16-Jun-2015 7:00 AM

Garuda resumes international expansion with 787-9s, A350s, 2-class 777-300ERs, single-class A330s

Analysis

Indonesian flag airline Garuda Indonesia is resuming international expansion as it takes its last batch of four 777-300ERs and acquires 30 787-9s along with 30 A350s. The expansion comes as Garuda's outlook improves after a challenging 2014, which led to a restructuring of its international network and a hiatus from international growth.

The additional 777-300ERs will support international capacity growth in the near-term, including more capacity to Saudi Arabia in 2H2015 and new services to Frankfurt and Paris in 2016. The 787-9s and A350s will partially be used to replace Garuda's fleet of A330s from 2020 but will also enable further growth of the carrier's medium and long-haul networks.

Meanwhile Garuda is adjusting its widebody fleet plan by opting not to include a first class cabin in its additional 777s, although at least for now it will maintain a first class product in its original fleet of six 777-300ERs. Garuda also plans to remove the business class cabin on six A330s, giving it an all-economy product similar to the A330s operated by low-cost rivals Indonesia AirAsia X and Lion Air.

Summary

Garuda Indonesia is resuming international expansion after a challenging 2014, with plans to acquire 30 787-9s and 30 A350s.
The additional 777-300ERs will support international capacity growth in the near-term, including more capacity to Saudi Arabia in 2H2015 and new services to Frankfurt and Paris in 2016.
Garuda is adjusting its widebody fleet plan by opting not to include a first class cabin in its additional 777s, although it will maintain a first class product in its original fleet of six 777-300ERs.
Garuda has 28 widebodies and 77 commitments following Paris Air Show LOIs.
Garuda is confident in the long-term prospects of the Indonesian international market and is well positioned to benefit from the anticipated international growth.
Garuda plans to use the 787-9s to replace A330s on medium-haul routes and the A350 on medium and long-haul routes, including potential new routes to Europe and the US.

Garuda has 28 widebodies and 77 commitments following Paris Air Show LOIs

Garuda's widebody fleet currently consists of 28 aircraft including 11 A330-200s, 11 A330-300s and six 777-300ERs. Garuda currently has four more 777-300ERs on order along with 13 more A330-300s, according to the CAPA Fleet Database. All 17 of these aircraft are expected to be delivered by the end of 2017, including three 777-300ERs and two A330-300s in 2H2015.

The group announced at the Paris Air Show on 15-Jun-2015 that it intends to acquire 30 787-9s for delivery from 2020 along with 30 A350. A variant of the A350 and an initial delivery date were not disclosed. The new deal with Boeing also includes 30 additional 737 MAX 8s, which lifts Garuda's 737 MAX 8 commitments to 80 when including the 50 aircraft it ordered in 2014.

The group now has commitments for 77 new widebody aircraft, an eye-popping figure given the relatively small size of its current widebody fleet and the fact Garuda has traditionally been mainly a narrowbody operator. But Garuda has long held aspirations to grow its widebody fleet and is confident there will be ample opportunities in the Indonesian medium and long-haul markets.

Garuda Indonesia Group fleet summary: as of 15-Jun-2015

Aircraft	In Service	In Storage	On Order*
Total:	171	9	219
Airbus A320-200	35	0	10
Airbus A320-200neo	0	0	35
Airbus A330-200	11	0	0
Airbus A330-300	6	0	0
Airbus A330-300E	5	0	13
Airbus A350-XWB	0	0	30
ATR 72-600	8	1	17
Boeing 737-300	1	5	0
Boeing 737-500	4	1	0
Boeing 737-8	0	0	80
Boeing 737-800	80	0	0
Boeing 747-400	0	2	0
Boeing 777-300ER	6	0	4
Boeing 787-9	0	0	30
Bombardier CRJ1000NG	15	0	0

Garuda revisits plans for international expansion and new widebody fleet

But committing to 60 new widebody aircraft at once, and deciding to order both the A350 and 787, is somewhat surprising. The commitments come only about one year after Garuda decided to delay international expansion in response to challenging market conditions and overcapacity, which significantly impacted the carrier's yields, load factor and profitability in 2014.

As CAPA previously outlined, plans for new long-haul routes to Europe were deferred in 1H2014 while Taipei was dropped and London was launched as a one-stop service via Amsterdam instead of as a non-stop as originally intended. In early 2015 Garuda continued to restructure its international operation by cutting capacity to Australia (including suspending services to Brisbane) and Japan while dropping plans to launch Nagoya.

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Garuda also initially postponed an evaluation of A350s and 787s for a new-generation widebody aircraft requirement. Garuda began evaluating the A350 and 787 in 2013 and initially planned to place orders in 1H2014. The new widebody type was always seen as an important component of a 10-year fleet plan that initially was prepared in 2013 and envisioned a total fleet of 350 to 400 aircraft by 2024.

