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Wed 23 Jul 2008 04:00 AM

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Global warming

How well do you think the global airfreight industry will weather the oil price fluctuation and economic slowdown?

How well do you think the global airfreight industry will weather the oil price fluctuation and the current economic slowdown?

Tough times

The air cargo industry is looking at a bleak horizon. Slowing global growth and trade, coupled with rising fuel costs, are causing significant revisions to the expected market profitability for the year. The implications for the air cargo industry are dire, as the potential double-whammy of slowing trade and increasing fuel costs is not welcome news.

What is definite is that companies wanting to still be in the market in 10 years time will need to act now in order to ensure their survival.

Plummeting profits

When oil began to rise in price from 2004 onwards, most airlines were able to reduce their financial exposure through hedging fuel contracts or introducing surcharges on passengers. However, the price of crude oil has more than doubled over the past 12 months and this is set to have a dramatic effect on profits in 2008 and 2009.

Indeed, IATA recently downgraded its overall profit forecast for the air transport industry for the third time in six months. After initially estimating that airlines would make a profit of US$7.8 billion in 2008, the revised forecast now suggests an overall loss of more than $5 billon at current oil prices, with the added threat that for every $1 that the price of fuel increases equates to a $1.6 billon rise in costs.

So what can companies do to combat this? Doing nothing is clearly not an option. Datamonitor predicts, under current market dynamics, that it is highly unlikely oil will fall below the $100 per barrel mark this year and that the average for next year may well break the $130 level. Therefore a number of potential solutions have been suggested for the transportation industry.

Pass the costs on to shipper

Some companies have been able to pass on the increase in input costs to their customers, but this is becoming the exception rather than the rule. Indeed, suppliers with long-term contracts with customers are struggling to cover the extra cost.

Furthermore, passing on the increases will further exasperate the problem of inflation, which will ultimately have a negative impact on the industry.

Increase efficiency

One way to reduce costs will be through the introduction of more fuel-efficient fleets. A second solution is looking at alternative energy sources, although at the moment this is more likely to occur for ground transportation rather than air, as seen with the introduction of hybrid vans by DHL.

Obviously both of these require significant investments, but in the medium term this will further increase the gap between the best-in-class and those that will be prime candidates for acquisition or closure, which will ultimately make the industry stronger.

A third solution is to look at non-fuel elements of the supply chain. For example, freight forwarder Kuehne + Nagel has just announced an alliance with a light-weight pallet manufacturer to explore potential cost savings.

Allow market forces to prevail

Economic downturns in any industry regularly help ‘clean out' the marketplace through mergers, acquisitions or bankruptcy. While air cargo is slightly different due to some national flag carriers having the government as an investor, there are early signs that market economics will win through with the announcement of the merger between Delta and Northwest.

A need to act now

It is obvious that the final route will not be popular amongst all air carriers. However, the financial position in the market is deteriorating, the industry environment is becoming increasingly competitive, and there is further pressure coming from alternative transport methods. This is particularly true in sea freight as ships become faster and more cost-effective, while a large amount of capacity is set to come onstream in the next three years.

There is still the possibility that the global economy will not slow as much as currently feared, but there can be no doubt that the overall picture for air cargo has worsened over the past 12 months. Indeed, while there is doubt over the future of the price level of oil, what is definite is that the companies wanting to still be in the market in 10 years time will need to act now to ensure their survival.

Chris Morgan is lead consultant at Datamonitor's Dubai office and can be contacted via the company's website. (http://www.datamonitor.com)

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