Mideast carriers eat into rivals' traffic

Middle East airlines have in the past several years placed large amounts of capacity into Europe. Where will the future Middle East aviation capacity be placed in the near and medium term, which has implications for global competitors through reduced traffic and greater pressures on yield?

According to the latest analysis by UBS Investment Research, looking at Middle East carriers' competitiveness in a global context, the region's airlines plan to add 83 aircraft to their fleets in 2010 (8.3 per cent of worldwide deliveries) and 50 (4.9 per cent) in 2011.

Add another 32 Airbus A380 superjumbos to the tally recently ordered by Emirates, valued at just over $11 billion (Dh40bn) at list prices of $346.5 million per aircraft. "The increase in ME capacity is likely to have negative implications for global airline competitor traffic and yield pressure," says the UBS report.

Europe, however, remains the largest market for Middle East carriers, according to the UBS analysis. "We expect long-haul capacity to be increasingly placed outside Europe," states the June UBS report.

"We believe Middle East carriers may be looking to place materially greater capacity in markets other than Europe, given the more attractive opportunities. In particular, we see Africa, India, North America and Asia as growth markets for Middle East carriers, which currently account for only about eight per cent of global passenger and cargo traffic."

Further, the report findings see the American and Asian carriers to be more under threat than European. "European flag carriers will likely continue to face a Middle East threat (although the trend will probably be more benign), but we see Asia and the Americas as under greater near-term threat," reveals the report, highlighting US carriers Delta and United Airlines; Asia-Pacific carriers Singapore Airlines and Qantas; and European carriers Air France KLM, Lufthansa and Iberia.

Global traffic

A potential issue facing Middle East carriers, as explained by UBS research, is the possibility that currently favourable agreements with foreign governments regarding flight freedoms may be modified – with negative impacts. "We could see local carriers lobbying governments to support the local players," states the report.

However, according to Iata (International Air Transport Association) statistics in 2008, the Middle East carriers collectively carried 19.5 million passengers on domestic routes, whereas 66.2 million were transported internationally. Worldwide traffic and cargo data released by Iata showed 3.5 per cent and 10.1 per cent declines in passenger demand and freight demand, respectively, for 2009, marking the largest ever post-war decline.

However, the Middle Eastern carriers continued their growth in passenger traffic last year, recording 11.2 per cent increase, as the region's carriers took a larger share of long-haul connecting traffic via their hubs.

Historically, the largest market for Middle East carriers has been Europe, accounting for 36 per cent of traffic flow to and from Europe, the report points out, adding that Europe in aggregate accounts for about 27 per cent of global traffic, indicating that Middle East carriers have an "above-market" weighting.

So even though Middle East carriers have aggressively grown in the European market place, the UBS report expects this expansion to moderate… and shift to North America and Asia.

In the short-term analysis, however, UBS sees 2010 as a "relatively benign year" for the Middle East expansion into Europe, given an estimated seven per cent overall capacity growth into Europe from this region.

Key Middle East carriers such as Emirates, Etihad Airways and Qatar Airways, meanwhile, are expected to place materially higher capacity into Europe, as per the analysis.

Emirates

The single largest A380 customer, with a total of 90 superjumbos on order (with 10 A380s already been delivered to the airline), Emirates is clearly on track to become one of the largest airlines in the world.

In addition to 32 A380s ordered by the airline at the recent ILA Berlin Airshow 2010, Emirates' current orderbook looks somewhat like this: 48 A380s, 70 Airbus 350s, 18 Boeing 777-300s and seven Boeing air freighters on order, totalling 143 wide-body aircraft worth more than $48bn.

Also, despite the fact that the global aviation industry was rocked by the financial downturn, Emirates reported its 22nd year of profit, up 416 per cent to close at $964m over its 2008-09 profits of $187m.

Passenger and cargo revenue (including excess baggage, courier and mail) together contributed more than 95 per cent of total operating revenues in 2009.

The current expansion plans of Emirates will see the fleet size double to about 332 aircraft by 2018, states the report, adding that since 2000, Emirates' traffic and capacity have grown at 25 per cent and 23 per cent respectively (materially above the industry average).

However, in 2009, the economic slowdown forced Emirates traffic growth to slow down to eight per cent – still "materially higher" than the global international traffic reduction of 3.5 per cent.

Meanwhile, Emirates faces a growing threat from other Gulf-based carriers, according to the report. "Besides the impact of the economic slowdown, Emirates faces a threat from the growth plans of other Gulf-based carriers, most notably Qatar Airways and Etihad Airways," states the report, adding that these airlines have large order books and compete directly with Emirates on routes.

Etihad Airways

The total revenue of Etihad has increased significantly over the past five years, from Dh86m in 2004 to Dh9.2bn in 2008, according to UBS findings.

The research firm further expects over Dh10bn in revenues in 2010 for the Abu Dhabi-based carrier. It states that the principal revenue driver of the airline is the passenger division, which accounted for about 79 per cent of total revenue in 2007, followed by cargo.

