Mexicana has its wings broken by debt

Following a series of unsuccessful attempts to negotiate salary cuts and staffing, Mexicana Airlines filed for bankruptcy protection on 2 August 2010 in Mexico and the US with a debt of more than US$1 billion.

Mexicana cancelled three flights including one domestic and two international. Additionally, its frequency and routes changed for another 28 flights. Two days after the announcement, Mexicana stopped selling tickets but continued to fly to protect passengers with tickets. By 9 August 2010, however, the airline started to gradually suspend international flights in face of its deteriorating financial performance.

Its subsidiaries, Mexicana Click and Link, were not directly affected by the upheaval, as both operate independently—although their long-term prospects would be questionable if they were to lose their feed traffic from Mexicana.

Fierce Competition behind the Bankruptcy

The launch of low cost carriers in 2005 put significant competitive pressure on carriers to lower fares. In addition, all airlines suffered as oil prices skyrocketed in the summer of 2008 and demand began to weaken as the American and Mexican economies slowed down.

This was followed by the outbreak of H1N1 in April 2009, which caused demand for air travel to halt through most of June. The number of major carriers declined from 14 in 2007 to 5 in 2009. Although Mexicana aimed to cut costs over the years, the pressure from low cost carriers and unfavourable external factors forced the airline into bankruptcy.

The recent announcement made by LAN Airlines and TAM Airlines about their plans to merge through a holding company, called Latam Airlines Group, is expected to place great competitive pressure on Mexicana.

The Future of Mexicana

Mexicana is looking to renegotiate its contracts with labour unions, aiming to reduce the workforce by 40% and slash wages by 40% to be more competitive with low cost carriers. If Mexicana is not able to reach an agreement with unions, it will most likely end up like its Brazilian counterpart Varig, which was liquidated in 2006. If it is able to come to an agreement with its unions, it will likely be a much smaller carrier. It is unclear how Mexicana Link and Click would fare, but it is likely that they would continue their operations.

A lifesaver for Mexicana would be the potential acquisition by another airline, but that is not likely. Given the amount of debt, powerful labour unions and a poor economic outlook, it appears that the other carriers, including Aeromexico, would prefer to see Mexicana exit the market or shrink considerably.

The suspension of international flights to Europe and other international destinations presents an opportunity for competitors to pick up the demand left on those routes and boost revenues, particularly as consumption patterns level out following the economic crisis.

Impact on tourism in Mexico

The demise or shrinking of Mexicana is expected to impact a recovering, but still hurt, Mexican air transportation market. Although the total number of passengers carried increased in the first six months of 2010 compared to 2009 by 4.5%, the number is still 11% lower than 2008 levels. Mexicana’s restructuring or exit will likely benefit competitors as passengers shift to their planes, and the drop in capacity will allow these carriers to raise fares. As a result, the air transportation market will likely be smaller, but more profitable in 2010.

A smaller air transportation market will ultimately hurt the tourism industry in Mexico. Higher air fares may deter domestic tourists from taking multiple trips throughout the year or seek to save money on other travel products and services.

Ending international ticket sales is likely to have a significant impact on tourism flows to and from Mexico in 2010, because Mexicana accounted for about 25% of international passengers carried in 2010. When Varig collapsed in 2006, arrivals to Brazil shrank by 6.4% and departures declined by 0.9%. It is possible that Mexico will experience similar declines in 2010 because it is unlikely that existing competitors can fill such a large gap.