Kazakhstan aviation market: growth slows & competition intensifies as Air Astana prepares for IPO

Kazakhstan recorded passenger growth of only 1% in 2016

Total airport traffic in Kazakhstan grew by only 1% in 2016 to 12.2 million, according to Kazakhstan Civil Aviation Committee data. Another year of slow growth is expected in 2017 with Kazakhstan aviation authorities projecting 12.4 million passengers across all airports, which would represent growth of less than 2%.

The 12.2 million passengers handled by all Kazakhstan airports in 2016 include 7.8 million domestic passengers and 4.4 million international passengers. As each domestic passenger is counted twice in this data, the overall market consisted of 3.9 million domestic and 4.4 million international passengers.

Of the 4.4 million international passengers, 2.1 were carried by Kazakhstan based airlines and 2.3 million by foreign airlines. Total traffic for Kazakhstan airlines grew by only 1% in 2016 to 6 million (this includes all 3.9 million domestic passengers and 2.1 international passengers).

Kazakhstan authorities expect the local airline sector to carry 6.2 million passengers in 2017, which would represent growth of approximately 3%. The economic situation in Kazakhstan has improved somewhat, with the value of the tenge recovering partially, and visitor numbers should spike this summer due to EXPO 2017. However, local demand remains relatively weak and the tenge is still down 40% compared to two years ago.

Kazakhstan annual passenger traffic for airports and local airlines: 2013 to 2017*

Note: Figures represent totals of all airports and all Kazakhstan based airlines combined.
Source: Republic of Kazakhstan Civil Aviation Committee.

Economic slowdown and weak currency impacts demand

The Kazakhstan market had experienced six years of rapid growth from 2009 to 2015. The rate of annual growth for 2010 through 2015 was consistently at least in the high single digits and, in some years, was in the double digits. Total airport traffic in Kazakhstan was up 10% in 2015 and 7% in 2014.

Kazakhstan recorded strong GDP growth during most of this period, leading to strong domestic and outbound international demand for air travel. Kazakhstan has historically been primarily an outbound market with limited tourism and transit traffic.

A significant slowdown in economic growth (the Kazakhstan economy relies heavily on the oil and gas sector) and the devaluation of the local currency has impacted local demand for air travel over the last couple of years. While transit traffic and visitor numbers have grown, from a low base, overall the market has essentially stopped growing.

Air Astana growth slows but still achieves 47% market share

Not surprisingly, the traffic at market leader Air Astana has been impacted by the overall slowdown in the Kazakhstan market.

Air Astana carried 3.9 million passengers in 2016 including 2.1 million domestic passengers and 1.8 million international passengers, based on Kazakhstan Civil Aviation Committee data. This represents a 53% share of the overall domestic market and a 41% share of the international market. Air Astana's total market share in 2016 was 47%.

Air Astana recorded rapid traffic growth from 2009 to 2013 as total passenger numbers increased nearly 70%. Revenues during this period also increased by 74%, from USD555 million in 2009 to USD967 million in 2013.

However, Air Astana traffic has not grown significantly since 2013. Air Astana launched operations in 2002 and quickly expanded, surpassing 1 million passengers in 2005, 2 million passengers in 2007 and 3 million in 2011.

Air Astana annual passenger traffic: 2012 to 2016*

*2016 figure based on Kazakhstan Civil Aviation Committee data.
Other figures reported by Air Astana.
Source: CAPA - Centre for Aviation.

Air Astana's revenues since 2013 have declined by approximately 30% due to devaluation of the local currency and an increase in lower yielding transit traffic - which was necessary to offset the decline in local demand. Air Astana has not yet reported any full year figures for 2016 but, as CAPA highlighted in an Aug-2016 report, annual revenues were projected to come in at approximately USD730 million.

See related report: Air Astana Part 1: Kazakhstan flag carrier increases focus on transit traffic as profits drop

Kazakhstan grows transit traffic

Air Astana adjusted its strategy in 2016 to focus more on sixth freedom international transit traffic. A doubling of transit traffic enabled Air Astana to avoid a drop in total traffic, which would have also resulted in an overall decline in total traffic at Kazakhstan airports.

Total transit traffic in Kazakhstan increased from 250,000 passengers in 2015 to 478,000 passengers in 2016, according to Kazakhstan Civil Aviation Committee data. Air Astana accounted for nearly all of this traffic as it is the only network airline in Kazakhstan.

Kazakhstan annual transit traffic: 2012 to 2016

Source: Kazakhstan Civil Aviation Committee.

