02/06/2011 - 00:00

Fare wars, fuel hikes hurt aviation industry

02/06/2011 - 00:00

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There’s not much glamour left in the aviation industry, which is facing a tough future.

RETAILERS have been hit hard by changing consumer-spending habits and rising interest rates, but there is a worse industry to be in at the moment – aviation.

Once a glamour business offering a unique service, the flying game today is in an appalling mess, thanks to events beyond its control, and events where management has lost control.

Little wonder that the share price of Australia’s top airline, Qantas, has tumbled from a pre-financial crisis high of $6 to recent trades around $2.06.

What is a real surprise, after digesting that 66 per cent share price decline, is that some stockbroking firms are still tipping Qantas as a ‘buy’ with their research seemingly stuck in a rut of historic numbers, with no attention paid to current and future events.

Goldman Sachs, for example, reckons that Qantas is trading at a 30 per cent discount to its valuation using discounted cash flow analysis, and has a theoretical target price over the next 12 months of $3.32.

In other words, buy a fistful of Qantas shares today and make 60 per cent on your investment over the next 12 months.

Who do they think they’re kidding?

Consider the challenges facing Qantas, and all other airlines, as aviation desperately tries to retain the facade of the exotic when everyone knows that flying is nothing more than an up-market bus trip with the operator incurring stratospheric costs while battling bolshie unions.

This is a starting list of problems for airlines.

• Competition has slashed fares, and will get worse as new cut-price airlines enter the business, such as Singapore Airlines breaking all of its own rules and announcing the creation of a discount, long-haul subsidiary.

• Staff troubles as employees demand higher wages from a shrinking pot of revenue.

• Travellers who dislike the ever-tightening security regulations, with no-one to blame (often unfairly) than airline staff who have to deal with customers, often forgetting that it is the customer who ultimately pays their wages.

• High and rising fuel prices.

• High and rising government charges.

• The ever-present but never mentioned safety factors associated with flight, and devastating consequences of an accident.

Boiled down, aviation has become an industry where the employees do not like their employer (not much new in that), the customers are complaining, equipment and fuel costs are rising, government continues to layer more costs on the business, and revenue is tightening as competition increases.

If there is anything good about the industry it is awfully difficult for a potential investor to identify.

Legendary US investor Warren Buffet reckons one of the simplest ways to pick a good company is to test its services. That’s why he is a big shareholder in Coca Cola, MasterCard, and a railway operator, Burlington Northern.

Those companies, he argues, operate businesses a customer can test, taste, or kick the wheels to see how good it is – a process open to all investors. And if the service is no good, or management is over-promising and under-delivering then the message is clear – don’t buy it.

End of an era?

NOT mentioned in the list of aviation woes is the potential for one of the industry’s few growth sectors to disappear as some of its biggest customers realise they have a severe long-term problem.

Mining and oil companies, particularly in Western Australia, have become major users of fly-in, fly-out, services because they figure it is cheaper than building houses in the north, and most of their workers prefer to live in the south.

That argument might have been true a few years ago but it is being sorely tested today on two levels: mining companies are facing big cost blow-outs at new projects, especially for labour with the standard fly-in, fly-out roster of eight days on and six days off meaning each job requires two (expensive) employees; and workers are finding that the ‘thrill’ of flying to Karratha or Port Hedland has become an unpleasant experience, especially as the general aviation area of Perth airport gums up during the dawn migration north.

High wages soothe the tempers of the early birds as they are crammed into their morning commute, and the mining companies (and contractors) are able to avoid the expense of providing housing.

But a tipping point will be reached when employers realise that paying two people to do one job is a daft way to run a business, especially when wage and salary rates are through the roof, and more employees realise that fly-in, fly-out is an awful way to live.

Meanwhile, in the background there is increasing government agitation for increased investment in long-term accommodation and service provision in the north best illustrated in the Pilbara Cities push by the WA government.

For the aviation industry the fly-in, fly-out boom might already be at a peak, with no-one particularly happy with a service that does nothing for the long-term development of Australia.

Costly move

CHINA’S stampede into Africa has spread to South Africa’s gold industry, but this time China might find that its voracious appetite for raw materials is a step too far.

The most public plunge into South African gold so far is a deal to acquire control of ASX-listed Gold One, which is developing the first new mine in the famous Witwatersrand gold province for almost 30 years.

But in the background are other deals to buy old shafts, which were closed when the gold price was a fraction of today’s $US1,500 an ounce.

Good news as this vote of confidence might be for gold, the bad news for Chinese investors is that a massive liability lurks in the South African mining industry – health claims by injured workers, including thousands with the debilitating lung disease silicosis.

One recent estimate by the investment bank, RBC Capital Markets, is that future medical claims could top $US100 billion (yes, billion), and while it will depend on claimants proving negligence, the modern South Africa is determined to right old wrongs, and in this case it could be new investors who foot the bill.

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“He that is good for making excuses, is seldom good for anything else.”

Benjamin Franklin

 

STANDING BY BUSINESS. TRUSTED BY BUSINESS.

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