RichardAboulafia.com 

:: July 2015 Letter ::

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Dear Fellow Reconciliation Fans,

Sometimes, old adversaries can sit down and find common ground. Itís funny to think about the meetings that take place; leaders who had fiercely criticized each other in the strongest terms now getting together and reaching historic accords; people who had painted the other side as pariahs and demons suddenly finding reasons for cooperation and peace.

But enough about Lockheed Martinís purchase of Sikorsky. Whatís just as striking is Iranís deal with the US and the Western allies to halt nuclear weapons development in exchange for ending sanctions. This has inevitably inspired talk of how big Iranís aviation market might be, and why Western jetmakers should start drooling, with dollar signs in their retinas. At Le Bourget, Abbas Akhoundi, Iranís transport minister, said the country needs over 400 jets worth $20 billion. Iran Aseman alone says it needs 100 aircraft. And why not? After all, in the Shah days, this country was a big market. Iran even ordered two Concordes. Well, hereís my confident prediction: The Iran post-sanctions aviation market will be good forÖexactly zero new aircraft.

That might be a slight under-estimation; somebody will buy a few, and of course thereíll be a small but profitable market for parts and sustainment of the existing fleet. But the recent estimates of hundreds of jets are absurd. Consider the following mitigating circumstances:

1. Itís the economy, not the sanctions. Iranís economy is largely controlled by the government, and various governmental factions. Itís not in great shape, and it needs oil to cost well over $90 for the budget to be balanced (ending sanctions will actually drive oil prices lower). Iranís economy is also rife with corruption and patronage. Iran wonít be a fast-growth air travel market, unless the Revolutionary Guards starts its own low-cost carrier. If Iran liberalizes its economy and de-regulates its aviation sector, that would be one thing, but there are no immediate plans to do this. Similarly, Cuba has lots of neat old cars from the 1950s. But nobody is foolish enough to think that Western car manufacturers will suddenly enjoy a boom market in Cuba if the US trade embargo ends. Both countries are a long way from consumer-friendliness.

2. Itís not just the economy; there are other aviation-specific problems too. The jetliner business thrives on third party finance, which in turn thrives on asset protection agreements like the Cape Town convention, which ensures that financiers can repossess aircraft in the event of bankruptcy or non-payment. The very fact that the nuclear treaty contains sanctions snapback provisions (in the event Iran violates the agreement) adds considerable risk to any lessor or financierís calculations. Snarky question: can jetliners be held hostage?

Also, the Shah, for all his faults, ran a society with lots of useful technocrats and engineers, but many were exiled or imprisoned after 1979. Getting good people to run airlines and the associated services will be a huge challenge.

3. If there was all this pent-up demand, Iran could have purchased jets. And they did. Sure, we all marvel at that 40-year old 747SP in Iranís fleet. But itís harder to explain the A320s, A340s, Fokker 100s, and other jets that were acquired during sanctions. Some were even acquired during the last decade. It might have cost Iran Air, Iran Aseman, Mahan, Meraj, and the other Iranian carriers more to buy these jets through back channel sources, and to get parts for them, but if there really was all this pent-up demand for jets in Iran it could have been satisfied through the grey market. If nothing else, Iranian carriers could have bought more Russian jets at any time.

4. Aviation is not a national industry. This is a global business. Flag carriers are an anachronism, and so is the idea of a national jet fleet. The Netherlands and Mexico both have larger economies than Iran, and nobody cares about their national jet fleets. This is because modern countries care about service, not about owning aircraft. And right now, Iran is well-served by Emirates, Etihad, Qatar, Lufthansa, flydubai, and many others. When sanctions come down, more foreign carriers will also enter the market. Air France had served Iran until a few years back, and will certainly return.

Meanwhile, those Iranian carriers, with their dismal brands, stand little hope against this competition. In fact, given the proximity of those large Gulf superconnectors, Iranians flying domestically may even opt to fly through a Gulf hub on a Gulf airline. And hereís an easy way for foreign carriers to market in-country: ďBetter route networks. Better service. We serve beer.Ē What can that Revolutionary Guards LCC compete with? Again looking at Cuba, right after the most recent diplomatic progress with the US, American Airlines issued a press release reminding everyone that ďAmerican Airlines has operated charter flights to Cuba for nearly 25 years and we stand ready to begin scheduled service when itís allowed.Ē Good luck, Cubana.

The theoretical Iran jetliner market reminds me of a lesson I learned on one of my earliest consulting projects, around 25 years ago. The client (Northrop, believe it or not) was considering a DC-3 replacement. After all, there were still scores of DC-3s out there; surely the operators were just waiting for the right aircraft to replace them. But the more we looked at the operators who had these old planes, the more it became obvious that they had them because they couldnít afford to replace them with anything newer. They were stuck with older planes (often purchased secondhand for a token sum) because of their own poor operating economics. In Iran, thereís more of this problem than the local politicians want to admit, but those Western sanctions serve as a convenient scapegoat for a dilapidated fleet. After all, nobody in the Iranian Government wants to admit that their countryís aviation business was better under the Shah.

The lesson: an aging legacy fleet doesnít necessarily indicate a strong replacement market. In fact, very often it indicates that thereís really no market at all.

On the subject of world jetliner demand, weíve updated our annual Jetliner market overview this month. Other updated Teal aircraft reports cover the 747, CSeries, E170/190, C919, Dash8Q, F-5/T-38, UH-60, MH/SH-60, Bell 412/525, and the H145/UH-72. Have a great summer.

Yours, ĎTil CaspianBlue, TehranGo, and ShirazJet Are Trademarked,
Richard Aboulafia
 

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