Tourism industry in crisis – Analysis of the situation and potential solutions

By André Bäcker, Certified Public Accountant and Tax Advisor, and Dr Christoph von Wilcken, Attorney-at-Law in Germany

I. Tourism – A complex industry facing great challenges

The outbreak of the coronavirus pandemic sent the German tourism industry into a full-blown crisis. In the press, stories of tour operators, hotels and airlines reporting a near total loss of revenue alternate with reports on an equally unprecedented infusion of government aid. The government-backed loan of EUR 350 million granted to the holiday charter airline Condor in September 2019 was considered extraordinary at the time, but today many times that amount is being marshalled to prop up the tourism industry.

The composition of the industry is as diverse as it is fragile: From the way holidays are offered (package or customised) and sold (brick-and-mortar locations or online) to production (lodging, transportation, catering, add-on services – with a company’s own assets or “asset-light”) and servicing, the market features both fully integrated and fragmented value-added models, usually with an international dimension, giving rise to complex interdependencies.

Even though some companies may be able to weather the loss of holiday travellers, the same cannot be said for the industry as a whole. Indeed, with nearly three million employees and a share of GDP of almost 4% (domestic and foreign tourists approximately 80:20, leisure and business travellers also approximately 80:20), the importance of the industry is comparable to that of other pillars of the German economy such as retail and machinery construction. Today, 85% of tour operators and brokers believe they are at risk of going out of business. This is more than in any other industry.

German holidaymakers had previously been reliable customers. The state of the economy largely did not factor into their decision to travel – as was most recently demonstrated in impressive fashion during the financial market crisis in 2008/2009. It took travel bans and warnings to dampen the German enthusiasm for travel.

However, it would be ill-advised to surmise that riding out the problems will lead to light at the end of the tunnel. On the one hand, the impact that the coronavirus crisis will have on the amount of disposable income that people have and how they spend it is still completely uncertain. On the other hand, companies in the tourism value-added chain will be strained when they emerge from the crisis, strains they will have difficulty managing without further measures.

This article will examine the current impact of the coronavirus crisis and governmental assistance on the German tourism market (as source and target market), focusing on the situation being experienced by brokers and operators and, in some cases, looking at specifics relating to hotels and holiday airlines.

II. Analysis of the situation and outlook

Even before the coronavirus, the business model of tour operators had already been affected by digital transformation. The classic business model of brick-andmortar sales through travel agencies, typically accompanied by a seasonal catalogue with set hotel and airline partners and allotments, has long been exposed to disruption from online sales (OTAs) and digitalisation in the value-added chain (direct booking, dynamic packaging, adaptive pricing tools), which has led to increased competition and greater price transparency. Germans may well be counted on to reliably book their holidays, but they are also price-sensitive, meaning that a price difference of a few euros can lead to measurable customer migration.

In 2019 Germans spent about EUR 69.5 billion3 on holiday travel, a trend that until then had been continually rising. Today, about 25% of Germans travel domestically (trend rising), about 10% to long-haul destinations and the remainder mainly to destinations in the Mediterranean. In 2019 almost one-half of travel was booked directly with service providers or on product portals, with the majority of bookings being handled by operators or travel agencies. Despite what one might expect, the share of travel booked through operators and travel agencies has increased since 1995, but with more bookings being made online, including with operators/travel agencies. Nevertheless, there are still about 11,000 brick-and-mortar travel agencies in Germany today, although online sales overtook brick-and-mortar sales in 2018. This shows that people still seek professional assistance in arranging travel, compared with doing so entirely on their own.

Even though all-inclusive and sun-and-beach holidays continue to predominate and cruises have become increasingly popular, the desire for customisation has grown as a result of trends like experience, authenticity, smart health, and augmented reality. In some cases, this has led to specialisation, with elaborate multi- brand strategies that cater to various target groups, and thus to growth in the number of specialised niche providers (destination, travel type). Moreover, issues like “sustainable travel” and “flight shame” are factors that the tourism industry needs to take into consideration, even though they have not yet had any discernible impact on travel behaviour.

Revenues of operators and travel agencies have also continued to rise, and of the roughly 2,300 German operators, the largest companies (TUI, DER, Thomas Cook, FTI, Aida Cruises, Alltours and Schauinsland) accounted for about 50% of the market volume in 2019. In 2019, growth in the SME segment outpaced that of the large players, which is an expression of increasing specialisation. This area also tends to be more profitable.

