18-Apr-2013 9:00 AM

Australia needs to negotiate expanded bilateral agreements with Malaysia and the Philippines

Analysis

This is the second of a series of articles on Australia's need to urgently negotiate expanded bilateral agreements. The first part looked at bilateral constraints in some key North Asian markets, in particular mainland China and Hong Kong, as well as with the United Arab Emirates. This part looks at constraints in Australia currently facing carriers from Southeast Asia, particularly Malaysia and the Philippines.

Australia is an important and generally profitable market for airlines from Malaysia and the Philippines, as well as other Southeast Asian countries that have fewer or no limitations on expansion. Australia needs to negotiate new air service agreements with Malaysia and the Philippines or risk having their airlines focus expansion on other destinations.

Southeast Asia is a strategically important region for Australia, accounting for about 300,000 weekly return seats. It currently accounts for 37% of total international capacity to and from Australia, more than any other region.

Australia international capacity share (% of seats) by region: 15-Apr-2013 to 21-Apr-2013

Malaysian airlines have no room for further expansion at Australia's four main cities

The Australia-ASEAN market facing the biggest constraint is Australia-Malaysia. Malaysia Airlines (MAS) and AirAsia X are eager to expand in Australia but face frustrating limitations which inhibit further expansion to Australia's four major cities.

Malaysia is the second biggest Southeast Asian market for Australia after Singapore, whose carriers enjoy unlimited access to Australian destinations. Malaysia is the sixth largest international market overall for Australia and the largest market not served by an Australian carrier, which provides somewhat of a disincentive for the Australian side to negotiate a new bilateral. But more service from Malaysian carriers would have a positive economic impact, particularly for Australia's tourism sector.

Australia's top 10 international destinations ranked by departure seats: 15-Apr-2013 to 21-Apr-2013

There are currently about 28,000 weekly one-way seats between Malaysia and Australia. This increases to about 32,000 during the peak season, including December and early January and again in the northern hemisphere summer.

All these seats are provided by Malaysian carriers except for Emirates, which provides about 2,600 weekly seats as part of its daily Melbourne-Kuala Lumpur service. These seats, as well as the approximately 2,000 weekly seats to Adelaide from MAS and approximately 1,900 weekly seats to the Gold Coast from AirAsia X, are not counted under the cap set by the Australia-Malaysia air services agreement.

Australia to Malaysia capacity by carrier (seats per week, one-way): 19-Sep-2011 to 6-Oct-2013

Malaysian carriers are currently capped at 26,600 one-way seats to Australia's four main points - Sydney, Melbourne, Brisbane and Perth. This allocation is essentially fully utilised with MAS now offering about 13,000 weekly seats to all four of these destinations and AirAsia X planning to also provide about 13,000 seats this summer to three of these destinations. (AirAsia X does not serve Brisbane as it serves nearby Gold Coast, where there are no capacity limitations.)

Bilateral restrictions dissuades MAS from deploying A380 to Australia

The failure of Malaysian authorities to expand their bilateral agreement with Australia has prevented MAS from operating its new A380 fleet to Australia. The carrier initially planned to use its A380 to service Australia along with London. But it adjusted these plans in 2012 after Malaysian authorities were unable to persuade Australia to increase the allotment for Malaysian carriers. MAS is instead now using its A380 fleet for both its London flights and Paris.

Without an increased allocation, MAS would need to reduce frequency in order to fly in the A380 while staying under its allotment. But the carrier prefers to retain a double daily offering to both Melbourne and Sydney. MAS currently uses A330-300s on all four of these flights, according to Innovata data.

The double daily frequency is needed to maintain connections with the carrier's Asian and European networks. While Australia-Malaysia is a large point-to-point market, MAS and AirAsia both rely heavily on connections.

