FINANCIAL REVIEW

Developments since last report (May 6, 2022)

In line with the Group's strategy to return fleet capacity to 2019 levels and replace end of life aircraft, a number of new aircraft orders have been announced in the period. These orders for modern, more fuel-efficient aircraft can be used for any airline in the Group and will bring both cost efficiencies and environmental benefits to IAG's airlines.

On May 19, the Group announced it had reached agreement with Boeing to order 25 737-8200 and 25 737-10 aircraft, plus 100 options. The aircraft will be delivered between 2023 and 2027 and will be used for shorthaul fleet renewal. The fleet order is subject to approval by IAG shareholders.

On June 30, the Group announced that it had converted 22 Airbus A320 Neo family options into firm orders for 17 A320 Neos and 5 A321 Neos for delivery in 2024 and 2025. The aircraft will be used to replace A320 Ceo family aircraft in the Group's shorthaul fleet.

On July 28, the Group announced that it is converting 12 A320 Neo family options into firm orders and is ordering a further 25 A320 Neo family aircraft, with the option to purchase 50 additional aircraft. The firm orders will replace existing Airbus A320 Ceo family aircraft and are for delivery between 2025 and 2028; the split between A320 Neos and A321 Neos will be determined nearer to delivery. The order is subject to approval by IAG shareholders.

Basis of preparation

At June 30, 2022, the Group had total liquidity of €13,489 million, comprising cash and interest-bearing deposits of €9,190 million, €3,171 million of committed and undrawn general facilities and a further €1,128 million of committed and undrawn aircraft specific facilities. The Group has been successful in raising financing since the outbreak of COVID-19, having financed all aircraft deliveries in 2020 and 2021 and all those it has sought to finance in the six months to June 30, 2022; the Group continues to secure aircraft financing on long-term arrangements.

In its assessment of going concern over the period to December 31, 2023 (the 'going concern period'), the Group has prepared extensive modelling, including considering a plausible but severe downside scenario and further sensitivities to the downside scenario. Having reviewed these scenarios and sensitivities, the Directors have a reasonable expectation that the Group has sufficient liquidity to continue in operational existence over the going concern period and hence continue to adopt the going concern basis in preparing the condensed consolidated interim financial statements for the six months to June 30, 2022. In adopting the going concern basis of accounting, the condensed consolidated interim financial statements have been prepared without the inclusion of a material uncertainty, which has been removed since the 2021 Annual Report and Accounts. The removal of the material uncertainty arises from the reduction in uncertainty over the going concern period due to both the continued recovery subsequent to the COVID-19 pandemic and the strength of the Group's liquidity at June 30, 2022.

Principal risks and uncertainties

The Group has continued to maintain its framework and processes to identify, assess and manage risks. The principal risks and uncertainties affecting the Group, detailed on pages 100 to 121 of the 2021 Annual Report and Accounts, remain relevant. The Board has continued to monitor and assess risks across the Group in the light of changes that influence the Group and the aviation industry.

As the sector and markets more widely come out of pandemic restrictions, the Group continues to carefully assess how its principal risks have evolved and how the severity or likelihood of occurrence of certain risks has changed, as well as identifying emerging risks related to competitive and market risk changes, particularly those that could impact operational resilience. Where further action has been required, the Board has assessed potential mitigations and, where appropriate or feasible, the Group has implemented or confirmed plans that would address those risks.

From the risks identified in the 2021 Annual Report and Accounts, the main risks that continue to be a key area of focus are outlined below. Business responses implemented by management that effectively mitigate or reduce the risk are reflected in the Group's latest business plan and scenarios. No new principal risks were identified through the risk management assessment discussions across the business in the six months to June 30, 2022.

·      Brand and customer trust. The challenging operational environment for the Group's airlines and its reliance on the resilience of third parties has significantly impacted on our customers and their journeys. The Group is pro-actively addressing its customer service processes and systems to help build customer trust in our brands and to help ensure that our customers choose to fly with the Group's airlines.

·      Critical third parties in the supply chain. Operational staffing shortages at hubs and airports have required capacity adjustments, including managing the impact on British Airways' customers and operations of the decision by Heathrow airport to cap passenger numbers from mid-July until the end of October. The Group has pro-actively assessed its schedules to ensure that our customers have sufficient notice of any changes to their flight plans wherever possible and within our control. Operational bottlenecks such as immigration and security resource at airports remain outside of the Group's control although management continues to liaise with the relevant providers to identify potential solutions. The Group continues to work with all critical suppliers to understand any potential disruption within their supply chains from either a shortage of available resource or production delays which could delay the availability of new fleet, engines or critical goods or services.

·      Cyber attack and data security. The threat of ransomware attacks on critical infrastructure and services has increased as a result of the war in Ukraine and the potential for state sponsored cyber attacks. The Group continues to focus its efforts on appropriate monitoring to mitigate the risk.

