TAM AIRLINES PANICS AS ANAC PLANS TO LIFT PRICE

C O N F I D E N T I A L SECTION 01 OF 03 SAO PAULO 000192 SIPDIS STATE FOR WHA/BSC,EEB/TRA, WHA/EPSC STATE PASS FOR DUCKWORTH NSC FOR ROSSELLO FAA FOR BAHUMADA, CTFRANCESCHI, KBERQUIST DEPT OF TRANSPORTATION FOR BHEDBERG SOUTHCOM FOR POLAD E.O. 12958: DECL: 03/14/2018 TAGS: EAIR ECON BR SUBJECT: TAM AIRLINES PANICS AS ANAC PLANS TO LIFT PRICE FLOORS REF: A. BRASILIA 303 ¶B. BRASILIA 0076 ¶C. BRASILIA 0016 Classified By: Consul General Thomas White; Reasons 1.4 (b) and (d). ¶1. (C) Summary: International flights originating from Brazil have long been subject to price floors, resulting in high profit margins for airlines. The Brazilian Aviation Agency (ANAC) has announced that it intends to gradually remove these price floors in 2009. In a March 6 meeting with Brazilian airline TAM CEO David Barioni, the Ambassador heard TAM's views opposing price liberalization. While TAM has long maintained it requires market protection to survive, ANAC is ready to manage TAM opposition and is determined to move forward with full international price liberalization this year (reftel B and C and septel). End Summary. ¶2. (C) TAM CEO David Barioni told the Ambassador that he has argued repeatedly to the GOB that his company needs market protection to survive. In his private conversations with President Lula, Defense Minister Nelson Jobim, and ANAC President Solange Vieira, Barioni claimed that each GOB official had expressed sympathy and support for his viewpoint. Despite their apparent agreement, Barioni asserted that ANAC has continued to move forward on lifting the price floors. (Note: In separate conversations with Delta's country director, Luiz Texeira, Delta has indicated it believes that Barioni has lost favor with GOB interlocutors and that he therefore no longer effectively represents TAM's interests with the government. Certainly in Embassy Brasilia's meetings with ANAC President Solange Vieira and others, it is clear that TAM's efforts to resist competition and to rely on a protected market are receiving little sympathy. At the same time, ANAC is aware that TAM is an important and powerful domestic stakeholder, whose resistance to market liberalization, whether on pricing, frequencies, or other civair issues, must be managed carefully and strategically. End Note.) ¶3. (C) Both Barioni and Texeira opined that if ANAC were to immediately liberalize pricing, TAM would collapse. Barioni complained to the Ambassador about ANAC's new "neo-liberal obsession," saying the agency is about to cost the country 24,000 jobs with TAM. He speculated that it would be more than 10 years before TAM was ready for price liberalization. (Note: Since 2005, ANAC has gradually begun to liberalize airline ticket pricing in Brazil. ANAC started initially by liberalizing pricing on domestic routes, opened up pricing competition on South American routes last year, and is the final step to complete international price liberalization by the end of 2009. End Note.) ¶4. (C) David Barioni further blamed the so-called "Custo Brazil" for extra costs that TAM incurs because it is domiciled in Brazil. He explained that every year, there is a major strike in Brazil, one that seriously affects company operations. Last year, for example, all customs inspectors went on strike and imports into Brazil were effectively shut down for nearly one month. Because of this, TAM stockpiles a 30-day supply of parts, maintaining more inventory than TAM's U.S. competitors. This additional cost, in his view, warrants protection from the free market. With other airlines able to manage the challenges of operations in Brazil more efficiently, both Teixeira and ANAC representatives have strongly disagreed with TAM's view that it is particularly disadvantaged and deserves protection from market forces. ¶5. (C) Teixeira told EconOff that ANAC President Solange SAO PAULO 00000192 002 OF 003 Vieira is an economist by training, which partly explains ANAC's recent push to open competition in the aviation sector. He complained, however, that Solange lacks experience in the sector. Texeira predicted that when Defense Minister Jobim resigns, Solange would follow suit. (Note: MOD oversees ANAC and much of the aviation safety/security portfolio. Solange is a close friend and ally of Jobim's. Solange Vieira has a merited reputation as a person with the ability to get the tough jobs done, despite entrenched interests--Vieira was several years ago the person brought in to push through politically unpopular, but necessary, social security reforms in Brazil. End Note.) ¶6. (C) ANAC representatives told Brasilia EconOff that they see no economic basis for TAM's opposition to price liberalization. They estimate liberalization would generate an additional two million international passengers in Brazil, an increase of 33 percent. The additional passenger traffic could help offset the 30 percent cut that Brazilian carriers would need to implement in order to match foreign competitors' fares. According to ANAC, international routes account for 30 percent of TAM's revenue, and 40 percent of the revenue from those international routes already comes from flights in a liberalized price environment. ANAC does not think that the impact of price liberalization on the remaining 18 percent of TAM's revenue would lead to bankruptcy, especially since the proposed pricing liberalization model calls for a gradual implementation by incrementally increasing maximum allowable discounts throughout the year. ANAC's internal studies show that TAM is among the 10 most profitable airlines in the world, and thus capable of competing in the free market. ¶7. (SBU) Amid this speculation, Delta continues to seek new opportunities, having recently announced two new direct routes in Brazil: Sao Paulo to Los Angeles (a new route) and Brasilia to Atlanta (a redirection of an existing route). Luiz Texeira hopes to use Los Angeles as a hub for Brazilians that wish to visit other locations in the Western United States, such as Las Vegas, or to fly onward to Asia. He believes that many of the travelers on the Atlanta-Brasilia route will also use Brasilia as a regional hub to other destinations in Brazil. In contrast, Barioni said that his company cannot fly directly to Los Angeles, because it is not profitable unless they can offer an onward flight to Asia, which they cannot. ¶8. (C) Comment: Brazilian airlines have long benefited from two-fisted market power: limited bilateral aviation agreements that restricted foreign carrier access to Brazil, and pricing controls that further limited free price competition for travel originating in Brazil. That market power is now in jeopardy, and TAM is complaining accordingly. The 2008 U.S.-Brazil bilateral aviation accord increases U.S.-Brazil routes by 50 percent over three years. ANAC's policy of progressive price liberalization in the air travel segment is finally reaching international routes beyond South America. Although TAM cries foul, the firm has had well over a year to get ready, and could benefit from the increased traffic that price cuts will bring. Brazilian consumers are certainly ready for some relief--Brazil-U.S. airfares are routinely 30-50 percent more expensive than the corresponding U.S.-Brazil fares. The challenge for TAM is to learn to survive and grow in this new market environment. ANAC's Solange Vieira strategy for managing TAM, and the domestic political interests in congress and elsewhere that support those interests, as we prepare to move toward further bilateral civair liberalization, will be reported septel. END COMMENT. SAO PAULO 00000192 003 OF 003 ¶9. (U) This cable was coordinated with and cleared by Embassy Brasilia. WHITE