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The Edge

Why airlines in Malaysia are still expanding in face of glut

‘Malaysia is seeing a much faster capacity growth than Singapore this year as all airlines are pursuing strategic expansion,’ according to spokesman of International Air Transport Association in Malaysia

PUBLISHED : Monday, 27 February, 2017, 3:12pm
UPDATED : Tuesday, 14 March, 2017, 2:21pm

By Chester Tay

Recent announcements in Malaysia of multibillion-ringgit aircraft orders and aggressive growth plans in seat capacity among four main Malaysian carriers may seem curious to some, in the face of yield and profitability pressures ahead, particularly in the second half of the year.

But the industry’s view is that the longer-term passenger growth will be robust enough to fill the additional capacity coming in.

“Globally, passenger traffic is expected to grow. In fact, we are expecting it to double to seven billion by 2035. The Asia-Pacific region is expected to be the source of more than half the new passengers over the next 20 years,” Malaysia‘s International Air Transport Association (IATA) spokesman Albert Tjeong told The Edge Financial Daily.

According to a passenger demand forecast paper published last October, IATA expected 7.2 billion passengers to travel in 2035, compared with 3.8 billion air travellers in 2016, based on a 3.7% annual compound average growth rate.

To Tjeong, there are a few reasons why airlines continue to invest in new aircraft, as the purchase or lease of aircraft is a long-term investment.

“It is not based on current market conditions, but longer-term considerations and expectations of growth. There is also a lag between when the orders are placed and when the aircraft actually enter service. And it doesn’t mean that all the ordered aircraft will be delivered at the same time,” he explained.

Some new orders, he added, are meant for replacements for older aircraft that are less fuel-efficient.

Aviation research house Centre for Aviation analyst Brendan Sobie concurred. Citing Singapore Airlines Ltd’s recent US$13.8 billion order to Boeing as an example, he said most of those are meant to replace aged aircraft, which reflects a relatively modest growth in capacity.

“Malaysia is seeing a much faster capacity growth than Singapore this year as all airlines are pursuing strategic expansion. Airlines often expand for strategic reasons, which explains adding capacity in periods or markets that are already oversupplied,” he said when contacted.

In his outlook report dated Jan 31, Sobie forecast that the total passenger aircraft fleet in Malaysia would grow 11% in 2017, with average passenger growth likely to reach 15% as average aircraft utilisation rates at most of the airlines here grow.

“However, the rapid growth will almost certainly come at the expense of yields and profitability. Malaysia and the broader Southeast Asian market have become extremely competitive, with overcapacity on several major routes,” he said in the report.

Sobie said “heavy discounting” will be required in order to fill the additional seats and meet load factor and traffic targets.

“Fares in Malaysia are already very low and yields could decline further, particularly in the second half of 2017, when most of the additional aircraft are slated to be delivered,” he forecast.

The Malaysian air traveller market grew by 4.5 million passengers or 7% to 67.9 million in 2016, with Malindo Airways Sdn Bhd capturing the most growth, accounting for 1.9 million or nearly half of the additional passengers.

There are 15 more aircraft slated for delivery for Malindo this year: 11 of that are Boeing’s 737s, two are ATR 72-600 turboprops, with the remaining two being Airbus A330-300s.

The four-year-old airliner is aiming to breach 10 million seat capacity this year. Malindo’s fleet size as at Dec 31, 2016 stood at 42 aircraft.

Sobie said AirAsia Bhd was seven years old when it surpassed the 10 million annual passengers mark.

Endau Analytics Sdn Bhd founder Shukor Yusof opined that there is room for Malindo to expand, especially at a time when FlyFirefly Sdn Bhd (Firefly), its direct competitor in Subang’s Sultan Abdul Aziz Shah Airport, saw its load factor fall below 70% in 2016.

“Malindo is going to be aggressive. They are more concerned about volume than yield, and they see weakness in Firefly, so they are trying to kill their rival. But this kind of trend can’t last very long,” he said.

Still, it may be enough to push Firefly down. Shukor, for one, doubts Firefly can withstand Malindo’s aggression for long. “In fact, we don’t know how long Firefly can last,” he said.

Firefly is Malaysia Airlines Bhd’s wholly-owned low-cost turboprop operator. In an exclusive interview with The Edge Malaysia weekly last December, the national carrier’s chief executive officer Peter Bellew said the group had plans to turn around the subsidiary and that Malaysia Airlines had no intention to halt Firefly’s operation.

Malaysia Airlines too has returned to expansion mode and plans to order 25 wide-body aircraft by the end of the year. Fifteen of the new batch are to replace the existing fleet of 15 leased Airbus A330-300s, while the remaining 10 aircraft are for expansion.

However, Affin Hwang Capital Research analyst Aaron Kee warned that the airline industry is a cyclical business and investors should be cautious, at least for this year.

“AirAsia did a record year in 2016. We can expect there will be earnings contraction due to rapid expansion from its peers and higher crude oil prices in average,” he said.

However, he too believes the expansion drive is justifiable. “Yes, there is going to be [an] oversupply this year, but airlines are expanding ahead of time. From what we see, the industry growth is expected to be robust in the longer term.”

AirAsia’s net profit jumped 3.7 times for the financial year ended Dec 31, 2016 (FY16) to RM2.04 billion (US$4,59,149,328), from RM541.19 million (US$1,21,807,365) in FY15, driven by a 9% growth in passenger volume in FY16, while revenue grew 9.9% to RM6.29 billion (US$1,415,710,428) from RM6.3 billion (US$1,417,961,160).

AirAsia plans to grow its fleet size to over 200 aircraft this year as it continues to roll out new destinations in Asean and boost its flight frequency on high-demand routes.

Meanwhile, its long-haul arm AirAsia X Bhd is said to be targeting next year for the start of flights to the United States and is considering near-term plane additions to speed up the resumption of its European flights.

Why airlines are still expanding in face of glut