20-Dec-2015 1:18 PM

Cebu Pacific plans more expansion in 2016 with Guam, Honolulu & Melbourne but growth rate slows

Analysis

Cebu Pacific plans to continue expanding its international network in 2016 as it launches services to the US and adds a second destination in Australia. The Philippine LCC added its fourth destination in Japan on 17-Dec-2015 and has launched four long haul destinations since Sep-2014, driving a 27% increase in RPKs through the first three quarters of 2015.

The Philippine carrier is again projecting double digit ASK growth in 2016, driven by expansion of its long haul operation. But seat growth will be a modest 2% to 4%, its lowest rate of expansion for several years, as Cebu Pacific is not planning expansion of its jet fleet.

Cebu Pacific has traditionally been the most conservative and rational of Southeast Asia's main LCCs. The group's flexible fleet plan and disciplined approach to seat capacity growth is a major strength.

Cebu Pacific is Southeast Asia's third largest LCC group

The Cebu Pacific Group currently operates a fleet of 55 aircraft to 29 international and 34 domestic destinations. It is Southeast Asia's third largest LCC group behind AirAsia and Lion.

Southeast Asian LCC groups ranked by fleet size: Dec-2015

Airline Group	Number of carriers	Current fleet size	Orders
Lion Group	4	198	512
AirAsia/AirAsia X	7	188	385
Cebu Pacific	2	55	51
Garuda (Citilink)	1	36	44
SIA (Scoot/Tigerair)	2	34	50
Nok	2	31	13
Jetstar	2	29	0
VietJet	2	27	89
Golden Myanmar	1	3	0
TOTAL	23	601	1144

AirAsia and Lion are much larger but have subsidiaries or affiliates in four and three Southeast Asian countries respectively. Cebu Pacific focuses purely on the Philippines, Southeast Asia's fifth largest market, but has a dominant position in its home market. The Cebu Pacific Group, which includes regional subsidiary Cebgo, accounted for 60% of all domestic passengers in the Philippines in 1H2015 and 18% of all international passengers based on data from the Philippine Civil Aeronautics Bureau (CAB).

Cebu Pacific has grown rapidly in both the domestic and international markets in recent years. Domestic growth was accelerated after it acquired in early 2014 Tigerair Philippines, which was rebranded as Cebo in May-2015. The new subsidiary initially operated A320s on domestic trunk routes but in 3Q2015 transferred its A320s to its parent while taking over Cebu Pacific's turboprop fleet.

International expansion accelerated in late 2013 when Cebu Pacific's long haul operation was launched with Dubai the first route. Three more long haul routes were added in the last four months of 2014 to Sydney, Kuwait and Riyadh. Doha was launched as Cebu Pacific's fifth long haul route in Jun-2015.

Cebu Pacific currently operates six A330-300s although the equivalent of two of these aircraft are currently used on short haul routes. Its narrowbody fleet consists of eight A319s and 33 A320s while Cebgo operates eight ATR 72-500s.

Cebu Pacific has had double digit capacity growth in 2015

In 2015 Cebu Pacific has taken delivery of its sixth A330 along with four A320s. Two of these A320s were pure growth aircraft while the other two replaced smaller A319s.

Through the first nine months of 2015 the group reported a 13% increase in seats and a 27% increase in ASKs. Passenger numbers were up 9% and RPKs were up 24% as the group's load factor has slipped by 3ppts.

Seat capacity was also up by 14% in 2014 while ASKs surged by 27%. The increase in seats was partially driven by the Tigerair Philippines acquisition while the new long haul operation drove the higher increase in ASKs.

In 2013 seat growth was a slightly more modest 9% while ASKs grew by 14% with the first three months of the Dubai service contributing to the higher ASK figure. In 2012 seat growth was 16% and ASK growth was a similar 15%.

Cebu Pacific to again have double digit ASK growth in 2016 but much smaller seat growth

Cebu Pacific projects ASK growth of 10% to 15% in 2016 but seat growth of only 2% to 4%. The higher ASK figure reflects a much higher rate of international growth, in particular with the long haul operation.

The launch and expansion of Cebu's long haul operation also resulted in significantly higher ASK than seat growth in 2013, 2014 and 2015. But the seat growth throughout this period has been at least 9% as Cebu Pacific has continued to expand domestically - organically and with the acquisition of Tigerair Philippines. The domestic market still accounts for about three quarters of the group's passengers but only about one third of its RPKs.

The rate of domestic capacity growth, which was 10% in 3Q2015, is expected to slow in 2016. The group is currently not planning to grow its A320 family fleet in 2016. As a result growth on domestic trunk routes will be limited to up-gauging as A319s are replaced with A320s.

