11-Sep-2012 12:06 PM

AirAsia has need for smaller aircraft but CSeries interest for now is more of a negotiating tactic

Analysis

The surprise visit from AirAsia Group CEO Tony Fernandes to Bombardier's CSeries mockup at the Jul-2012 Farnborough Airshow was seen more as a negotiating tactic with Airbus as the Group has a need to take A320s at a faster pace than it committed to when ordering 200 additional aircraft last year. AirAsia is now reportedly close to ordering another 100 A320s, possibly as early as this week's Berlin Air Show.

But even with a CSeries order looking unlikely for now, the interest Mr Fernandes expressed in the new model during Farnborough should still be viewed as serious. The time may be soon when AirAsia's fleet needs are so large and Airbus' backlog full that it would be appropriate to end exclusivity. There is a need at AirAsia for a smaller aircraft type and the efficiencies of the CSeries - or another type - could outweigh the advantage of keeping a simplified fleet.

Summary

AirAsia Group CEO Tony Fernandes expressed interest in Bombardier's CSeries aircraft during the Farnborough Airshow in 2012.
AirAsia is reportedly close to ordering another 100 A320s, possibly as early as the Berlin Air Show.
The CSeries CS300 could be a more economical option for AirAsia than the A319 or A319neo.
LCCs that operate A319s have been looking to phase out the type, and AirAsia may consider the CSeries as an alternative.
AirAsia has a need for a smaller aircraft type to serve thinner routes and increase frequencies.
The introduction of smaller aircraft could help AirAsia open new secondary markets and expand its network in Malaysia, Thailand, and Indonesia.

While the CSeries CS300, the type Mr Fernandes spoke up, is listed as seating 145 in a single-class configuration, Mr Fernandes spoke of an option to fit an additional 15 seats, bringing capacity to 160, slightly more than the 156 limit of the A319. The CSeries would likely be a more economical option for AirAsia than the A319 or A319neo as the CSeries is optimised for the smaller size.

LCCs that now operate A319s have been increasing looking to phase out the type (most recently AirAsia competitor Cebu Pacific of the Philippines) and, with the exception of Frontier Airlines, LCCs so far have opted to acquire the A320neo and A321neo instead of the A319neo. In fact, the A320neo since it was launched at the end of 2010 has outsold the A319neo by a more than a 50:1 ratio. While acquiring the A319 would simply take up valuable slots which AirAsia can use for more A320s, a CSeries order would open up a new pool of delivery slots for the Group and reduce its reliance on a single manufacturer.

Bombardier for some time has been quietly promoting to LCCs such as AirAsia the operating economics of a 160-seat CS300, which can be achieved by adding a second over-wing emergency row and opting for a tight but feasible all-economy configuration. The CSeries, which is slated to fly for the first time at the end of this year and enter service in 2013, will have the range of an A320 or Boeing 737-800 and even a high density version should be able to easily operate any of AirAsia's routes. AirAsia now limits its A320s to flights of about four hours or less with longer routes handed to long-haul sister carrier AirAsia X.

There is need in AirAsia's network for a smaller aircraft type

Those 20 fewer seats on a high-capacity CS300 compared to the A320 could make a big difference across AirAsia's network, potentially allowing a new aircraft type to take over existing thinner routes. Currently 24 or 16% of AirAsia Group's 149 routes are served less than daily, according to Innovata and CAPA data. Of these non-daily routes, 14 of these are served with three weekly flights, nine with four weekly flights and one with five weekly flights.

Another 54 or 36% of AirAsia Group's routes are served with between seven and 10 weekly frequencies - 50 of these which are served exactly once per day and the other four are served 10 times per week. (These figures include AirAsia Group affiliates in Malaysia, Indonesia, Thailand the Philippines and Japan - all of which operate A320s - but excludes A330 operator AirAsia X, which is a separate company and is not part of the AirAsia Group.)

As a result, over half of the Group's routes could possibly be more efficiently served with smaller aircraft, allowing non-daily routes to be upgraded to daily and more routes to be served with the double daily frequencies passengers prefer. Other routes currently served daily could see better economics from less capacity. Higher frequencies are particularly important as AirAsia continues to pursue more business traffic, which it has already started to attract given its large network in ASEAN and as corporations in Asia start looking to LCCs to reduce travel costs.

