26-Apr-2013 8:00 AM

Competition between Indonesian market leaders Lion and Garuda to intensify as Batik Air launches

Analysis

Competition in Indonesia's dynamic domestic market will further intensify in May-2013 as market leader Lion Air launches its new full-service subsidiary, Batik Air. Batik will initially serve three domestic routes alongside budget brand Lion and operate 737-900ERs in two-class configuration. Several more domestic routes are expected to be launched by the end of 2013 with international service to follow in 2014 or 2015.

Garuda will be most impacted by Batik's launch as the flag carrier's biggest competitor becomes stronger and more diversified. All of Batik's initial routes are already served by Garuda and most are also served by Indonesia's second largest full-service carrier, Sriwijaya. Batik will also face indirect competition from Garuda budget subsidiary Citilink, AirAsia Indonesia and Tiger Airways' affiliate Mandala but the Lion Group will mainly use its powerful budget brand to compete with these rapidly expanding LCCs.

Summary

Lion Air Group, the market leader in Indonesia's domestic market, is launching a new full-service subsidiary called Batik Air in May 2013.
Batik Air will initially serve three domestic routes and operate Boeing 737-900ERs in a two-class configuration.
The launch of Batik Air will intensify competition in the domestic market, particularly for Garuda, the flag carrier of Indonesia.
Batik Air will mainly compete with other low-cost carriers such as Citilink, AirAsia Indonesia, and Mandala.
Indonesia's domestic market has been growing rapidly, but there are concerns about overcapacity and irrational competition.
Lion Air Group aims to expand its already dominant share of the domestic market with the launch of Batik Air and its other subsidiaries.

Indonesia is a large and fast-growing market, recording annual domestic growth approaching 20% over the last four years. But it is uncertain if trunk routes can support more than eight brands over the medium to long term.

Irrational competition and over-capacity is possible, both at the budget and top ends of the market. But the Lion and Garuda groups should have the firepower to overcome fare wars and successfully grow their already dominating shares of the world's fifth largest domestic market. Indonesia's smaller carriers are more vulnerable.

Lion to use Batik to expand its leading share of Indonesia's domestic market

The Lion Air Group, which already has a second Indonesian budget brand with regional carrier Wings Air and a hybrid carrier subsidiary in Malaysia with Malindo, currently accounts for almost 50% of seat capacity in Indonesia's domestic market. Garuda accounts for approximately a 30% share when including Citilink, which is relatively small but is pursuing rapid growth as part of a bid by the group to keep up with rival Lion.

Lion is highly ambitious and has the aircraft on order, some 600, to compete across all segments in the fast-growing Indonesian market as well as in other markets such as Malaysia. Most of the growth in Indonesia is at the lower end of the market, driven by the country's rapidly growing middle class.

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But there is also growth at the full-service end, which still accounts for roughly 40% of the total capacity in the domestic market including about 20% for Garuda, 10% for Sriwijaya and 10% by several smaller carriers including regional operators. In the country's biggest markets, the share of capacity from full-service carriers is even higher due to strong business demand. Garuda in its 4Q2012 results presentation stated that the Garuda brand alone captured 28% of domestic passenger traffic during 2012 at the main airports of Jakarta, Surabaya, Bali and Makassar.

Batik attempts to offer industry-leading product

Lion is confident that Batik will quickly become a major player in the full-service segment by offering an attractive product on a fleet of all-new aircraft at reasonable prices. Batik's full-service economy class product includes seatback in-flight entertainment, a leather seat with 32in pitch, meals, drinks and a 20kg luggage allowance. Business class features fixed recliner style seats with 45in pitch in two-by-two configuration and a 30kg luggage allowance.

The Batik business class product is similar to the domestic and regional international business class product offered by Garuda on its relatively new fleet of 737-800s. Garuda's business class features IFE monitors at every seat and similar recliner style seats to Batik in two-by-two configuration. But while there is a full service on short-haul flights in Garuda economy there are only common monitors in the economy cabin and no audio. Batik will try to exploit this advantage over Garuda in its initial marketing.

Garuda currently operates 55 737-800s in two class configuration with 144 economy and 12 business class seats. The carrier also still has eight 737 Classics remaining in its fleet, featuring an older product in both classes, but these will be phased out over the next year.