·      Debt funding. Access to the unsecured debt markets is currently very limited for sub investment grade organisations which reduces the options or increases the cost for the Group to re-finance upcoming maturities due in the next year. The Group continues to successfully secure aircraft financing.

·      Economic, political and regulatory environment. The economic impact of the cost of pandemic combined with energy shortages and increases in commodity and wage costs has driven significant inflation and uncertainty over the economic outlook. This uncertainty in the economic outlook could have an impact on the Group's cost base and the demand for travel. The Group will continue to adjust its future capacity plans accordingly, retaining flexibility to adapt as required and where possible.

·      Event causing significant network disruption. Ongoing labour shortages, threat of strike action and staff sickness from COVID infections have impacted the operational environment of the Group's airlines as well as the operations of the businesses on which the Group relies. Many of these events can occur within a close timeframe and challenge operational resilience. In addition, the Group has significant IT infrastructure changes to complete which could impact operations. The Group is focussed on minimising any unplanned outages or disruption to customers with additional resilience built into the airline's networks.

·      Financial and treasury related risk. A significant increase in fuel costs has been partly mitigated by the Group's fuel hedging policy. Access to fuel hedging instruments or the ability to pass increased fuel costs on to consumers could impact the Group's profits. The Group continues to assess the strengthening of the US dollar against the euro and pound sterling and the potential impacts on the Group's operating results.

·      IT systems and IT infrastructure. The Group is reliant upon the resilience of its systems for key customer and business processes and is exposed to risks that relate to poor performance, obsolescence or failure of these systems. The Group is currently engaged in a number of major programmes to modernise its IT systems and upgrade its digital capability, customer propositions and core IT infrastructure and network where required. Mitigating actions that prioritise operational stability and resilience have been built into all cutover plans.

·      People, culture and employee relations. The Group recognises the efforts of our staff and their resilience and commitment supporting the ramp up of operations and continues to prioritise engagement, morale and staff wellbeing initiatives. Additional resource has been allocated to address the recruitment need for flight crew and operations staff. Across the Group, collective bargaining is in place with various unions. The Group is exposed to the risk of the industrial relations action and the operating companies continue to engage in discussions with unions to address and resolve disputes arising within the negotiations.

The Board and its sub committees have been apprised of regulatory, competitor and governmental developments on an ongoing basis.

Impact of commodity prices and foreign exchange movements

Average commodity fuel prices for the six months were significantly higher than in the previous year, with the spot fuel price rising significantly within the period, from $700 per metric tonne at the start of January to $1,236 at the end of June, compared with an average of approximately $510 per metric tonne in the first half of 2021.

The US dollar was 9 per cent stronger against the euro and 5 per cent stronger against the pound sterling, compared with the first six months of 2021.

The net impact of transaction and translation exchange for the Group for the six months was €196 million adverse (€90 million adverse in quarter 1 and €106 million adverse in quarter 2).

From a transactional perspective, the Group's financial performance is impacted by fluctuations in exchange rates, primarily from the US dollar, euro and pound sterling. The Group generates a surplus in most currencies in which it does business, except for the US dollar, as capital expenditure, debt repayments and fuel purchases typically create a deficit. The Group hedges a portion of its transaction exposures. The net transaction impact on the operating result was adverse by €172 million for the period, increasing revenues by €141 million and costs by €313 million.

IAG's results are impacted by exchange rates used for the translation of British Airways' and IAG Loyalty's financial results from sterling to the Group's reporting currency of euro. For the six months, the net impact of translation was €24 million adverse.

Capacity

In the first six months of 2022, IAG capacity, measured in available seat kilometres (ASKs) reached 72.0 per cent of that operated in the first half of 2019, a significant increase on the 20.8 per cent of 2019 operated in the first half of 2021. Capacity was steadily increased through the period, with quarter 1 at 65.1 per cent of 2019 and quarter 2 at 78.0 per cent of 2019.

The impact of COVID-19 and related travel restrictions was significantly less than in the first half of 2021, when many countries were in lockdown or had severe travel restrictions in place. The passenger load factor reached 77.8 per cent in the first half of 2022, again increasing across the period, with the passenger load factor in quarter 1 72.2 per cent and in quarter 2 81.8 per cent, which was just 3.2 points lower than in quarter 2 of 2019. There was some impact from the Omicron variant of COVID-19 early in the year, mainly in January and February. Capacity operated out of London Heathrow airport was lower than originally planned at the start of the year and British Airways' capacity was limited to 69.1 per cent of 2019 in quarter 2, up from 57.4 per cent in quarter 1.

Unless stated otherwise, all variances quoted below compare the first six months of 2022 with the first six months of 2021.

Revenue

Passenger revenue rose €6,463 million to €7,604 million, reflecting the significant increase in capacity operated, together with the positive impact of a 28.6 percentage point increase in the passenger load factor and passenger yields per revenue passenger kilometre (RPK) up 22.5 per cent. The resulting passenger unit revenue (passenger revenue per ASK) was 93.6 per cent higher than the previous year and was up to 99.7 per cent of that seen in the first half of 2019, with passenger unit revenue 11.7 per cent lower than 2019 in the first quarter and 6.4 per cent higher than 2019 in the second quarter.

