Is there an opportunity for the smaller Egyptian airlines in times of adversity?

International tourism to Egypt has suffered markedly as a result of the socio-political unrests and terrorism related incidents since 2011. The number of passenger arrivals into the country fell by a compounded annual rate of 9% between 2011 and 2014. However, during the same period, the number of passenger departures have risen by a compounded annual rate of 7.6%. While the downturn in tourism, especially from Europe, is clearly having a negative effect on international air travel into Egypt, the growth in outbound travel remains a potential area of growth for the smaller Egyptian airlines (those operating with 10 aircraft or less on short-haul routes).

 

International tourists’ numbers into Egypt are tumbling

 

 

As per figures from the World Bank and Trading Economics, the number of arrivals into Egypt has fallen by a compounded annual rate of 9% between 2011 and 2014, recovering marginally in 2015 only to collapse further in 2016 in the wake of the Metrojet and EgyptAir disasters. Following recent terrorism related incidents, many countries issued travel warnings to some cities in Egypt. Not surprisingly, most of the international airlines flying into Egypt have substantially reduced their capacity and this has had a significant impact on the tourism industry in the country. As the chart above shows, the recovery in inbound traffic from each shock to the Egyptian tourist market is steadily getting weaker, and a long way from returning to the growth pattern of 2006-2010.

 

Potential opportunity

 

 

In difficult times for the tourism industry, there are, however, some more positive signs. The number of departures from Egypt saw an impressive compounded annual growth rate of 7.6% between 2011 and 2014. A continuation of this trend would lead us to take a more optimistic view on the medium to long-term prospects of the smaller Egyptian airlines.

Egypt has around seven airlines operating with less than 10 aircraft. They generally provide scheduled air transport and limited charter service. For the purpose of this report we have consciously decided not to cover EgyptAir, EgyptAir Express and Air Cairo as these three airlines are more likely to receive government support either directly or indirectly (they are part of EgyptAir Holding which is a state-owned holding company).

The seven airlines we have considered collectively operate a fleet of around 21 aircraft.

 

 

 

Nile Air is the largest of the smaller airlines in Egypt. It is a privately owned full-service carrier (FSC) focused on the Saudi Arabian market. The airline operates scheduled air services to various cities in Saudi Arabia in addition to covering one city each in Kuwait, Iraq and Sudan. Nesma Airlines, part of Saudi Arabia’s Nesma Group is also a FSC connecting the Egyptian cities of Cairo and Sohag to several cities in Saudi Arabia. AlMasria Universal Airlines is another FSC operating out of Cairo and Alexandria to destinations in Saudi Arabia, Bahrain, Kuwait and some domestic routes within Egypt. FlyEgypt started scheduled service as recently as May 2016, flying to three destinations (one each in Saudi Arabia, Kuwait and Egypt).  It is backed by the Egyptian conglomerate Talaat Moustafa Group. Air Arabia Egypt, part of the Sharjah based Air Arabia Group, is the only low-cost carrier based in Egypt. It currently operates a single A320-200 on charter services like those offered by AMC Airlines and Aviator to destinations in the Middle East.

The Ishka view is that these airlines have very limited exposure to traffic inbound from European markets, consequently they would not be impacted significantly by the drop in European visitors. We see the 7.6% average annual growth in outbound departures from Egypt as a positive sign for these airlines. Secondly, these seven airlines primarily operate on routes between Egypt and the Gulf countries, Saudi Arabia in particular. The number of tourists from Saudi to Egypt rose by an impressive 14% during 2015 compared to 2014 as per arabnews.com. Some airlines already seem to be optimistic of this trend - Nile Air more than doubled its fleet in 2015, which is an indication of how favorably the airline views the market between Egypt and Saudi Arabia. In addition, the airline announced in April 2016 that it would now be taking delivery of the larger A321s instead of the A320s that it had ordered originally. AMC Airlines also has one B737-800 on order which is due for delivery in 2016.

