2012 to EUR6 million in 2013, with 2013 revenues of EUR546 million (22% less than in 2012).

The Meridiana Group's net debt was EUR340 million at the end of 2013, compared with EUR223 million a year earlier. Its book equity was a negative EUR200 million, versus negative EUR116 million a year earlier.

2013 recapitalisation and new business plan

The Meridiana fly Group underwent a recapitalisation of around EUR200 million in Apr-2013 and its shares were withdrawn from the Milan Stock Exchange after parent Meridiana S.p.A (itself controlled by the Aga Khan) took full control.

Following the recapitalisation, Meridiana fly recorded a reduced net debt to EUR20 million at the end of 2013, from EUR89 million at the end of 2012. Its book equity remained negative to the tune of EUR34 million, although this was an improvement of EUR98 million over the course of the year. Although losses were reducing, this balance sheet situation suggests that further recapitalisations may still be necessary.

The airline's Feb-2013 business plan involved reducing the fleet, seeking load factor improvements, cutting routes with low/negative margins, strengthening the core business in Sardinia, cutting labour costs, increasing synergies between the two airlines, and the reduction of overheads.

Passenger numbers fell 10% in 2013, but flight hours fell 23%

The consolidated traffic figures for Meridiana fly and Air Italy are shown in the table below. The total number of flight hours fell by 23%, with long-haul flight hours experiencing the most significant cuts (-38%).

Meridiana fly/Air Italy consolidated traffic data: 2012 and 2013

	2012	2013	*Change*
Flight hours
Medium haul	69,107	56,037	-18.9%
Long haul	19,610	12,257	-37.5%
Total	88,717	68,294	-23.0%

Passengers*
Medium haul	3,839,132	3,551,444	-7.5%
Long haul	358,792	219,854	-38.7%
Total	4,197,924	3,771,298	-10.2%

Passenger numbers fell at the lesser rate of 10%, with long-haul again feeling the brunt of the reduction (-39%). Medium-haul passengers increased their share of the total from 91.5% to 94.2% from 2012 to 2013.

Data from OAG and Innovata show that, over the past year Meridiana's network has reduced its dependency on the domestic Italian market, although this continues to account for the large majority of its seats. Its domestic seat capacity was 86% of its total capacity in Jul-2013, but this had fallen to 76% in Jul-2014. The recent growth of major European LCCs in the domestic market appears to have taken its toll.

Meridiana fly's costs fell 31%

The Meridiana fly air transport group's operating costs fell by 31% in 2013, more rapidly than the reduction in passenger numbers and revenues. Fuel costs fell by 28% and ex fuel costs fell by 32%. Labour costs fell by 18%, less than the reduction in total costs. Meridiana fly itself reduced headcount by 29% to 715, while Air Italy's workforce fell by 9% to 400.

Capacity-related costs (other operating costs and wet leases, maintenance, depreciation/amortisation and operating leases) fell by 36%, reflecting the reduction in the group fleet by 10 aircraft over the course of the year (of which nine were operating leases).

Meridiana fly/Air Italy consolidated operating costs: 2012 and 2013

EUR million	2012	2013	*Change*
Fuel	203.5	145.7	-28.4%
Labour	97.0	79.2	-18.4%
Other operating costs and wet leases	194.5	171.9	-11.6%
Maintenance	99.8	78.6	-21.2%
Depreciation/amortisation	109.8	20.4	-81.4%
Operating leases	65.6	28.0	-57.3%
All other costs	84.0	64.5	-23.2%
Total costs	854.2	588.3	-31.1%

Ex fuel costs	650.7	442.6	-32.0%
Capacity-related costs*	469.7	298.9	-36.4%

Fleet numbers fall by 10 in 2013; average age now 19 years

According to the CAPA Fleet Database, the Meridiana Group fleet consists of 29 aircraft as of 21-Jul-2014 (and one further aircraft, a Boeing 737-800, in storage). This compares with 28 aircraft at the end of Dec-2013 and 38 at the end of Dec-2012 (source: Meridiana Annual Report 2013). Of the current 29 aircraft, 17 are on operating lease.

