21-Oct-2013 8:45 PM

American Airlines fires a new salvo in the hotly contested US-Asia market with strikes from DFW

Analysis

American Airlines' decision to launch service from its Dallas/Fort Worth hub to Hong Kong and Shanghai is a strategic move to bolster its historically weak positioning in the US-Asia market, and is occurring at a time when some carriers in those markets are enjoying particularly favourable results on their service to North America and are rapidly expanding.

American is also positioning itself to capitalise on the growing demand between Asia and Latin America by funnelling passengers through its largest hub for connections onwards to Central and South America.

The moves by American - which also include axing its service from New York JFK to Tokyo Haneda due to unfavourable operating times - also show a diminished emphasis on Japan as a traditional stop-over as direct services become an imperative to attract and retain high-yielding business passengers.

Summary

American Airlines is launching service from its Dallas/Fort Worth hub to Hong Kong and Shanghai to strengthen its position in the US-Asia market.
The move is aimed at capitalizing on the growing demand between Asia and Latin America by funneling passengers through its largest hub for connections onwards to Central and South America.
American is reducing its emphasis on Japan as a traditional stop-over and focusing on direct services to attract high-yielding business passengers.
American's new routes to Hong Kong and Shanghai will join existing Dallas-Asia services to Tokyo Narita and Seoul, with connections to Latin America being an important network development.
American needs to solidify its strategy for Asia to diminish its status as a market laggard and strengthen its position in mainland China.
The expansion into Asia reflects the growing demand for more direct service to Asia, especially China, rather than one-stop service through Japan.

Hong Kong is an entirely new destination for American while the carrier already serves Shanghai from Chicago and Los Angeles. Dallas-Hong Kong will become American's (and one of the world's) longest routes and will be served on American's 777-300ER while Dallas-Shanghai will be on the 777-200ER. Both will be served daily.

American is logically levering Asia to DFW, and to funnel passengers to Latin America

American is turning its attention away from its other US trans-Pacific gateways in Los Angeles, Chicago and JFK (with the cancellation of daily service to Haneda in Dec-2013) and perhaps shrewdly opting to leverage its strength in Dallas - its largest hub and headquarters - as United and Delta are seemingly engaged in a fight on the US west coast to drive feed to their respective trans-Pacific markets (United from San Francisco and Los Angeles and Delta from Seattle).

See related report: United adds a new layer to changing competitive dynamics on the US west coast

Once American's new service begins from DFW to Hong Kong and Shanghai in Jun-2014 those flights will join existing Dallas-Asia services to Tokyo Narita and Seoul. American's only other Asian destination is Beijing.

American introduced the Tokyo and Seoul services in May-2013 after a free trade agreement between the US and South Korea took effect in May-2012, adding some security that business travel should remain robust on the route.

The new routes are largely about North American traffic to those two Asian destinations, but feed from Latin America will be important too.

Given the likely timing of flights from Hong Kong and Shanghai to optimise connections, passengers should have easy access to points beyond DFW, most notably Latin America. Key to customer access to that region is American's re-introduction of service from Dallas to Lima in Apr-2013. Lima is the largest intra-Latin American hub for LATAM Group, the largest carrier in Latin America and a oneworld partner to American. The Dallas-Lima service meshes nicely with the timings of Dallas-Seoul.

An ability to connect passengers from Asia to Latin America through Dallas is an important network development for American. Through the connection American can leverage its leading position as the largest carrier between the US and Latin America (presently at 33% of the weekly 44,000 one-way seats on offer to upper South America) to seize on growing demand between Asia and Latin America, where direct service is scant and more heavily weighted towards connections via the US and Europe. Air China, Singapore and Korean Air all serve Sao Paulo Guarulhos with one-stop service.