 

 

We believe that since these airlines already operate with a limited fleet and have no plans to further expand capacity in the short-term (Nile Air’s two A321s are scheduled to arrive in 2018), they should be able to withstand the current markets challenges in the short-term – all else being equal. In addition, some of these airlines have the backing of stronger parent companies and in the event of any financial difficulties could seek support from the parent.

 

GDP data compares well against other MENA countries, however challenges still remain

 

GDP figures are in current US$

MENA – Middle East North Africa includes 20 countries including Algeria, Bahrain, Djibouti, Egypt, Iran, Iraq, Jordan, Kuwait, Lebanon, Libya, Mauritania, Morocco, Oman, Qatar, Saudi Arabia, Sudan, Syria, Tunisia, United Arab Emirates, and Yemen.

 

In terms of macroeconomic indicators, Egypt seems to have recorded a reasonable performance despite the difficult few years following the political unrest of 2011. According to the IMF, between 2011 and 2015, Egypt’s GDP rose by a compounded annual rate of 7.5% compared to 2.1% recorded by the entire MENA region during the same period. Considering the nature of the political difficulties the country has witnessed since 2011 and other terrorism related incidents, an average annual growth rate of over 7% is quite an achievement. The IMF forecasts that the GDP will continue to grow at an average rate of around 5% between 2016 to 2021. While Ishka views this as a favorable prospect for the country’s smaller airlines, there are still considerable challenges in the short-term that could impact the economic recovery.

In May 2016 S&P cut Egypt’s outlook from stable to negative on the back of its fiscal and currency vulnerabilities. The rating agency has also warned that it could downgrade Egypt’s sovereign credit rating in 2017 on the back of the impending fiscal challenges for the country. The rating agency takes a dim view on the pace of reforms undertaken by the Egyptian government. The combination of these factors along with challenges from the fall in tourism could dampen the pace of recovery seen between 2012-2015. However, the agency also highlights some optimistic areas that could contribute towards a faster economic recovery. The discovery of an offshore natural gas field is viewed favorably by S&P. Secondly, while the pace of reform has been slow, the government has actually undertaken some bold and politically sensitive decisions such as raising electricity prices, aiming to phasing out fuel subsidies by 2020, and undertaking several tax reforms. These reforms are expected to improve Egypt’s fiscal situation and could help in the economic recovery in the medium to long-term.

 

What if the Gulf states substantially reduce their financial assistance to Egypt?

 

Egypt’s current government, led by President Abdel-Fattah El-Sisi, has relied substantially on financial assistance from Saudi Arabia, UAE and Kuwait. Since all these economies are highly dependent on oil, the fall in oil prices has impacted their revenues significantly. In such a scenario, if they substantially reduce the level of funding it could lead to severe foreign exchange shortages in Egypt. This could have potentially negative consequences on imports as the country would not have the required foreign exchange to pay for the imports. The lack of funding could also impact investment in new projects. This would force the Egyptian government to rely on other sources of funding, further worsening the fiscal situation. And, with lower economic activity emanating from the Gulf countries into Egypt, the level of air traffic from & to these countries could also fall – this could have adverse consequences on the smaller airlines in Egypt that rely on traffic to the Gulf in particular.

 

Ishka View

 

 

 

Despite the major socio-political and terrorism related challenges facing the country, Egypt has posted a positive macroeconomic performance. There are, however, short-term fiscal and external challenges that could hamper the economic recovery and delay any growth. In addition, international tourism in the country continues to be impacted following the terrorism related incidents and subsequent travel warnings issued by some European countries. However, there are areas of opportunity as well. The strong growth in outbound travel could augur well for the smaller private airlines that have limited exposure to Europe. Due to their limited fleet size, the risk for financiers and investors is manageable. In addition, some of the smaller airlines have the backing of powerful business groups which could prove useful in the event of any further market deterioration.
 

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