The Kazakhstan government has set a target of 1.6 million transit passengers by 2020. Air Astana is expecting transit traffic to continue growing rapidly over the next few years and has essentially incorporated the government's 1.6 million transit passenger target into its latest business plan.

As CAPA highlighted in a Sep-2016 analysis report, Air Astana has been working on a new 10-year business plan since mid 2016. The new business plan, which outlines fleet and network growth, has been completed but has not yet been made public. Air Astana currently serves 26 international and 13 domestic destinations with a fleet of 31 aircraft (including 20 narrowbodies, two widebodies and nine regional jets).

See related report: Air Astana Part 2: Kazakhstan flag carrier to accelerate expansion, adopt single hub, pursue IPO

Rapid narrowbody fleet growth is likely as Air Astana focuses on Asia-Europe connections along with further enhancing regional connectivity within Central Asia and the CIS region. Air Astana has been looking at doubling its fleet over the next 10 years while significantly expanding its network in Asia (particularly China and India) and Europe. However, Air Astana may cancel its 787 order and drop plans to serve the highly competitive North American market.

Air Astana prepares for IPO despite relatively challenging market conditions

Details of the new business plan could finally become available in the coming months as Air Astana drafts its IPO prospectus. Air Astana has recently been conducting initial pre-IPO road shows and is preparing for a listing in 2018. A dual listing in Kazakhstan and overseas - Hong Kong or (most likely) London - is planned.

The timing of the IPO, which been in the planning stages for several years, does not entirely seem ideal. Growth has slowed, profitability has tumbled and competition is intensifying - both locally with other Kazakhstan carriers and with foreign airlines.

A higher reliance on transit traffic, which is necessary for Air Astana to realise its growth aspirations, also typically comes with lower yields and subjects it to more overlap with much larger network airlines including Emirates, Qatar and Turkish.

Kazakhstan's second largest airline, SCAT, expands faster

There are currently seven airlines operating scheduled passengers services in Kazakhstan although only two currently operate international services - Air Astana and SCAT. Privately owned SCAT is older, having launched operations in 1997, but was quickly overtaken after the government launched Air Astana with BAE Systems in 2002.

However, SCAT has been growing rapidly in recent years and now has more than 10 international destinations, most of which are also served by Air Astana. SCAT's current international seat capacity is up by approximately 50% compared to May-2016 while Air Astana's international capacity is up a more modest 10%.

SCAT is also the second largest airline in Kazakhstan's domestic market although most of its recent focus has been on international expansion. SCAT carried just under 900,000 domestic passengers in 2016, giving it a 23% share of the domestic market, according to Kazakhstan Civil Aviation Committee data. SCAT carried approximately 300,000 international passengers in 2016, which equates to a 7% share of the total international market.

Kazakhstan establishes second government owned airline

Privately owned Bek Air is the third largest airline in the Kazakhstan domestic market, capturing a 19% share in 2016. Bek is a relatively newcomer, having launched operations in 2011. Bek has been pursuing relatively fast domestic expansion over the last year and is expected to continue adding domestic capacity as it expands its fleet.

Qazaq Air is the fourth largest airline and captured a 5% share of the domestic market in 2016, its first full year of operations. The other three airlines operating domestic services in Kazakhstan are very small and combined only carried 30,000 passengers in 2016.

Kazakhstan domestic airlines ranked by domestic traffic and fleet size

Rank	Airline	2016 domestic traffic (thousands of passengers)	Fleet size (as of Apr-2017)
1.	Air Astana	2,087	31
2.	SCAT	898	17
3.	Bek Air	733	8
4.	Qazaq Air	163	3
5.	Yuzhnoye	14	3
6.	Zhetisu Avia	13	3
7.	Zhezkazgan Air	5	3

Source: Kazakhstan Civil Aviation Committee.

The 2015 launch of Qazaq as a second government owned airline could be a concern to potential Air Astana investors as international services within Central Asia and the CIS region are being considered as part of a future expansion phase. Qazaq and Air Astana do not codeshare but Air Astana has assisted the start-up by providing some assistance and personnel.

Kazakhstan government investment firm Samruk-Kazyna owns Qazaq and the government's 51% share in Air Astana. While the government is committed to selling part of its stake in Air Astana through the planned IPO (along with BAE), launching and expanding into the international market a separate airline sends the wrong message.

The government identified a need for a regional airline following Air Astana's 2013 phase out of turboprops and Air Astana has since been reducing its reliance on the domestic market. However, there are sufficient private airlines in Kazakhstan to meet domestic demand.

There is also a subsidy scheme in place to ensure that services to smaller rural communities are maintained. Of the 42 domestic routes currently operated, 15 are subsidised, according to the Kazakhstan Civil Aviation Committee.