United States to Upper South America (seats per week, one way): 19-Sep-2011 to 6-Apr-2014

Service from Asia to Latin America is dragging behind demand, as CAPA has previously reported that the Asian Development Bank estimated trade between the two regions grew 20% from 2000 to 2011 to total of approximately USD442 billion. Given the lack of aircraft range for non-stop services, one-stop services are likely to be the norm for the foreseeable future, which should be beneficial to American as it expands into Asia from its largest hub. (The caveat is the US, unlike other markets, requires transfer visas, adding a hurdle to potential connecting passengers.)

American needs to solidify its strategy for Asia to diminish its status as a market laggard

The weakening Japanese yen is having a detrimental impact on financials. American's US counterpart United is facing weakness in its trans-Pacific markets, and American's trans-Pacific yield slid 6.8% for the nine months ending Sep-2013 (driven somewhat by its admittedly unprofitable JFK-Haneda route), but the reality is American has historically been weak in the trans-Pacific market in the US.

Ultimately American needs to strengthen its position in Asia, and mainland China especially, in order to build the necessary network strength to survive and thrive during the long term.

American has no presence between the US and Hong Kong, while having the least amount of penetration in China relative to its US peers Delta and United.

United States to Hong Kong (seats per week, one way): 19-Sep-2011 to 6-Apr-2014

Presently, United represents about 31% of the approximately 53,000 one-way weekly seats deployed between the US and China. Among the US carriers, Delta is second with a 13% share and American trails third with 10%.

United States to China (seats per week, one way): Sep-2011 to 6-Apr-2014

American also seems to be getting a jump on its fellow oneworld member Hong Kong-based Cathay Pacific, who has shown some interest in serving DFW as it recorded a rebound in premium traffic on its North American routes in 1H2013. CAPA has previously reported that yields in those markets increased 14% during that time period. Largely driving that was the introduction of premium economy. Overall finances have been helped as Cathay down-gauged from Boeing 747-400s to 777-300ERs, which have a roughly 16% lower seat cost than the -400s.

American plans to operate 777-300ERs on the new service to Hong Kong, which will be the first Asian market for its new flagship long-haul fleet. With ample business demand in Dallas and the strength of American's hub there, the route should easily produce favourable results for American.

Oneworld partner Cathay does not presently seem to be a factor in AA's Asian growth

American took great pains to emphasise that the new service to Asia would be operated under its joint business agreement with Japan Airlines (JAL). What is less clear at the moment is if Cathay Pacific and American will codeshare on American's new service to Hong Kong. American codeshares on Cathay's US-Hong Kong services, but this has been in absence of American's service.

American during the last couple of years has worked to forge a relationship with Chinese mainland carrier Hainan Airlines, which launched flights from Chicago to Beijing in Sep-2013. Hainan is also considering flights between Beijing and Dallas, which would benefit American both for onward traffic as well as American's ability to sell Beijing from another point.

Hainan is not a member of oneworld, but the alliance has taken a very public stance that its members have the freedom to partner with basically whomever they wish in order to maximise their network potential. Privately Cathay is likely not happy with the growing ties between American and Hainan. It is not difficult to see Hainan one day being more important than Cathay to American. But Cathay depends heavily on American's North American network for onward connections, so the American-Hainan relationship will likely just have to be tolerated.

American will do well with traffic to and from Hong Kong and Shanghai. This contrasts to its Japan services where international connections are significant. American will still see connections in Hong Kong and these can be facilitated by Cathay as other Asian cities could potentially be reached more quickly via Hong Kong than via Tokyo.

Interlines will definitely be possible but Cathay can become more selective about codeshares from airlines that serve its home market. Despite a JV with Cathay, Air New Zealand, for example, has not been successful in forging codeshares with Cathay beyond Hong Kong (in some instances there are regulatory challenges due to restrictions on third-country codesharing). This situation is not different than at Asia's other network carrier behemoth, Singapore Airlines, which generally does not codeshare on partners' Singapore services.

American's moves also reflect growing demand for more direct service to Asia, and China especially (however difficult it may be to gain necessary slots) rather than one-stop service through Japan. The need for direct services is exacerbated by Japan's declining economy as well as the shrinking yields from the declining yen.