The group is adding two turboprops in 2016 but these aircraft will be delivered towards the end of the year, resulting in a relatively limited impact on total domestic seats for the year.

As CAPA highlighted in the previous instalments in this series of reports on the Philippine market, the two turboprops being added will be used to pursue growth on secondary domestic routes from Cebu. The Cebu Pacific Group plans to use the expanded turboprop fleet to add one or two new destinations, which will only be served from Cebu, and add capacity on some of its existing secondary routes from Cebu.

See related reports:

Cebu Pacific almost ready to launch Honolulu

The double digit ASK growth for 2016 will be driven partially by the full year impact of Doha which was launched in Jun-2015. Cebu Pacific is also aiming to launch Honolulu and Melbourne in 2016. But as these routes are not likely to be added until 2H2016 their contribution to ASK growth will be relatively modest.

Honolulu and Melbourne have been in the business plan for Cebu Pacific's long haul unit since it was established. Preparations for Honolulu advanced after the Philippines was upgraded in Apr-2014 by the US FAA to a category 1 safety rating. Under category 2, Philippine carriers were barred from launching new services to the US.

Cebu Pacific had been looking at launching Honolulu in 2015 but the process of securing all the required approvals has taken longer than expected. Cebu Pacific now has all the required regulatory approvals but is still waiting for approval from Manila Airport, which needs to allocate the proposed new A330 service to Honolulu terminal space. Pending airport approval Cebu Pacific is now looking at launching three or four weekly flights to Honolulu as early as 2Q2016 but at this point a 2H2016 launch seems more likely.

See related reports:

Cebu Pacific in advanced stages of preparing for Melbourne

Preparations for Melbourne have been underway since May-2015, when the Philippines and Australia agreed to an expanded air services agreement. Cebu Pacific was previously limited to five weekly flights to Australia, which it is now using for Sydney.

But Melbourne is also currently being held up by a pending request to Manila Airport for a gate to support the new service, which Cebu Pacific has proposed operating with four weekly flights. Once the final approval comes Cebu Pacific will run a final check on the numbers before proceeding and setting a launch date.

Cebu Pacific will need some time to launch both Melbourne and Honolulu as it first needs to free up A330 capacity by removing some of the short haul flights now operated with the A330. This requires a re-jigging of its A320 schedule to free up A320s to backfill capacity in the regional markets that will lose A330 flights.

Cebu Pacific to enter US market initially with Guam

Cebu Pacific's only other new international destination planned for 2016 is Guam, which is being launched with four weekly A320 flights on 15-Mar-2016. Currently Philippine Airlines (PAL) is the only carrier in the Manila-Guam market with one daily A321 flight.

Cebu Pacific will be the first non-Korean LCC in the Guam market. Four Korean LCCs currently serve Guam. South Korea is the second largest market from Guam after Japan while the Philippines is the third largest.

Cebu Pacific is eager to get its feet wet with US operations with Guam before making a final commitment to Hawaii. Manila-Guam is a much less risky route to get acquainted with the US market as it can be operated with a narrowbody aircraft.

Guam is slightly less than four hours from Manila. Cebu Pacific's longest A320 route is Manila-Beijing, which is almost five hours.

Cebu Pacific continues Japan expansion with Fukuoka launch

ASK growth for 2016 is also being driven by the 16/17-Dec-2015 launch of three other regional international routes: thrice weekly service from Manila to Fukuoka, thrice weekly service from Cebu to Taipei and twice weekly service from Davao to Singapore.

Cebu Pacific already served Taipei from Manila and Singapore from Manila, Cebu, Clark and Iloilo. Fukuoka became Cebu Pacific's fourth destination in Japan after Nagoya, Osaka Kansai and Tokyo Narita.

Japan has been Cebu Pacific's main regional international growth market since the market opened up to expansion from Philippine carriers in late 2013. Cebu Pacific previously was limited to three weekly flights to Osaka. In 2014 it launched services from Manila to Tokyo and Nagoya while adding capacity on Manila-Osaka. Cebu-Tokyo was launched in Mar-2015.

Cebu Pacific currently operates 23 weekly A320 flights to Japan including: a daily service on Manila-Tokyo; five weekly flights on Manila-Osaka; four weekly flights on Manila-Nagoya and Cebu-Tokyo; and three weekly flights on Manila-Fukuoka. Japan is now Cebu Pacific's third largest international market after Hong Kong and Singapore, accounting for 7% of its international seat capacity.

Cebu Pacific international capacity (seats) by country: 21-Dec-2015 to 27-Dec-2015

Australia to become Cebu Pacific's second largest international market on an ASK basis

Cebu Pacific also has expanded in Hong Kong and Singapore over the last couple of years, primarily by up-gauging some flights from Manila to A330s. Cebu Pacific also has added some frequencies in Singapore including with the 17-Dec-2015 launch of flights from Davao.