Sriwijaya also now offers a domestic business class product on a limited number of flights and plans to expand its offering at the top end of the market with the launch of new full-service subsidiary Nam Air, which if launched in 2H2013 as expected will provide new competition to Garuda and Batik. Sriwijaya has traditionally been considered a middle market carrier, operating aircraft in all-economy configuration and offering light snack service. But in 2012 it introduced a business class product on some routes, using its newly acquired fleet of second-hand 737-800s and additional 737-500s.

Batik to start with three routes but could eventually match Garuda's network

Batik plans to launch services on 3-May-2013 and initially operate three routes - Jakarta to Balikpapan, Pekanbaru and Manado - with three daily flights each. These are not Indonesia's largest domestic routes, which indicate Lion is looking to establish the Batik brand in medium-size markets and perhaps tweak its new multi-brand strategy before expanding Batik to larger markets.

Eventually Batik is expected to operate across Indonesia, serving all major markets. Garuda currently serves 34 domestic destinations while Lion serves 36, according to Innovata data. Batik over time will likely enter most of Garuda's markets, giving the Lion Group a product sufficient to target Garuda's premium and full-service economy passengers.

Meanwhile Citilink, in a kind of tit for tat between Indonesia's two main airline groups, is entering Lion's markets and - starting in late 2013 after it takes delivery of its first ATR 72 turboprop - markets served by Wings. Currently Wings, which operates a rapidly expanding fleet of ATR 72s, is serving markets which the Garuda Group has not been able to access because the Garuda Group has had an all-jet fleet.

Batik to become fifth airline on Jakarta-Balikpapan

Of the three initial routes from Batik, the biggest battle will take place on Jakarta to Balikpapan, the largest city on the Indonesian side of the island of Borneo. Jakarta-Balikpapan is currently the seventh largest domestic route in Indonesia based on current seat capacity. The route is already served by four carriers - Lion, Garuda, Citilink and Sriwijaya.

Lion is already the market leader, accounting for 46% of seat capacity. But on a group basis Lion and Garuda have approximately even shares as Garuda also has a 46% share, including 33% at the Garuda brand and 13% at Citilink. Sriwijaya accounts for the remaining 8% of seat capacity between Jakarta and Balikpapan.

Jakarta to Balikpapan capacity by carrier (one-way weekly seats): 19-Sep-2011 to 13-Oct-2013

After Batik's three daily flights are launched, the Lion Group will see its share of capacity on the Jakarta-Balikpapan route increase to about 51%, including 40% for Lion and 11% for Batik. The Garuda Group will see its share of the market slip to 42%.

Lion currently operates nine daily non-stop flights from Jakarta to Balikpapan. Two of these are operated with 737-900ERs in two-class configuration and seven with 737-900ERs in single-class configuration, according to the Lion/Batik online booking engine. Most of Lion's fleet is in single-class configuration although it also has several 737s with a business class cabin.

Lion has not yet indicated if it is considering changing deployment patterns for the portion of its fleet which has business class. But the carrier could potentially re-deploy these aircraft on routes which are not served by Batik. Lion could also retrofit the aircraft and offer only an economy class product, a move which could reduce confusion in the market as well as cannibalisation.

Garuda also currently operates nine daily flights in the Jakarta-Balikpapan market but offers significantly less capacity on the route as it operates smaller 737-800s in 156-seat two-class configuration. Garuda offers business class on all its domestic flights including regional routes served with its new fleet of Bombardier CRJ900s.

Sriwijaya only offers two daily frequencies on the Jakarta-Balikpapan route, using a mix of 737-300s and 737-800s. According to Sriwijaya's online booking engine, business class is available on one of the frequencies but not consistently, which makes it difficult for the carrier to compete with Garuda and now Batik for corporate passengers.

Citilink currently offers three daily frequencies on the route with A320s in single-class 180-seat configuration. The Jakarta-Balikpapan route is not yet served by Indonesia AirAsia or Mandala/Tiger but would be a potential route for both LCCs as they rapidly expand their relatively small domestic networks. The AirAsia brand already has a presence at Balikpapan, with service from Kuala Lumpur by the group's Malaysian subsidiary which Indonesia AirAsia could leverage with new domestic services.

Batavia also previously served the Jakarta-Balikpapan route, but with only one daily frequency according to Innovata data. As a result the void left in this market by Batavia's suspension of services in Jan-2013 was very small and is now being more than offset by the launch of Batik. Batavia was a middle market carrier, offering some frills and operating aircraft in single class configuration.