It is an open secret that the industry was barely profitable even prior to the coronavirus. The gross margin is 18%, but nearly two-thirds of this has to be committed to (internal or external) marketing. There is not much left over to deal with structural challenges and finance necessary investments for transformation.

In addition, there is another factor specific to the business model in the tourism industry: Whereas in other industries, the cash conversion cycle normally has to be financed in advance through corresponding working capital financing, holiday travellers and airline passengers pay most if not all of the price of their trip upfront. However, this financing tool can become perilous if business falls off, because then an important element of financing is missing. In a worst-case scenario, refunds may need to be made – and this has now occurred.

Although at the start of the coronavirus crisis, there was still hope that travel to major destinations could recommence in the second half of 2020 and at least part of peak season could be salvaged, that hope was quickly dashed. For instance, in July 2020 the German Federal Tourism Competence Centre6 estimated that domestic tourism revenues would decline by more than 40% compared with 2019. Domestic revenues are not expected to return to the 2019 level until 2022. International tourism in 2020 is expected to decline by almost 60% compared with 2019 and return to just 70% of that year’s level by 2022. The forecast for the airline segment is just as alarming as that for international tourism. The IATA predicts that it will take until 2024 for the sector to recover and return to the 2019 level.

Despite the end of the first lockdown in Germany and many other countries, bookings did not pick up appreciably. Even where travel warnings had been lifted for certain destinations and holidaymakers could travel again, the restrictions in effect locally (hygiene rules, social distancing) or upon return (coronavirus test, possibly quarantine) continued to be so significant that no one was really interested in travelling. Moreover, holidaymakers continued to be worried that they will be unable to return from their destinations. In general, it appears that bookings are being made at the last minute, which in turn adversely affects capacity management and down-payment financing.

Although the confidence barometer for the hotel/hospitality industry noticeably improved when restrictions were eased in July 2020, the mood among travel operators and brokers remained bleak, and is now darkening further due to the second lockdown. This is also reflected on the stock exchange: The EuroStoxx Europe 600 Travel & Leisure index stood at EUR 25 prior to the coronavirus. Today, it stands at around EUR 16, representing a loss in value of about 40%.

The tourism industry is not only battling the absence of bookings and the lack of cash flow caused by this. Holidaymakers are also demanding refunds of their down payments, which puts additional, severe pressure on cash flow. To make matters worse, the Local Court of Frankfurt8 ruled that in the case of extraordinary events (and, according to the ruling, this also includes the specific risk of infection that can be expected even in the absence of a formal travel warning), customers may cancel travel and demand a refund of the full travel price without cancellation fees.

III. Approaches for stabilisation and restructuring

a. Stabilisation approaches for short-term

Since the start of the coronavirus crisis, Germany has enacted aid packages and programmes of measures that have benefited the tourism industry to varying degrees.

Many companies were able to alleviate their situation noticeably as a result of the (repeatedly) improved arrangements concerning short-time working, which are now set to expire at the end of 2021. Particularly at travel agencies, personnel costs make up between 50 and 60% of total costs.

However, it should not be overlooked here that despite the loss of revenue, operators and brokers are very busy dealing with cancellations and rebookings, meaning that even with a complete loss of revenue, work has not fallen off to any significant extent. Moreover, these companies will need to find a way to fund personnel costs when business picks up again.

Because new value-added tax is only incurred on new bookings (and the down payments to be made on them), the VAT-mitigating impact of the simplified deferral rules will only bring relief when business picks up again noticeably. Moreover, based on the rulings to date of the German Federal Fiscal Court on the liability of management for such deferred tax amounts, there is a risk of personal liability, meaning that a deferral should be applied for only if it is completely assured that liquidity will be available to pay the tax when due. But in that case, there is normally no need for such a deferral. Nor has the lowering of the VAT rate by three percentage points provided much stimulus (as it has probably failed to do for the German economy generally) – Germans are not scheduling holidays for a certain period or bringing them forward solely because of this factor.

Particularly for travel agencies and smaller operators, the subsidies for operating costs, which do not have to be repaid, are certainly well suited for offsetting a portion of revenue losses. However, in light of the expected duration of the crisis, it is an open question how much a maximum subsidy of EUR 150,000 will help a travel agency with more than 10 employees (despite allowances for short-time working). While travel agencies also essentially benefited from the moratorium on termination in the event of rent arrears that was granted for the months of April to June 2020, its impact was modest.