Meanwhile, by 2017, the airline is expected to fly to 100 destinations, as per the UBS research. It states that between now and 2017, Etihad is expected to add 42 new destinations, including eight European cities. This compares to 13 new African (and surrounding) cities, seven Asian cities, seven to the Indian Subcontinent, two Middle Eastern, two US, two South American and one further Australian city, says the UBS report. "The growth will have up to 155 new aircraft by 2020."

Named as the fastest growing wide-body passenger airline in aviation history in 2006, Etihad's current fleet consists of over 50 aircraft, with another 106 planes on order.

Qatar Airways

The fast-growing Qatar Airways' total revenue increased significantly over the past five years from $781m in 2004 to $3,752m, reveals the UBS report, with the passenger division emerging as the principal revenue driver of the airline, accounting for about 79 per cent of the total revenue in 2008 followed by the contribution from cargo operations.

The Doha-based airline operates a hub and spoke network, linking over 85 international destinations in 53 countries, as per the report, operating an extensive network of regional services in Asia and the Middle East, together with international services to Australia, Europe, Africa and North America.

Furthermore, since its re-launch in 1997, Qatar Airways has grown from four aircraft to 76 aircraft in 2009 and will have close to 90 planes in its fleet by the end of the year. The carrier has another 182 aircraft on order, comprising both Boeing and Airbus fleet.

Mideast vs EU carriers

In terms of fleet dynamics, certain Middle Eastern carriers have relatively young fleets compared to global carriers, according to the report. It states that on an average, Europe's four largest full-service carriers have an average fleet age of almost 10 years, which is double the average age of certain Middle East full service carriers (including Emirates, Etihad and Qatar Airways).

"Nevertheless, low-cost carriers appear to have young fleet ages in both regions," says the report.

According to the UBS analysis, the Middle Eastern carriers appear to generate returns on capital in line with, if not greater, than certain peers. Based on the last financial year, the research firm had to exclude a number of global peers who did not generate a positive return on investment (Delta, American Airlines, US Airways, Continental, British Airways, Air France and Iberia, to name a few).

The ME carriers appear to generate levels of revenue per ASK (available seat km), in line with the global competitors, as per the research, with the yields generated materially higher than some of the Asian carriers due to the route length.

In terms of the last reported results, Emirates and Air Arabia generated margins, which were higher than any of the European carriers (including Ryanair and easyJet), reveals the report. It adds the low-cost carriers in both regions appear to be "more resilient" than the flag carriers.

"Cumulatively, out of the flag carriers, Emirates (69.9 per cent) and British Airways (35.1 per cent) appear to have been the most profitable over the past six reporting periods," says the report.

"Looking at costs in relation to carriers globally, it does appear that the Middle Eastern carriers are competitive relative to global competitors. We do not attribute the cost-competitiveness to just route length alone, but also to efficient fleets and competitive employees."

Premium passengers represent less than 10 per cent of passenger numbers but almost 30 per cent of passenger revenues for most network carriers. With slight improvement in the total international premium traffic reported in January, there remain large differences in passenger growth rates among geographical markets, reveals the research.

The Middle East carriers, however, seem to be benefitting from premium traffic recovery, driven by long-haul connections over Middle Eastern hubs, with their shares of global premium revenues and traffic continuing the rise in January 2010 to their highest levels since the beginning of the global financial crisis.

April 2010, too, saw the region's carriers recording an 8.4 per cent increase in the premium traffic compared to April 2009, even as the Iceland's volcanic ash cloud cost the region's carriers $129m, according to the April statistics revealed by Iata. Globally, though, the premium airline traffic rose 1.1 per cent in April compared to a year earlier, despite the volcanic eruption in Iceland grounding European flights.

Middle East LCCs

Even as the low-cost carrier (LCC) model has traditionally gained strong growth in the North American, Asian and European markets, low-cost carriers are increasingly building a Middle Eastern profile. Since 2003, the Middle East low-cost carrier model has increasingly gathered momentum, given budget-conscious travellers, as per the report findings, with Sharjah's Air Arabia as the region's first budget carrier. Since then, 10 other low-cost carriers have been established in the Middle East.

The region's LCCs accounted for about 7.1 per cent of total intra-regional capacity in 2009, and 5.8 per cent of the intra-regional and international capacity in 2009.

"We believe this to be a temporary effect, as the region's LCCs aggressively expand their fleets and networks in the coming months. In the international market to/from the Middle East, the share held by LCCs is even lower at around six per cent," the report points out.

Despite the growth in recent years, the Middle East LCCs account for less than a third of the global average LCC market share, which means that there is significant opportunity for Middle East low-cost carriers, forecasts the UBS report.

With both the full-service and low-cost airline models operating in the Middle East recording an aggressive growth in terms of capacity and fleet, European carriers have enough reasons to worry.

A case in point is the massive size of plane orders placed by the region's airlines. It thus comes as no surprise that over the long term, Airbus expects the passenger traffic for Gulf carriers as a whole to expand by about six per cent per year till 2028 (from 2008). Boeing, meanwhile, forecasts an annual growth of 6.6 per cent until 2028.

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