29-Jun-2014 2:00 PM

Aeromexico focuses on long-haul and transfer traffic growth as 787 fleet expands

Analysis

Aeromexico is pursuing rapid growth for its long-haul operation as it renews and expands its widebody fleet. The transition from 767s to larger 787-8s, which began in 3Q2013 and will be completed in mid-2015, is enabling Aeromexico to add long-haul capacity and improve yields.

The carrier will end this decade with 20 787s, compared to only 11 widebodies one year ago, enabling the launch of new destinations and higher frequencies on existing routes. The 787 and the growing long-haul network is a critical differentiator as Aeromexico is Mexico's only widebody operator while it faces intensifying competition and overcapacity in the domestic and transborder markets.

As Aeromexico expands its long-haul operation it aims to increase transit traffic at its Mexico City hub by leveraging its enhanced network within Latin America. It is also working to boost yields, which have sagged over the past year, through product improvements and an increased focus on sales in higher yielding origin markets such as the UK.

Summary

Aeromexico is rapidly expanding its long-haul operation by renewing and expanding its widebody fleet, transitioning from 767s to larger 787-8s.
The carrier aims to increase transit traffic at its Mexico City hub by leveraging its enhanced network within Latin America.
Aeromexico plans to boost yields through product improvements and increased focus on sales in higher yielding origin markets such as the UK.
The carrier's widebody fleet currently consists of five 787-8s, four 777-200ERs, and five 767s, with additional 787-8s and 787-9s on order.
Aeromexico is focusing on increasing its presence in Europe, particularly in the corporate segment, to boost premium traffic and win more corporate accounts.
The carrier aims to upgrade long-haul routes to daily frequencies and add up to three new long-haul destinations, while also increasing capacity to Asia and enhancing its transit traffic.

Aeromexico's widebody fleet currently consists of five 787-8s, four 777-200ERs and five 767s. The carrier has another four 787-8s and six 787-9s on firm order, according to the CAPA Fleet Database.

This excludes planned commitments for another five 787s which are part of Aeromexico's fleet plan and will give the carrier an all-787 widebody fleet consisting of 20 aircraft by 2020.

Aeromexico fleet summary: as of 29-Jun-2014

Aircraft	In Service	In Storage	On Order*
Total:	6 0	2	73
Boeing 737-700	26	0	0
Boeing 737-8	0	0	60
Boeing 737-800	21	0	3
Boeing 767-200ER	2	1	0
Boeing 767-300ER	3	0	0
Boeing 777-200ER	4	0	0
Boeing 787-8	5	0	4
Boeing 787-9	0	0	6

Aeromexico transitions European routes and Tokyo to 787

Aeromexico took delivery of its first 787-8 in Aug-2013 and added two more of the type in 4Q2013. The carrier's fourth and fifth 787-8 was added in 2Q2014.

According to OAG data, Aeromexico is currently operating the 787s on four of its nine long-haul routes (and all three of its European routes) - London, Madrid, Paris and Tokyo. Madrid and Paris are both served daily with Paris now seeing an all-787 operation while Madrid sees a mix of 777s and 787s. London, which was launched in Dec-2012 using 767s, is currently served three times per week with the third frequency having transitioned to the 787 in May-2014. Tokyo is served four times per week with an all-787 operation.

The 787 is also currently used on one of four daily frequencies from Mexico City to New York JFK, which is otherwise served with 737-800s. Mexico City-New York is Aeromexico's largest international route by seat capacity and its only US route with any widebody frequencies. Aeromexico also now uses also 787s on a small number of frequencies on Mexico City to Cancun and Tijuana, which are two of its four largest domestic routes.

Aeromexico works to boost its presence in Europe, particularly in the corporate segment

The arrival of the 787 has driven high double-digit ASK growth across its European network as Aeromexico configures its 787s with 243 seats while its 767s have an average of 190 seats. Aeromexico expects the 787 to significantly boost the profitability of its long-haul operation as it is more cost efficient while revenues per ASK have increased as its in-flight product represents a huge improvement over the 767.

Aeromexico CEO Andres Conesa told CAPA in Jun-2014 that per seat costs have dropped by about 25% on flights it has transitioned from the 767 to 787-8. He says the carrier is now working to leverage its improved long-haul product, particularly the 32 lie-flat seats in business class, to boost yields.

