Leading Asian airlines are gaining a valuable competitive advantage from their proximity to China, as this market's enormous potential transforms into rapid growth. The big question now is how long it will take China's own carriers to exploit the boom and join the Asian giants in the industry's top echelon.
A notable theme of the latest Aviation Week Top-Performing Airlines (TPA) study is the dominance of carriers with high exposure to the Chinese market. These airlines feature even more heavily in the most-improved list, suggesting that this trend will only strengthen in the future.
TPA scores in the mainline category saw an overall lift in this year's study, reflecting legacy airlines' impressive rebound in 2010 from the global downturn. New challenges have emerged this year, but the TPA rankings give a good indication of which carriers will continue to perform well.
North American carriers generally improved, but airlines from the Asia-Pacific region—and to a lesser extent Latin America—figure more prominently at the head of the rankings. The TPA council of advisers agrees that this is no surprise, as these regions contain the markets with the most growth potential. The European heavyweights, with the notable exception of, continue to lag.
Of the Asia-Pacific carriers, those best positioned to tap into China demand are among the strongest performers. This is true of(SIA)—the top-scoring mainline carrier for the sixth time in seven years—and second-place Cathay Pacific. Also in the top 10 are and Taiwan's , which are both increasingly reliant on China routes.
The list of the top 10 most improved airlines reinforces the China effect (see graph p. 45). Korea'ssaw the biggest score increase, followed by and the two major Taiwanese carriers. In each case, the booming Chinese economy helped propel their rise.
TPA adviser Craig Jenks says the preponderance of “China periphery carriers” on the most-improved and overall rankings lists is hard to miss. SIA and Cathay are obvious examples, since they both rely heavily on connecting traffic in this region.
Others also fall into this category. Having gained increased access to China routes, Taiwan's EVA Airways and China Airlines can act as “hub carriers into the mainland,” says Jenks. Airlines from Korea and Japan are also placing more emphasis on China service.
Michael Dyment, another TPA adviser, citesprojections that traffic within the Asia-Pacific region will grow three times faster than in North America. And China is rapidly overtaking Japan as the key driver of intra-Asia traffic.
The mainland Chinese carriers are at the heart of this market, but they are lower ranked. They need to continue strengthening their brand value, product and service levels to match their regional competitors, says TPA adviser Bryan Terry. These are important factors in building customer loyalty and boosting yields, he says.
“If you look at the [overall] rankings, the big three Chinese carriers are still not particularly impressive and are still being outperformed by the likes of Singapore, Cathay,and ,” Jenks says. “But if you look at the most improved, then China Southern and are very high. This is significant.”
An important caveat is that the Chinese airlines' growing financial strength is inflated by their government's “very bold infusion of equity since 2009 into what it sees as its consolidated carriers,” says TPA Project Manager Michael Lowry.
Terry notes that “the markets are speaking loud and clear regarding their future view of the industry,” with Air China having the largest market capitalization of any carrier worldwide and with China Southern andalso in the top 10 under this measure.
The nature of the transpacific market will eventually change, TPA adviser George Hamlin believes. “Right now, the dominant market is Japan, both for local and flow traffic, but the dominant market is going to become China,” he says. Extended-range aircraft will allow airlines increasingly to fly direct to China. “As the Chinese economy develops, and more [transpacific] traffic originates in China, we are going to see the power move to that side [of the Pacific], and all that traffic is going to bypass Japan.”
The rising influence of the Chinese carriers obviously has huge implications for airline alliances. Jenks says thealliance was previously weaker than the other groupings in the high-growth China market, and it has attempted to rectify this by adding China Eastern and China Southern as members. This pair may not add much value now but will definitely do so in the future. As Hamlin points out, “In 20 years' time, who do you want as your linchpin airline partner in the Pacific, or a Chinese carrier?”
Of course, the China influence is far from the only reason airlines such as Cathay and SIA shine in this year's TPA rankings. These two carriers have consistently been among the top scorers in previous studies, so this year's result is clearly not a flash in the pan. “Singapore is demonstrating the sustainability of its business model,” Hamlin says.
SIA achieved the highest attainable score of 99, the first time this has occurred in the recent history of the TPA study. As Lowry says, SIA “really hit it out of the park this year.” And Cathay achieved a score that would have ranked first in previous years.
Jenks says that while conventional wisdom holds that SIA relies on the advantageous location of its connecting hub, good management is much more of a factor. “Singapore Airlines is carrying people on significant geographical deviations, because it—together with—is so good at what it does,” he says. For example, SIA “has a striking market-share lead between Japan and southern India [via Singapore], despite geographical inferiority to several alternative routings.”
The mainline category has seen a general improvement for the second consecutive year. The median score rose by 34.4% to 57.9, compared to 43.1 in last year's study.
A regional breakdown sees a much more varied picture, though. Latin American carriers performed well, with Copa Airlines andin particular building further on their high rankings from last year. The pair are positioned sixth and 11th this year, respectively, with TAM Linhas Aereas following closely in 12th position.
Copa continues to reap benefits from its strong connecting hub in Panama City, helping it achieve some of the best operating margins in the industry. The airline was second only to SIA in its TPA financial health rating. TPA adviser Raymond Neidl says he “never thought anything with wings on it could bring a company profitability like that.”
Consolidation has changed the landscape of the Latin American industry dramatically, and LAN has been a major beneficiary. After its merger with Brazil's TAM and purchase of Aires Colombia, LAN “will be in every major growth market in Latin America,” Neidl says.
The standard-bearer for North American carriers is once again, last year's top-performing airline in the mainline category. While Alaska has only lost two points from its total score, SIA and Cathay both gained enough to surpass it. And while the U.S. majors all saw double-digit increases in their total scores, the overall improvement throughout the category kept them in the mid-to-lower range in the rankings.