Asia-North America expansion as US visa processing for Chinese nationals is eased

Hainan's Chicago-Beijing service is part of a push into North America by Asian carriers during the past year. Air China has launched Beijing-Houston flights and increased service from Los Angeles and New York.

There is also substantial China-North America traffic through intermediary regions, and airlines from there are growing to North America. Cathay has unveiled plans to introduce Newark-Hong Kong service in Mar-2014 in addition to increasing services to Chicago and Los Angeles. Korean Air has grown recently while Asiana is planning growth. ANA and JAL have grown across the Pacific, as has EVA Air.

Underscoring that expansion is improved US visa processing efficiency, and the potential for even greater throughput as US Ambassador Gary Locke is pushing for the US to open additional visa processing offices.

See related report: North America is the long-haul bright spot for Chinese airlines

How will United and Cathay respond?

There are impacts worth watching out for. First is if Cathay's Dallas service materialises and how that will mesh with American's JV with JAL (or not), and American's growing relationship with Hainan. Cathay's relationship with American, as it is with other oneworld carriers, is distant. But Cathay will need American more than American will need Cathay, and this is rare instance where Cathay does not hold the power cards.

Second is United. With Air China's launch from Houston to Beijing and Hainan's interest in serving the market, it will be interesting see what response United Airlines - Houston Intercontinental's largest carrier - will fashion to the new Asian push from Houston. During 2012 United opted to axe 787 services from Houston to Auckland as it smarted over Southwest gaining the authorisation to offer international flights from Houston Hobby. With some of the pressure it is experiencing from other trans-Pacific gateways, United may need to temper its anger and explore the possibilities of Asia flights from Houston.

See related report: United walks away the sore loser after Southwest wins international expansion from Houston Hobby

For the foreseeable future United seems to be poised to craft a strategy to deploy its 787s on secondary Chinese markets as it seeks to launch flights from its San Francisco hub to Chengdu. Delta's approach is more tempered as it works to build out trans-Pacific service from Seattle to major Asian markets and use partnerships with its Chinese SkyTeam partners China Eastern and China Southern to serve secondary Chinese cities (due in part to Delta's continuous push-back of a 787 order it inherited from Northwest).

See related report: Delta Air to use it Chinese SkyTeam partners to grow, connecting over main hubs

American is now on a positive course in Asia - and needs to maintain the momentum

With the planned new service launches by American, the carrier is showing strong determination to improve its competitive position in Asia relative to its US peers. While United maintains an innovative edge with service to secondary Chinese peers, American's expansion underscores Delta resting on its laurels.

The outcome of the efforts by the US Department of Justice to block American's merger with US Airways are outside of American's push into Asia will be important. If the carriers succeed in moving forward with the combination, the new Asian routes from Dallas will allow the combined carrier to improve its competitive position between the US and Asia relative to Delta and United.

But given US Airways' nonexistent presence between the US and Asia, the so-called "New" American will still be at a disadvantage with respect to Asian presence amongst US carriers.

For now American's answer to Delta and United is to leverage its fortress at DFW to funnel Asian traffic - which seems like a sound strategy given the emerging cut-throat trans-Pacific competition on the US west coast. American will also be in a favourable position to capture traffic out of Latin America heading to Asia.

If there is such a thing as a slam dunk route, Hong Kong is it for American. Indeed, the carrier's absence has been noticed for some time internally and by passengers. Dallas-Shanghai, however, will take longer to mature. While the Asian growth is overdue, it is partially understandable as it was only recently American's China network has seen positive finances. So there is now a good platform for Dallas-Shanghai while Dallas-Hong Kong is easily assured.

The only question is where American will next grow in Asia. A single Hong Kong service will be too tempting to be left by itself, but slots at the airport are quickly running out. American has a long road ahead to gain competitive parity in Asia with its US peers, but if American maintains this new-found momentum, it will significantly narrow the gap.