Global airline industry supply outlook in the next 5 years

1st March 2017, Global - In the past 6 years, industry oversupply has driven intense fare competition, depressing most Asian airlines’ profitability even after oil prices halved. When will we see better days? We take stock of the global aircraft orders to assess the global airline industry supply outlook in the next 5 years

We expect the global airline industry supply outlook (especially Asian airline industry’s overall supply growth) to moderate in the coming years. Only the Middle Eastern airlines’ capacity expansion remains aggressive until 2019 and they are the key competitive threat to airlines whose market catchment areas overlap with these carriers.

+GLOBAL AIRLINE INDUSTRY SUPPLY OUTLOOK

The global airline industry capacity growth is expected to become more moderate and manageable in the next 5 years. Based on the scheduled aircraft deliveries after taking into account capacity reduction from aircraft retirement and seat reconfiguration, we forecast the global airline industry’s capacity (in terms of the number of aircraft seats) to grow around 7% y/y in 2017, moderating to 6% per annum from 2018 to 2020 and 5% in 2021. The more moderate and manageable capacity would be favourable for the industry, mitigating the pressure on airlines to discount fares to fill up their seats from 2018 compared to previous years.

Table: Global Airline Sector Seat Capacity Growth

Global airline industry supply outlook in the next 5 years Table: Global Airline Sector Seat Capacity Growth

+ ASIA PACIFIC

We expect the Asia Pacific airline industry’s seat capacity growth to moderate to more benign levels from 2018, gradually easing competitive pressure. For the past 6 years, the Asia Pacific airline industry faced immense competitive pressure due to the aggressive expansion of low cost and other start-up carriers as well as the Chinese and Indian airlines. This rapid supply expansion drove the airline sector to discount their underlying fares to stimulate travel demand to fill up their planes. Unlike in North America and Europe where the airline industry underwent significant consolidation and capacity rationalization, foreign shareholding limits and/or the availability of financial support by the government limited the opportunities to consolidate and rationalize capacity significantly and permanently in the Asia Pacific region. Although several carriers did go bankrupt, the larger ones would tend to re-emerge restructured and re-fleeted with plans to grow again as national airlines are generally deemed to be strategically important to most countries in the Asia Pacific region.

This underpins investors’ generally cautious view on the Asia Pacific airline sector as most expect the market to remain oversupplied indefinitely as the airlines will continue to place substantial aircraft orders. Will this trend ever change? We believe the competitive landscape remains challenging in 2017 but should begin to ease from 2018.

Based on the scheduled new aircraft deliveries and after taking into account capacity reduction from aircraft retirement and seat reconfiguration, we forecast the Asia Pacific airline industry’s seat capacity to grow around 8% y/y in 2017, moderating to 6% per annum from 2018 to 2020 and 5% in 2021. Given the major aircraft manufacturers’ Airbus and Boeing’s order backlog, there is limited room for the capacity growth to exceed these levels in the next 1-2 years in our view. In addition, most airlines tend to have longer term fleet plans and their aircraft orders placed tend to be for delivery at least 3 years forward.

This should help mitigate yield pressure in the industry and enable the Asian airline industry to improve their profitability from 2018 as the industry’s demand-supply environment gradually becomes more balanced over time.

+ ELSEWHERE IN THE WORLD

The gross seat capacity growth is also expected to moderate in all other major route regions which is positive. The Asia Pacific airlines have limited revenue exposure to Africa and Latin American routes but North America and Europe are key markets for some of these airlines. The Asia Pacific airlines with more dominant market shares on North American routes are Cathay Pacific, Korean Air, EVA Airways, All Nippon Airways and China Eastern Airlines. The Asia Pacific airlines with more dominant market shares on European routes are Singapore Airlines, Thai Airways, Cathay Pacific, Air China and Korean Air.

+ MIDDLE EAST

The Gulf carriers’ capacity growth remains rapid which will continue to put pressure on the Asia Pacific’s flights to the Middle East and long-haul flights to Europe and North America.

We forecast the Middle East airlines’ seat capacity growth to moderate to 12% y/y in 2017 from 13% in 2016 but this is expected to tick up to 13% y/y again in 2018 before decelerating more markedly to 9% per annum from 2019 to 2020 and 7% in 2021. We therefore expect these Gulf carriers to remain a significant competitive threat to the Asia Pacific airlines as they continue to expand aggressively and compete for connecting long-haul traffic.

In the Asia Pacific region, India, Australia, Thailand, Indonesia and the Philippines constitute the largest share of capacity on Middle East-Asia Pacific routes in 1H17. Listed Asia Pacific airlines with the largest exposure to Asia-Middle Eastern routes are Jet Airways, Garuda Indonesia, Philippine Airlines, Qantas and Cebu Air.

In addition, the Gulf airlines also compete for medium/long-haul traffic on the Asia Pacific-Europe routes and Asia Pacific-North America routes (with their strategy of connecting any two destination globally with one or two stops in the Middle East) which hurt the long-haul hub carriers in the Asia Pacific region. The fares are highly competitive as they aggressively broaden their network to capture more traffic to feed into their hubs, attracting the more price-sensitive passengers and making it challenging for the Asia Pacific carriers to defend their market shares.

This hurts South West Pacific and South East Asian carriers more given their longer travel distances to Europe and North America, opening passengers to more competitive flight choices since the travel duration via the Middle East is more comparable to direct and connecting flights by their home carriers. In contrast, due to their geographical location, the North Asian carriers’ direct flights to Europe and North America would tend to be shorter than flights operated by the Gulf carriers with stopovers in the Middle East. In these markets, the Gulf carriers will need to offer more competitive fares in order to attract more passengers to fly the longer routes.

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