AirAsia Group route share (%) based on route thickness (number of frequencies): 10-Sep-2012 to 16-Sep-2012

While almost exactly half of AirAsia's routes are served once per day or less, these 74 routes account for less than 20% of the Group's total capacity. When only taking into account the 24 less than daily routes, under 4% of capacity of the group's capacity is allocated to thin markets.

But this is still sufficient capacity to consider adding a second aircraft type when taking into account the large size of AirAsia Group's current and planned fleet. As of 30-Jun-2012, the Group had a fleet of 105 A320s (includes two A320s on operating lease) and was committed to taking another 272 A320/A320neos by the end 2026. (In the current quarter, 3Q2012, AirAsia plans to take four A320s.)

In ordering 200 A320neos at the 2011 Paris Air Show, Mr Fernandes talked about the need to order up to another 125 aircraft for a total fleet of 500 aircraft. In this context a sub-fleet of 100 smaller aircraft (Mr Fernandes at Farnborough this year initially talked about considering an order of up to 100 CS300s) is feasible, particularly when taking into account potential new secondary routes in addition to the opportunities to down-gauge existing thin routes.

The introduction of smaller aircraft would help AirAsia open new secondary markets, which are now seeing expansion in Asia after LCCs initially concentrated on building networks between first tier cities. Further and faster growth in secondary markets across Southeast Asia is expected following the implementation of ASEAN open skies, which slated to take place in 2015.

In recent years AirAsia has had to axe several secondary routes which it found were not viable. Having a 160-seat aircraft will enable AirAsia to re-enter many of these routes, particularly as demand grows along with overall growth in the Asian market, supporting a huge increase in potential routes for aircraft in both the 160 and 180-seat categories. For example, just in the Singapore market, AirAsia has dropped less than daily routes from Chiang Mai in Thailand, Pekanbaru in Indonesia and Tawau in Malaysia.

CSeries could enable more rapid network growth in Malaysia and Thailand

In the Group's original market of Malaysia, a smaller aircraft type could be a powerful tool given the relatively small size of the market. Growth at AirAsia Berhad (also known as AirAsia Malaysia) has been slowing down as the market is approaching saturation and the Group focuses on expanding in Asian markets that are bigger and have lower LCC penetration rates. But while AirAsia Malaysia is unlikely to see a big increase in the size of its A320 fleet, a smaller aircraft could unlock opportunities to launch new routes and add frequencies on some of the 40 routes which the carrier now serves with seven or fewer weekly frequencies.

AirAsia Malaysia route share (%) based on thickness (number of frequencies): 10-Sep-2012 to 16-Sep-2012

AirAsia Malaysia non-daily routes and weekly frequencies: 10-Sep-2012 to 16-Sep-2012

Miri-Singapore	4
Kuala Lumpur-Ujung Pandang	4
Kuala Lumpur-Guilin	4
Kuala Lumpur-Da Nang	4
Kuala Lumpur-Bengaluru	4
Kuala Lumpur-Banda Aceh	4
Kota Kinabalu-Taipei	4
Johor Bahru-Sibu	4
Kuala Lumpur-Surat Thani	3
Kuala Lumpur-Kolkata	3
Kuala Lumpur-Balikpapan	3
Kota Kinabalu-Jakarta	3
Johor Bahru-Miri	3

In Thailand, the market is bigger but competition is more fierce with AirAsia competing against two other LCCs - Thai Airways affiliate Nok Air and Orient Thai - in the domestic market. In comparison, AirAsia is the only LCC in Malaysia's domestic market.

A smaller aircraft type at Thai AirAsia could open up thinner domestic markets and allow the carrier to match the much larger domestic network at rival Nok, which currently only operates domestically but is planning to enter the international market in early 2013. Nok already operates a regional fleet consisting of ATR 72 turboprops which it is now looking to expand.