Aeromexico has particularly made a push over the last month in the London market, where the 787 enables the carrier to compete more effectively against British Airways. Aeromexico launched London in late 2012 but until recently has not heavily promoted because initially it was serving Heathrow with an outdated product. BA currently operates six weekly 747-400 flights to Mexico City, which gives it about 1,800 one-way seats on the London-Mexico City route compared to only 700 for Aeromexico.

Aeromexico recognises it has been outsold in Europe by European competitors, particularly in the corporate segment, but believes it now has the product to boost premium traffic and win more corporate accounts. In addition to BA, four European carriers currently serve Mexico City - Air France, Iberia, Lufthansa and KLM.

Aeromexico currently only accounts for about 21% of total seats in the Mexico City-Europe market, according to CAPA and OAG data. Iberia and Lufthansa each have about 20% shares while Air France has about 17%, KLM about 14% and BA about 9%.

There are currently about 22,000 weekly one-way seats from Mexico City to Europe, representing an increase of nearly 30% compared to the same period of 2013. All five carriers in the market have added capacity over the past year.

Mexico City to Europe route total (one-way seats per week): 19-Sep-2011 to 21-Dec-2014

European carriers transported 165,000 passengers to and from Mexico in Apr-2014, according to Mexican DGAC data.

Spain, with 79,000 total passengers in Apr-2014 (includes Iberia and Aeromexico), is Mexico's third international largest market after the US and Canada. Germany is the fifth largest and France is the sixth largest, according to Mexican DGAC data from Apr-2014 (the last month available).

Mexico's top 15 passenger international markets after the US: Apr-2014 vs Apr-2013

Air France currently has 10 weekly flights on Mexico City-Paris, including seven with 747-400s and three with 777s, which gives it approximately 3,400 one-way seats or slightly more than double the 1,631 from Aeromexico.

Iberia, which operates two daily A340 flights on Mexico City-Madrid, also has more than double the capacity of Aeromexico on the route. Lufthansa operates daily 747-8 flights on Mexico City-Frankfurt and five weekly A340 flights on Mexico City-Munich while KLM operates daily 747-400 flights on Mexico City-Amsterdam (Aeromexico does not serve these three routes).

Aeromexico is confident it can increase its point of sales in the European market. Higher sales in markets such as the UK and in continental Europe will help boost overall revenues and profitability as generally the yield is significantly less on long-haul tickets sold in Mexico.

Aeromexico has seen its yields drop significantly over the past year, including by 13% in 1Q2014 and by 7% 4Q2013, a trend it would like to reverse. (However, the drop was driven primarily by the intensely competitive domestic market and was offset by higher load factors that were made possible by more aggressive pricing.)

Aeromexico reports high ASK - and RPK - growth in international market

Mr Conesa says long-haul expansion is driving most of the 13% to 15% growth in ASKs now projected for 2014. He says Aeromexico is now planning to grow domestic ASKs by only 5% to 6% in 2014. Aeromexico initially planned to grow domestic capacity in 2014 by 9% to 12%.

The domestic adjustments has driven a reduction in Aeromexico's system-wide ASK growth projections for 2014 from 17% to 18% to 13% to 15%. As CAPA analysed in Apr-2014, the group has been adjusting domestic capacity in response to the slowdown in Mexico's GDP growth rate and challenging domestic market conditions.

While it faces intense competition from a trio of LCCs (Interjet, VivaAerobus and Volaris) in the domestic and Mexico-US markets Aeromexico is the only Mexican carrier with long-haul services. Within Latin America it also only faces limited competition with Interjet, which serves five countries while VivaAerobus and Volaris only serve the US.

Aeromexico's network spans 19 countries, including 12 in Latin America and the Caribbean, three in Europe, two in Asia and two in North America (the US and Canada). An extensive codeshare with Delta Air Lines, which owns a small stake in Aeromexico, and its membership in SkyTeam also provides a vast offline network. Aeromexico is working hard to leverage its position as the only Mexican carrier offering a global network, a position enhanced as it improves and grows its own long-haul operation.

Aeromexico network summary: as of 29-Jun-2014

Total non-stop passenger destinations	77
Domestic	44
Africa	0
Asia Pacific	2
Schengen Europe	2
Other Europe	1
Latin America	12
Middle East	0
North America	16

Aeromexico does not break down transborder or regional international and long-haul international in its traffic figures but overall international figures have been growing at a much faster rate than domestic in recent months.

