The onset of the COVID-19 pandemic in 2020 derailed the travel industry almost overnight. Beginning in March 2020, as governments and health authorities across the globe imposed lockdowns, shuttered large group venues, and put in place local and international travel restrictions, consumers stopped traveling by air, staying at hotels, going on cruises, renting cars, and making travel plans through online venues. As the pandemic unfolded and revenues and cash flow disappeared, many travel-related companies scrambled to conserve and raise cash in order to keep their businesses solvent, often resulting in increased debt levels and leverage. As a result, S&P Global Ratings downgraded most travel-related companies, sometime multiple times or by more than one notch.

Although we are not out of the woods yet, the U.S. is seeing increasing signs of an economic rebound. All Americans over the age of 16 are eligible to be vaccinated, and at the current pace of vaccinations the U.S. could reach a 70% vaccination rate--and thereby achieve herd immunity--by late summer (see "The Health Care Credit Beat: U.S. Herd Immunity By Midyear Is Possible With Additional Vaccine Approvals," published Feb. 11, 2021). On top of this, our economists recently revised their forecast upwards, including lowering the risk of recession to a range of 10%-15% from 20%-25%, and raising the GDP growth forecast for 2021 to 6.5% vs. the 4.2% growth we had forecast in our December 2020 report (see "Economic Outlook U.S. Q2 2021: Let The Good Times Roll," published March 24, 2021).

Still, the travel sector may be one of the last sectors to recover. The extent to which the pandemic has permanently affected consumer behavior remains unclear, and while travel habits may eventually return to pre-pandemic levels, it will not happen with the same speed with which the industry shut down last March. For some sectors, like cruise lines, the timing of recovery will depend on when governments begin relaxing restrictions. Much remains unknown and out of the hands of the companies themselves, and the ratings and outlooks on many issuers in the travel industry are still negatively biased. A shift toward a stable bias, let alone a positive one, will come from several sources, including financial policy, as many travel companies issued incremental debt during the pandemic to buttress liquidity.

Pent-Up Leisure Travelers Will Lift Airlines

"Unprecedented" is perhaps an overused term but it's an apt description of the effect of the COVID pandemic on the airline industry. Chart 1 shows global and regional air traffic, as reported by the International Air Transport Association (a global airline trade group), during the pandemic and previous major shocks of the past two decades. The effect of the pandemic has clearly been both more pronounced and more lasting than in previous downturns. Indeed, the trend lines displayed for SARS in 2003 and for the Sept. 11, 2001, attacks would be less negative if they were based on global, rather than regional, air traffic data.

Chart 1

The key variable governing the airlines' path to recovery is the evolution of the pandemic and vaccination efforts. A strengthening economy will help, but its effect is secondary to the immunity outlook. The impressive efficacy of vaccines and accelerating, albeit uneven, vaccination campaigns suggest that greater consumer interest in flying, when it comes, could be strong, and we expect a surge of bookings for summer travel (following a jump in flying over spring break). We see significant pent-up demand for vacation and visiting friends and relatives, so domestic leisure travel (including nearby international destinations like Mexico and the Caribbean) is likely to pick up first. Business and international travel will take longer to return. Overall, we estimate air traffic in the U.S. will be 40%-50% lower than 2019 levels in 2021 and 20%-30% lower in 2022, but that will vary among airlines. Those that serve mainly domestic leisure travel, such as Southwest Airlines Co. and other low-cost carriers, should come back more quickly than large hub-and-spoke airlines that have significant business and international travel. We believe there will be some long-term loss of business travel due to the widespread acceptance of videoconferencing, although business travel related to sales and client outreach will be less affected.

Since the start of the pandemic we have downgraded all nine rated U.S. airlines and we maintain negative rating outlooks on almost all (see Table 1). We forecast most will generate very weak credit measures (including negative EBITDA or funds from operations) this year, improving in 2022 but remaining highly leveraged in many cases. Another $30 billion in federal payroll support this year will help cover any additional cash outflows if the recovery is delayed. Although earnings and cash flow should trend upwards and liquidity is adequate to strong, airlines have taken on substantial debt to survive and it will take years to pay that down. Accordingly, the first step towards restoring credit ratings will be revising outlooks to stable or positive as traffic and revenues accelerate and, hopefully, COVID uncertainties narrow. In most cases, that is not likely until later in 2021.

Table 1

Hotel Recovery Will Be Slow

Our base case and current ratings assume widespread immunization by mid-2021 allowing for the recovery of business and group travel, which have been lagging leisure travel for the duration of the pandemic. While we expect travel to strengthen in 2022, hotel revenue per available room (RevPAR) will not return to 2019 levels until 2023 at the earliest.

The U.S. Lodging Industry Base Case

Even under our base case, hotel RevPAR in 2022 will be 10%-20% below 2019 levels, which could translate into 2022 EBITDA that is 20%-30% below 2019's level. However, a specific company's 2022 EBITDA will depend on its price segment, geography, and cash flow model (whether the company is a franchisor or owner of hotels, the latter of which is subject to greater volatility than the former). There is also a big divergence in occupancy between hotels at the lower end of the price range, which are recovering much faster, and high-end full-service hotels, particularly those located in cities.

