Eastern Europe’s airlines fall one by one: Financial mismanagement and nationalist hubris

For Prague-based public relations consultant Joe Cook, just finding a flight may prove to be the toughest part of a business trip to Bulgaria later this month.

With Czech Airlines AS cutting services to Sofia, Cook must travel via Vienna or Munich at twice the time and cost. It’s the same story for journeys around much of eastern Europe as cuts in state spending and a dearth of potential investors among larger carriers forces government-owned operators to downsize networks.

“Flight-related costs have increased and one’s choices are reduced,” said Cook, whose firm, Cook Communications, includes coking-coal producer New World Resources Plc and Swedish arms- maker Saab AB as clients. “You start thinking, ‘Do I really need to go there?’”

Europe’s sovereign debt crisis is weighing on carriers from the Balkans to the Baltic as austerity programs coincide with high fuel prices and a European Union clampdown on aid. At the same time, Air France-KLM Group, Deutsche Lufthansa AG and British Airways parent IAG, the region’s three major airlines, are shying away from takeovers to focus on stemming losses at short-haul units swollen by an earlier spate of merger activity.

Eastern Europe’s worst travel crunch to date came with the collapse of Hungarian flag carrier Malev Zrt., which folded after 66 years on Feb. 3 when an EU decision compelling it to repay aid led the state to pull the plug. The move depressed passenger numbers in Budapest by 36 percent and cost 200 jobs.

Lost Hub

With a dozen routes ranging from Belgrade to Damascus still unfilled, “it’s hard to speak about any hub role at present,” according to Mihaly Hardy, a spokesman for the airport. Ryanair Holdings Plc, Europe’s top discount airline, opened a base in Budapest to fill the void before saying last month it would cut 40 percent of the timetable due to high access charges.

Elsewhere, CSA has ended flights from Prague to Belgrade in Serbia, Zagreb in Croatia and Ljubljana in Slovenia, while Latvia’s AirBaltic SA is cutting services to Belgrade and Dubai.

“Carriers are paying the price for being financially mismanaged,” said Tomas Mencik, a stock analyst at brokerage Cyrrus AS in Brno, Czech Republic. “Governments that used to pump in money for reasons of politics and prestige are cash-strapped and no commercial carrier will step in unless it makes business sense.”

Jozsef Varadi, the CEO of Budapest-based Wizz Air Ltd., eastern Europe’s biggest discount carrier, said the region’s state-owned airlines are “very vulnerable” due to their lack of scale and market power, poor management and operational inefficiencies.

‘Bailed Out’

“If it was purely down to market conditions, none of these airlines would be flying today,” Varadi said in an emailed response to questions. “They’ve been bailed out by governments. The question is how long will they keep flying.”

While Cabinets from Belgrade to Tallinn are seeking suitors for their unprofitable airlines, regular travelers are switching from planes to less costly and more reliable alternatives.

Investor-relations consultant Klara Klimova, another Prague resident, has begun driving her Volvo the four hours to Vienna or three to Bratislava in Slovakia to meet clients.

“I take it as a fact that it’s difficult and inconvenient to fly now,” said Klimova, who seeks to make a virtue of travelling by car. “I shop for groceries in Austria, wine in Moravia, get phone calls done along the way and I’m not tied to a schedule.”

CSA Bids

The Czech government last month renewed its attempts to sell CSA after failing to find a buyer in 2009. Since then, the carrier has trimmed its fleet, reduced headcount and cut routes to focus more on Russian destinations.

Korean Air Lines Co. is holding internal discussions about an offer for CSA, according to an emailed response yesterday. No concrete decision has been made, it said.

Letters have been sent to 50 carriers seeking indications of interest and identities of any that respond may be revealed this week, though prospects are poor, according to Juergen Pieper, a Frankfurt-based aviation analyst at Bankhaus Metzler.

“I don’t know of any realistic acquisition candidates in eastern Europe,” he said. “It’s not a priority for the big European carriers at the moment.”

West European airlines are already largely consolidated, leaving their eastern peers struggling to attract interest.

Lufthansa alone bought the biggest Swiss, Austrian and Belgian airlines, while Air France-KLM was formed from a merger of the French and Dutch flag carriers and holds a stake in Rome- based Alitalia SpA. IAG, as International Consolidated Airlines Group SA is known, united British Airways with Madrid-based Iberia before adding BMI, the second-biggest U.K. carrier, and is bidding for Spanish No. 2 Vueling Airlines SA.

Ryanair Bid

Of the handful of flag carriers independent of the three major groups, Ireland’s Aer Lingus Group Plc is subject to a bid from Ryanair, which owns 30 percent of its stock, and Portugal’s TAP SA is midway through an auction that attracted an offer from Brazil’s Synergy Group. Only Scandinavia’s tri-national SAS Group is as exposed as eastern operators, with its state backers keen to exit after years of losses and no sign of bid interest.

Poland’s Polskie Linie Lotnicze Lot SA, eastern Europe’s biggest state-owned airline and unprofitable since 2007, lost a potential buyer in June when Turk Hava Yollari AO, or Turkish Airlines, ended talks because of EU rules on outside ownership.

With the economy poised to enter recession for the first time since communism fell, LOT is seeking to sell stakes in a domestic arm together with catering, casino and fuel operations.

Competition Distortion

EU rules barring governments from distorting competition through subsidies are also taking a toll. Regulators this month began probing aid to AirBaltic and Slovenia’s Adria Airways d.d. while ending a probe into LOT’s sale of units, saying the Polish carrier’s transactions weren’t a form of state support.

“Government involvement is much lower because the EU has a very close eye on everything,” said Heinrich Grossbongardt, a marketing consultant in Hamburg, Germany, who has advised the airline industry for two decades. “Just look at the collapse of Malev. It wouldn’t have happened four or five years ago.”

AirBaltic, which placed a notice in the Financial Times in August seeking a buyer for 50 percent of its stock minus one vote, is being pressured by fuel prices that have increased 3.6 percent this year and more than ten-fold in the past decade, according to Chief Executive Officer Martin Gauss, who predicts that other carriers will follow Malev into bankruptcy.

Cutting Losses

“I can’t believe we will not see more airlines stop working in the future if fuel prices remain at that higher level,” Gauss said in an interview in Riga. His company aims to reduce its annual loss to 38 million lati ($71 million) this year from 83.5 million lati in 2011.

In Tallinn, the government views the closure of Estonian Air as “an option,” Economy Minister Juhan Parts said Nov. 15. The carrier is reducing its headcount and destinations by about half and has been losing money since 2006, booking a 17.3 million-euro ($22 million) loss last year.

Serbia, which has been trying to sell JAT Airways for years, may inject as much as 180 million euros on top of recurring government-backed loans to make it more attractive.

“All of these airlines have issues with their organization, their cost structures, their ability to sell,” said John Strickland, director of JLS Consulting in London.

That points to less choice and higher expenses for Cook.

“I’m not a huge organisation with its own travel department,” he said. “I’m a small business and I know where every penny is spent. The cost has risen and that’s not good.”

With assistance from Aaron Eglitis in Riga, Boris Cerni in Ljubljana, Konrad Krasuski in Warsaw, Bryan Bradley in Vilnius, Jasmina Kuzmanovic in Zagreb, Elizabeth Konstantinova in Sofia and Kateryna Choursina in Kiev. Editors: James M. Gomez, Chris Jasper. To contact the reporters on this story: Lenka Ponikelska in Prague at [email protected]; Edith Balazs in Budapest at [email protected]; Alex Webb in Frankfurt at [email protected]. To contact the editors responsible for this story: James M. Gomez at [email protected]; Chad Thomas at [email protected].