Four foreign airlines to launch services to Astana in summer 2017

Intensifying competition from foreign airlines also poses a potential threat to Air Astana.

Kazakhstan has liberal aviation policy which had enabled foreign airlines to launch services to expand. This policy, which has an overall positive economic benefit, also has enabled the launch of new start-ups in Kazakhstan.

Kazakhstan is currently served by 27 foreign airlines with Aeroflot by far the largest foreign competitor with more than 15,000 weekly seats, according to OAG data for the week commencing 8-May-2017. Kazakhstan authorities expects four more foreign airlines to enter the market in 2017 including Air China, Finnair, LOT and Wizz Air.

LOT plans to launch four weekly flights to Astana on 29-May-2017, Wizz Air two weekly flights to Astana on 8-Jun-2017 and Finnair two weekly flights to Astana from 19-Jun-2017. None of these routes are currently served. The addition of Budapest, Warsaw and Helsinki will give Kazakhstan 10 destinations in Europe.

Air China is also planning to launch thrice weekly service from Beijing to Astana on 1-Jun-2017, which will result in competition for Air Astana on the Astana-Beijing route. China Southern is already in the Astana market but only operates from Urumqi in nearby western China.

China Southern is one of 13 foreign airlines now operating scheduled services to Astana and will be one of 17 foreign airlines in the Astana market once LOT, Wizz, Finnair and Air China enter. Almaty Airport, which is larger but has not been growing due to infrastructure constraints, is currently served by 25 foreign passenger airlines.

While the new routes are good for consumers and the economy, overcapacity is a concern given that the overall market is not growing. Air Astana is able to compete effectively as it has a low cost structure and solid financial footing. However, more competition from foreign airlines means Air Astana has to share the local market with a wider group of airlines and will need to rely even more on transit traffic.

Astana Airport emerges as a hub

Kazakhstan, located at the crossroads of Asia and Europe, is well positioned geographically to attract transit traffic. Air Astana is also well positioned to carry sixth freedom traffic from a cost perspective. Its cost per ASK is below USD5 cents, making it one of the lowest cost full service airlines.

The government also has committed to position Astana Airport as a transit hub. A new international terminal is opening ahead of EXPO 2017, which will be held in Astana from 10-Jun-2017 to 10-Sep-2017, expanding the airport's capacity to 8.2 million annual passengers.

Air Astana has had a split hub strategy for several years, and currently has slightly more capacity at Almaty than Astana. However, maintaining dual hubs is challenging given its new focus on transit traffic. Most of the airline's expansion is therefore now focused on Astana.

While Almaty is still the largest city and commercial centre in Kazakhstan, Astana has been growing faster and has a more modern airport capable of handling a large increase in transit traffic. Almaty's privately owned airport is capacity constrained and has virtually no transit facilities. However, the Kazakhstan government continues to plan for a new airport outside Almaty which could eventually prompt Air Astana to reconsider growth in the Almaty market or risk losing market share to other Kazakhstan based airlnes.

Almaty handled 4.9 million passengers in 2016 compared to 3.4 million passengers for the capital Astana. Kazakhstan has 10 other airports with more than 100,000 annual passengers, most of which also have international services from Air Astana, SCAT and a small number of foreign airlines.

Kazakhstan also has several smaller regional airports with limited domestic services. Only Almaty and Astana currently handle more than 1 million annual passengers.

Kazakhstan top 12 airports ranked by passenger traffic: 2016

Rank	Airport	2016 passenger numbers (in thousands)
1.	Almaty	4,878
2.	Astana	3, 446
3.	Aktau	866
4.	Atyrau	625
5.	Shymkent	621
6.	Aktobe	338
7.	Jskemen	287
8.	Karagandy	222
9.	Kyzylorda	198
10.	Uralsk	189
11.	Pavlodar	177
12.	Kostanai	117

Source: Kazakhstan Civil Aviation Committee

Kazakhstan aviation market is at a crossroads

Kazakhstan's aviation market is at an important juncture. Growth has slowed significantly but should be able to reaccelerate over the next few years driven by opportunities in the transit segment and a potential recovery in the economy.

At Air Astana, an IPO is finally being pursued after several years of delays. Air Astana has steadily been profitable and been the strongest airline in Central Asia but will have to grapple with intensifying competition.

The Kazakhstan government has adopted the right approach, providing a liberal market and supporting the privatisation of its flag carrier. Air Astana should still be able to complete a successful IPO but some investors will likely be wary of the challenges now facing the airline and the overall Kazakhstan aviation market.