For the U.S. lodging sector, we expect the recovery to start more fully in the second half of 2021 and into next year, but for 2022 RevPAR to remain 10%-20% below 2019 levels. We believe hotel owners and franchisors can manager their costs in a manner that achieves a breakeven at lower occupancy than historically, but for EBITDA in 2022 to still be 20%-30% below 2019 levels.

Table 2

Table 3

The potential for downgrades still outweighs the potential for upgrades

Despite optimistic signs, our ratings bias remains overwhelmingly negative for the lodging sector. We have lowered lodging ratings since the very beginning of the pandemic, and approximately 94% of rating outlooks in the sector remain negative compared to 34% pre-pandemic. The ratings migration downward has resulted in downgrades of one or more notches for most lodging issuers, and a big increase in the number of 'CCC' category ratings (35% of lodging issuers). There have been no defaults yet, as access to the debt markets and liquidity have kept companies from filing.

Chart 2

Table 4 shows downgrade actions we have taken on our largest and highest rated issuers since the onset of the pandemic. We have one fallen angel, Host Hotels & Resorts Inc., for which we lowered the issuer rating to 'BB+' from 'BBB-' in March 2021. We took this action not just based on a slow recovery for business and group travel, but also because Host is more exposed to high-end full-service hotels relative to other diversified lodging companies. In addition, Host has talked publicly about a more aggressive use of cash to make hotel acquisitions, which we believe would slow down restoring credit measures to levels that would have been supportive of the former 'BBB-' rating. At the same time, we have not changed our ratings on two companies, Choice Hotels and Four Seasons, because both companies entered the pandemic with some leverage cushion.

Table 4

Cruises Will Have Heavy Debts To Unload

For the global cruise sector, delays in restarting operations could extend the period of cash burn, leading to unsustainable leverage levels through 2021 and placing significant pressure on any path to recovery (we assume that happens beginning in 2022). Cruises remain largely suspended through the first half of 2021 and we assume operators resume sailings in a phased manner sometime in the third quarter of 2021. Phased resumption of operations may help cruise operators better align supply and demand, target easily accessible home ports, and better manage itineraries. Also, operators may limit destinations and cruise lengths because of continued port closures and local government and health authority restrictions. However, customers may find the revisions less desirable. Additionally, customers might grow weary of social distancing, mask, and testing requirements. This could pressure pricing, particularly on initial voyages, for which pricing will already be impaired as tickets will likely be sold close to sailing. Pricing will also be hurt by the dilutive effects of future cruise credits, which effectively represent a price discount. In addition, operators will likely sail with significantly lower occupancy to facilitate social distancing and other health and safety protocols in for the next few quarters. This will hurt cash flows, especially at the large cruise operators, who typically sail with more than 100% occupancy.

Even after the pandemic, most cruise operators will ride a high tide of debt

Over the last year, cruise operators issued extraordinary amounts of debt to cover very high levels of cash burn while their ships are docked and revenue is near zero. Even including significant equity issuances to supplement liquidity, most cruise companies have loads of debt that will be very hard to unload. The recovery route remains uncertain, EBITDA remains largely negative, cash is still being burned, and the credit measures remain weak. As a result, all credit ratings in the sector have negative outlooks. Still, we believe most cruise operators have sufficient liquidity to weather the continued operating suspensions and eventually resume sailing later this year.

Signs of pent-up demand are visible

Increased booking volumes in recent periods despite relatively sparse marketing indicate to us a pent up demand for cruise travel and that consumers will resume cruising once regulatory restrictions are lifted. Additionally, approximately two-thirds of annual cruise passengers are repeat customers, which should aid recovery in 2022. We expect cruise operators will focus their initial post-COVID marketing efforts on these loyal guests, especially while overall marketing budgets and occupancies are limited and health and safety considerations are restrictive.

We have taken multiple-notch downgrade actions across the fleet of issuers over the last year. The industry saw two fallen angels (Carnival Corp. and Royal Caribbean Cruises Ltd.) and all ratings in the sector are currently in the 'B' category or lower because of the extraordinary level of borrowings during the pandemic.

Table 5

Rental Car Companies Will Benefit From Strong Used Car Prices

As in previous travel downturns, car rental companies have been able to reduce their fleets and operations relatively quickly by selling cars and reducing new car purchases. While the majority of Avis Budget's and Hertz's operations are based at airports and are thus more reliant on airline travel demand, car renters (in particular Enterprise) with significant off-airport operations have benefitted, which has offset some of the lower demand at airports. Off-airport demand has been quite strong as more customers have sought local excursions by road rather than air or train.

Car renters have also benefited from strong used car prices, which has enabled them to sell vehicles at historically high prices and generate strong profits upon their sale. This trend only began in mid-2020, which was too late for Hertz; it took significant losses when it was forced to sell vehicles in a weak market which, in part, caused its bankruptcy filing.