Singapore is Cebu Pacific's largest international market by ASKs. But the UAE has overtaken Hong Kong as the second largest international market by ASKs. The UAE currently accounts for 13% of Cebu Pacific's international ASK, behind 18% for Singapore and ahead of 9% for Hong Kong.

Cebu Pacific international capacity (ASKs) by country: 21-Dec-2015 to 27-Dec-2015

Once Melbourne is launched Australia will overtake the UAE as Cebu Pacific's second largest international market by ASKs.

Dubai is currently Cebu Pacific's only daily long haul route. Sydney is served with five weekly frequencies, Kuwait with four, Riyadh with three and Doha with two.

Cebu Pacific plans third Doha frequency but shifts focus away from Middle East

Cebu Pacific is now seeking to increase Doha to three weekly flights. The proposed additional flight to Doha is also waiting for approval from Manila Airport.

Besides the additional Doha flight Cebu Pacific is not planning any expansion of its Middle East operation in 2016 as it focuses long haul growth on Australia and Hawaii. The Middle East currently accounts for 32% of Cebu Pacific's international ASKs, which is more than any other region.

Cebu Pacific international capacity share (% of ASKs) by region: 21-Dec-2015 to 27-Dec-2015

The shift away from the Middle East is sensible as it results in a more balanced long haul operation. By the end of 2016 Cebu Pacific will likely have 57% of its long haul seat capacity allocated to the Middle East compared to 73% currently.

Australia and Hawaii are very different to Cebu Pacific's four Middle Eastern destinations. In the Australia and Hawaii markets Cebu Pacific relies on Filipinos who are now permanently residing overseas and pay for their own flights to visit friends and relatives in the Philippines. In the Middle East market most of Cebu Pacific's passengers are temporary workers with flights paid for by their contractors.

With Sydney Cebu Pacific has been able to stimulate demand in Australia's Filipino community as well as from Australians looking for an alternative destination in Asia for holidaying. In the first 12 months of Cebu Pacific serving Sydney (Sep-2014 to Sep-2015), the total Sydney-Manila passenger market grew by 67%, according to Australian government data.

Cebu Pacific captured a leading 38% share of the Sydney-Manila market during this period. PAL's share of the market has slipped but its passenger numbers in Sydney have also grown while Qantas' traffic on the Sydney-Manila route has dropped only slightly.

Cebu Pacific is confident it can similarly stimulate demand in the Melbourne and Honolulu markets. PAL is currently the only carrier with non-stop flights from Manila to both Melbourne and Honolulu.

In the Manila-Middle East market it is more difficult to stimulate demand as the Filipinos in the Middle East are generally not there permanently and rely on their contractors to cover their flights home. The Philippines-Middle East market is also more competitive and has seen a large increase in capacity in recent years from PAL and Middle Eastern carriers.

Cebu Pacific faces intense competition in the Middle East market

PAL will start competing against Cebu Pacific in the Kuwait market in Jan-2016. PAL currently serves four destinations in the Middle East - Abu Dhabi, Dubai, Dammam and Riyadh - all of which it has launched since late 2013.

Kuwait and Jeddah are being added by PAL in Jan-2016, both initially as a tag to Dubai. As CAPA analysed in the first instalment in this series of reports on the Philippine market:

Manila-Dubai has been a challenging market for PAL since the group launched the route two years ago - at about the same time as Cebu Pacific. Manila-Dubai is now profitable for Cebu Pacific, which reported a 3Q2015 load factor of 87.5% load factor for Manila-Dubai, while it is still loss making for PAL.

PAL is hoping the new tag to Kuwait and Jeddah will improve its performance in the Dubai market. PAL will have uplift rights from Dubai to Kuwait and Jeddah which it intends to utilise. PAL is also hoping to carry significant traffic from Manila through to Kuwait and Jeddah, enabling it to improve load factors on Manila-Dubai.

The earlier report also pointed out that PAL has experienced a significant erosion in yields in the Sydney market since Cebu Pacific entered in Sep-2014. The route has since been unprofitable for both carriers and PAL will likely be similarly impacted in Melbourne, Guam and Honolulu. All these markets are primarily price sensitive leisure market which plays to Cebu Pacific's strength as the LCC has a significant lower cost base than its full service rival.

Cebu Pacific long haul operation profitability will improve as routes mature

While Cebu Pacific's long haul operation has been unprofitable in 2015 the group believes it is tracking well and could become profitable in 2016. Cebu Pacific is confident yields will continue to improve as its long haul routes mature. Four of its five long haul routes are now 15 or fewer months old but during 2016 all four of these routes will reach the 18 month point, which is often considered the end of the maturation process for a new long haul route.

