March 31, 2013 5:46 pm

Air France aims to lighten debt baggage

Jean-Cyril Spinetta, chairman and chief executive of Air France KLM©Laurent Villeret

It was a case of back to the future at Air France-KLM in October 2011, when its board appointed Jean-Cyril Spinetta to a second period as chairman and chief executive.

But this period has been far more challenging for Mr Spinetta than when he served in these roles between 2004 and 2008.

Airline's share prices

Airline's share prices
As well as labour costs and leverage of Air France-KLM, easyJet, International Airlines Group, Lufthansa and Ryanair

Back then, he won plaudits for having the vision to devise Europe’s first merger between two flag carriers – Air France and KLM of the Netherlands – in a 2004 deal that created one of the world’s largest airline groups.

In this second phase, he has been striving to ensure that his achievement with the merger, which was followed by strong profit growth, is not tarnished by the subsequent concerns over rising debt and operating costs.

This weak financial position – partly borne out of the group’s inefficient structure – eventually provoked a crisis in 2011, when the group slumped to a €809m net loss. Pierre-Henri Gourgeon, group chief executive, resigned. Mr Spinetta, who in 2009 had confined himself to the role of chairman, was once again made top manager.

As “founding father” of the merger, he was given the task of devising a better structure for the group, and, more importantly, finalising a cost-cutting plan – called Transform 2015 – that would reduce Air France-KLM’s large debt and return it to profit.

“I’m very optimistic on the final outcome of this restructuring plan,” says Mr Spinetta in an interview with the Financial Times. At the age of 69, he is planning to step down as chairman and chief executive in July, saying his work is done, although the turnround plan will not be fully implemented until 2015.

Mr Spinetta – a graduate of France’s elite Ecole Nationale d’Administration, where his contemporaries included Louis Gallois, former head of EADS – says Air France-KLM’s difficulties can be traced back to the banking crisis and subsequent sharp fall in passenger demand.

But he admits some of Air France-KLM’s problems were self-inflicted, saying the group increased capacity too aggressively in 2011 after wrongly concluding the previous year that a sustained global economic recovery was under way. “It was proven to be a mistake,” he says. Excess capacity puts pressure on fares, and Air France-KLM’s passenger unit revenue fell 0.7 per cent on an underlying basis in 2011.

Praise for Hollande’s European convictions

At a time when many French business leaders are frustrated by François Hollande’s tax increases – and anxious to see faster reforms to reboot the stalled economy – Jean-Cyril Spinetta offers clear support for the struggling president.

One of France’s “grand patrons” with a strongly Socialist family background, Mr Spinetta praises Mr Hollande as the country’s first president to be “a real social democrat, with strong European convictions”.

However, the Air France-KLM chairman and chief executive is critical of the government’s heavy reliance, to date, on tax increases to stem the budget deficit – describing the policy as “not sufficiently balanced”.

Protests over a proposed 75 per cent marginal income tax rate helped create a negative image abroad, he concedes. He also opposes the government’s contentious policy of raising capital gains levies in line with income tax brackets. “That was probably inappropriate and will have to be corrected in the future,” he says.

But Mr Spinetta expresses confidence that Mr Hollande, who has pledged €60bn in cuts over the next five years, will tackle the country’s big public spending bill. “It will come now. I think that new taxation is impossible, so the new savings will be made through reduction of expenses.”

He applauds as “a good first step” moves by the government to reduce France’s high labour costs with a €20bn tax break for companies – it will save Air France €70m a year, he says – and to ease stiff labour regulations.

“For me the most important point is that there is a bigger recognition by this government that there is a competitive issue for the French economy, as for probably other European economies, and that part of this competitive issue is linked to the cost of the labour,” he says.

His lists his top three policy priorities as: lowering labour costs, reforming education and streamlining France’s cumbersome local government structure.

Although Mr Hollande is currently suffering miserable approval ratings, Mr Spinetta says that, unlike the political paralysis in Italy, France’s constitutional structure gives the president strong powers for his five year term, allowing Mr Hollande the space to act.

Today, the group’s challenges are mainly focused on Air France – the operation that Mr Spinetta first ran in 1997. Although the group does not provide separate figures for its two operating companies, Mr Spinetta discloses that KLM made a profit in 2012, while Air France was lossmaking.

Key to the Air France revival plan is the renegotiation of pay and productivity agreements with trade unions representing pilots, cabin crew and ground staff.

This has not been easy, because employees were asked to accept salary freezes, longer working hours, and a 10 per cent reduction in headcount – 5,200 staff are leaving Air France during 2012 and 2013.

Unlike the restructuring at Iberia, the lossmaking Spanish flag carrier, wages are not being cut at Air France – but Mr Spinetta rejects some analysts’ criticisms that the turnround plan is too timid.

Having honed his conciliatory approach to industrial relations as a civil servant, he says it is vital to keep employees on side because aviation is a service industry – and an alienated workforce can destroy an airline’s reputation. “When you create this kind of situation, your company is dead,” he argues.

Nonetheless, with Air France’s short-haul operations running up losses as they try to compete with budget airlines, Mr Spinetta says the group is interested making further cost cuts by expanding the role of Transavia, its low-cost carrier, in France – a move that could cause fresh tension with the unions.

Air France-KLM’s long-haul operations offer better prospects, notably through a joint venture on transatlantic routes with Delta Air Lines, the US carrier.

At its 2012 results, there were limited signs of improvement for the group as a whole: net debt was down €549m to €6bn in the year to December 31.

However, even at this level, debt is a still hefty 4.1 times last year’s earnings before interest, tax, depreciation and amortisation. Credit Suisse analysts estimate the multiple is 6.1 times when aircraft operating leases are included.

Meanwhile, the group’s net loss increased 47 per cent to €1.2bn in 2012, principally because of a higher fuel bill and restructuring charges.

Unsurprisingly, Mr Spinetta – who says his worst moment in the near 16 years since he became head of Air France was the Concorde crash of 2000 – predicts Air France-KLM will hit its targets to reduce net debt to €4.5bn by the end of 2014. By then, it will also have cut its unit costs (excluding fuel) by 10 per cent from 2011 levels, he says.

Some investors are not convinced, and say Air France-KLM may need to launch a rights issue to strengthen its balance sheet. Mr Spinetta claims this is not necessary. He highlights how the group has raised €1bn through bond issues over the past four months, adding these would not have been possible at the start of 2012.

“The fact we have a normal bond issue . . . reflects the confidence of investors and the market on our financial capacities and the result and efficiency of our restructuring plans,” he says.

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