Asia gives aviation sector reasons for cheer

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With western airlines braced for losses in 2012 because of contagion from the euro zone crisis, Asian carriers should provide some much needed cheer for the aviation industry.

Asia’s developing economies are expecting strong demand for air travel, which should translate into profits for the region’s airlines. Furthermore, the rise of China and India as economic powerhouses means Asia is expected to become the most important sales region for Boeing and Airbus, worth an estimated $1.5tr over the next 20 years.

“You have got economies [in Asia] that are still growing, you have a lot of people in Asia reaching middle-class status and therefore able to travel, and with a strong desire to travel,” says Tony Tyler, director-general of the International Air Transport Association, the main representative body for the world’s airlines, and a former chief executive of Cathay Pacific, the Hong Kong carrier.

He says: “You have [also] got a lot of very globalised businesses based in Asia. It is a huge source of air cargo to the industry. So [the region] has got a lot of things going for it.”

At the Singapore air show, which starts on Tuesday, one of the big talking points is expected to be deepening global economic slowdown. In January, the International Monetary Fund cut its global growth forecast for 2012 from 4 per cent to 3.3 per cent, warning the euro area crisis had entered a “perilous new phase”.

Air travel is closely tied to economic growth, and IATA is expecting Asian carriers to report a smaller combined profit in 2012 compared with 2011, because of the economic slowdown. IATA estimates Asian carriers will collectively have net earnings of $2.1bn this year, compared with $3.3bn last year.

Nonetheless, Asia’s developing countries – led by China – are on course to record some of the best economic growth rates in the world in 2012. In this environment, Chinese airlines and some of Asia’s new breed of low-cost carriers will be the region’s biggest beneficiaries of rising passenger travel, says Joe Liew, analyst at Deutsche Bank.

The Chinese aviation market is now a story of rapid growth, having recovered from air safety fears in the 1990s. The number of passengers flying on domestic airlines has almost quadrupled in the past decade, from 67.2m in 2000 to 267.6m in 2010.

There is potential for massive further expansion, given China’s population of 1bn. Airbus expects China to be the most valuable aircraft market in the world over the next 20 years, taking delivery of 4,401 jets worth $545.1bn.

Boeing estimates that China’s fleet of aircraft will more than triple, from 1,750 jets in 2010 to 5,930 by 2030. This reflects how the Chinese government’s latest five-year plan, running from 2011 to 2015, envisages increasing the number of airports from 175 to at least 230.

The growth trajectory may be impressive but, following consolidation over the past decade, China’s aviation market resembles an oligopoly.

Edward Xu, analyst at Morgan Stanley, highlights how the country’s top four airlines – Air China, China Eastern Airlines, China Southern Airlines and Hainan Airlines – carried 91 per cent of domestic and international passenger traffic in 2010. China’s airlines benefit as foreign carriers cannot operate domestic flights. Mr Xu says: “With resilient domestic demand growth triggered by increasing affluence in China, the high market concentration has significantly enhanced the [Chinese] carriers’ market power and has translated into strong ... profit margins.”

While the large Chinese airlines are focused heavily on domestic passenger traffic, they also have big opportunities to develop their overseas operations.

Rapid growth in international passenger traffic is expected within the triangle of Asia, Africa and the Middle East. This partly reflects Chinese investment in Africa, and will increasingly pitch Chinese carriers into a battle with the expansionist Gulf airlines led by Emirates.

But China provides only a partial explanation as to why Asian airlines have become the largest part of the order backlogs – which are seen as an indicator of future revenues – at Boeing and Airbus (see ‘Boeing/Airbus order backlog’ graphic).

Low-cost carriers offering cheap air fares are expanding in the region, notably because of market liberalisation between countries belonging to the Association of South East Asia Nations, which include Indonesia, Malaysia and the Philippines.

Asian no-frills carriers have a significant growth opportunity, not just because more people in the region are starting to fly. Budget airlines’ market share in Asia, measured by seating capacity, is about half that of those in Europe and the US (see ‘Low cost carriers’ graphic).

AirAsia, the Malaysian budget airline founded by Tony Fernandes, the flamboyant entrepreneur, underlined its ambition last year by placing an order for 200 Airbus A320 Neo single-aisle aircraft at the Paris air show. Worth $18.4bn at list prices, the order for Airbus’ fuel-efficient narrow-body aircraft was the third-largest deal in the European manufacturer’s history.

Then in November Lion Air, the Indonesian budget airline, announced a preliminary agreement with Boeing that is supposed to become the US manufacturer’s largest aircraft order to date. Lion Air plans to buy 230 Boeing 737 single-aisle aircraft, worth $21.7bn at list prices.

Some of Asia’s low-cost carriers are experiencing growing pains, notably in trying to expand beyond short-haul, regional flights.

AirAsia X, an AirAsia affiliate that has pioneered low-cost, long-haul flights since 2007, announced in January that it was stopping services between its Kuala Lumpur base and Europe. It is retrenching by focusing on Australasia, China, Japan, Korea and Taiwan.

This all underlines how low-cost airlines are putting pressure on Asia’s longer-established flag carriers, and some of these are responding by setting up their own no-frills businesses offering cheap fares.

Qantas, the Australian flag-carrier, has enjoyed success with its budget airline, called Jetstar, which has domestic and Asian operations based in Melbourne and Singapore respectively.

Jetstar’s profits have helped offset losses at Qantas’ long-haul operations, and the budget airline’s next phase of expansion will be in Japan, where it is launching a joint venture this year with Japan Airlines, the country’s flag-carrier. Meanwhile, Singapore Airlines is launching Scoot, its new budget airline, also this year.

The key question is whether Asian flag carriers beyond Qantas can successfully diversify into the budget airline business without cannibalising existing operations. European and US carriers have attempted to run budget airlines, but several were closed or sold, such as British Airways’ Go and United Airlines’ Ted.

This debate about business models – the flag carriers’ hub-and-spoke network versus the budget airline’s point-to-point service – will reverberate around the Singapore air show. However, a bigger talking point is likely to be the deeply troubled Indian aviation market.

India’s airlines are reeling from myriad problems, such as high taxes and inadequate infrastructure. But while these issues are beyond the airlines’ control others are self-inflicted, such as putting too much seating capacity into the market.

Air India, the country’s flag-carrier, unleashed a bruising price war last year, and India’s three listed airlines – Jet Airways, SpiceJet and Kingfisher Airlines – have reported losses in their most recent results.

By contrast to the excitement around Chinese carriers and south-east Asia’s low-cost airlines, India is in danger of becoming the region’s aviation basket case.

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