Garuda decided to resume international expansion following the successful restructuring and turnaround of its international operation. Garuda was back in the black in 1Q2015, posting a net profit of USD12 million compared to an alarming USD166 million loss in 1Q2014.

Garuda financial highlights: 1Q2015 vs 1Q2014

International ASKs were up by only 1% in 1Q2015 but international RPKs grew by 19%. As a result Garuda's average international load factor improved by 11.2ppts from a dismal 63.6% in 1Q2014 to 74.8% in 1Q2015.

Garuda also recorded a 10ppts improvement in international load factor in Apr-2015 as 10% RPK growth outstripped a 6% decline in ASKs. Garuda's international load factor is still below 2013 levels, before Garuda began pursuing ambitious international expansion. But it has been above the 70% mark eight out of the last nine months, a major improvement after it was below 70% for 11 consecutive months.

Garuda international monthly load factor: Jan-2008 to Apr-2015

Garuda began reducing international capacity in mid-2014. Garuda international ASKs were up 14% in 2013 and 15% in 1H2014. But ASKs were up by less than 7% in 2H2015, leading to a reduction in losses after a dismal 1H2014.

Garuda international monthly ASKs: Jan-2008 to Apr-2015

Garuda is well placed to benefit as Indonesia's still small international market grows

The decision to order 30 787s and 30 A350s indicates Garuda remains confident in the long-term prospects of the Indonesian international market. Indonesia has seen rapid domestic growth over the last several years and most of Garuda's growth has been in the domestic market during this period.

Garuda remains primarily a domestic carrier. So far this year more than 86% of the group's passengers have been domestic. Even on an ASK basis, only 43% of the group's capacity is allocated to the international market.

As the economy and income levels continue to grow, Indonesia is expected to start experiencing more growth in the international market. Garuda is well positioned to benefit from the anticipated international growth as it is the only Indonesian carrier with a long-haul operation. It is also the only Indonesian full-service carrier with widebody aircraft and is the only Indonesian carrier that is a member of a global alliance, having joined SkyTeam in early 2014.

787s and A350s will replace Garuda's A330s and possibly 777s

For several years new generation widebody aircraft have been in the long-term Garuda business plan. But the acquisition of A350s and/or 787s was delayed multiple times. As a result Garuda lost out on the opportunity for early delivery slots and will be one of the last Asian flag carriers to operate new generation widebody aircraft.

But Garuda can afford to wait as none of its Indonesian competitors have yet to commit to 787s or A350s. Lion cancelled its 787 order in 2014 and is instead acquiring three A330s, which it plans to operate in single-class configuration from late 2015.

Lion currently operates 747-400s, a type Garuda is also now in the process of phasing out. The only other Indonesia carrier with widebody aircraft is start-up Indonesia AirAsia X, which currently operates A330-300s in single-class configuration and is expected to eventually renew its fleet with A330-300neos.

Garuda is expected to mainly use the 787-9s to replace A330s on medium-haul routes. Garuda's current A330 fleet is more than seven years old, making it the oldest of the group's seven aircraft types.

Garuda Indonesia Group average aircraft age by fleet type: as of 15-Jun-2015

While five of Garuda's 11 A330-300s are less than two years old, its other six A330-300s are each more than 11 years old, according to the CAPA Fleet Database. Its 11 A330-200s are between two and six years old but as they are mainly leased there should be opportunities to return the remaining A330-200s as the 787s (and A350s) are delivered. Garuda is already planning to return two of its A330-200s in 2H2015 as two new A330-300s are delivered.

Garuda is expected to use the A350 on medium and long-haul routes, including potential new routes to Europe and the US. The A350 (or perhaps the 787-9) could also potentially take over existing routes to Europe which are being initially operated with 777-300ERs.

In 2014 Garuda began using the 777-300ER to operate non-stops to Amsterdam, replacing an A330-200 service which served Amsterdam via Abu Dhabi. Garuda also began serving London Gatwick via Amsterdam in 2014 after delaying and cancelling plans for a non-stop to Gatwick which initially was slated to launch in late 2013.

Garuda has been underutilising its 777 fleet

Garuda currently operates a fleet of six 777-300ERs in 314-seat three-class configuration including eight first, 38 lie-flat business and 268 economy seats. These are the only aircraft in the Garuda fleet with a first class product.

In addition to Amsterdam and London, Garuda currently uses the 777-300ER on the double daily Jakarta-Jeddah route, daily flights between Bali and Tokyo Narita and on some domestic flights between Jakarta and Bali. Garuda previously tried using the 777 on more North Asia routes but discovered the aircraft was too large for virtually all of its markets.