Garuda maintains corporate advantage but Batik could appeal to some sectors

Garuda will still have an advantage in targeting premium passengers in the Jakarta-Balikpapan market as it will have three times more frequencies than Batik and nearly twice as many flights with business class than Batik and Lion combined. Garuda also has the advantage of offering connections at Jakarta to a much larger network of international destinations than the Lion Group. Garuda is also in the process of joining SkyTeam, which will give it a large virtual long-haul network along with premium passengers from alliance partners.

But Batik will look to undercut Garuda by offering cheaper business and full-service economy fares. Its initial one-way business class fare on Jakarta-Balikpapan is IDR3.5 million (USD360) while economy fares start at IDR814,000 (USD84). Batik could particularly appeal to young entrepreneurs and smaller businesses while Garuda's corporate accounts will likely prove challenging to penetrate.

Business class fares in the Jakarta-Balikpapan market are significantly cheaper on Lion, at IDR1.985 million (USD204). But Lion business class product is not at the same level as Batik or Garuda. While meals and drinks are provided, there is no IFE and the seat pitch is at most 38in. Lion also has a fixed business class seat in 2x2 configuration (the European model of convertible business class seats has generally not been followed in Asia).

Sriwijaya business class fares are at a similar pricing level to Lion - at IDR1.988 million (USD207). Sriwijaya also has been offering attractive promotions for its business class since launching the product in May-2012, as the carrier attempts to gain traction at the top end of the market. For example, the carrier has been offering complimentary limousine rides to the airport and two-for-the-price-of-one promotions.

Garuda's one-way business class fares on the Jakarta-Balikpapan route start at IDR5.025 million (USD517). While that seems like a high price for a two-hour flight, Garuda may not be compelled to lower its fares to match Batik, believing the approximately 30% premium it charges can be sustained given most of its premium passengers are not price sensitive. A larger number of its Balikpapan passengers would also be connecting in Jakarta to international destinations throughout Asia and beyond.

Economy fares between Jakarta and Balikpapan on Lion start at 440,000 (USD45) but on some flights Lion economy tickets can be more than the IDR814,000 (USD84) fare from Batik. Garuda's economy class product is priced much higher for now, with one-way fares between Jakarta and Balikpapan starting IDR1.56 million.

Sriwijaya's one-way economy class fare on the route starts at only IDR577,000 (USD59). Sriwijaya and other so-called middle market carriers such as Batavia have typically competed with Lion and other LCCs on price, a dangerous and unsustainable strategy that contributed to Batavia's demise.

Garuda's strength at the top end of the market, where it has a loyal following among corporate passengers and wealthy Indonesians, has historically given it the ability to charge a significant premium even in economy. Lion and more recently Sriwijaya have tried to woo some of these passengers by offering affordable business class fares which are only slightly higher than Garuda economy. But the business class strategy at Lion has proven largely unsuccessful, leading Lion to reduce the portion of its fleet that has two cabins and launch Batik. Sriwijaya has similarly decided to launch a full-service subsidiary although strangely that decision was made just a couple of months after its business class product was introduced on some flights.

Citilink one-way fares on the Jakarta-Balikpapan route start at IDR455,000 (USD47). Citilink offers a similar product (and fares) to Lion, including a 20kg checked baggage allowance. Indonesia AirAsia and Mandala are the only pure LCCs in Indonesia and the only carriers that have fully embraced ancillaries. But neither serve the Jakarta-Balikpapan route - for now.

Batik sells Batik and Lion flights on its website, giving economy and business class passengers the option of travelling on Batik one-way and Lion the other way. But some of Lion's cheapest fares seem to be only available on the Lion website.

Sample Lion Group fares on Jakarta-Balikpapan for 6-May-2013

Batik for now stays away from Indonesia's four mega domestic routes

While currently the seventh largest domestic route in Indonesia, the capacity being added as a result of Batik's entry will make Jakarta-Balikpapan the fifth largest, surpassing Jakarta-Palembang and Jakarta-Yogyakarta. The four biggest routes in the Indonesia domestic market are Jakarta to Surabaya, Bali, Medan and Makassar. These four routes all have between almost 100,000 to 130,000 weekly seats, making all four among the top 15 domestic routes in the world.

These four main routes are logical new routes for Batik as it expands its fleet to an expected six 737-900ERs by the end of 2013. But they are also intensely competitive as they are all served by five to seven carriers.

