Air freighters given insufficient credit for passenger flight revenues

UNDER-ESTIMATING freighter versus passenger bellyhold contributions to profitability is problem at airlines that forget that cargo planes generate more revenue to passenger operations than is appreciated by accounting departments and boardrooms alike, says a Seabury Group analyst.

"Many passenger aircraft operators do not realise the fact that their belly cargo capacity drives a significant profit contribution," says New York's Seabury Amsterdam aviation analyst Gert-Jan Jansen.

"Understanding the real added value of the freighter is essential. Some routes may appear loss-making in a 'classic' profitability model that does not factor in their revenue contribution to the rest of the network. It is only when capturing their 'beyond' added value that we see the actual contribution of the freighters on the network," he said.

"These two distinct sources of cargo capacity provide the same service, but at different cost levels. Belly operators can afford to lower rates and still generate positive profit contributions, further eroding margins of freighters," he said in an article in London's Flightglobal.

"The profitability of belly cargo is high, about 65 per cent. This is because belly capacity has the advantage of having a large proportion of aircraft operating costs allocated to passenger activities," said Mr Jansen.

"The result is that direct costs of the [bellyhold] cargo operation are limited to handling, incremental fuel, sales and general and administrative costs. Both passenger and cargo departments utilise the same asset and should therefore split all associated costs," said Mr Jansen.

Yet many accounting departments set up mechanisms so that this profitability is shrunk to a more industry-comparable level. This is done by re-allocating costs to cargo. At best, they add to bureaucracy; at worst, they can lead to incorrect commercial conclusions.

"The point is that airline executives need to understand that every dollar in belly cargo revenue adds 65 cents to the airline's bottom line. This is achieved regardless of the transfer price mechanism in place," he said.

Freighters operate under a different cost structure and do not nearly match the contribution of bellyhold cargo.

"While passenger aircraft bellies only bear the incremental operational costs, freighters absorb the entire cost of flying. This may cause route profitability to drop to zero or negative levels, particularly in these economic times," Mr Jansen said.

Furthermore, some say freighters contribute to belly hold revenue, though corporate finance departments often argue otherwise, he said.

"The real answer depends on the nature of the airlines' operations. A cargo network can definitely be set up in such a way that freighters feed bellies from trunk cargo routes. This may be the case for Middle-Eastern airlines, but is less the case for carriers like Cathay, which is sitting atop one of the largest cargo markets in the world," said Mr Jansen.

"Instead of calculating freighter profitability in a mixed fleet, the question should be what is the freighter's impact on total airline profitability? What if freighters make a small standalone loss, but have a positive contribution to belly revenue that is greater than that loss?

"In addition, a freighter adds value. It is perceived as a better product because of its main deck and guaranteed capacity, which may justify higher yields. It may also enhance the carrier's market share and promotes a better status towards forwarders," Mr Jansen said.