#219 South African Airways: sink, float or swim

After a turbulent journey toward a vote, the door to guarantees, equity and labour should revolve around performance, penalties and incentives. So that even if the ocean surface is raging, principles of evidence-based governance can pull stakeholders like an inescapable current. 

Stephen Halloway uses his blue soft-cover textbook to describe the aviation industry as an ocean through which leaders navigate. On one end propelled by the service strategy they desire for their customers, on the other rowing and heaving through the costs of doing so. It always starts with a promise, mythical or genuine. As the State-Owned Airline rages through waves from labour, capital and the state, it seems appropriate to reflect on the calmer waters we wish for.  

The battle for South African Airways

South African Airways is by no means an exception in this battle, but it entered the raging waters with a wounded crew, a patchworked hull and a rudder that was replaced every other year but never used. Initially optimistic for expansion, SAA initiated a fleet acquisition strategy in 2001. Placing an order for 15 aircraft with Airbus, only to believe it cancelled the contract in 2004 due to financial constraints leading up to a net-loss peaking at R8.9bn that year. This sparked The R10billion Turnaround strategy presented to SCOPA in 2005 where the airline had just untangled from Transnet Ltd. and aimed to focus on people, profit and patronage to anchor their strategic reform. The restructuring programme focused on managing risks through global positioning, revenue enhancement and cost cutting initiatives in order to mimic their world-class peers. 

The wounded crew dilemma began to bubble-up thereafter and ahead of the 2008/9 financial crisis. During this period 963 employees opted for voluntary severance packages and 869 resigned, while SAA Technical experienced an ‘exodus’ of staff leaving 260 critical vacancies. Such a restructuring involved a new organisational model, much closer to the one we see today, and even Air Chefs was at risk of disposal. At this juncture the airline needed some R1.3bn for restructuring. Executives noted how it this cost hid an improvement from R883m net-loss in 2006/7 to a net-profit of 123m for the 2007/8 financial year. In 2007 the airline received a letter from Airbus indicating that the aircraft contract was not cancelled, and renegotiations structured a deal which would bring 20 aircrafts at R6.8bn ($889 million at a R/$ of R7.69 in 2010) and 6 leased at market rates. For the 2008/9 financial year it floated on then Finance Minister, Trevor Manuel’s words after the R1.6bn allocation: “I’m sure that the house will agree with my hope that this will not be a recurring allocation”.

Strategic plans are usually long-term tools with specific targets. In a stable environment they only reflect minor changes over time. However, facing anti-trust litigations abroad, and domestically, the airline was sinking in allegations about misconduct of senior management with damning findings concluded in 2009 by KPMG. That year presented SAA with R26bn in revenue for the group (R20bn of that from the airline), R402m in profit, and a fresh board with only two members from the 2004-2008 restructuring legacy. Storm clouds began to gather as the lease of 6 aircraft would commence in 2011, and the delivery of the 20 would only start in 2013. This inflated the size of the airline: more flights, more employees, higher costs—was there a sufficient customer base?

Sinking beyond measure

Fast forward to 2018, the past decade has seen the airline come close to R30bn in revenue, but ships sink when commanders fail to find where leaks come from, not just where they are. That past decade could be dubbed as the ‘business unusual’ era where the airline’s losses began to tilt, and it outsourced strategic support from nearly 12 firms while anchoring into a crisis. For the first time we saw SAA gasping for air, splattering bailouts, as a R37bn cumulative loss in equity was guaranteed to flood the gates. 

A much less discussed golden thread seems to be the delivery of the Airbus aircrafts and 6 in a US$ denominated lease deal held up to 2019 placing upward pressure on energy costs, airport costs, maintenance costs. If their fleet plan grew from 15 to 26 aircrafts, and revenue didn’t double in nominal terms then it is very likely that their routes weren’t carrying enough seat-revenue-kilometres to fill the rising costs of fulfilling an undesired promise with award winning character. An obvious outcome was a need to reduce costs, and enhance revenue like we are all lost in the ‘mythical’ Bermuda triangle reminiscent of the people, profit and patronage adage. 

