In its April 11, 2019 edition The Economist magazine, one of my favourite reads, published the following article Turkish Airlines takes on Emirates, Etihad and Qatar Airways. I can’t comment on the conclusions that it arrives at because the analysis is meaningless. It is important for readers to understand why this is so to better enable them to make judgements about the content. In my article I am not arguing for or against a particular airline, I wish them all the best. I am simply pointing out the flaws in the article’s arguments, with all due respect to the author and to a great magazine.

Using the right measure for growth rates

The first issue is the following statement “Turkish [Airlines] is growing at an annual rate of 30%, unlike its Gulf rivals, whose expansion has stalled or gone into reverse (see chart).” 

As always, when comparing growth rates one needs to look at multiple factors. An important factor is the base one is starting from. In this case the measure used in the article is passengers carried in absolute terms and the base seems fair enough. The question is does the measure make sense? It doesn’t for several reasons. With regards to presenting the graph the main issue with the base is that Turkey has a population of circa 79 million whilst the UAE and Qatar have a combined population of 12 million. Turkish (the airline) is carrying circa 100% of its population per annum whilst Etihad, Emirates and Qatar (airways) are carrying circa 900% of their populations annually. That is a huge difference.

The second issue is what does total number of passengers mean? Clearly in the end success will be measured financially. But even intermediate measures would be more meaningful. Carrying the same number of passengers but with lower plane occupancy rates and / or higher number of flights is a bad thing.

The bait and switch: airlines versus airports

Another logical flaw in many arguments is to point out material issues that, whilst they may be interesting, have little bearing on the issue being debated. The article is debating the issue of competition between four airlines. It then drops this line in: “[Turkey’s] new airport is designed to turn Turkish into a fully fledged super-connecting airline. Fees that airlines, including Turkish, are charged for every passenger favour those in transit over those who start or end their journey there.”

The fact that Turkey’s new airport will make greater fees if Turkish succeeds in its long term growth plans is an interesting point and important to the economy of Turkey. But what does it have to do with the success of Turkish? I don’t see a link, but even if there was one it should be made explicit.

The incomplete argument: currency complications

The article reminds the reader that the Turkish lira has been falling in value. It then points out that 14% of Turkish’s revenue is in Turkish lira whilst 26% of its expenses are in lira. The idea here is that if the Turkish lira falls in value, then Turkish’s revenue value in some standardised measure (e.g. PPP) would fall less than expenses, giving a boost to Turkish’s profits. There are a whole host of issues here.

Currency price source: paying in lira for dollar assets

The article is not clear if the revenue / expense currency split is on the final payment or is based on the actual currency components. For example, if a Turk buys an iPhone, an expense, priced in Turkish liras this does not mean that the fall in the lira leads to a lower cost for the Turk. All things being equal the lira price of the iPhone would probably go up. 

The question here is whether the revenue / expense currency split is on the final currency being used or based on the source currency? In the end, leaving aside other factors, this particular point washes out. If the value of the lira goes down relative to imported goods and services, e.g. gasoline, airplanes and spare parts, then the actual lira amount should go up equivalently.

This simple example actually masks a deeply complex problem. One of the reasons that the concept of purchasing power parity was developed was to try and create an independent measure of what it means to an economy when its currency fluctuates. The article does not make a clear argument for what the net effect is here.

Currency hedging

The argument on the effect of the lira’s devaluation given Turkish’s revenue / expense asymmetry does not factor in currency hedging. All sophisticated, global companies such as Turkish will hedge their currency exposures so that they can manage their business independent of the financial markets. Whatever hedging strategy Turkish uses will have a material effect on the final revenue /expense outcome. This has not been covered.

Besides, no business wants to expose itself to the volatility of currency markets. Financial results that have a high correlation to currency movements are an indicator of a poorly deployed business model. I have no doubt that Turkish works actively to mitigate this.

Inflation aftermath

Currency devaluation will, in our globally connected economies, sooner or later have an effect on inflation. This is closely related to the purchasing power parity discussion above. Staff paid in lira will still want to buy their foreign goods and services. If the iPhone goes up in lira terms then staff will want their compensation adjusted to match that.

Tourism demand

There is a material effect of a currency devaluation on tourism demand. Simple math: lower domestic prices relative to foreign tourist income means a more financially attractive holiday. This too will impact the business environment for Turkish.

Geographic myopia

I’ll close with the article’s final point: “Finally, Istanbul is helped by its proximity to Europe.” I understand that The Economist is a British based magazine but there is much more to the world than Europe. If Istanbul is helped with its relative proximity to Europe, then what about the Gulf’s proximity to other regions?

But there’s more: “Turkish can use smaller narrow-body aeroplanes, which are cheaper to operate, on its routes to Europe.” Fine, but how does that help them relative to their rivals with routes to East Asia, the Americas, etc? I’d say that this is a two edged sword that needs far more analysis with which to come to a conclusion.

Working with patchy data

I applaud the attempt at making sense of a complex but important business case with less data than one would wish. But the article feels more like a disjointed selection of points that do not build up to any meaningful conclusion.

I look forward to The Economist‘s high quality articles.