Gol Dollar Strategy Imperiled by Azul in U.S.: Corporate Brazil

May 08, 2014 5:20 pm ET

(To set a daily alert for Corporate Brazil: SALT BZCORP)

May 8 (Bloomberg) -- Brazilian low-fare airline Gol Linhas Aereas Inteligentes SA began flying to Miami so sales in U.S. dollars would help defray fuel costs priced in greenbacks. What it didn’t expect was a challenge from short-haul carrier Azul.

Gol’s service to Florida with single-aisle jets and a layover in the Dominican Republic will be one-upped in 2015 as Azul Linhas Aereas Brasileiras SA adds wide-body planes for nonstop flights. That’s a break with Azul’s history of operating small jets in Brazil -- and a gauntlet thrown down at Gol.

“It’s going to be tough competition,” Mario Bernardes Junior, a senior Banco do Brasil SA analyst, said by telephone from Sao Paulo. “It’s too early to say in terms of market share, but Gol will have to do something because the company’s strategy is precisely to increase international flights.”

While sales in dollars were just 9.1 percent of revenue in 2013, Gol’s U.S. service is important because 55 percent of its costs for debt, fuel and other expenses are denominated in that currency. Sao Paulo-based Gol announced Miami and Orlando routes in 2012 to help soothe investors as losses persisted.

The shares tumbled 5.5 percent today, the most on Brazil’s benchmark Ibovespa index, to 13.94 reais at the close in Sao Paulo. That pared Gol’s gain to 47 percent since Paulo Sergio Kakinoff was named chief executive officer in 2012, succeeding founder Constantino de Oliveira Jr.

Last Profit

Gol’s last full-year profit came in 2010. The new CEO’s moves include unloading the old jets from the 2011 acquisition of Webjet Linhas Aereas SA -- and the flights to the U.S., which were announced about four months after Kakinoff took the job.

International flights don’t just bring U.S. dollars. Across the global industry, they also typically generate a higher yield, or average fare per mile. The reason: Airlines flying those long-haul trips typically don’t face the low-fare competition common in domestic travel.

“International passengers are less elastic with price variations,” said Bernardes, who rates Gol as outperform. “Yield is greater, and that’s one of the main points of the international expansion.”

Kakinoff’s strategy to return to profit already was encountering Azul competition on flights within Brazil, where the smaller airline serves more cities with turboprops and regional jets using shorter runways than Gol’s Boeing Co. 737s.

JetBlue Roots

Azul was created in 2008 by David Neeleman, the JetBlue Airways Corp. founder and former CEO. Its initial focus was flying inside Brazil. Now closely held Azul is looking abroad.

Azul’s U.S. flights will depart from Campinas airport, about 63 miles (101 kilometers) from Sao Paulo. Among Azul’s target audience are potential passengers who live outside of Sao Paulo and far from its international airport.

“The reason people don’t fly as much is cost and convenience, which we’ll have with our flights,” Neeleman said at a press conference last month. “We’re going to have the convenience and we know this market is going to grow a lot.”

Azul declined to elaborate on its U.S. strategy. In an e- mailed response to a request for comment about Azul’s plans, Gol said it was Brazil’s first airline “to launch operations to the U.S. departing from the Viracopos airport in Campinas” and declined to elaborate beyond reiterating the flights’ timetable.

Dollar Debt

Gol’s debt was 5.59 billion reais ($2.52 billion) at the end of 2013, according to data compiled by Bloomberg. About 78 percent of the airline’s debt is denominated in U.S. dollars, according to a regulatory filing. Brazil’s real has depreciated 7.4 percent against the dollar since the start of last year. Jet fuel also is priced in dollars, and in 2010, before Gol’s annual loss streak, it averaged $2.19 a gallon, data compiled by Bloomberg show. This year’s average: $3.02.

In addition to flights to the U.S., Gol has also added agreements with Air France-KLM and Delta Air Lines Inc. to place one another’s booking codes on their flights, helping generate additional foreign sales.

In February, Air France-KLM bought a 1.5 percent stake in Gol’s preferred shares for $52 million and is giving the airline $48 million more to improve efficiency, a regulatory filing shows. Delta, a SkyTeam alliance member with Air France-KLM, made a $100 million investment in Gol in 2011.

Gol’s international strategies eventually could see non- Brazil revenue rise to as much as 17 percent, according to Bernardo Velez, a Corporativo GBM SAB analyst in Mexico City.

‘More Stable’

“It will help the company’s exposure to the FX and its performance in terms of profitability could be quite more stable,” Velez said by phone. He rates the stock as underperform because of Gol’s currency challenges.

Savanthi Syth, a Raymond James Financial Inc. analyst in St. Petersburg, Florida, questioned the profitability of Gol’s U.S. trips. Many of Gol’s leisure travelers on those routes probably are redeeming loyalty awards, said Syth, who rates the American depositary receipts as market perform.

The U.S. service is “very attractive to frequent-flier passengers,” Syth said by phone. “It strengthens their frequent-flier program and from that perspective, Azul’s coming on board should have less of an impact on Gol.”

While Gol is the largest airline based in Brazil, it’s still No. 2 in the market to Latam Airlines Group SA, which was formed when Chile’s Lan Airlines acquired Sao Paulo-based Tam SA in 2012. Gol doesn’t fly to U.S. business destinations such as New York, as does Tam.

That means the Gol-Azul contest will be fought out among lower-fare leisure fliers. Azul will use Airbus Group NV wide- bodies to fly to the U.S. nonstop -- a larger, roomier plane than Gol’s single-aisle 737s. Starting in 2017, Azul plans to deploy Airbus A350s, the newest and most-advanced model from the Toulouse, France-based planemaker.

“It’s a very positive scenario for passengers and it becomes more challenging for Gol,” said Banco do Brasil’s Bernardes. “It makes it more difficult for international expansion.”