International ASKs were up 19% through the first five months of 2014 including a 29% jump in May-2014 - when the carrier had all five of its 787s in service. International RPKs were up at an even faster clip, 25% in the first five months and 31% in May-2014 as the carrier's international load factor improved to 77.9% and 76.5% respectively.

Aeromexico Group operating highlights: May-2014 vs May-2013 and 5M2014 vs 5M2013

Long-haul will continue to account for the majority of Aeromexico's ASK growth over the next year as the carrier continues to transition 767 flights to the larger 787. Mr Conesa says Aeromexico plans to phase out its last 767 in mid-2015. The carrier expects to take delivery of two additional 787-8s in Dec-2014, giving it a year-end fleet of seven aircraft. It expects to take the last two 787-8s from its initial nine aircraft commitment in 2015.

While Europe currently accounts for only about 7% of Aeromexico's current international seats it accounts for 19% of the group's international ASKs. North America (the US and Canada) accounts for about 63% of seats and 44% of ASKs, according to CAPA and OAG data.

Aeromexico international capacity share (% of ASKs) by region: 23-Jun-2014 to 29-Jun-2014

Larger widebody fleet enables Aeromexico to launch Rio de Janeiro

The nine 787-8s allow for some growth as the carrier had a fleet of only seven 767s before it started taking delivery of the 787-8s. For example the two growth aircraft is enabling the launch of service from Mexico City to Rio de Janeiro, it ninth long-haul route overall, on 29-Jun-2014.

Mexico City-Rio de Janeiro is initially being operated with 767s, joining two other long-haul routes which are also now served with Aeromexico's remaining 767s - Mexico City to Buenos Aires and Santiago. Buenos Aires is served daily, Rio de Janeiro four times per week and Santiago three times per week, according to OAG data.

The 767 is also used on some of Aeromexico's 14 weekly frequencies to Bogota and 14 weekly frequencies to Lima as well as on some flights to Cancun. (The 787 is also slated to be used temporarily on one of the carrier's two daily Mexico City-Bogota flights from 21-Jul-2014 to 18-Aug-2014.)

The final two of Aeromexico's now nine long-haul routes are operated with 777-200ERs - Sao Paulo and Shanghai . The 777-200ER is also used instead of the 787 on some Madrid flights as well as on some domestic flights to Cancun and Tijuana (with the Tijuana flights continuing onto Shanghai as Shanghai is not served non-stop from Mexico City).

The 777-200ERs are slated to be replaced by 787-9s. Mr Conesa says the carrier will start taking 787-9s in 2016 and the last of its four 777-200ERs will be phased out in 2018.

In 2012 Aeromexico ordered six 787-10s plus four options. Mr Conesa says the carrier's current fleet plan includes a total of 20 787s by 2020. (This indicates the four options that were part of the 2012 deal will be exercised, or additional commitments with leasing companies have been made but have not yet been announced by the leasing companies.)

Aeromexico plans to upgrade long-haul routes to daily; add up to three new long-haul destinations

As Aeromexico nearly doubles its widebody fleet from only 11 aircraft at the beginning of 2013 (seven 767s and four 777s) to 20 aircraft at the end of 2020 (all 787s) the carrier expects to focus mainly on adding frequencies to its nine existing long-haul destinations. Aeromexico aims to gradually upgrade most of its non-daily long-haul routes to daily while some of its four daily routes could also see additional frequencies. "With the widebodies we position ourselves in selective cities where we can grow to daily frequency," Mr Conesa explains.

New long-haul destinations will also be added over the next six years but the initial priority will be on adding frequencies. "There are a couple of more possibilities in Europe and one more in Asia. But we need to evaluate it first," Mr Conesa tells CAPA.

In Europe Aeromexico could potentially look at resuming service to Barcelona, which it dropped in early 2012. Amsterdam would also be logical as it already codeshares with fellow SkyTeam member KLM while Frankfurt may also be a possibility.

In Asia Seoul would be a logical new destination under an expanded partnership with SkyTeam member Korean Air. Aeromexico and Korean Air now codeshare via Los Angeles and Tokyo, providing one-stop options for passengers in the Korea-Mexico market.

A direct service to Seoul on Aeromexico would significantly shorten travel time in the Korea-Mexico market as well as open up better connections beyond Mexico City. Korea-Latin America is a sizeable market but is relatively underserved. Mexico City would provide a potentially more convenient transit stop compared to the US, where transit visas are required.

