Emerging Markets and Evolving Models: Challenging the Industry’s Structure 2010 ACI-NA International Aviation Issues Seminar December 2010 William S. Swelbar Research Engineer MIT International Center for Air Transportation When I was here in 2007, I asked the question: Is the US Being Relegated to a Supporting Role in Tomorrow’s Global Aviation Market? Shifting Our Attention from the Domestic Arena to the Global Stage – GAME ON ▐ ▐ ▐ ▐ ▐ Airline Geography: Totally different global map today Iconic Airline Names: Being challenged on every continent Global Alliances: Being challenged on every continent Protectionism: Is this what is playing out between Canada and the United Arab Emirates The U.S. Market: Provides a lens through which to watch and anticipate possible competitive responses and potential outcomes Today I ask: Is the alliance structure the best operating model to compete with the emerging airline models in Latin America, the Middle East and China? 1 What the Numbers Say A Strong 2010. Weakness is Expected in 2011. Global Commercial Airline Profitability 6 20 EBIT Margin (Left) Net Losses (Right) 4 10 2 5 0 0 -2 -5 -4 -10 -6 -15 -8 -20 '95 '96 '97 '98 '99 '00 '01 '02 '03 '04 '05 '06 '07 '08 '09 '10F '11F Source: IATA 15 US$B Revenues (Percent) 8 Europe Remains Weak; Asia Pacific Outperforming Airline Net Profits by Region, US$B 6 4 2 0 -2 -4 -6 Europe Asia Pacific North America 2009 Source: IATA, ICAO Latin America 2010 2011 Middle East Africa Emerging Economies Will Fare Better in 2011 Forecasts for GDP Growth 8 7 6 5 4 3 2 1 0 US Japan Europe Asia Pac ex. Japan 2010 Source: IATA, EIU Middle East/N. Africa 2011 Latin America World Large Geographical Differences in Travel Growth in Passenger Numbers by Flight Segment 25% Within Asia 20% Change Year-Over-Year 15% North & Mid-Pacific 10% Middle East/Asia 5% North Atlantic 0% -5% -10% -15% -20% -25% 2007 Source: IATA 2008 2009 2010 The Airport “Balance of Power” is Shifting ▐ Among top 100 global airports, 26 gained in relative position – Asia – 9; Middle East – 5; Europe – 5; South America – 4; North America – 2 • Europe’s gaining airports can be found in highly concentrated LCC markets ▐ Among top 100 global airports, 29 lost in relative position – North America – 13; Asia – 9; Europe – 6 • Of 9 airports losing in Asia, 5 can be found in Japan ▐ Big gainers in relative position – Doha, Bogota, Jakarta and Moscow ▐ Big losers in relative position – Dublin, Fukuoka and Sapporo Top 20 Airports Ranked in Terms of Available Seat Miles Flown (ASMs in Billions) November 2010 Amsterdam 4.16 Beijing-PEK Seoul 4.86 3.62 Tokyo-NRT 5.65 Shanghai 3.22 Bangkok 5.38 Hong Kong 5.76 New York-JFK Chicago-ORD 6.36 4.32 San Francisco New York-EWR 4.05 3.15 Los Angeles Atlanta 6.64 4.37 London-LHR 9.36 Paris-CDG 6.22 Frankfurt 5.90 Madrid 3.57 Dubai 6.23 Singapore-SIN 5.39 Sydney 3.53 Data Source: Oliver Wyman planestats.com 11 Top 20 of 100 Largest Airports in ASM Growth November 2010 v. November 2008 Oslo 14% Beijing 13% Chengdu 11% London-STN 23% Tokyo-HND 11% Barcelona 11% Hangzhou 20% Shenzhen 12% Kuala Lumpur 19% Copenhagen 12% Berlin 18% Moscow-SVO 21% Istanbul 24% Doha 35% Dubai 20% Bogota 26% Jakarta 27% Sao Paulo-GRU 12% Sao Paulo-CGH 15% Melbourne 14% 10-20% Growth 21-30% Growth 30% + Growth Data Source: Oliver Wyman planestats.com 12 20 of 100 Largest Airports Experiencing Declining ASMs November 2010 v. November 2008 Dublin -15% Sapporo-CTS -13% Seoul -6% Tokyo-NRT -14% Fukuoka -13% Las Vegas -8% San Diego -7% Honolulu -11% New York-EWR -8% Atlanta -10% Orlando -6% Tampa -12% Manchester -13% London-LHR -10% Paris-ORY -12% Helsinki -7% Brussels -8% London-LGW -8% Milan-MXP -8% Bangalore -15% 5-8% Decline 9-12% Decline 13% + Decline Data Source: Oliver Wyman planestats.com 13 2 Asia-Pacific Region Asia Pacific Region ▐ Home to 8 of the Top 20 Airports in the world in terms of seats ▐ Balance of Power Shift is Underway – – – Less (Much Less?) about Japan and all about China China’s economy now bigger than Japan Tokyo’s gateway status to the region in decline ▐ LCC’s in infancy stage, but promise to leave fingerprints on shape of the market ▐ With JAL in bankruptcy, will there be other legacy carriers in the region that succumb to the new market realities? ▐ Southeast Asia promises to be a real battleground ▐ Aircraft technology will continue to permit the overfly of traditional points on the region’s map Domestic Asia Markets: 14% Market Share for LCCs …..and Growing Top 10 Markets (95% of Total Domestic Traffic) Domestic China 58% of Asia-Pac Domestic Traffic LCC market share: 3% Domestic Japan Domestic Australia Domestic India Domestic Indonesia Domestic Rep. of Korea Domestic Malaysia Domestic Thailand Domestic Philippines Domestic New Zealand Half of the top 10 markets With a LCC market share >40% 0 100 200 300 400 500 600 Daily Seats (Thousands) LCC Airlines Source: Airbus, Ascend January 2009 Other Scheduled Airlines 700 Big Cities, Big Demand – Intra-Asia Demand Concentrated Beijing Seoul Osaka Shanghai Taipei Hong Kong Bangkok Kuala Lumpur Singapore Jakarta Source: Airbus, IATA Paxis – full year 2008 Tokyo Travelers Between Asian Countries: > 46% want to travel between these cities only > 91% want to travel from or to these cities Domestic China: High Concentration and Fastest Growing Cities (Air Traffic) 45% of the domestic traffic from/to these 3 cities PEK PVG HKG High Concentration of Demand Beijing, Shanghai and Hong Kong Source: Airbus HEK NDG JGN CIF PEK UYN TGO TSN WEF TYN XNN CIH XUZ LXA LZO LYA NKG CKG CGD YIW BSD JJN LJG LZH XIC SYK YNZ Fastest Growing Cities Airport pairs expected to grow above average domestic traffic growth 3 Middle East Region Middle East Region ▐ ▐ ▐ ▐ Much like the LCC’s transformed the US domestic market, the competitive actions in the Middle East will disrupt global traffic flows for any number of European, North American and Southeast Asian carriers and their respective alliances Region is highly dependent on negotiating new bilateral rights to further leverage network. Will they be successful? Big question is whether the region can support three carriers with similar network goals? Aggressive low cost expansion will also work to stimulate new demand in many new and emerging markets in various regions The Middle East Has a Geographical Advantage to Access the Emerging Market Traffic Flows 8,000 nm 4,500 nm 86% World Population 63% World GDP Source: Airbus 2,500 nm 36% World Population 16% World GDP Emirates Route Map Newcastle London Glasgow Amsterdam Moscow Hamburg Manchester Frankfurt Birmingham Dusseldorf Munich Prague Paris Vienna Zurich Nice Venice Istanbul Larnaca Milan Damascus Rome Athens Tehran Peshawar Madrid Beijing Tunis Malta Beirut Tokyo Islamabad Seoul Baghdad Lahore Osaka Kuwait Amman Ahmedabad Casablanca Tripoli Delhi Shanghai Cairo Dammam Bahrain Dhaka Guangzhou Medina Karachi Mumbai Kolkata Doha Dubai Riyadh Hong Kong Hyderabad Muscat khartoum Jeddah Dakar Bangalore Chennai Manila Sanaa Kozhikode