The current bilateral is outdated as it was last extended in 2008, enabling the launch of AirAsia X services to Australia's main cities. AirAsia X, which launched services in 2007, selected Gold Coast as its very first route as there were no restrictions on Malaysian carriers serving the Gold Coast. AirAsia X was able to add services to Melbourne and Perth in 2008 and finally Sydney in 2012. The hold-up with Sydney was a Malaysian Government issue, which for years refrained from giving AirAsia X access to the route as it sought to protect MAS. But further capacity expansion by AirAsia X as well as MAS to Australia's four main cities is now held up by bilateral constraints.

AirAsia X is limited to launching Adelaide and growing at Gold Coast

AirAsia X continues to focus on Australia, which to date has been the carrier's most profitable market, as it rapidly increases its fleet. But the carrier will be unable to expand much beyond its upcoming northern hemisphere summer schedule, which includes 12 weekly flights to Melbourne, 11 to Sydney and seven to Perth. (Kuala Lumpur-Perth is being reduced from a current nine weekly flights, while Melbourne and Sydney are being increased from seven weekly flights.)

AirAsia X is now looking at expanding in Gold Coast, which it currently serves with five weekly flights, and launching service to Adelaide, which also falls outside the bilateral. The carrier has the capacity and is keen to significantly expand its Australia operation as it grows its fleet from nine A330s currently to 16 by the end of 2013 and 23 by the end of 2014. Ideally it would add capacity to Sydney, Melbourne and Perth as well as launch new routes from Malaysia and Thailand, where it is working towards establishing a second base and affiliate with Australia a key target market.

But constraints in the Kuala Lumpur-Sydney/Melbourne/Perth market could force AirAsia X to focus expansion on other Australian routes or outside Australia entirely. The airports and economies of Sydney, Melbourne and Perth would be adversely impacted.

The introduction and rapid expansion of low-cost services in the Australia-Malaysia market has stimulated demand and significantly grown the market, to the benefit of Australia's tourism sector. Australia should recognise the value of additional flights and accept requests from Malaysian authorities to extend the bilateral.

Qantas and Jetstar Airways unlikely to serve Malaysia

Qantas, Jetstar Airways and Virgin Australia are unlikely to launch services from Australia to Malaysia, making it even more important for Malaysian carriers to have improved access to the Australian market. Qantas would have likely supported a potential expanded bilateral with Malaysia if it had agreed with MAS to set up a new joint venture carrier.

The new carrier, which came under the proposed project Orca, would have served the Australia-Malaysia market as well as regional services within Asia using A330s. As the new carrier would have been Malaysia-based a new bilateral would have been critical in order to secure the traffic rights needed to enter the Australia-Malaysia market.

But negotiations over the proposed joint venture broke off in Mar-2012, souring the relationship between Qantas and MAS even as Qantas sponsored MAS' entry into oneworld. This relationship further soured as Qantas instead forged a partnership with Emirates, one of MAS' biggest competitors.

Qantas now codeshares with Emirates on Emirates' Melbourne-Kuala Lumpur service. As a result the current freeze on additional flights to Australia's four main cities benefits Qantas and its partner Emirates. While Qantas would no longer benefit from an expanded bilateral with Malaysia, Australian authorities should recognize the overall benefits to Australia that would come from increased services from both MAS and AirAsia X.

Australia-Philippines market expands as PAL adds Darwin, Perth and Brisbane

The Philippines is a much smaller but equally important growth market for Australia. Currently there are about 4,500 weekly one-way seats in the market, which will grow to about 5,600 seats in Jul-2013. This includes about 3,700 seats from Philippine Airlines (PAL), 1,200 seats from Qantas and 700 from Jetstar.

Australia to Philippines capacity by carrier (seats per week, one-way): 19-Sep-2011 to 6-Oct-2013

The current Australia-Philippines air service agreement allows up to 5,000 one-way seats for carriers from each country. Only Manila and Manila alternative airport Clark are covered under the bilateral. Other Philippine cities can be served from Australia with no limitations. But Manila is the only viable market from Australia.