Cebu Pacific's overall outlook seems relatively bright. The group has remained profitable since launching its long haul unit in 2013. Operating profits were up significantly in 2014 and again through the first three quarters of 2015. Cebu Pacific was the third most profitable Southeast Asian airline in the first three quarters of 2015, behind only Malaysia AirAsia and Singapore Airlines.

Profitability should further improve as its long haul operation matures and as its overall growth rate slows. While competition will intensify on some of its routes, the Philippines generally is not as fiercely competitive as other markets in Southeast Asia. In particular there is less competition between LCCs.

Cebu Pacific's long haul operation has survived the initial build up phase, which comes with high risk. Cebu Pacific also has survived intensifying competition from PAL in both the international and - in more recent months - in the domestic market.

Cebu Pacific has flexibility to grow A320 fleet in 2016

Cebu Pacific's biggest strength however is its relatively conservative and highly flexible approach to fleet growth. The group has a small order book compared to other Southeast Asian LCCs but has short term flexibility to accelerate expansion.

In 2016 it has flexibility to extend A320 leases, which it will likely exercise unless market conditions deteriorate or it is unable to launch Honolulu and Melbourne as planned. After the launch of Honolulu and Melbourne a slightly larger than planed A320 fleet will be required because Cebu Pacific will need to remove the equivalent of one A330 from short haul routes.

The group's current fleet plan for 2016 calls for a reduction in the A320 family fleet - from 41 to 40 aircraft - as three A320s replace four A319s. But the ability to extend some of the A320 leases which are expiring in 2016 give Cebu Pacific the option of keeping its A320 family fleet at the current 41 aircraft level or expanding its slightly.

Cebu Pacific Group fleet plan: end 2014 to end 2017

Cebu Pacific has two A320 deliveries slated for early 2016. One of these aircraft will be used to support the launch of Guam while the other will be used to replace an A319 which is existing the fleet in Mar-2016.

In 2H2016 Cebu Pacific has another three A319s exiting the fleet but only one A320 delivery. A320 lease extensions will likely need to be exercised to implement the current network plan - let alone pursue additional growth that is not yet planned. While Cebu Pacific could temporarily make do with two fewer A320s, particularly during the off peak months, the key driver will be the launch of Honolulu and Melbourne given the need those new routes create to backfill the A330 vacating short haul routes.

Cebu Pacific also has the flexibility of A320 lease extensions or returns in 2017 to 2022. The group plans to take delivery of 30 A321neos during this period. The A321neos generally are replacing smaller A320ceos but there are potential opportunities for growth aircraft depending on market conditions and if any additional slots at Manila become available.

Cebu Pacific may commit to A320neos

Cebu Pacific also has yet to decide on a replacement for its newest A320ceos. A commitment for A320neos is likely as not all of Cebu's routes are thick enough to support the A321neos.

While the overall strategy is to up-gauge at Manila, where slots are at a premium, there are still some thinner Manila routes. Several of the group's A320s are also based at Cebu, where there is no need and generally not enough demand to support up-gauging to A321s.

Cebu Pacific currently has 33 A320ceos with five more on order. Its remaining eight A319s are expected to be phased out by the end of 2017.

Cebu Pacific has already sold four of its eight remaining A319s to US carrier Allegiant Air along with two A319s which were already delivered to Allegiant earlier this year. It is now negotiating deals to sell the last four A319s, which Cebu Pacific plans to remove from its fleet in 2017.

Cebu Pacific Group fleet summary: as of 18-Dec-2015

Aircraft	In Service	On Order*
Total:	55	51
Airbus A319-100	8	0
Airbus A320-200	33	5
Airbus A321-200neo	0	30
Airbus A330-300E	6	0
ATR 72-500	8	0
ATR 72-600	0	16

For now Cebu Pacific does not have any commitments for additional widebody aircraft but could lease one or two additional A330s should market conditions warrant. Cebu Pacific does not envision a long haul network much beyond the seven destinations it will likely be operating by the end of 2016. However there could be opportunities to deploy more widebody aircraft on short haul routes, particularly if current slot constraints at Manila remain.

Cebu Pacific to grow mainly by up-gauging

Over the next several years capacity growth will be generated primarily by replacing A320ceos with A321neos and doubling the turboprop fleet from eight ATR 72-500s to 16 ATR 72-600s. The A321neos will be used to add capacity at Manila without requiring additional slots while the eight additional turboprops will be used to launch secondary domestic routes from several bases outside Manila.

But the rate of capacity expansion will be relatively conservative as Cebu Pacific continues with its disciplined approach to growth.

Cebu Pacific will not be tempted to place large orders or launch an affiliate in another market. The group has the flexibility in its existing fleet plan to make sure it maintains its leading position in the Philippines and to grow with the overall market.