In the early hours of the morning I reflected about whether tax payers were exhausted, the DPE was frustrated, labour was angered, creditors were calm and the media was captivated when the Business Rescue Plan was first published. I didn’t want to dwell in the tempting mist, because it became clear that a business rescue plan is only a raft to keep the airline afloat. Execution depends on how the airline’s fundamentals are yielded from managing their service strategy and cost performance. Doing so is an effort to craft and keep promises that pull a viable vessel together. 

A plan to rescue or thrive?

The Business Rescue Practitioners addressed the core operational weakness: the airline’s fleet size. They’re survival pack for the short-run is to downsize their fleet to 13 aircraft and 1212 employees producing 6204 flights for fewer international routes, similar continental routes and a low load factor of 30%. On this year’s balance sheet SAA needs R7.4bn because the airline estimates a loss of R3.1bn, an additional R4.1bn in restructuring costs (just under half of which are retrenchment costs) and R200m in purchases of property, plant and equipment. 

This is only to cut costs, and rescue the business financially, because by 2021 the airline is estimated to return to 26 aircrafts and 2400 staff serving 1.4 million passengers on 20446 flights and a load factor of 42%. Total operating costs rise from R4.3bn to R10.4bn, putting the airline at a loss since it’s expected to bring R9.5bn in revenue (6.6bn from passengers). While the Business Rescue Plan indicates that the timing of decisions described in their forecast are dependent on various factors, the principle behind increasing the airline’s capacity in 2021, nearly doubling employees, flights and aircrafts. This is a peculiar choice of forecasting, but perhaps a few more business scenarios could have been carved out.

Two different airlines?

Lean SAA in 2021: The single scenario presented for SAA by the BRP’s consultants describes two different airlines. One that operates in 2021, and another that operates in 2024. Revenue structures vary significantly largely due to the lower passenger volumes forecasted in 2021– this is a leaner airline. Ancillary revenue contributes 29% of the revenue base, which if expanded upon could be a lucrative drive. The cost structure is interesting because with fewer flights, and aircrafts fuel costs are dwarfed by other operating costs (45%) and labour costs (34%).

Heavy SAA in 2024: The much heavier SAA has a revenue structure that is dominated by passenger revenues (74%), with low load factors. Fuel surcharges overwhelm ancillary income by 8%. The cost structure takes a different form, much larger fuel costs (15%). Other operating costs are, interestingly modelled to take 45% of the total costs although in 2021 its R1.9bn, but by 2024 it is R7.4bn. Similarly, with a larger staff component, labour costs rise significantly although their share of costs reach 17%. The airline morphs within a four year period– given its history, more scenarios should be tested.

Harder questions

The national carrier still has R6.8bn of government support spread between 2022 and 2023 before it enters a positive net cash position. Could there be pressure from labour to rush expansion and bring more staff within the short term? On the other hand, are there conditions attached to the size of the bailouts necessary to take off? If there was a third palm to reach for one more, does the airline’s scale affect access to the market by new players? While it might be easier to criticize the trade-offs here, it remains difficult because the principles of governance, performance and regulation for the state-owned airline remain opaque. A leaner airline is ideal from a financial viability perspective, the middle ground with labour appears to be a more of a welfare choice. Hidden beneath the numbers is a desperate need aviation specific performance indicators as part of the airline’s financial reporting, complemented by a governance strategy as part of the reform process (like it did in 2017/18). Is this future SAA dynamically aligned with customer needs, or is it the SAA of 2007 captivated by an urge swell like wood is saturated with water? After a turbulent journey toward a vote, the door to guarantees, equity and labour should revolve around performance, penalties and incentives. So that even if the ocean surface is raging, principles of evidence-based governance can pull stakeholders like an inescapable current. 

Thank you for tuning in!

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