More volatility ahead

Air passenger traffic will be up, but the year ahead is loaded with risk delegates heard at the 60th Assembly of the Association of Asia-Pacific Airlines last month.

by TOM BALLANTYNE REPORTS FROM MANILA  

December 1st 2016

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A rising oil price, sustained over capacity, currency fluctuations, increased borrowing costs and global political uncertainty are the major threats Asia-Pacific airlines face in the coming year. Read More »

As 2016 draws to a close, the region’s airlines are on track for reporting improved profitability for the last 12 months, with US$6.63 billion in combined earnings, but the question asked at the Association of Asia Pacific Airlines (AAPA) Assembly of Presidents last month was could this profit momentum be sustained in 2017.

Association of Asia-Pacific Airlines director general, Andrew Herdman: Governments continue to misjudge the strength and negative sentiment felt by Asian airline leaders about the unnecessary burden of misguided policies and unjustified taxation

The industry had “probably seen the most of that stimulus from the low oil price”, said the AAPA director general, Andrew Herdman. He added: “it would be unrealistic to expect this average growth rate to continue although it is still above trend and still strong.

“Having said that, the number of airlines competing for a share of the region’s air passenger growth is as wide as ever. Competition is intense and it is in fares.”

Recent airline results have reflected the difficult operating environment. Among them was Singapore Airlines’ 70% decline in net profit for the three months to September 30, reported in a period the airline described as “tepid”.

In mid-October, Cathay Pacific Airways issued a profit warning in response to “overcapacity and strong competition”, an operating climate already reported by Emirates Airline and Air New Zealand. At the end of the same month, Qantas warned after tax profit could decline by up 16% in coming months.

International Air Transport Association (IATA) regional vice president Asia Pacific, Conrad Clifford, who moderated the Outlook and Challenges for the Aviation Industry panel at the Assembly, said the global industry was more profitable than ever, at $36.3 billion in 2016, but the U.S. carriers were making almost 60% of the money.

“In the Asia-Pacific, apart from the extra capacity in the market that has pushed prices and fares down, we’ve seen the rise of the Gulf carriers,” he said. “We’ve seen the emergence of LCCs in many different forms and all of them have increased competition in our market.

“We also are experiencing market uncertainty globally from Brexit and the recent election of Donald Trump as U.S. president. We’ve had seven years of pretty solid growth, but no one knows where it’s going to go from here. The only certainty we have in our region, thankfully, is that growth will continue. The challenge will be to make money from that growth.”

Founder and principal of Endau Analytics, Shukor Yusof, said risks for airlines in the coming year included revenue volatility, the cost of borrowing, fuel price movements and the uncertainty surrounding the Brexit. Europe is a huge source of revenue for many Asia-Pacific carriers.

“At the same time, Asia-Pacific carriers are well positioned to cope with industry changes,” he said. “For example, will oil prices stay at these levels? We don’t know. Our projection is they will be low for the first half of 2017 and may well go to around $70 from there onwards.”

Managing currency risk would be challenging, he said. “A lot of carriers in the region – Malaysia, Thailand, even Singapore – are seeing their currencies severely impacted by the strength of the US dollar. Combined, these factors don’t allow the airlines to have the advantages they should have.”

Getting that camel into the tent Speaking on the sidelines of the Association of Asia-Pacific Airlines Assembly of Presidents last month, Airbus chief operating officer - customers, John Leahy, told Orient Aviation the manufacturer now holds 90% of the budget carrier market in Japan. He said Airbus had long been frustrated by the fact that Boeing “basically had a lock” on the Japanese airline market for so many years. “But we knew once we got the camel’s nose under the tent things were going to change in a hurry and sure enough that’s what’s happening. Airlines are starting to look at our airplanes. JAL [Japan Airlines] went with the A350 after finally deciding to take a close look at what our airplanes offer. ANA has the A380 and will be flying it soon,” he said. Airbus’ latest Japanese victory was the firm order of 10 A320neo and three A320ceo from ANA Holdings joint venture budget carrier, Peach Aviation. The deal was sealed between Peach Aviation CEO, Shinichi Inoue, and Airbus president and CEO, Fabrice Brégier on November 18. Leahy said the LCCs are important in Japan and are opening up the Airbus product to a broader market base. “The old way of doing things [in Japan] was with the Boeing product. The new way of doing things in Japan is with the Airbus product. I think that’s a double win for us,” he said. In the last five years Airbus has won more than 100 orders and commitments from Japanese airlines. In 2013, Japan Airlines ordered 31 A350XWB plus 25 options. In 2014 and 2015, All Nippon Airways signed for 37 A320 family aircraft and added three A380s last January. Airbus’ backlog of firm orders in Japan stands at 86 aircraft. Leahy said: “Our overall share of aircraft in service in Japan will rise to at least 30% in the next ten years.”

Added Herdman: “Low air fares were keeping planes full, but passengers rather than airline bottom lines were the winners from the low oil price.

“Anecdotally, to maintain load factors airlines have had to give away more on fares than they had expected,” he said. “Very well-managed carriers are doing everything right. Load factors are good. Traffic is growing, but the bottom line is still disappointing. In Asia, and in other regions, the passenger can capture all the benefit. Is that sustainable?

For now, the picture is positive. Asia-Pacific carriers’ profits are about in line or slightly ahead of the same period last year, said Herdman. “The projection that Asian airlines will make slightly more in 2016 than last year has no reason to be doubted at the moment,” he said.