The European mainline sector, meanwhile, has been relatively lackluster in its performance in this year's TPA study.- and languish near the bottom of the table, and even SAS Group and , in the top 10 last year, have plummeted.
Europe's continuing woes should not be a surprise. Thehas repeatedly stressed that European carriers have been the slowest to recover from the global downturn. The larger carriers are moving in the right direction, however, particularly Air France-KLM, which saw a 20-point improvement in its total score. But the introduction of new taxes and environmental legislation are looming threats for carriers in Western Europe, Neidl says.
One glaring exception to the poorly performing European sector is Lufthansa. Traditionally a mainstay of the top five, it climbed to third in this year's rankings. It is the highest-rated of the carriers with more than $20 billion in annual revenues.
Lufthansa has been expanding dramatically through acquisition, but the TPA advisers agree that it is making this work and gaining benefits from synergies. The airline has been “the leader of the pack in terms of mergers and merger integration,” Jenks says.
The German carrier “deserves credit for protecting its flanks,” says Hamlin. “It has set up a system where nearby hubs or potential hubs can't really poach traffic.”
Lufthansa does not appear to be suffering indigestion from its acquisition of Austrian Airlines, says Lowry. So far, it appears to be able to add pieces without hurting performance. However, a wider loss in the first quarter of 2011 could be a warning sign for the carrier, Lowry says.
Terry notes that consolidation of this kind has become a “global phenomenon,” occurring in Europe, the U.S., Latin America and China. He sees the industry “continuing to consolidate in all parts of the world” and, where this is blocked by cross-border restrictions, carriers will look to form “virtual mergers” through joint ventures.
Most participants in recent mega-mergers, such as British Airways,and , are still in the middle of the TPA pack. Hamlin says the most recent round of mergers is “new enough that we haven't seen the full extent of what consolidation will bring.”
Terry believes that the Delta-Northwest Airlines merger has been “working very well,” and the benefits of consolidation are beginning to show. For most mergers, though, the question hanging over them is, “Will management be able to execute?”
Improvements in global and local economies appear to be the major force behind the overall rise in TPA scores, with increased demand and a conservative approach to capacity growth offsetting fuel price rises.
Hamlin says he would describe 2010 as a “good rather than great” year for airlines, although the industry was “well managed in how it dealt with the run-up in fuel prices.” Carriers have been able to “pass on high fuel prices much better than they have in the past; otherwise 2010 would have been a disaster,” he says.
Airlines around the world—particularly in the U.S.—strengthened their balance sheets by accumulating more cash, says Dyment. “But let's hope we see 10 more years of that, because that's how long it will take for the airlines to improve their balance sheets to the point they can be strong contributors to their [national] economies,” he says
Stronger demand allowed for improved yield management, Dyment says. “Fares are up everywhere, particularly walk-up and business-class fares, and yet the cabins are full.” Management's continuing capacity discipline is one of the largest factors in this, he says. Constraint is “providing the airlines with pricing power and the ability to create a bottom line.” At the same time, airline managers are being ambitious with surcharges and ancillary fees, “and there has not been a consumer revolt.”
Terry agrees that airlines are “managing capacity better.” Airline schedules showed they were planning a significant capacity increase before the recent oil price spike, but he says they “responded much faster than they have historically” by pulling back these plans due to rising fuel costs.
Most airline leaders believe high oil prices are here to stay and are adamant that “they are going to manage their airlines accordingly and be very aggressive in trying to protect financial performance and balance sheets,” says Terry.
Jenks notes that capacity constraint differed according to region. “This new model, under which you can grow zero or even shrink, originated in the U.S.,” Jenks says. “There has been some of that in Europe, but the extent of capacity restraint is much less in Asia.” Neidl adds that U.S. carriers had few options after they “looked over the edge of the cliff and didn't like what they saw.”
However, the industry is also benefitting from suppressed fleet growth due to order cancellations and deferrals as well as delivery delays, Jenks says. While it is a reflection of where the industry is in the profit cycle as much as management strategy, carriers “have been taking much less new equipment, and the result is we are starting to have airlines that bankers can be more proud of.”
A theme of last year's study—the success of small and non-aligned carriers—is not as evident in the top 10 this year. Jenks says these airlines still enjoy certain advantages, but capacity restraint last year benefitted the larger carriers more.
Looking at 2011, the advisers are wary of predicting a further improvement for the major carriers in the TPA rankings. “If you had asked me in February, I would have said 2011 was going to be a better year,” Neidl says. “But now, with the price of oil and increasing resistance to price increases, I'm not so sure.” Oil prices higher than $120 a barrel could even cause the industry to slide back into recession later this year, Neidl says.
Terry also believes that 2011 will not be as good as 2010, due to the effects of external forces such as political turmoil in the Middle East and North Africa and the earthquake and tsunami in Japan.
Aside from the Persian Gulf carriers, major airlines will receive relatively few new aircraft this year, Jenks says. “Therefore, what was a major driver in 2010 will continue to be there.” Higher fuel prices could be a “blessing in disguise” for the industry, as they will encourage airline boards to delay fleet growth decisions that have been percolating and prevent capacity from rising too fast.
But Terry says increased oil costs should prompt carriers to look at fleet modernization to improve fuel efficiency. “The best form of fuel-hedging is reducing your consumption in the first place,” he says. “This is driving airlines to accelerate the retirement of fuel-inefficient aircraft and prompting a surge of interest in re-engined and next-generation narrowbodies.”
|2||China Southern Airlines||32.5|
|7||Delta Air Lines||23.5|
|8||TAM Linhas Aereas||21.8|
|Source: TPA study|