Garuda also had planned to deploy the 777 on Jakarta-Sydney from late 2013. But it decided to stick with the A330 after dropping plans for Jakarta-London non-stops as it recognised the 777 was too large for the Sydney market unless it could rely heavily on sixth freedom kangaroo route traffic.

Garuda has since cut capacity to Australia and Japan. Garuda now serves the Tokyo market with two daily flights compared to four at the beginning of 2015.

Garuda has no plans to add back capacity in Japan as it sees the current level as sufficient. Garuda currently operates four Japanese routes - Jakarta to Tokyo Haneda and Osaka and Bali to Tokyo Narita and Osaka - as it dropped Jakarta-Narita and Bali-Haneda in early 2015. Codeshare partner All Nippon Airways also offers daily flights from Jakarta to both Haneda and Narita.

Underutilisation of the 777s, which were initially acquired for Europe, has been an issue since the first four aircraft were delivered in 2013. Another two aircraft were delivered in 2014.

Garuda has been unable to reduce the size of its 777 fleet

Garuda looked at potential options in late 2014 and early 2015 for sub-leasing or selling some of its 777-300ERs. This would have been a sensible option and could have enabled Garuda to wait for 787s/A350s before resuming long-haul expansion.

The smaller and more efficient A350 and/or 787 could ultimately be a better fit for European routes than the 777-300ER. But subleasing or reducing the 777-300ER commitments was not feasible. Garuda has instead decided to make an adjustment by taking the last four aircraft in two-class configuration.

Garuda CEO Arif Wibowo told CAPA at the 9-Jun-2015 IATA AGM in Miami the new two-class 777-300ERs will initially be used on the twice daily Jakarta-Jeddah service. Both these flights are now operated with 777-300ERs in the original three-class configuration, which will eventually be redeployed to expand in the European market.

Garuda is now ready to launch Frankfurt and Paris

Mr Arif said Garuda now plans to launch services to Frankfurt and Paris in early 2016. Garuda is also considering upgrading its London service to non-stop in 2016 and moving to Heathrow. Garuda has been talking to SkyTeam partner Air France-KLM about potentially using some of its Heathrow slots.

Garuda currently operates five weekly 777-300ER flights on the Jakarta-Amsterdam-London Gatwick route. But the airline recently announced it will reduce Jakarta-Amsterdam-London Gatwick to three weekly flights from 22-Jul-2015 while adding three weekly flights on a Jakarta-Singapore-Amsterdam-Jakarta routing.

Garuda has stated that the stop in Singapore on the westbound sector became necessary because of runway pavement issues in Jakarta, where the airport operator is limiting the number of take-offs at full payload until the runway can be upgraded. Garuda expects the runway to be upgraded by the end of 2015, enabling it to operate more non-stops to Amsterdam as well as launch new non-stop flights to Frankfurt and Paris. Garuda is keen to eventually serve Amsterdam daily and London with at least four weekly flights, preferably non-stop.

Frankfurt and Paris along with non-stops to London have always been part of the Garuda's long-term network plan. Frankfurt and Paris were initially planned for 2014 as the 777 fleet expanded to six aircraft. Garuda wisely delayed Frankfurt and Paris, as well as services to Italy (Milan and Rome were both under evaluation) after it recognised conditions for launching new long-haul routes were far from ideal.

Garuda faces an uphill battle as its European network expansion resumes

While conditions in the Indonesia's international market have improved Garuda will still face significant challenges in launching new long-haul routes to Europe. Competition between Indonesia and Europe is intense, particularly from Gulf carriers which have continued to expand rapidly in Indonesia.

Turkish Airlines also launched in May-2015 non-stop flights to Jakarta, giving Garuda a new one-stop competitor in the Indonesia-Europe market. Turkish previously only served Jakarta via Singapore, resulting in an uncompetitive two-stop product for the rest of Europe.

Air France, KLM and Lufthansa also offer one-stop services to Jakarta while other Southeast Asian flag carriers compete aggressively in the Indonesia-Europe market. (Air France serves Jakarta via Singapore and KLM and Lufthansa serve Jakarta via Kuala Lumpur. KLM also serves Bali via Singapore.)

Garuda believes it will have an advantage as it expects to continue being the only non-stop operator between Indonesia and Europe. Mr Arif points out about 260,000 passengers per year travel between Indonesia and Germany and about 250,000 passengers per year travel between Indonesia and France. Garuda would like to rely mainly on the local market as it builds up its European network as competing for network traffic, such as on the kangaroo route to Australia, is generally low yielding.

But Indonesia-Europe is an extremely competitive market. Gulf carriers and Turkish Airlines offer multiple destinations in France and Germany - as well an extensive network throughout Europe - and often price aggressively in the Southeast Asia-Europe market.

Garuda ultimately may need again to review its European aspirations. Launching both Frankfurt and Paris as well as potentially upgrading London to a non-stop service within a span of only a few months is particularly risky.