Lion, Garuda, Citilink, Sriwijaya, Indonesia AirAsia, Mandala and government-owned regional carrier Merpati all currently serve Jakarta-Surabaya while six of these carriers serve Jakarta-Bali and Jakarta-Makassar (Mandala being the exception in both cases). Jakarta-Medan is served by five carriers (Indonesia AirAsia and Merpati being the exception).

Lion is the market leader in all these routes, with capacity shares ranging from 40% to 57%, according to CAPA and Innovata data. These are Lion's four largest routes, served with between 196 and 287 weekly return frequencies (the equivalent of 14 to 20.5 daily flights). Of Batik's initial three routes only Jakarta-Balikpapan is among Lion's 10 largest, with 126 weekly return frequencies (the equivalent of nine daily flights).

Lion top 10 routes ranked on frequencies: 22-Apr-2013 to 28-Apr-2013

The Lion Group may look to hone its strategy with Batik on medium size markets such as Balikpapan, Pekanbaru and Manado before releasing Batik on Indonesia's biggest routes. The group should in particular think carefully about its pricing strategy for the mega routes in order to minimize the impact on Lion's economy class product given the huge number of economy class seats that Lion has in the Jakarta to Surabaya, Bali, Medan and Makassar markets. The Lion Group will need to make sure it targets Garuda and Sriwijaya passengers when Batik does launch in these markets.

Batik to compete with Garuda, Sriwijaya and Mandala in Jakarta-Pekanbaru market

Jakarta-Pekanbaru is currently the 13th largest domestic route in Indonesia based on current seat capacity data. It is presently only served by four carriers - Lion, Garuda, Sriwijaya and Mandala.

Citilink in Mar-2013 launched service to Pekanbaru, which is located on the island of Sumatra in the far western portion of Indonesia. But it is currently only serving the city from Batam with one daily flight. Service from other destinations including Jakarta is likely as Citilink continues to connect the dots in its rapidly expanding domestic network.

Lion already has a leading 55% share of seat capacity on the Jakarta-Pekanbaru route compared to 34% for Garuda, 7% for Mandala and 5% for Sriwijaya. Garuda operates six daily flights on the route while Mandala and Sriwijaya each only offer one daily frequency, according to Innovata data.

The launch of three daily flights from Batik will drive up the Lion Group's share of capacity in the Jakarta-Pekanbaru market to 62%, including 46% for the Lion brand and 16% for Batik. Garuda will see its share drop to about 29% although it will likely look to grow its group share in the market by launching Citilink service.

Jakarta to Pekanbaru capacity by carrier (one-way weekly seats): 19-Sep-2011 to 13-Oct-2013

The Lion Group proposition on the Pekanbaru route is different from Balikpapan and Manado as Lion currently doesn't offer a business class product in the market. Lion currently has seven daily non-stop flights on the route, all of which are operated using 737-900ER aircraft in 213-seat single-class configuration, according to the Lion/Batik Internet booking engine.

One-way business class fares from Batik start at IDR2.2 million (USD227) while Garuda business fares at the route start at IDR2.968 million (USD306). As is the case with Balikpapan, Batik is offering economy fares which are only marginally higher than budget Lion. But Batik's fares should inch up after the airline launches and its brand starts to gain traction, creating a bigger differential between Lion and thereby minimising cannibalisation.

Sample Lion Group fares on Jakarta-Pekanbaru for 8-May-2013

Manado gives Batik a smaller niche market

Jakarta to Manado, located in the central Indonesian island of Sulawesi, is a much smaller route that is currently only served by Lion and Garuda. Lion already has a 73% share of capacity on the route as it has four daily frequencies with larger aircraft than Garuda's two daily frequencies. Batavia previously was the third carrier in the Jakarta-Manado market but with only one daily flight.

Jakarta to Manado capacity by carrier (one-way weekly seats): 19-Sep-2011 to 13-Oct-2013

According to Lion's website, Lion currently offers business class on all four of its non-stop frequencies between Jakarta and Manado. As in the case with Jakarta-Balikpapan, business class fares on Lion are cheaper than Batik. Economy class fares on Lion are cheaper than Batik but again not significantly given the much higher level of service from Batik.