Smaller aircraft such as the CS300 could also help Thai AirAsia maintain its leading position among LCCs in Thailand's international market as thin point-to-point routes become more viable - particularly from the carrier's secondary hubs of Chiang Mai and Phuket.

Thai AirAsia route share (%) based on thickness (number of frequencies): 10-Sep-2012 to 16-Sep-2012

Thai AirAsia non-daily routes and weekly frequencies: 10-Sep-2012 to 16-Sep-2012

Bangkok-Chennai	5
Phuket-Denpasar Bali	4
Bangkok-Colombo	3
Chiang Mai-Ubon Ratchathani	3
Phuket-Ubon Ratchathani	3

Indonesia presents the most LCC opportunities for smaller aircraft

Of all its existing affiliates, the benefits of a smaller aircraft could potentially be leveraged the most by Indonesia AirAsia. The carrier currently is primarily an international operator and has until now stuck to trunk routes in the domestic market. But AirAsia's pending acquisition of another Indonesian carrier, Batavia Air, which operates almost entirely in the domestic market, is expected to result in rapid expansion of the AirAsia brand in the very fast-growing Indonesian domestic market.

The AirAsia Group has said the Batavia acquisition will boost its share of the Indonesian domestic market from only 3% currently to 10%. Batavia currently serves 41 domestic destinations from eight bases. Indonesia AirAsia, in comparison, has only five bases and currently only serves eight domestic destinations, according to Innovata data. AirAsia plans to complete the purchase of a 49% stake in Batavia in 2Q2013, pending regulatory approvals, and has already forged a conditional codeshare agreement with the carrier.

Eventually Batavia is expected to take on the AirAsia brand while operating side by side with Indonesia AirAsia and focusing on the domestic market. In addition to slots and its strong domestic operation, Batavia has a strong distribution network that will give AirAsia access to about 5,000 local agents. A lack of local distribution channels proved to be a challenge for Indonesia AirAsia in prior failed attempts to build up its domestic network organically.

While A320s are generally seen as the ideal aircraft for the congested hub at Jakarta, where Batavia provides AirAsia with valuable slots, smaller aircraft are a better fit for regional point-to-point routes connecting markets outside the main island of Java. In addition to its main base at Jakarta, Batavia has smaller bases at Indonesia's second largest city of Surabaya (also on Java) as well as at several regional centres such as Makassar and Batam where it operates some generally low frequency point-to-point routes with its fleet of A320 and 737 family aircraft. (Batavia's ageing 737s will likely be quickly phased out under AirAsia, leaving it with an all-A320 fleet and possibly later a second aircraft type such as the CS300.)

Some Indonesia AirAsia competitors are already in the process of acquiring regional aircraft, including Garuda Indonesia, Sriwijaya Air and Lion Air subsidiary Wings Air. Given its current international-focused network, Indonesia AirAsia would not need to follow its rivals in buying smaller aircraft. But given its new focus on trying to capture a higher share of the domestic market following the deal for Batavia it will likely need smaller aircraft to compete in thinner markets, especially in non-Jakarta markets now operated by Batavia.

See related articles:

Indonesia AirAsia route share (%) based on thickness (number of frequencies): 10-Sep-2012 to 16-Sep-2012

Indonesia AirAsia non-daily routes and weekly frequencies: 10-Sep-2012 to 16-Sep-2012

Jakarta-Ho Chi Minh City	4
Medan-Bangkok	4
Surabaya-Bangkok	4
Jakarta-Phuket	3
Bandung-Penang	3
Surabaya-Penang	3

AirAsia also has new affiliates in the Philippines and Japan. Smaller aircraft are likely a better fit for AirAsia Philippines, given the geography of the Philippines and the intense competition in the country's domestic market.

Both AirAsia Philippines and AirAsia Japan only launched services earlier this year. AirAsia Philippines now operates six routes, five of which are served with only one daily frequency while one is served twice per day. AirAsia Japan now operates three routes - one of which is served thrice daily, one twice daily and one with a single daily flight.