Currently PAL and Qantas both serve the Sydney-Manila route, with PAL operating four weekly frequencies using 777-300ERs and Qantas operating three weekly flights using A330-300s. PAL is the only carrier in the Melbourne-Manila market, operating three weekly 777-300ER frequencies. Jetstar currently operates three weekly A320 flights between Darwin and Manila, a route which PAL will launch in 1-Jun-2013 with one daily frequency using A320 aircraft.

The new PAL flights to Darwin will continue onto Brisbane four times per week and Perth three times per week, giving PAL an Australian network of five cities. These flights count against the current cap as unlike with other Australian bilateral agreements, the Australia-Philippines agreement does not have stipulation allowing unlimited services to regional destinations such as Darwin including those that continue to Australia's four major cities.

Cebu Pacific ready to enter Australia but bilateral restrictions need to be lifted

While there is still some additional space for Philippine carriers under the existing bilateral, there is not enough to support a new daily widebody service. Philippine LCC Cebu Pacific has expressed interest in serving Australia but has said it will only enter the market if it can secure traffic rights to support a daily service with its new fleet of A330 widebodies.

Under the current bilateral there is only enough extra capacity to support daily service with A320s. Cebu Pacific previously looked at using its fleet of 180-seat A320s to serve Sydney via Darwin. But it decided against the route, concluding a one-stop was not consistent with its LCC model. It also determined there was not sufficient demand to support Darwin services by itself - a similar conclusion made by PAL as it has decided to serve Darwin coupled with Perth and Brisbane.

Cebu Pacific's decision in 2012 to establish a low-cost long-haul division with A330s changed the situation, opening up the possibility of non-stop Sydney services. Cebu Pacific is launching A330 services in mid 2013 and has decided to allocate its initial fleet of two aircraft to three routes - Manila to Dubai, Seoul and Singapore. But the carrier is keen to use some of the additional capacity that will come in early 2014 as it takes two more A330s for the Australian market as well as more routes to the Middle East.

If an expanded bilateral between Australia and the Philippines can be negotiated, Cebu Pacific will likely launch service to Sydney in 2013 using its 436-seat A330-300s. A separate service to Melbourne is also possible.

Bilateral talks between Australia and the Philippines are scheduled by the end of Apr-2013. Australia should recognise the economic value of attracting service from Cebu Pacific. The LCC will stimulate significant demand in both the inbound and outbound markets and Sydney would become the only country to have service from all four of Asia's low-cost long-haul carriers - AirAsia X, Cebu Pacific, Jetstar and Scoot - a noteworthy achievement for Australia's largest airport.

Australia-Philippines is an important market serving primarily the Filipino community living in Australia. There are currently over 300,000 Filipinos residing in Australia, a market Cebu Pacific will target as its low fares will stimulate more frequent trips home.

The Philippines also has potential as growing holiday destination for Australians while Australia's tourism sector could benefit from additional services from Manila. In addition to attracting more Filipino holidaymakers, Manila offers convenient connections to North Asia, an important and fast growing source market for Australia's tourism sector.

Vietnam could also use expansion but Malaysia and Philippines is most pressing

Australia is also currently linked to five other Southeast Asian markets - Brunei, Indonesia, Singapore, Thailand, and Vietnam. But Malaysia and the Philippines have the most pressing needs for new bilateral agreements.

Services between Australia's four major cities and Vietnam are currently capped at 24 weekly flights, irrespective of gauge, for carriers from each country. There could eventually be a need for additional flights as Vietnam Airlines and demand in the Australia-Vietnam market continues to expand. But for now Vietnam Airlines has space to add frequencies to its two existing Australian destinations, Melbourne and Sydney, each of which are served daily, or add service to Brisbane or Perth. Service between Vietnam and other Australian airports has no limitations.