The programme for KfW loans prompted by the coronavirus, which has since become quite extensive, helps businesses cover financing needs. To qualify, however, the company’s bank must agree to cover the risk portion (10 to 20%). Even for financially sound companies, this is more than just a mere formality, since the outlook for the further development of the industry is very bleak and companies are ultimately financing losses with loans. Because the industry’s financial position was weak even prior to the coronavirus, this will not solve the problem but only postpone it, unless further measures are taken at the same time.

The German government’s Economic Stabilisation Fund makes resources of an equity or equity-like character available to companies of a certain size (sales > EUR 50 million) or importance. They can be structured as guaranties, silent participations, or customised financing and are explicitly subsidiary to other programmes.

The German attempt to require customers by law to accept vouchers in lieu of refunds was rejected by the EU Commission. It did, however, result in the right to offer customers a voucher for package holidays, which is then guaranteed by the state in the event of the insolvency of the operator (including beyond the total amount of EUR 110 million under the “travel insurance certificate” scheme, which ensures that travellers are refunded in case of an operator’s insolvency). This does not affect the customer’s right to choose between cash and a voucher. The German Travel Association (DRV) estimates acceptance rates for vouchers of between 10 and 20%.

At the same time, operators are currently attempting to give customers a sense of security around their bookings by offering them expanded booking options (no cancellation fees) and/or additional insurance coverage for repatriation if the customer is stranded (such as FairVersicherung offered by Schauinsland). They are also adjusting terms for travel agencies. Commissions are being paid out earlier, and refunds of commissions in the event of cancellation are being claimed later.

Despite the German Covid-19 Insolvency Suspension Act (COVID-19-Insolvenzaussetzungsgesetz, COVInsAG),9 insolvencies are increasing among both operators and brokers (e.g. Medina Reisen, China Tours, Galeria Reisen, STA Travel, Fahrenkrog, Transocean, NRS, RB Alster, and many others).

b. Approaches for medium- and long-term restructuring

Particularly where they avail themselves of the above-mentioned loan-based stabilisation measures, companies that had needed to make structural adjustments prior to the coronavirus must now do so in the midst of a drastic crisis in demand that is not expected to abate any time soon. In this respect, the coronavirus crisis is also acting as a catalyst.

When embarking on changes, companies should first establish a promising strategy and only then define individual measures that are designed to implement the strategy. Although it is difficult to provide answers that are applicable across the board – a task that would in any case be beyond the scope of this article – the following sets out several basic considerations.

In essence, the tourism industry is facing challenges similar to those in other industries. New digital business models are disrupting conventional structures, other than where those structures offer sufficient added value. A prominent example of this is retail. A (brick-and-mortar) structure is viable only if it delivers an added value compared with the online world, along with lower transaction costs. This is difficult for standard products, and it is more likely to succeed the more customers value factors such as brand, quality in terms of both product and advice, customised offerings, and after-sales service. At any rate, this is the case for a relevant, growing portion of demand. Nevertheless, driven by high fixed costs and low margins, many operators have felt compelled to pursue growth, despite low profitability. Specialised niche providers are however already showing that growth and margin are easier to achieve with focused offerings.

Therefore, we believe that a two-tiered market will likely emerge for tourism in the future. One tier will provide highly standardised “commodity” offerings, which can be produced with extremely high efficiency (IT, processes) and ultimately marketed online with a focus mainly on price, with flexible partnerships in sales and in production models. The main opportunities for boosting margins in this area are supplemental or downstream customisation options (upgrades, logistics), which are difficult to compare between providers, and offers at travel destinations, which can be booked as an add-on online or after the traveller arrives. The other tier is a growing market for travellers who are looking for a customised holiday experience, are in need of advice and service to achieve it, and are considerably less price-sensitive. Servicing this market requires target group-specific brands, skilled advice during in-store sales, concomitant true omni-channel delivery, and a flexible, high-quality product.

Whether operators then elect to take an asset-light or asset-heavy (airlines, hotels, cruise) approach in the various segments of the value-added chain is ultimately determined by risk-return considerations. In stable situations, asset-heavy providers benefit from the margins in their segments of the value-added chain, but in the current economic downturn, their fixed costs place an enormous strain on them.