Bangkok Kochin Lagos Addis Ababa Colombo Kuala Lumpur Abidjan Accra Male Nairobi Singapore Entebbe Thiruvananthapurar Dar Es Salaam Seychelles Jakarta Luanda Cape Town Johannesburg Durban Toronto Houston Mauritius Sao Paulo Brisbane Perth New York San Francisco Los Angeles Sydney Melbourne Auckland Christchurch 4 Latin American Region Latin American Region ▐ A region in its infancy ▐ 50 percent of the region’s activity centered on Brazil and Mexico – Colombia emerging as an important aviation market • • ▐ In one of the most interesting consolidation announcements in 2010, LAN announces a merger with Brazil’s TAM – ▐ ▐ Avianca does strategic merger with TACA in 2009 Peru, Uruguay and Chile offer significant upside Another alliance fight brewing like in Japan? The Mexicana bankruptcy/liquidation should be of no surprise The low cost carriers in this region will also have a say in market’s ultimate architecture – GOL and Azul in Brazil Emerging Airline Models in Latin America San Salvador Panama City Quito Bogotá Guayaquil Lima São Paulo Santiago Buenos Aires LAN/TAM Taca Copa/Aires 5 Commonwealth of Independent States Commonwealth of Independent States ▐ ▐ ▐ Home to one of the world’s fastest growing airports in terms of relative importance – Moscow Countries all below world average in terms of trips per capita Commodity driven economies represent risk/opportunity – Export driven economy – As world emerges from recession, commodity price rise will be an important contributor to growth ▐ Growth areas to watch – North America and Asia CIS Nations Spread Their Wings 1992 36 International City Pairs >4,000 Monthly Seats 2000 56 International City Pairs >4,000 Monthly Seats 2008 126 International City Pairs >4,000 Monthly Seats 6 Africa Africa ▐ China, India, Middle East and AFRICA – YES AFRICA - expected to lead the world recovery ▐ Second most populated continent after Asia ▐ Like the CIS, a commodity rich continent – ▐ As political tensions wane, increases in tourism and trade – – ▐ ▐ As commodity prices rise ….. So do prospects Considerable foreign investment in recent years The addition of North American services to the continent is significant LCC presence in North Africa stimulating new demand African airlines have less than 50 percent of the continent’s market 7 North America North America ▐ Still home to the largest airports – Largest in terms of departures; smallest in terms of average seat size – Growth prospects reflect maturing of the market • Below average growth rates for worldwide traffic ▐ Growth will occur in the Asia Pacific, Middle East and CIS Regions – Regions where liberalization will lead to new opportunities ▐ Significant consolidation activity underway – Low cost carriers failing to find organic growth opportunities – Regional carriers combining • Need to alter business approach as 50-seat jets come off of lease 8 Europe Europe ▐ More about Central Europe than Western Europe – Watch out for Turkey and its flag carrier, Turkish Airlines ▐ LCC’s are prevalent and growing ▐ Most threatened by Middle East airline activity ▐ Consolidation activity – Building intra-continental market strength – Market still remains highly fragmented so more consolidation activity expected ▐ Will Middle East activity facilitate first global merger? Domestic European LCC Operations Primarily Focused on a Small Number of Key Countries Today Domestic Spain Domestic Italy Domestic Germany Domestic UK Domestic France Domestic Norway Domestic Sweden Domestic Greece