Aeromexico seeks to upgrade Tokyo to non-stop and add Chinese partners

For now Aeromexico is focused on increasing capacity and improving its product on its two existing Asian destinations. One planned improvement is the transition of Mexico City-Tokyo from a one-stop to a non-stop product.

Currently the Tokyo route stops in Tijuana on the outbound leg but returns non-stop. Mr Conesa says the 787-8s that Aeromexico had delivered in Dec-2013 and will receive in 2014 will have higher rated engines than its initial five 787-8s, enabling non-stops to Tokyo from the high altitude of Mexico City. Aeromexico plans to upgrade Mexico City-Tokyo to non-stop in mid-2014, at which point it will have four of the higher thrust 787-8s in its fleet. Mr Conesa says it is too hard to make the switch with just two aircraft, which it will have in late 2014.

Upgrading Shanghai, which now stops in Tijuana in both directions, to non-stop will not be possible with the higher thrust 787-8 or 787-9. But Aeromexico is hoping to forge codeshare partnerships with Chinese SkyTeam members, which should help support a higher frequency service. "We need to work more closely with them. There is no codesharing - hopefully we will have that soon," Mr Conesa says.

Chinese carriers could potentially provide connections to domestic points in China as well as international destinations beyond Shanghai, in particular to Southeast Asia. Aeromexico sees its Tokyo service as mainly catering to the Japanese market as there is sufficient point to point demand. Therefore Shanghai or a potential third Asian destination could emerge as the gateway for offline destinations in Asia.

Aeromexico currently does not codeshare with any Asian carrier other than Korean Air and also does not work beyond Tokyo Narita with its closest partner and minority shareholder, Delta Air Lines. Aeromexico's Narita flight is not currently timed to connect with Delta's flights from Narita to other points in Asia. It would not make much sense to change Aeromexico's Tokyo schedule to connect with Delta as Delta has been deemphasizing its Narita hub.

Aeromexico would like to gradually add capacity to Asia, starting with a fifth weekly flight to Tokyo. Further capacity growth in Asia would become easier to pursue if the carrier is able to tap into the Asia-South America market, which has been growing rapidly and is served mainly via the US and increasingly via the Gulf. Aeromexico has been building up its South American and Central American network in recent years and is now focusing more on leveraging its Latin American network, particularly from Europe but also from Asia.

Aeromexico doubles its transit traffic as the international network is enhanced

The two other Latin American airline groups which currently serve Europe, LATAM and Avianca, have much bigger networks within Latin America. But Aeromexico has been closing the gap and with the 28-Jun-2014 addition of Rio de Janeiro now serves seven destinations in South America. Aeromexico also has been using its narrowbody fleet to establish a network in Central America, where traditionally it had a very limited presence, but now serves with four destinations.

Aeromexico has been increasingly promoting its enhanced network in Central and South America in the European market as part of the effort to boost European sales and its international yields. Aeromexico also has been increasingly promoting connections to Central and South America from North America.

Mr Conesa says about 30% of Aeromexico's total traffic is now transit, compared to only about 15% two to three years ago. He says the carrier aims to have 32% transit traffic by the end of the current summer season and strives to continue increasing its transit traffic. Aeromexico is planning to add banks at Mexico City by the end of 2014, which will improve connections and support the ongoing initiative to increase transit traffic.

Aeromexico's outlook is bright as long-haul expansion is pursued

The increased focus on long-haul growth and international to international connecting traffic are key components in Aeromexico's long-term strategy. Aeromexico has already significantly increased international revenues, which now accounts for about half of its total revenues compared to one third five years ago.

The increased international focus has enabled the airline to be profitable for 18 consecutive quarters while other Mexican carriers have been in the red during certain periods. The domestic market is still important to the Aeromexico Group, particularly its regional subsidiary Aeromexico Connect. But the domestic and Mexico-US transborder markets are intensely competitive and price sensitive.

Focusing growth on the long-haul sector is a sensible approach as it differentiates Aeromexico from its local competitors. Aeromexico in particular should be able to expand in Europe given its relatively small slice of the Mexico-Europe market and its enhanced Latin American network beyond Mexico City. As the only Latin American carrier currently serving Asia, Aeromexico is also well positioned to grow in Asia as the overall Asia-Latin American market grows.

Aeromexico has its share of short-term challenges; economic growth in Mexico has slowed and competition with local and foreign carriers remains intense. But the group continues to be profitable and its medium to long-term outlook should brighten as it improves its position internationally.