Cargo revenue was up €74 million to €843 million, 9.6 per cent higher than in the first six months of 2021, despite only 395 cargo flights operated in the period, down from 2,677 from the first six months of 2021, due to the significant increase in the passenger capacity operated. Yields increased 4.8 per cent on 2021, supported by continued global supply chain disruption. Cargo carried, measured in cargo tonne kilometres (CTKs), rose by 4.6 per cent. Compared with 2019, Cargo revenue increased by €287 million, or 51.6 per cent.

Other revenue increased by €602 million to €904 million, reflecting the recovery in the Group's non-airline businesses, including BA Holidays, Iberia's maintenance and third party handling businesses and IAG Loyalty. Other revenue was 2.3 per cent higher than in the first half of 2019.

Costs

Costs were impacted by the significant increase in capacity versus 2021, together with the need to complete training and maintenance activities ahead of the Group airlines' Summer flying programmes.

Employee costs increased by €879 million to €2,167 million, with only minimal use of government wage support and related schemes in the period, as staff were required to resource the significantly increased flying programme, as well as for training and preparation ahead of the Summer flying season.

Fuel costs increased by €2,069 million to €2,566 million. The impact of the increase in commodity fuel price was mainly seen from March and the impact was reduced by the Group's hedging programme. Fuel costs also benefitted from the reduced volume of cargo flights versus the previous year.

Supplier costs increased by €2,499 million to €4,041 million, mainly linked to the significant increase in capacity operated, together with inflationary increases, which were partly offset by the Group's procurement initiatives.

Depreciation, amortisation and impairment costs increased to €1,015 million, partly driven by aircraft deliveries during 2021 and the first half of 2022.

Operating result

The Group's operating loss for the period was €438 million, an improvement of €1,597 million versus 2021. Excluding exceptional items, the operating loss improved by €1,713 million versus the previous year, to €467 million.

Exceptional items

In the six-month period, the Group recorded an exceptional credit of €23 million relating to the partial reversal of the fine previously issued by the European Commission, in 2010, to British Airways. There was also an exceptional credit of €6 million, reflecting the partial reversal of an aircraft impairment made in 2020, as four shorthaul aircraft previously assumed permanently stood down have now been added back to the Group's fleet plans. In the first six months of 2021, exceptional items included gains on those fuel and foreign exchange hedges de-recognised in 2020, totalling €145 million. See Reconciliation of Alternative performance measures for further information.

Net non-operating costs, taxation and loss after tax

The Group's net non-operating costs for the six months were €405 million in 2022, compared with €301 million in 2021. The net change in the fair value of financial instruments of €130 million reflects fair value adjustments as at June 30, 2022 of IAG's convertible bond maturing in 2028 and its convertible loan to Globalia, which was made during quarter 2 and matures in 2029. Net currency retranslation charges of €197 million reflected the weakening of the euro and pound sterling against the US dollar since the start of the year.

The tax credit for the period was €189 million, with an effective tax rate for the Group of 22 per cent (2021: 12 per cent). The substantial majority of the Group's activities are taxed where the main operations are based, in the UK, Spain and Ireland, with corporation tax rates during 2022 of 19 per cent, 25 per cent and 12.5 per cent respectively; these result in an expected effective tax rate of 19 per cent. The difference between the actual effective tax rate of 22 per cent and the expected effective tax rate of 19 per cent is primarily due to the partial recognition of losses in Iberia and Vueling and the net impact of the increase in the UK rate from 19 to 25 per cent from April 2023.

The loss after tax for the six months was €654 million (2021: €2,048 million).

Cash, liquidity and leverage

The Group's cash balance of €9,190 million at June 30, 2022 was up €1,247 million on December 31, 2021, with positive net cash flow from operating activities of €3,212 million mainly reflecting the strength of new bookings for future travel. Thirteen Airbus aircraft were delivered in the six months (four A350-1000s, three A350-900s, five A320 Neos and one A321 Neo) and capital expenditure was €2,100 million. Of the aircraft delivered in the period, nine were financed by the end of June, raising approximately €800 million, with three A350-1000s and one A320 Neo to be financed during the remainder of 2022.

Total liquidity at June 30, 2022 was €13,489 million, up from €11,986 million at December 31, 2021. Committed and undrawn general facilities were €3,171 million (December 31, 2021: €2,917 million) and committed and undrawn aircraft facilities €1,128 million (December 31, 2021: €1,126 million).

Net debt at the end of the six months was €10,979 million, down €688 million from December 31, 2021. The Group has seen a return to the normal seasonality experience before the COVID-19 pandemic; this seasonality typically results in deferred revenues rising strongly in the first half of the year in advance of peak summer travel, with deferred revenues then falling in the second half of the year and reaching a natural trough in December. This pattern of seasonality would normally result in lower cash and cash equivalents at December and an increase in Net debt.