Air Canada 2011 Annual Report Download - page 65

2011 Management’s Discussion and Analysis
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Air Canada also encounters substantial price competition. The prevalence of low-cost carriers, along with the advent of
Internet travel websites and other travel products distribution channels, has resulted in a substantial increase in discounted
and promotional fares initiated by Air Canada’s competitors. A decision to match competitors’ fares to maintain passenger
traffic results in reduced yields which, in turn, could have a material adverse effect on Air Canada, its business, results from
operations and financial condition. Furthermore, Air Canada’s ability to reduce its fares in order to effectively compete with
other carriers is dependent on Air Canada’s ability to achieve acceptable operating margins and may also be limited by
government policies to encourage competition. Likewise, competitors continue to pursue commissions/incentive actions and,
in many cases, increase these payments. The decision to modify Air Canada’s current programs in order to remain competitive
and maintain passenger traffic could result in increased costs to Air Canada’s business.
Furthermore, consolidation within the airline industry could result in increased competition as some airlines emerging from
such consolidations and entering into integrated commercial cooperation arrangements, such as joint ventures, may be able
to compete more effectively, which could have a material adverse effect on Air Canada.
Airline Industry Characterized by Low Gross Profit Margins and High Fixed Costs
The airline industry is characterized by low gross profit margins and high fixed costs. The costs of operating any particular
flight do not vary significantly with the number of passengers carried and, therefore, a relatively small change in the number
of passengers or in fare pricing or traffic mix would have a significant effect on Air Canada’s operating and financial results.
This condition has been exacerbated by aggressive pricing by low-cost carriers, which has had the effect of driving down fares
in general. Accordingly, a shortfall from expected revenue levels could have a material adverse effect on Air Canada, its
business, results from operations and financial condition. As a result of high fixed costs, should Air Canada be required to
reduce its overall capacity or the number of flights operated, it may not be able to successfully reduce certain fixed costs in
the short term and may be required to incur important termination or other restructuring costs, which could have a material
adverse effect on Air Canada, its business, results from operations and financial condition.
Limitations Due to Restrictive Covenants
Some of the financing and other major agreements to which Air Canada is a party contain restrictive, financial (including in
relation to asset valuations, liquidity, minimum EBITDAR, fixed charge coverage ratio and debt coverage ratios) and other
covenants which affect and, in some cases, significantly limit or prohibit, among other things, the manner in which Air Canada
may structure or operate its business, including by reducing Air Canada’s liquidity, limiting Air Canada’s ability to incur
indebtedness, create liens, sell assets, pay dividends, make capital expenditures, and engage in acquisitions, mergers or
restructurings or a change of control. Future financing and other major agreements may also be subject to similar covenants
which limit Air Canada’s operating and financial flexibility, which could materially and adversely affect Air Canada’s ability to
operate its business and its profitability.
A failure by Air Canada to comply with its contractual obligations (including restrictive, financial and other covenants), or to
pay its indebtedness and fixed costs could result in a variety of material adverse consequences, including the acceleration of
its indebtedness, the withholding of credit card proceeds by the credit card service providers and the exercise of remedies by
its creditors, lessors or other co-contracting parties, and such defaults could trigger additional defaults under other
indebtedness or agreements. In such a situation, Air Canada may not be able to repay the accelerated indebtedness or fulfill its
obligations under certain contracts, make required aircraft lease payments or otherwise cover its fixed costs. Also, the lenders
under the financing arrangements could foreclose upon all or substantially all of the assets of Air Canada which secure Air
Canada’s obligations.
Refer to section 9.7 of this MD&A for information on Air Canada’s credit card processing agreements.
Airport User Fees and Air Navigation Fees
With the privatization of airports and air navigation authorities in Canada, new airport and air navigation authorities have
significantly increased their fees. Though certain authorities have implemented some fee reductions, if authorities in Canada
or elsewhere were to significantly increase their fees, Air Canada, its business, results from operations and financial condition
could be materially adversely affected.