28 August 2016
Qantas CEO Alan Joyce tells us we should be happy because airfares will keep falling. We think (and hope) he was specifically referring to Qantas airfares and not airfares in general.
Just as an aside, in mid-August we flew on Malindo Air from Johor Bahru Senai (JHB) to Kuala Lumpur Subang (SZB) – see photo of the drink above – for MYR250 return, which is fairly steep for a 50-minute flight on a turboprop airplane and with the return flight delayed by over 2 hours.
The base fare was actually relatively inexpensive at MYR142 but service fee, passenger service and security charge plus GST (MYR76+MYR18+MYR14 = MYR108) added up to MYR250.
In general airfares haven’t come down in tandem with oil prices, which have been on a downtrend for all of this year.
Why is that so? Energy prices are down, yet airfares aren’t quite as low as they should be even if airlines tell us they are saving billions from fuel costs.
The question is: why should airlines lower fares if there’s no compelling reason to do so? If my competitors are still offering fares that do not correlate with the reduction in fuel prices, why should I?
Many airlines argue that demand remains robust and that there’s no overcapacity, and that they are investing heavily in newer aircraft or that unreasonable airport authorities are making them pay unreasonable taxes.
Bottomline: we, the consumer, continue to pay more irrespective of lower oil prices.
Airlines are also attributing slower drop in airfares not only to competition but also to hedging contracts, which they have entered into well before oil prices fell to such depths. For instance, Cathay Pacific’s latest plunge in profits was partly attributed to wrong bets in jet fuel hedges but how did so many smart Swire people get it so wrong? We’ll look at this a little later…
Another possible reason airfares aren’t coming down as much is due to the oligopoly nature of the business. The reality is, airlines control and fix prices. For example, airlines advertise flights from point A to point B for USD10-20 but this come with fees that can range from USD30 to USD50. And prices change very, very quickly.
To be fair, fares are a lot cheaper today than they were say, five years ago. Base fares are actually quite low. Check out Malaysia Airlines’ latest promotional flights to London from Kuala Lumpur – if you’re quick you can snag a fare of less than MYR2,300 (USD575) for travel in late October. And that’s flying on the A380, to boot!
In any case, before airlines are lambasted for not doing enough to reduce airfares, bear this in mind: airlines costs are not just limited to fuel. There are other factors to be taken into account, including airport duties and surcharges, improved and upgraded products on board, and not forgetting forex mismatch – the relatively strong US Dollar is offsetting a fair bit of the decline in jet fuel prices for many Asian carriers.
AirAsia’s leasing foray
Is AirAsia’s leasing arm worth USD1 billion? That’s what the low-cost carrier wants us to believe following its presentation on 15 August in Singapore (Read here).
By comparison, BOC Aviation (BOCA), the Singapore-based lessor which, in our view, is one of the best run aircraft leasing companies in the world, in May raised HKD8.7 billion or around USD1.1 billion.
BOCA has a fleet of about 270 planes and has at least 240 more aircraft on order. It’s a mixed bag of Airbus and Boeing aircraft, some widebodies but mostly comprising narrowbodies.
The difference between BOCA and Asia Aviation Capital (AAC), AirAsia’s leasing arm, is like night and day. The former is wholly-owned by Bank of China, one of the world’s largest banks, making BOCA the recipient of capital at a very low cost.
We’ve known BOCA since its inception in the 1990s as Singapore Aircraft Leasing Enterprise (SALE), then partly owned by Singapore Airlines and Sumitomo, among others.
BOCA has always performed well, driven for over the past decade or so by Robert Martin, respected as one of the most intelligent aviation CEOs, with an uncanny ability to read and anticipate trends in the industry.
Back to AAC – what is its raison d’etre? It currently has 55 planes, with plans to up this to 200 by 2021. And all the planes are from Airbus… mostly the A320 family.
Let’s give credit where it’s due: AirAsia is a very good LCC, the best in the region and one of the world’s finest. It has a distinct cost advantage over many of its competitors, which will ensure the company will stay ahead of the pack for many years to come.
But is the AirAsia group worth MYR6 a share? That’s what its management is trying to convince the market. By the way, if AirAsia’s total market value is USD1.9 billion, is it possible for its leasing subsidiary – based in Labuan and which owns just Airbus planes and with not so much of a track record as a lessor – be worth USD1 billion?
It’s a bit of a stretch, and good for them if they can get it!
Hong Kong flag carrier Cathay Pacific announced an 82% plunge in half year profits, down to HKD353 million (USD45.5 million) from a year ago. Revenue for the six months to 30 June fell 9.2% to HKD45.7 billion.
What’s behind such a huge loss? Competition and a dismal hedging model. And Cathay is losing its edge as a premium carrier, pretty much similar to what SIA is facing but where SIA has executed new strategies (focusing on its lower-end subsidiaries Scoot and Tiger), Cathay has no strategy to counter the discount carrier competition.
And making things worse is the airline’s woeful hedging bets. Cathay reported a HKD4.49 billion in fuel-hedging loss in the first half and compares with the HKD3.74 billion loss a year earlier. Passenger yields fell 10% to 54.3 Hong Kong cents.
Cathay is among airlines that didn’t benefit fully from the drop in oil prices as the level at which it has hedged is higher than the spot market price. The airline has hedged 60% at USD85/bbl for 2016, when a barrel of jet fuel is around USD48. Fortunately for the airline, it didn’t fall for the A380s. Instead, Cathay has ordered 48 A350XWB, taking the first plane in May.
What else can Cathay do? It’s coming under relentless pressure from the Middle East carriers, too, and Cathay’s premium segment has deteriorated substantially.
Cathay’s fares are mostly higher than its competitors and to make things more difficult, the airline has steep labour costs, with cockpit and cabin crew that work to rule.
We anticipate Cathay will be in for a very rough ride the next few quarters, unless they overhaul their business model and review their operations (and explore new destinations).
The Swire Group has an excellent reputation in the past for producing stellar stewards at the helm of Cathay (Tony Tyler is a good example). Let’s see if they can fix this…