Philippine Airlines president and chief operating officer, Jaime Bautista, who hosted the Assembly said: “We are based in a region blessed with many opportunities. Asia-Pacific international passenger demand is growing at a clip of 6.9% this year, which is ahead of the global average and far ahead of Europe and North America.

“Asia-Pacific airlines do not run away from change,” he said. “Instead, we are forcefully igniting change, producing change, making change our friend and partner and inspiration. For change is the greenhouse of opportunity.”

Bautista said the airlines’ main concerns were: “Airport slot and infrastructure shortages, onerous taxes and charges, burdensome and needlessly complex regulations, red tape that produces red ink, the quest for effective ways to protect the earth and the call for a more connected world. These are the challenges we face every day,” he said.

'Very well-managed carriers are doing everything right. Load factors are good. Traffic is growing, but the bottom line is still disappointing. In Asia, and in other regions, the passenger can capture all the benefit. Is that sustainable?'

Andrew Herdman Association of Asia-Pacific Airlines director general

Malaysia Airlines Berhad group managing director and chief executive, Peter Bellew, told delegates that in all his years in the industry he had never seen an opportunity that matched what Asian carriers have before them.

“China and tourism outbound from China is like tourism was out of Germany, the UK, France and the Netherlands 40 years ago,” he said. “Only four per cent of people in China have a passport. They are going to target 12% in 10 years. That’s 150 million more people that will start to take trips. Where are they going to go? They are going to start by going to the region in the first few years,” he said.

“The biggest issue is being able to handle them. There has to be enough hotel rooms. Infrastructure investment in hotels, resorts, theme parks and attractions is required.

“The challenges are a shortage of pilots and not enough hotel rooms. There is a time lag in the development of airport structure, but the opportunity is enormous. Airlines may have to consider building their own hotels to meet the shortfall.”

Thai Airways International (THAI) president, Charamporn Jotikasthira, said when the requirement for Chinese visitors to have visas for Thailand was lifted, the number of passengers increased from three million to nine million.

The influx overwhelmed Thai airport immigration facilities. “The infrastructure was not able to cope with that jump (in passenger numbers), so you [THAI] can’t capture the full opportunity,” he said.

IATA’s Clifford added: “Japan set a target of 20 million inbound tourists by 2020. Because of the cheaper yen and the relaxation of visa restrictions, particularly in China, it hit the 20 million target by 2015. It is now raised to 40 million by 2020.”

Unsurprisingly, the rise and rise of LCCs in the year ahead was the subject of discussion at the assembly. THAI’s Charamporn said low-cost carrier participation in Thailand was amongst the highest in the world, at 53%.

“In the past, we let them do their business of competing in the low-cost arena. Now, we have to compete with them,” he said. Legacy airlines needed new strategies to deal with the situation, including using their scale to negotiate cost reductions with suppliers. Non-LCC carriers also must be more active in marketing their airlines, he said.

MAB’s Bellew said there are far too many low-cost airlines in the region and that Malaysia’s short-haul market “is the toughest in the world”. “You have unbelievable competition. On some routes there are triple the number of seats required for the market. People are blowing each other’s brains out with low fares,” he said.

He also forecast consolidation for Asian LCCs. “Budget airlines don’t have critical mass so they will hit the same issues as the U.S. LCCs did. Here, there are too many airlines chasing too few slots and too few passengers. It’s very easy to acquire 25-30 aircraft. To go up to 80 or a 100 is when it is tricky,” he said.

“If you don’t have scale you are fine for five, six or seven years, but then you start having maintenance issues that are very expensive. When the fuel price inevitably goes back up, I think that’s when the shake-up will happen.

“Lots of airlines in Europe and the U.S. went bust and I think it will happen here. Consolidation will happen [in the LCC sector] here.”

Aside from the global factors outlined by speakers and panelists at the Manila Assembly, Herdman said the barriers imposed by governments continue to threaten short-term profitability and maximum potential in the long term.

“The AAPA remains deeply concerned about safety oversight in the region, where carriers can sometimes find themselves subjected to restrictions or even banned from operating to other countries because of insufficient national regulatory oversight that does not match accepted international standards,” he said.

“Governments continue to misjudge the strength and negative sentiment felt by Asian airline leaders about the unnecessary burden of misguided policies and unjustified taxation,” said Herdman. He believed removing barriers to industry growth and profitability was ultimately beneficial to the growth of economies, and that it was critical for governments to recognize that.

Bullish Boeing The growth is relentless and will continue. That was the message in Manila from Boeing’s senior vice president sales Asia Pacific & India, Dinesh Keskar, in his media update for projected aircraft sales in the Asia-Pacific in the next two decades. The region’s airlines would need 3,860 new airplanes, valued at $566 billion, in the next twenty years, he said. Of these, almost three-quarters of the new orders would be for growth and a quarter, at 1,040 airplanes, would be for replacement. Boeing estimated global airlines would require 39,620 new airplanes, valued at $5.9 trillion, in the forecast period. Single aisle aircraft would make up 71% of the orders, Keskar said. Fifty one per cent will be small and medium wide-body jets, with seating capacity of 400 or more, and the rest would be wide-body aircraft, whose value of $230 billion was “nothing to sneeze at”, said Keskar. He said the biggest trend in the aviation market was the emerging economies of China and India, and the significant growth of low-cost carriers, “making the market more diverse and balanced”. New non-stop destinations are being opened up because of the ability of the latest aircraft to go to places that could not happen before, driven by the propensity of people to travel, he said. “The highest rate of growth in Southeast Asia is dominated by India at 8.9%,” he said, and predicted Oceania - Australia, New Zealand and nearby island countries - would significantly build their fleets to catch up with the region’s two future airline market leaders.