Domestic Finland Domestic Portugal Domestic Denmark Domestic Ireland Rep. Domestic Switzerland Domestic Poland Domestic Austria Domestic Romania Domestic Croatia Domestic Israel Domestic Iceland Domestic Greenland Domestic Bulgaria Domestic Czech Republic Domestic Slovakia Domestic Cyprus Domestic Latvia Domestic Netherlands Domestic Estonia Domestic Bosnia & Herzegovina Domestic Macedonia Former Domestic Lithuania 0.0 LCC Airlines Other Scheduled Airlines LCC Market Share: 22% 0.5 1.0 Source: Airbus, OAG, Scheduled seats (millions), Sept. 2006 1.5 2.0 2.5 3.0 3.5 4.0 4.5 5.0 9 Airline Industry Structure Why Can Industries Serving the Airlines Consolidate – Across Borders – And the Airlines Cannot? ATC one at each airport Source: Lufthansa Aircraft Manufacturers Aircraft Leasing 2–4 providers 2 providers > 1500 Top 10 100% market share 45 % market share Appr. 35 % market share Boeing Airbus ILFC GECAS Fierce Competition! Airlines Ground Handling <3 competitors at deregulated airports Catering Airports MRO CRS 2 providers “natural Monopolies” Top 5: 3 providers 50 % market share 85 % market share 40% market share Sabre Amadeus Galileo Airline industry is highly fragmented if compared to other industries 100% 80% Top 10 = 85% Top 10 = 76% Top 10 = 63% Top 10 = 36% Toyota 13% Maersk 17% Delta 7% American 4% United 4% Nokia 39% GM 11% MSC 11% Global Share Ford 10% 60% 40% 20% 0% Samsung 16% Hapag-Lloyd Evergreen APL NYK Line Hanjin Etc. Volkswagen Renault Hyundai Honda Fiat Suzuki Etc. LG 8% Sony Ericsson RIM Sharp Motorola Apple Etc. 15% 24% 37% 64% Mobile Handsets Automotive Container Shipping Airline Top 3 Source: Boston Consulting Group CMA CGM 8% Air France KLM Emirates Lufthansa British Airways Continental Southwest US Airways Top 4-10 All Others Airline Industry is Highly Fragmented but Alligned by Alliances The Airline Industry is Highly Fragmented Others AA DL Others UA JL LH NH AF CZ BA Source: Lufthansa STAR Alliance is the Leading Airline Alliance US CO Consolidation is still affected by diverse limitations ▐ ▐ National Laws: Restrictions of M&A by “Ownership clause” and other local laws High National Identification: Airlines as “national property” ▐ Traffic Rights: Bilateral restrictions of traffic rights ▐ Unions and Politics: Heavy influence over mergers ▐ Financial Position: higher risk to liquidity The Synergies of a Cooperation are Determined by the Level of Integration Economical Benefit/Complexity 100% 8 JV 7 6 Alliances 5 4 3 2 1 Merger/ M&A Bilateral Joint Ventures (Profit) Bilateral Joint Ventures (Revenue) (Free sale) Codesharing Blocked Seat Agreements (Codeshare) Sales Incentive Agreement Special Prorate Agreement (SPA) Interline Agreements no cooperation Depth of integration The Size of Alliances is Increasing QF AA AY BA CX IB JL LA MA RJ Affiliates KA YW JO JC NU 4M XL LP AO Top Unaligned Airlines Network Carriers MX PR AR SV EI EK EY S7 AS HU KQ AF Associates CM AM UX AZ CZ DL KE KL NW OK SU CI FV ET LY BR B6 AB QR TA IT VN GA GF FL F9 WN DJ JQ FR G3 U2 OS BD OZ CA SA CO SK JJ SN JK SQ LH TG LO TK LX TP MS UA NH US NZ LCCs WS AI 9W MU AV MH VS AC Regional OU KF JP The Top 5 Alliance Partners Generate Almost Two Thirds of the Synergies Partners 2007 Network Contribution 38 Partner Airlines ~1.000m€ pa. 60% Top 5 Source: Lufthansa Benefits of Joint Ventures ▐ ▐ ▐ ▐ Consumers gain access to greater inventory of seats, more destinations, more routings, and more price options Pooling of revenues creates incentives for carriers to maximize