Aviation Industry Faces Challenges Even with Strong Cargo Performance

Concerns Over Credit Rating Downgrade Resurface
Financial Burden Worsens Due to Rapid Debt Increase

[Asia Economy Reporter Minji Lee] Concerns over credit ratings for the aviation industry, which was hit hard by the novel coronavirus infection (COVID-19), have resurfaced. Although the recovery in cargo demand in the first half partially offset the poor performance caused by the sharp decline in travel demand, analysis suggests that financial concerns have increased due to a surge in debt.

On the 11th, Korea Ratings, a domestic credit rating agency, diagnosed that the aviation industry is facing increased uncertainty in performance due to the prolonged COVID-19 pandemic. It predicted that if profit generation based on the recovery of passenger demand does not occur, it will be difficult to relieve downward pressure on credit ratings, and the special cargo demand is unlikely to continue. Currently, the long-term credit rating set by domestic credit rating agencies for Korean Air is BBB+/Negative, and for Asiana Airlines, it is BBB-/Under Review for Uncertainty.

[Image source=Yonhap News]

The reason the rating agency raised the possibility of a credit rating downgrade for the aviation industry is fundamentally because concerns about the financial structure have not been resolved. Despite the sharp decline in passenger demand in the second quarter, the recovery in cargo performance reduced the pressure for a credit rating downgrade, but concerns about the financial structure have increased as potential liabilities have drawn attention. Although accounted for as equity in accounting, a total of five new capital securities (hybrid bonds) worth 1.1 trillion KRW have scheduled interest rate step-ups and early redemption options by 2022, potentially increasing repayment pressure. Contingent liabilities related to guarantees for borrowings (700 billion KRW) of Hanjin International, an affiliate engaged in hotel and office leasing businesses, are also a concern.

Concerns about liquidity risks also remain. Gikwang Hoon, Senior Researcher of Evaluation Team 3 at Korea Ratings, said, "Although repayment of principal and interest on borrowings can be made through a capital increase (1.2 trillion KRW), application for the Industrial Stabilization Fund (1 trillion KRW), and sale of the in-flight meal business (800 billion KRW), if investment sentiment toward the aviation industry does not improve in the issuance market in the future, liquidity response problems may arise." He pointed out, "Although asset sales are underway, considering the excessive scale of borrowings and reduced profit-generating capacity, there will be limits to alleviating financial burdens."

Profit generation through the cargo transportation sector also has its limits. In the first half, cargo supply through passenger aircraft decreased, concentrating cargo demand on some airlines operating dedicated cargo planes, but the special effect is expected to be limited in the second half. Due to increased cargo transportation supply leading to a decline in freight rates and rising oil prices, the profit improvement effect is expected to be smaller compared to the first half.

As a result, recovery signals must come from the passenger transportation sector, but the timing of revenue recovery related to this is unlikely to show a V-shaped rebound due to the prolonged COVID-19 pandemic. The International Air Transport Association (IATA) forecasted that air travel demand will return to last year's levels only by 2024. This means the current situation may continue for the next one to two years. Looking at Incheon Airport's international passenger transport performance in August, the number of passengers dropped sharply by 96% year-on-year to 235,000, with all routes showing significant declines: Japan (-99%), Northeast Asia (-98%), Southeast Asia (-97%), and Europe (-94%).

Asiana Airlines currently has an uncertain credit rating. It is expected to take more time to restore market trust and improve financial stability. Although expectations were high that financial stability indicators would improve significantly through a capital increase during the major shareholder change process, it is expected to deviate from previous forecasts due to the failure of incorporation into the HDC group. Lee Jeong-hyun, Senior Researcher of Corporate Evaluation Team 3 at NICE Credit Rating, explained, "There is an expectation of possible financial support such as the Industrial Bank of Korea's exercise of perpetual convertible bond conversion rights, capital increase, and policy fund support plans," adding, "We will closely monitor the plans and execution progress and proceed with credit evaluation accordingly."

This content was produced with the assistance of AI translation services.