Once the strategy has been defined, a variety of investments will be necessary: in IT, in processes and in structural adjustments, in the latter instance, primarily concerning the network of branch locations and personnel. Numerous operators have already announced that they intend to (or need to) streamline their networks, including closing branches and downsizing their workforces. This is also reflected in the adjustments reported by airlines, all of whom are planning to drastically reduce their capacities (Lufthansa, Condor and TUI-Fly).

c. Legislative environment

To enable companies to stabilise their situation and make use of the tools offered by the legislator in response to the crisis, the period for applying for insolvency proceedings was initially suspended until 30 September 2020, and in an interim step until 31 December 2020 in situations of overindebtedness within the meaning of section 19 InsO. On condition that an entity has applied for government assistance to mitigate the consequences of the Covid-19 pandemic, the obligation to file for commencement of proceedings on this ground remains suspended until 31 January 2021. Regardless of how long the suspension of the obligation to apply for commencement of insolvency proceedings is extended for – and this can be done by statutory order until 31 March 2021 – it is not enough, on its own, to address the challenges the sector is facing. The Act on the Stabilisation and Restructuring Framework for Businesses (Gesetz über den Stabilisierungs- und Restrukturierungsrahmen für Unternehmen, StaRUG) in particular, which entered into force on 1 January 2021, offers new possibilities for affected companies to complement existing in-court restructuring proceedings.

The suspension of the obligation to apply for commencement of insolvency proceedings in the COVInsAG was a logical response to the breaking pandemic and its economic effects, which to begin with were probably most conspicuous in the tourism industry. The maximum period available to businesses to remedy a ground for insolvency once it has arisen – three weeks – would not have been enough for the vast majority of businesses. The additional liquidity provided by government measures would have come too late. The legislators not only suspended the obligation to apply for commencement of proceedings itself, but also set out the further consequences of the suspension. In particular, the personal liability of directors and officers arising from the prohibition on payments under section 62 of the Act Concerning Limited Liability Companies (Gesetz über Gesellschaften mit beschränkter Haftung, GmbHG), section 92 of the Stock Corporation Act (Aktiengesetz, AktG), section 99 of the Cooperative Societies Act (Genossenschaftgsgesetz, GenG) and section 130a of the Commercial Code (Handelsgesetzbuch, HGB), also in conjunction with section 170a HGB, was restricted. Incentives to make additional loans available to undertakings during the suspension period were also put in place. In addition, the ability of creditors to file applications for commencement of proceedings was restricted for the period between 28 March and 28 June 2020. Finally, the aforementioned power to issue statutory orders extending the derogations must be exercised by 31 March 2021.

The suspension to apply for commencement of insolvency proceedings applies only in situations where material insolvency is due to the spread of the SARSCoV- 2 virus. In light of the structural transformation described above, this is not likely to be the case for some companies in the industry. It can be assumed that in some cases questions will be asked about whether there were grounds for insolvency even before the appearance of the virus in Germany in March 2020. In these cases the COVInsAG is of no help in terms of liability of directors and officers; ultimately they will be found to have delayed in filing their application, with all respective consequences. Even where companies properly rely on the suspension of the obligation to apply for commencement, there remains a risk that the individuals responsible may need to prove this in a way which will stand up in court. And while the directors and officers of such a company will indeed be exempted from liability for breach of statutory payment prohibitions when material insolvency has occurred, the legislation does not clarify whether they will be liable to their business partners if they continue business operations despite material insolvency.