As of the end of 2Q2012, AirAsia Philippines (PAA) and AirAsia Japan (AAJ) each operated two A320s while AirAsia Malaysia (MAA) had a fleet of 58 aircraft, Thai AirAsia (TAA) had 24 aircraft and Indonesia AirAsia (IAA) had 19 aircraft. The group now has 16 bases, including one foreign base in Singapore.

AirAsia fleet by operating carrier and base: as of 30-Jun-2012

While AirAsia Group has approximately 270 additional A320s on order, including 200 A320neos, it has been concerned over the last year that it cannot adequately bulk up its five Air Operator's Certificates (AOCs) in Indonesia, Japan, Malaysia, the Philippines and Thailand in the medium term, largely before the A320neos are delivered. Additionally, further AOCs are likely to be added before the first A320neo is delivered in 2016. AirAsia has accelerated A320 deliveries three times this year for the 2012 to 2014 time frame, taking back slots it had decided to defer in 2011 and earlier.

The Group on multiple occasions in 2009 to 2011 deferred deliveries that were originally slated for 2009 to 2014 as it was unclear at that point when it would be able to expand its portfolio of affiliates beyond Malaysia, Thailand and Indonesia. The success with launching the two new joint ventures has had a huge impact on the Group's fleet plan as Japan alone could support 50 aircraft by mid-decade while AirAsia Philippines is eyeing a fleet of 16 aircraft within five years. Market conditions in Thailand and Indonesia have also improved over the last two years, allowing AirAsia to regain confidence in re-accelerating deliveries.

See related articles:

AirAsia re-accelerates A320 deliveries; more accelerations to come

In the last acceleration announcement, AirAsia in late Aug-2012 said it was accelerating 18 deliveries from 2015 and 2016 to 2013 and 2014. Earlier this year it accelerated deliveries for 2012, from an earlier plan to add 12 aircraft. The Group now plans to take 13 aircraft in 2H2012 and 21 for the entire year, giving it a year-end fleet of 118 aircraft. It also now plans to take 21 A320s in 2013 and reach its long-stated goal of taking 24 aircraft (two per month) in 2014.

AirAsia was originally committed to taking 24 A320s in 2013 and another 24 in 2014 before deciding last year to reduce its 2013 commitments to 13 aircraft and its 2014 commitments to 18 aircraft. Following the three accelerations announced this year, AirAsia will now come close to the 24 figure next year and reach it in 2014.

But in accelerating deliveries for 2013 and 2014, AirAsia has reduced its commitments for 2015 and 2016. The group is now slated to take only nine A320s in 2015, down from the 19 planned before the most recent acceleration announcement. It is also now slated to take only seven A320 current generation aircraft in 2016, compared to an original plan to take 15.

AirAsia A320/A320neo revised delivery schedule: 2012 to 2026

The delivery schedule for the A320neo remains unchanged, with the carrier taking the first five of the 200 it has on order in 2H2016 followed by 14 in 2017. As the A320neo is not available until late 2016, AirAsia will likely have to commit to acquiring more current generation A320s for 2015 and 2016 as part of its upcoming follow-on order.

It is unlikely the current totals of only nine aircraft for 2015 and 11 for 2016 will be sufficient although AirAsia may be tempted to slow down A320 fleet growth as much as possible in 2015 and 2016 given the efficiency advantages provided by the A320neo. Opting for a second type such as the CSeries during this period could be particularly enticing as the group will have a need for more aircraft and taking more of the current generation A320 just ahead of the A320neo introduction is a proposition many carriers are looking to avoid.

As part of the upcoming follow-on order, AirAsia will also likely look to accelerate A320neo deliveries in 2017 to 2020 although slots could be difficult to secure. As part of its original order for 200 A320neos, AirAsia only envisioned taking 14 A320neos in 2017, 18 in 2018 and then gradually increasing its annual rate until again reaching the 24-aircraft figure in 2023. AirAsia will likely be able to support a steady 24-aircraft per year delivery schedule throughout this period.

Also a factor are growth aspirations: South Korea is of interest and Singapore is also a potential target for a new AOC. (The Group already has about a 7% share of the Singapore market, which it has achieved on flights operated from Indonesia, Singapore and Thailand. The Malaysian affiliate recently started basing one of its A320s in Singapore.)

