Air France Pins Turnaround Plan on Pay Freeze, Securing Labor Concessions

Air France-KLM Group (AF) will freeze pay and hiring to cut costs by 1 billion euros ($1.28 billion) while beginning productivity talks with unions aimed at delivering a similar saving it says is needed to secure the long-term future.

Europe’s biggest airline will halt salary increases at its French unit with immediate effect and cut bonuses for 50 top managers, with wages to be curbed at KLM, it said yesterday in a statement. A secondary “transformation plan” will seek to boost cash flow by 1 billion euros over three years, and the company will also shrink the fleet and rein in capacity.

“Both sets of targets are largely subject to labor talks,” said Penny Butcher, a Morgan Stanley analyst in London with a “neutral” rating on the shares. “Hopefully negotiations can go quickly, but nothing has been cemented in my view.”

Air France-KLM’s earnings before interest and tax fell 31 percent in the three months to Sept. 31, hurt by high fuel costs and waning growth, prompting the company to predict a full-year loss after previously suggesting it would break even. Chief Executive Officer Jean-Cyril Spinetta said on a conference call that the company’s 100,000 workers recognize the need for cuts.

Shares Gain

“They’ve understood where we are, that we cannot continue in the way we behaved in previous years, and that a change is necessary to ensure the future of the company,” Spinetta said. “It won’t be an easy task, but I think people are prepared to face this kind of issue. We have to change things rapidly.”

Air France-KLM advanced as much as 14 cents, or 3.3 percent, to 4.43 euros and was up 1.9 percent as of 10:34 a.m. in Paris trading, valuing the airline at 1.31 billion euros. The stock gained 7.5 percent yesterday prior to the announcement.

Chief Financial Officer Philippe Calavia said a stipulation that initial measures will be implemented “in compliance with regulations concerning the information or consultation with the group’s social partners” does not imply any form of labor veto.

“All the measures of the first set will be immediately implemented without any union waiver,” Calavia said in an e- mail. “There will be no general pay rises in 2012, nor in 2013.”

Talks Loom

The targeted savings and productivity gains, which aim to deliver break-even on short- and medium-haul routes within three years, require the renegotiation of five labor accords, the company said, and some steps won’t be possible until 2013.

Labor talks will begin soon, and there are no plans for job cuts, according to Alexandre de Juniac, a former government adviser appointed head of the Air France brand in November after Pierre-Henri Gourgeon vacated the role and that of group CEO, which was filled by Spinetta, who is also chairman.

“Down the road we could see some opposition, but I really don’t know,” Juniac told reporters at a press briefing. “If we discover during the transformation that we have excessive staff, then it is something we will discuss.”

The airline industry is likely to suffer a 49 percent drop in net income to $3.5 billion this year, with margins down to 0.6 percent, the International Air Transport Association says. A declining profit outlook last year prompted Air France-KLM stock to drop 71 percent, the worst performance on the six-member Bloomberg EMEA Airlines Index (BEUAIRL), which fell 39 percent.

A380s Delayed

“They had to do something,” said Keith McMullan, managing director of London-based consulting company Aviation Economics. “They were losing their competitive position. But there’s a residual state-control mentality at Air France that prevents it from taking very dramatic action. The pay freeze is probably the best that can be expected under these circumstances.”

Common Stance

The CGT union said in a statement that the measures “do not respond to the challenges that await Air France in the coming months,” and that the plan offers “no perspective on the future for Air France and its employees.” The union will seek a common stance with other labor groups on the issue, it said.

SNPL Alpa France, Air France’s biggest pilot union, needs at least a day to consider the plans before commenting, spokeswoman Carole Arnaud-Battandier said.

Air France said a decision to limit capacity growth to just over 5 percent through 2014 came after a review of growth prospects in light of a slowing economy. Investments will be reduced below 5 billion euros over the next three years, compared with more than 6 billion euros in 2009-2011.

Delivery of two Airbus SAS A380 (EAD) superjumbos will be delayed from 2014 to 2016, and two A320 narrow-bodies due this year won’t now arrive until 2013-2015. A Boeing Co. (BA) 777 wide-body has also been put back from 2015 to 2016, with two options scrapped.

Fuel Penalty

Including retirements and deliveries that are unaffected, the fleet will be reduced by eight aircraft to 579 by 2014.

“We have to adjust our capacity for the next few years, whether it’s cargo or passengers,” Spinetta said at the press briefing. “The offer of transport has outpaced demand in recent years, and that’s weighing on all airlines. And we are penalized by fuel prices that are at record levels.”

The delivery delays, which affect only the Air France division, should save about 800 million euros, the CEO said, adding that the company will still “keep a young fleet compared with our competitors,” with its jets averaging 10 years old.

Deliveries of Boeing 787 Dreamliners due from 2016 and Airbus A350s from 2018 are unaffected, Spinetta said, with the models “a key part of modernizing our fleet.” The A350 order should be sealed in “weeks” after protracted negotiations.

Some routes may be cut as capacity growth is reduced, the CEO said, without specifying which ones.

Debt Plan

Other measures announced yesterday call for a 2 billion- euro debt reduction by the end of 2014, which Spinetta said is his top priority, though any notion that there’s a risk of default is “absurd.” The company has 3.2 billion euros in cash and unused credit lines of 1.8 billion euros, he said.

Air France needs cost cuts to achieve a level footing with Deutsche Lufthansa AG (IAG) and British Airways parent International Consolidated Airlines Group SA (IAG) after Gourgeon said in September that the company was at a competitive disadvantage to rivals.

The carrier suffered operating losses in two of the past three fiscal years following 11 years of profitability on that basis under Spinetta, who ran Air France and later the enlarged company formed via the purchase of KLM Royal Dutch Airlines NV from 1998 through the end of 2008, with Gourgeon as his deputy.

The group had already reined in short-term growth plans, increasing capacity 3 percent this winter, compared with an initial target of 5 percent.

Rival Strategies

Air France has also established a lower-cost unit to perform flights from French regional cities with the aim of stemming the loss of market share to discount operators such as EasyJet Plc. (EZJ) Under that plan it established a hub in Marseille in October and will add routes in Nice and Toulouse in April, all operated by local crews working longer hours.

IAG, created in a tie-up of BA and Madrid-based Iberia a year ago, is targeting as much as 270 million euros of annual cost savings from merger synergies by 2015.

British Airways endured a two-year dispute with cabin crew that ended last May after CEO Willie Walsh, now head of IAG, introduced what amounted to a parallel airline with lower pay and revised contractual terms for new recruits to slash costs.

Iberia pilots walked out this month and in December in protest at a plan to transfer planes and crews to a new Express unit to boost profitability on domestic and European services.

Lufthansa (LHA) last year wrapped up a program to cut costs by 1 billion euros from 2008 and said in December it will give details of further reductions sometime this quarter.

Europe’s No. 2 airline, which has its hub in Frankfurt, may seek another 1.5 billion euros in savings, Handelsblatt said Dec. 21, without disclosing where it got the information.

To contact the reporters on this story: Gregory Viscusi in Paris at gviscusi@bloomberg.net; Andrea Rothman in Toulouse, France, at aerothman@bloomberg.net

To contact the editors responsible for this story: Chad Thomas at cthomas16@bloomberg.net; Benedikt Kammel at bkammel@bloomberg.net; James Hertling at jhertling@bloomberg.net

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