For those companies which have justifiably refrained from applying for commencement of insolvency proceedings, an accurate assessment of the impacts of the crisis on future financing is vital. Alongside adequate liquidity, adjustment of important contracts is also key to avoiding insolvency in the future. Collective wage agreements are significant for most companies in the tourism industry, but other long-term contracts such as property leases, and for airlines aircraft leasing agreements, are important too. Depending on how the pandemic unfolds, it is quite possible that further adjustments to these will be needed. Once the suspension period has ended, if not before, many companies will no longer be able to avoid insolvency proceedings. But it is possible to reorganise a company during such proceedings. Following the 2009 financial crisis, German legislators sought to improve the options for recovery, particularly for in-court insolvency proceedings. However, proceedings of this kind pose a particular challenge for an industry whose customers – especially in light of recent experience – may react very critically to signs of insolvency. A tour operator which has entered insolvency will not find a provider of customer payment protection contracts willing to deal with it. It remains to be seen to what extent the proposed fund-based approach to securing customer refund claims will help the situation. For the airline industry at least, one significant hurdle to reorganisation via in-court proceedings has been removed. In case of self-administration, the existing management retains the power to manage and dispose of assets, meaning that an airline in self-administration will not have its Air Operator Certificate (AOC) automatically withdrawn by the German Federal Aviation Office (Luftfahrt-Bundesamt). Provided that the parties involved are brought on board through proper communication, the initiation of proceedings offers additional opportunities for reorganisation. Here the extended arrangements for short-time working allowance will presumably overshadow simplified employment law measures; but as well as these insolvency law also offers shorter notice periods and the option of not entering into unwanted contracts. The tools provided by the Insolvency Code are very helpful during reorganisation, particularly in relation to negotiations regarding rental property and possible reduction of sites. Finally, the “protective shield procedure”, which was introduced in 2012, is helpful because it is not initially made public and for many parties involved does not carry the same stigma as insolvency, including with regard to communication. Unfortunately, the amendments to the InsO introduced in January 2021 by the Act on the Advancement of Restructuring and Insolvency Law (Sanierungs- und Insolvenzfortentwicklungsgesetz, SanInsFoG) hamper access to self-administration – the result of a review of the Act for the Further Facilitation of the Reorganisation of Companies (Gesetz zur weiteren Erleichterung der Sanierung von Unternehmen, ESUG) which took place in a quite different macroeconomic context. Application of the new rules regarding the self-administration procedure has been deferred until the end of 2021; we can only hope that this is adequate for this crisis.

The preventive restructuring framework, which has been in place since 1 January 2021, adds a new instrument to the restructuring practitioner’s tool kit.

However, access to the framework is limited to companies at the imminent illiquidity stage (which must be tested for a forecast period of 24 months). It is inaccessible if illiquidity or overindebtedness (for which the two-stage definition has been retained, but the period for the business continuation forecast is now twelve months) has already occurred, and on the balance of probabilities it is not likely that it can be remedied via a preventive restructuring framework. Given the need for regular inflows of funds, which even a preventive restructuring framework cannot “remedy”, there would appear to be limited scope for application of this tool in the tourism sector, unless it is only the entity’s existing debts which are preventing the provision of new funds and only a preventive restructuring framework would permit this.

The possibilities of the restructuring framework are limited to purely financial restructurings. In particular, the StaRUG does not permit alterations to employee rights. In this respect, the preventive restructuring framework could in future, given a high level of creditor consent (75%), help companies in the tourism sector reduce or restructure burdens acquired during the crisis, potentially by way of highly granular refund claims (to the detriment of their customers). The ability to limit the restructuring to specific creditor groups, and to carry out it in a non-public manner, could help avert uncertainty among customers. The architects of the legislative procedure are aware of the timing of the expiry of the suspension of the obligation to apply for commencement of insolvency proceedings, after which new out-of-court restructuring proceedings need to be available. It is vital that companies explore the new options available to them. Waiting to do so, enabled by short-time working and other subsidies, is damaging.

IV. Summary

Given the anticipated duration of the coronavirus crisis, the assistance packages announced so far will not be enough to stop a nationwide wave of insolvencies among drivers of value creation in the tourism industry. Some operators are already in the second or third round of financing, which at the end of day – even if they are successful – will leave companies with unmanageable financial burdens. Subsequent financial restructuring is unavoidable. Increased awareness of this among the public bodies who are providing loans will not increase their willingness to lend. This raises the question of what a bridging model for the tourist industry might look like. Only a combination of non-repayable subsidies (such as the short-time working allowance or insolvency pay, perhaps expanded and extended) in conjunction with implementation of the structural changes to establish or restore profitability that were needed even before the coronavirus can succeed. While it would then make sense for new lenders to provide financing for this, for old creditors and shareholders it would mean realising losses in value which on sober reflection have already occurred, but which would at least enable businesses to be saved. If a consensual agreement cannot be reached, the preventive restructuring framework route and restructuring by way of self-administration both remain available.

Certified Public Accountant and Tax Advisor, is a partner in the restructuring department at PricewaterhouseCoopers. For nearly 20 years, he has been providing advice in restructuring situations and self-administration proceedings when companies are facing insolvency (such as in cases involving Air Berlin, Thomas Cook, and Condor). His work focuses on the Travel & Tourism, Retail & Consumer Goods, and Industrial Manufacturing industries.
E-Mail: andre.baecker@pwc.com


Tourism industry in crisis

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