Domestic air travel has begun to recover and demand for car rentals at airports has also picked up, but renters are now facing a shortage of vehicles. This is partly due to the shrinkage of fleets during the pandemic, and partly due to the shortage of chips needed in the manufacture of new cars. As a result, rental rates have increased significantly. With our expectations of improving demand and higher rental rates, as well as ongoing strong used car pricing, our outlook on the two remaining rated U.S. car renters should remain stable.

Table 6

Online Travel's Recovery Will Be Gradual

Our coverage universe includes online travel agencies (OTAs) such as Booking Holdings Inc., and Expedia Group Inc., as well as Tripadvisor Inc., which is not an OTA but provides reviews and comparison shopping. All three responded to the pandemic by issuing debt to improve balance sheet liquidity, implemented furloughs, reduced workforce and real estate footprint, and reduced marketing expenditures. Marketing is a significant expense for these companies, accounting for over 30% of total expenses, although the majority of these expenses are performance based and highly variable, so OTAs were able to reduce their marketing costs largely in line with revenues through the pandemic.

Despite promising signs in the third quarter of 2020, a resurgence in COVID cases led to meaningful year-over-year losses in the fourth quarter of 2020 and first-quarter of 2021. For example, at the height of the pandemic, Expedia's second-quarter gross bookings declined over 90% from the same quarter in 2019, and fourth-quarter 2020 bookings were still down almost 67% versus the prior year period. In addition, booking windows have shrunk significantly as consumers look to offset risks of growing COVID cases and local government shutdowns from their travel plans. This leaves limited visibility into demand for travel by all market participants and has reduced the amount of cash that companies such as Expedia are holding on their balance sheets (which is typically substantial because of how the industry operates). In addition, bookings are muted because vaccines have yet to be approved for children younger than 16, unpredictable virus variants have emerged, and the timing of the relaxation of government-mandated travel restrictions is uncertain, particularly for international travel.

Notwithstanding these major obstacles, the pandemic hasn't dramatically changed the long-term prospects for the industry. We believe there remains significant pent-up demand and consumers are likely to resume travel as it becomes safe to do so and government restrictions abate. We expect the recovery in leisure travel to begin in the second half of 2021 and are already seeing green shoots, with reports of increasing air travel and car rental activity. The recovery will initially take the form of higher bookings, then transform into revenue and EBITDA growth over the subsequent months. Since bookings precede revenue recognition and marketing expenses are closely tied to bookings, companies might see initial pressure on their EBITDA margins and cash flow. We expect revenue in the first half of 2021 to be 50%-60% below 2019 levels, improving to about 70% of 2019 levels in the second half, almost 80% in 2022, and possibly exceeding 2019 levels in 2024. Cost cuts implemented by these companies should allow for a quicker recovery in EBITDA and we expect EBITDA to recover back to 2019 levels by 2023.

Chart 3

Table 7

The negative rating outlooks on these companies reflect uncertainty stemming from the pace of vaccination, moderation of government restrictions, spread of the virus and its variants, and their resulting impact on the performance of these companies. We expect a resumption in growth for travel to fuel revenue growth for companies focused on leisure travel in the second half of 2021. Any delay in recovery poses downside risks for the ratings as it would result in the utilization of additional cash, delay a recovery in earnings, and keep leverage elevated for these companies beyond 2022.

Travel Management Companies Face Lowered Horizons

Business travel faces the prospect of an even slower recovery toward a lower utilization. Companies have significantly reduced travel for meetings and conferences, and we believe the extent of the recovery will depend on the extent to which companies have adopted virtual meetings permanently. As a result, not only will the recovery likely be slow for business travel but the overall level of business travel after the pandemic could be lower. Revenue at rated travel management companies, including GBT JerseyCo Limited and Carlson Travel Inc., will likely be below 2019 levels for the foreseeable future. Like the online travel agencies, these companies have pursued significant cost avoidance and reduction measures including furloughs, workforce reduction, and reduction in capital expenditures. However, EBITDA is likely to remain pressured through well into 2022 for these companies.

Table 8

As with online booking companies, the negative rating outlooks reflect the uncertainty around the pace of vaccination, moderation of government restrictions, and spread of the virus and its variants. It also reflects the possibility that a meaningful part of the market for these companies' services has disappeared.

Related Research

• Europe's 2021 Air Passenger Traffic Likely To Stall At 30%-50% Of 2019 Level, Feb. 18, 2021
• Slides: Transportation and Aerospace Defense Roundtable, Dec. 1, 2020
• As COVID-19 Cases Increase, Global Air Traffic Recovery Slows, Nov. 12, 2020
• The U.S. Lodging Sector: A Slower Recovery Could Take Until 2023, Nov. 5, 2020
• From Bad To Worse: Global Air Traffic To Drop 60%-70% In 2020, Aug. 12, 2020
• U.S. Lodging, Leisure, And Gaming Sectors Face Rocky Road To Recovery, June 30, 2020