While the 24 aircraft per year figure may seem high, Indonesia-based LCC rival Lion Air is already committed to taking 737-900ER/737 MAX aircraft at a rate of 36 per year as well as a smaller number of ATR 72s turboprops for its Wings Air subsidiary. Jetstar is also already taking A320s at an average rate of two per month in its current fiscal year (ending 30-Jun-2013). Included in the 24 deliveries for FY2013 are nine A320s for Jetstar Japan, which is based at Tokyo Narita, as is AirAsia Japan.

Since first commenting in Jun-2011 that more orders would eventually be required, Mr Fernandes has spoken during much of 2012 about negotiations with Airbus for a further 100 A320s, most likely including 50 firm orders and 50 options. AirAsia Malaysia CEO Aireen Omar in Aug-2012 confirmed in an interview with Bloomberg that the carrier could sign a deal at the ILA airshow in Berlin, or if not then by the end of 2012.

The debate over a possible second smaller aircraft type will likely wage on for several months, if not years. The guiding questions will be Airbus' availability and if the Group's need for a smaller aircraft outweigh costs. It is far from an easy calculation. There is aircraft price and the comparison of potentially better economics on flights served by a smaller and possibly more efficient aircraft weighed against the cost of breaking a simplified fleet. AirAsia also needs to judge - or bet - how many A320 slots may open for it in the future. It will need to consider the competitive consequences for staying with the A320 and possible restricted slot offerings.

"Everybody thought, 'Oh is AirAsia going overboard with the number of A320s?' But it's the reverse. When you sit down and plan it, it's not enough," AirAsia X CEO Azran Osman-Rani told CAPA recently and out of the context of the CSeries or future A320 orders. "Indonesia, Thailand - there's a lot of competition there and you know you have to be a market leader so you have to deploy a big chunk of your A320s there.... Even with these orders, there are five AOCs competing. I want these planes - I want these planes - I want these planes. Everyone wants planes."

Airbus wants to build planes. A production rate increase later in 2012 to 42 A320s a month means it will take Airbus less time to roll out an A320 (17 hours, 23 minutes) than for its A340-500 to fly the longest route in the world, Newark-Singapore (18 hours, 40 minutes). A new assembly line in Mobile, Alabama will open later this decade and growth may also occur at its Tianjin facility. But supply at Airbus and Boeing is still tight. That means some carriers get left behind, like brash Ryanair that is being ignored by Airbus and Boeing and consequently as a stunt has taken to talking to China's COMAC. (The latest development is an "agreement" for a larger passenger door to accommodate faster boarding.)

Mr Fernandes may extract Ryanair-like discounts but he sings Airbus' praise; AirAsia named its 100th A320 after former Airbus CEO Louis Gallois. But sheer availability numbers mean AirAsia's importance is not and cannot be what it was. At the same time AirAsia may need to consider a new aircraft type for the potential to open smaller markets and right-size some existing markets.

Split fleets are becoming common - coming soon at AirAsia?

Dual narrowbody fleets from Airbus and Boeing are becoming more common, amongst both LCCs like Norwegian as well as full service carriers with a low-cost base like American Airlines. The main Chinese carriers - Air China, China Eastern and China Southern - have followed this tactic for years and indications are will continue for some time. Chinese LCC Spring Airlines, with 30-odd A320s, will join the following as it looks to use 737-800s for a new Japanese subsidiary.

In another example that may have more similarity to a potential AirAsia A320/CS300 split, Mexican LCC is acquiring the Sukoi Superjet 100 to supplement its larger A320s. But it is unknown if split purchases work as well financially as a single purchase completed with the discounting Mr Fernandes can achieve.

Will AirAsia eventually opt for a split fleet? AirAsia is an airline as much as it is an impeccably run business and brand. Mr Fernandes is an astute businessman. A serious consideration from AirAsia for the CS300 will depend less on paper technical comparisons of it with the A320 and more on price and, importantly, Airbus' availability. AirAsia will not be stuck without a Plan B.

Background information

AirAsia Group capacity (% of seats) by affiliate: 10-Sep-2012 to 16-Sep-2012