Currently there is no Australian carrier service to Vietnam as Jetstar Airways dropped its service to Ho Chi Minh in 2012, which it served with four weekly flights from Darwin. Jetstar however could potentially resume service to Ho Chi Minh from Darwin, Sydney or Melbourne (all of which have Vietnamese communities) as part of an attempt to boost connections with Vietnamese sister carrier Jetstar Pacific. Jetstar Pacific currently only operates domestic service but is preparing to launch regional international services within the next year.

Brunei has a similar cap, with up to 27 weekly flights allowed from Australia's four major cities. But Royal Brunei Airlines (RBA) significantly reduced its Australia operation in 2011 as part of a restructuring of its long-haul network, making an expanded bilateral completely unnecessary. RBA currently operates a daily flight to Melbourne and has no intentions of resuming service to Brisbane, Darwin, Perth or Sydney.

The much larger Indonesia, Singapore and Thailand markets also currently have plenty of space for expansion. There are no restrictions in the Australia-Singapore market while a liberal agreement is also in place for Indonesia and Thailand.

SIA is the market leader as it benefits from liberal Australia-Singapore bilateral

Singapore Airlines (SIA) is the largest carrier in the overall Australia-Southeast Asia market, exploiting the unrestricted access Singapore-based carriers have in the Australian market. SIA currently accounts for 23% of seat capacity between Australia and Southeast Asia, giving it a very strong position in the large and fast growing local Australia-Southeast Asia market as well as in connecting Australia with Europe and South Asia.

In Jul-2013, SIA will offer 36,600 one-way seats to Australia, an increase of about 14% compared to Jul-2012. Qantas meanwhile has seen its share of the Australia-Southeast Asia market drop from 13% one month ago to about 9% currently as a result of it moving the stop of its London services on 31-Mar-2013 from Singapore to Dubai. But this drop in market share is misleading as the total number of seats it has for the local Australia-Southeast Asia market has increased as previously about half of its traffic to Singapore were continuing onto Europe.

Australia to Southeast Asia capacity by carrier (seats per week, one-way): 19-Sep-2011 to 6-Oct-2013

MAS is now the second largest carrier in the Australia-Southeast market with a 10% share of seat capacity. But the carrier is currently unable to expand to Australia and keep up with rival SIA because Malaysia does not enjoy the liberal air service agreement with Australia that Singapore has. A new bilateral is crucial for MAS if the carrier is to further strengthen its position in Australia and improve its overall outlook under its new business plan, which focuses on connecting services particularly within Asia-Pacific.

Australia-Southeast Asia LCC penetration rate could exceed 30%

AirAsia X currently has a 7% share of seat capacity between Australia and Southeast Asia, which will reach over 8% in Jul-2013, making it the fifth largest carrier in the market after SIA, MAS, Qantas and Thai Airways. AirAsia X's slice of the market should grow further as it enters the Australia-Thailand market and launches services on the Adelaide-Kuala Lumpur route. But even faster growth will be achieved if Australia forges a new bilateral with Malaysia, opening up expansion on the Kuala Lumpur to Melbourne, Sydney and Perth routes.

There is huge potential for Asia's emerging low-cost medium/long-haul sector to stimulate rapid growth in the Australia-Southeast Asia market. LCCs currently account for about 24% of capacity in the market, with over 17% from widebody LCC operations. As Asia's three existing low-cost long-haul LCCs continue to expand in Australia and as Cebu Pacific enters, the LCC penetration rate of the Australia-Southeast Asia market could easily exceed 30%.

But it is always critical for LCCs to have unfettered access. Australia needs to recognise the value of this segment as well as the value of more foreign full-service carrier services and pursue more liberal bilaterals across Southeast Asia, particularly with Malaysia and the Philippines.

An even better option for Australia would be to pursue a single deal with ASEAN, potentially joining other important key Southeast Asian partners such as China in the ASEAN open skies accord and leading to a liberal air services regime across Asia-Pacific.