Sample Lion Group fares on Manado-Jakarta for 11-May-2013

Jakarta-Manado is the 31st largest domestic route in Indonesia based on current seat capacity data, according to CAPA and Innovata. The entry of Batik will increase total capacity by a significant 44%. After Batik's launch, Batik will capture about a 31% share of capacity on the route while Lion will capture about 50%, giving the Lion Group a commanding 81% share and leaving Garuda with just a 19% share.

While it is a relatively small market, Manado is a popular upmarket leisure destination as it has some of the best dive sites in Indonesia. The market will likely attract more carriers from both the budget and top end.

Indonesia AirAsia launched service to Manado in Mar-2013. The LCC currently serves Manado from Makassar with one daily flight. A Jakarta flight to Manado is a potential new route as AirAsia focuses on domestic expansion in Indonesia, looking to close the huge gap with Lion.

Lion has not yet indicated which additional routes could be launched by Batik, which recently secured its air operator certificate, as part of a second phase. But Jakarta-Ambon is listed along with Jakarta to Makassar, Manado and Pekanbaru on the drop down menu for Batik routes on the Batik website. But Batik has not yet begun tickets sales to Ambon as it has for the other three destinations and for now is only listing Lion-operated flights to Ambon.

Jakarta-Ambon is a very small route and is currently only served non-stop by Lion Air. Lion currently only offers one daily non-stop frequency on the route with a second one-stop frequency.

As a result Ambon seems an unlikely candidate for Batik service. But Lion could use Batik in such small monopoly markets if the carrier has noticed a strong demand for premium services.

Questions remain unanswered as Lion Group has several options while Batik expands

While it is clear Lion is targeting Garuda and aiming to complete its product offering by launching a full-service brand, there are still a lot of uncertainties when it comes to Batik's network strategy and product positioning. Lion has indicated Batik will be the brand used for international expansion, including medium and long-haul flights with the five 787s the group ordered in 2012. But Lion is a flexible company and could ultimately decide to put the 787s at Lion, which currently operates a small fleet of under-utilised 747s on seasonal routes to the Middle East, or at Malindo, which also has plans for widebody services.

It also remains unclear how all the brands in Lion's rapidly expanding portfolio will work with each other. The group has talked up the prospect of offering connection between Lion and Malindo, which launched services in Mar-2013 on two domestic trunk routes and aims to begin international operations in Jun-2013 with service to Delhi. Lion serves Malindo's Kuala Lumpur base and the group is particularly keen on tapping the large and fast-growing Indonesia-India market with a one-stop product, which is currently not served non-stop by any carrier.

But while Malindo was launched as a low-cost carrier, its product is identical to the Batik product in both economy and business class. The 737-900ERs being delivered to Batik and Malindo feature the same seats and IFE systems while the additional 737-900ERs being delivered in Lion livery are configured with 213-seats in single-class configuration without any IFE.

Malindo operates its 737-900ERs in 180-seat configuration, including 168 economy and 12 business class seats. Batik's 737-900ERs are reportedly in 172-seat configuration, including 160 economy and 12 business class seats. But Batik and Malindo are marketed as having the exact same seat pitch in both classes, which throws into question why Batik would have slightly fewer seats in economy.

Lion's achievement dictates high likelihood of success for Batik

Lion is an enigmatic privately-owned company and is known to sometimes provide media with inaccurate information, which could explain the discrepancy in the seat counts at Batik and Malindo. The fact it labels Malindo as an LCC but Batik as a full-service carrier despite identical products makes it even harder to decipher the group's strategy, which is already unusual in that it is very rare for an LCC to launch a full-service subsidiary.

Lion could face several challenges as it tries to juggle its two new brands as well as its two existing brands - Lion and Wings, which also partially overlap as Wings operates some Boeing 737s along with turboprops. How to marry its more basic budget product at Lion with Malindo's more premium-focused product in such markets as Jakarta-Kuala Lumpur-Delhi is one of many questions which will need to be answered. Connecting Malindo with Batik would be more seamless but Batik is much smaller, limiting the number of potential network synergies with Malindo, and at least for now is not serving Malaysia.

Lion is not shy to experiment with unusual strategies and go against the grain of common industry thought. Indonesia is a unique market that requires local adaptation to succeed. The success of Lion has proven it understands the Indonesian market better than most of its competitors. Given Lion's track record of remarkable success over the last decade it is a safe bet to assume Batik will be another success, much to the chagrin of Garuda and other rivals.