the value and consumer benefits of the joint venture (carriers become indifferent to which partner operates a flight) Integration of planning, pricing, inventory management and sales enhances the carriers’ ability to compete effectively with other alliances Allows partners to achieve many of the benefits of a transnational merger Integration of LH Group Airlines will reinforce the leading position of A++ on the North Atlantic Transatlantic Passenger Shares By Alliance: 45% 40% 35% 30% 25% 40% Combined A++ Revenue in the Dimension of 10 B$ 6% 5% 29% 30% 3% 21% 20% 15% 10% Air Canada Continental Lufthansa United 26% 20% 5% 9% 0% Star Source: Lufthansa SkyTeam Joint Venture (ATI) oneworld ATI (Non-JV) Unaligned Non-ATI Different Models of M&A Integration Examples Characteristics Advantages Disadvantages Source: Lufthansa One Brand Co-Brand Multi-Brand Full integration Very high integration High integration One management Integrated management Management teams One brand Two brands Multi-brand Maximum of synergies Higher synergies Fast decision processes Maintain (national) brands Loss of a potentially well known brand Higher complexity Profit center orientation Maintain (national) brands Flexibility in growth Higher complexity Half of the Synergies Cannot be Realized by Alliances but by Mergers Illustrative Synergies in % 15 Network Related 15 15 4 20 5 15 4 11 10 3 7 10 4 6 12 3 100 50 Synergies, which can be realized by M&A 15 50 11 Synergies, which can be realized by Alliances 15 New O&Ds DOM Souce: McK 2007 New O&Ds IC Overlap O&Ds Redesign Network FFP Cost Synergies Others Total Synergies The Need for Transfer PAX is Driving the Consolidation in Europe 41.6 Million (53%) Local IC-Passengers out of alliance hubs Others: 11.6 Million 37.4 Million (47%) Local IC-Passengers of alliance-hubs 15.7 HEL 0.5 14.1 AMS 3.7 LH system needs transfer pax 7.6 LHR 15.7 ZRH 1.5 CDG 10.4 BA Source: Lufthansa AF/KL GLA 0.5 DUB 1.0 SNN 0.4 MUC 1.5 FRA 4.6 LH/LX STO 0.8 OPO 0.2 LIS 0.8 MAN 1.9 MOW 1.6 CPH 1.0 BER HAM 0.6 BRU 0.5 BHX 1.4 0.4 DUS PRG 0.7 STR 0.4 0.3 VIE LYS GVA 0.9 0.8 0.7 MIL TLS MRS 2.3 VCE 0.3 0.8 0.5 NCE 0.4 ROM BCN MAD 1.2 2.6 3.0 WAW 0.4 KRK 0.1 BUD 0.3 IEV 0.3 BUH 0.2 IST 1.4 ATH 0.9 A Case for Foreign Ownership? ▐ ▐ If vendors serving the airline industry are allowed to consolidate into dominant positions with few border restrictions, and … If other industries like steel are permitted to consolidate market power around 4 global providers, and…… ▐ If the global airline industry has not one dominant player, and … ▐ If Joint Ventures only capture 50% of potential synergies, and… ▐ ▐ If the five biggest alliance members produce 60% of the benefits, and …. If the new and emerging competition is obvious, A Case for Foreign Ownership? ▐ ▐ ▐ ▐ Then why should airline companies be hamstrung in their ability to maximize financial performance? Then why should airline companies be forced into band aid solutions like alliances when the new and emerging competition are building truly seamless, organic products? Then why should companies that are, or are certain to be, under attack from the new and emerging competition be prohibited from joining hands to mount the strongest competitive reaction possible? A far flung alliance formation has less chance to build a global brand than the new and emerging competition For More Information on the MIT Airline Data Project email: swelbar@mit.edu or visit: www.airlinedataproject.mit.edu www.swelblog.com or find me on FaceBook