Paris would be a sensible second non-stop European destination as it is the hub for Air France. Garuda now relies on Air France sister carrier KLM for connections within Europe and beyond to the Americas but could benefit from having a second European hub.

Frankfurt would be a more challenging route as Garuda would have to rely almost entirely on local traffic. Garuda can always use Air France-KLM hubs at Amsterdam and Paris to cover the German market as well as the UK and other European countries.

Garuda to expand in Saudi Arabia using two-class 777s and single-class A330s

Garuda plans to serve Amsterdam, Frankfurt, Paris and London primarily using three-class 777-300ERs while Jakarta-Jeddah will eventually be served entirely with two-class 777-300ERs. Garuda plans to take its tenth and final 777-300ER in 2016, giving it four two-class aircraft as well as the six original three-class aircraft.

Garuda has discovered there is limited demand for its first class product, particularly in the Saudi Arabia market where most of the traffic is ethnic or religious. European routes have better but still relatively limited first class demand and Garuda may opt to operate some of its European flights with a two-class product. But Garuda at least for the medium-term plans to continue to operate six 777-300ERs in three-class configuration. Mr Arif points out it needs to keep the first class product on some of its 777-300ERs to maintain its five star Skytrax rating.

Mr Arif told CAPA that Garuda also has decided to retrofit six of its A330-300s to 360 seats in all-economy configuration. This will boost the capacity of these aircraft by 103 seats or 40% as Garuda currently configures its A330-300s with 42 lie flat business class seats and only 215 economy seats.

The first retrofit will be begin in Jun-2015 and all six aircraft will be reconfigured by the end of 2015. Garuda plans to use the single-class A330s to be operate regular charter services to Jeddah from Makassar, Balikpapan via Medan and Surabaya.

Garuda already serves Medan-Jeddah and Surabaya-Jeddah with three weekly A330-300 flights, according to OAG data. Garuda currently accounts for a leading 48% share of seat capacity between Indonesia and Saudi Arabia but market shares and total capacity fluctuate significantly depending on the time of year. SkyTeam partner Saudia currently has a 33% share of seat capacity but traditionally has had a similar level of capacity in the Indonesia-Saudi Arabia market as Garuda.

Indonesia to Saudi Arabia capacity by carrier (one-way seats per week): Sep-2011 to Dec-2015

Garuda also plans to use the single class A330-300s to operate regular charters between Bali and China. Garuda has been serving the fast growing Bali-China market in recent months with charters using two-class aircraft. Garuda's only scheduled route linking Bali and China is a thrice weekly A330-200 service to Beijing, according to current data from OAG.

Garuda steps up competition against medium/long-haul LCCs

The decision to retrofit six of the A330-300s aircraft is logical as the business class cabin on flights between secondary Indonesian cities and Jeddah, which are for Umrah religious pilgrimages, are unlikely to be sold. There is also limited demand for business class between Bali and China as this is almost entirely a price sensitive leisure market.

The single class aircraft also gives Garuda flexibility to potentially compete head to head with its LCC rivals on other long-haul routes. Lion already serves Jeddah with widebodies in single-class configuration while Indonesia AirAsia X plans to enter the Indonesia-Saudi Arabia market within the next couple of months.

Lion does not currently operate any other medium or long-haul route but is likely to eventually expand its international operation. Bali-based Indonesia AirAsia X currently serves Melbourne and Taipei with its two A330-300s and plans to add services to Brisbane, Sydney and Tokyo (as well as Jeddah) as it expands its A330 fleet.

Garuda could potentially transfer the single class A330s to LCC subsidiary Citilink. But for now Citilink prefers to stick with its all-A320 fleet and focus on the domestic market.

As CAPA stated in a Feb-2015 analysis report it is sensible for the group to focus Citilink on domestic expansion and improving profitability. Citilink is expected to turn its first annual profit in 2015 and could relook at international expansion, including a potential A330 operation, in 2016.

Garuda should rely mainly on partners to cover Europe and North America

Garuda is entering an important phase as it starts again to pursue double digit international capacity growth. There are huge opportunities for international growth in Indonesia but Garuda needs to be careful to avoid a repeat of 1H2014, when overcapacity in the international market led to large losses.

Expanding in Saudi Arabia and China are relatively safe bets, particularly as Garuda reduces premium capacity. There will also be opportunities to use the new fleet of A350s and 787s on domestic trunk routes and some flights within Southeast Asia as congestion at Jakarta makes up-gauging an appealing option. But expanding in Europe offers a completely different kind of risk profile.

Garuda needs eventually to pursue strategic expansion of its long-haul operation as it otherwise risks ceding market share to competitors, in particular Gulf carriers. But focusing international expansion on medium-haul markets while relying more on partnerships to cover Europe and North America would be sensible.