The fleet's 10 MD-80 aircraft have an average age of almost 26 years, while the average age of the 767s is 21 years. The overall average age of the fleet is 18.9 years, according to the CAPA Fleet Database. The reduction in fleet numbers since the end of 2012 focused on operating leased Airbus aircraft that were younger than the fleet's overall average age. Since the end of 2013, the fleet has seen the addition of one 40 seat Antonov aircraft (aged almost 33 years).

With Meridiana's weak balance sheet, operating leases are likely to continue to be the main form of aircraft financing. In addition, they provide some flexibility over capacity when leases expire. However, Meridiana's ageing fleet is a growing competitive disadvantage compared with the much younger fleets of much of its LCC competition on medium-haul routes. Even FSC competitor Alitalia has a much younger fleet (average age less than 10 years).

Meridiana fly/Air Italy Group fleet

	Dec-12	Dec-13	Jul-14	Note
A330-200	2	1	1	Operating lease
A320	11	7	7	Operating lease
A319	3	0	0	Operating lease
Antonov AN-26B-100	0	0	1	Own
MD80	10	10	10	Own
Boeing 767-300	2	2	2	Finance lease
Boeing 767-200	2	1	1	Own
Boeing 737-300	2	2	2	Operating lease
Boeing 737-400	1	0	0	Operating lease
Boeing 737-700	3	3	3	Operating lease
Boeing 737-800	2	2	2	Operating lease
Total	38	28	29

Market share is slipping as LCCs continue to grow in Italy

The Meridiana Group (Meridiana and Air Italy) is ranked number seven in Italy by seat capacity, with a seat share of 4% (week of 21-Jul-2014, source: OAG). Its rank has slipped from six and its share has lost 1 ppt compared with a year ago.

In the domestic market, it has a higher ranking and market share (3% and 13% respectively), but it has lost 4 ppts of market share compared with Jul-2013.

Top 10 Airline Groups in Italy ranked by seats: Jul-2013 and Jul-2014*

Rank	Airline Group	Jul-2013	Jul-2014
1	Ryanair	22%	20%
2	Alitalia/Air One	20%	19%
3	easyJet	11%	11%
4	IAG	6%	8%
5	Lufthansa Group	6%	8%
6	Air France-KLM	4%	5%
7	Meridiana	5%	4%
8	Wizz Air Group	2%	2%
9	Air Berlin Group	3%	2%
10	Volotea	1%	2%
	Others	21%	20%

Top five Airline Groups in Italy ranked by domestic seats: Jul-2013 and Jul-2014*

Rank	Airline Group	Jul-2013	Jul-2014
1	Alitalia	43%	44%
2	Ryanair	24%	27%
3	Meridiana	17%	13%
4	EasyJet plc	8%	8%
5	Vueling	-	4%
	Others	7%	5%

The growth of LCCs, particularly in the domestic market, has been the main cause of Meridiana's falling share of seat capacity in 2014. In particular, Vueling (part of IAG), Ryanair and Germanwings (part of Lufthansa Group) have grown strongly this year.

Italy low-cost carrier seat capacity as a share of total seat capacity: 2001 to 2014*

Cost per passenger fell faster than revenue per passenger, but still not enough

The Meridiana Group annual report does not give ASK data for Meridian fly and Air Italy and so we cannot calculate CASK data. Nevertheless, we can calculate that the Meridiana air transport group lowered its operating cost per passenger by 23% in 2013, compared with a 15% reduction in total revenue per passenger.

Meridiana fly/Air Italy consolidated revenue per passenger and cost per passenger data: 2012 and 2013

	2012	2013	Change
Revenue per pax EUR	156.3	133.4	-14.6%
Cost per pax EUR	203.5	156.0	-23.3%
Ex fuel cost per pax EUR	155.0	117.4	-24.3%

This explains the narrowing of its losses, although the fact that it is still loss making highlights the need for further cost reduction and/or a reversal of the trend towards lower revenue per passenger.

Its revenue per passenger remains above LCC levels, and LCC competition in its markets is likely to mean that there will continue to be downward pressure on pricing. In addition, Meridiana's ageing fleet and sub-scale international network put it at a competitive disadvantage to Alitalia, especially outside its core markets in Sardinia and Sicily.

If Etihad completes its planned investment in Alitalia, this will leave Meridiana squeezed between the LCCs and a strengthened leading Italian competitor.

In this context, further cuts in cost per passenger will be critical to the Meridiana fly Group if it is to return to profit.