05-Feb-2013 12:50 PM

Mandala, Indonesia AirAsia and Citilink to benefit most from Batavia bankruptcy

Analysis

Indonesia's Batavia Air suspension of operations on 31-Jan-2013 provides a dose of healthy consolidation for the fast-growing Indonesian market. The nation's three largest domestic players - Lion Air, Garuda Indonesia, and Sriwijaya Air - will benefit and see their market shares increase even further.

But Indonesia AirAsia and new Tiger Airways affiliate Mandala could be the biggest beneficiaries as Batavia's exit make it easier for the two LCCs to succeed in their attempt to establish a meaningful presence in the domestic market. Indonesia's fastest growing carrier from 2012, Citilink, will also benefit as Batavia's suspension comes just as the Garuda Indonesia budget subsidiary pursues more rapid expansion.

The bankruptcy and suspension of operations of Batavia does not provide a big and sudden shock to the Indonesian market as the carrier had already reduced significantly in size during 2012. Batavia had captured 11% of the domestic market in 2011, back when it operated a fleet of over 30 aircraft. But the airline had already seen its market share slip significantly in 2012 as it cut back its network and as a large portion of its fleet was repossessed. Indonesia's other major carriers, meanwhile, expanded rapidly in 2012 and were already planning more rapid capacity expansion in 2013, allowing them easily to fill the void now left by Batavia.

Summary

Batavia Air's suspension of operations in 2013 provides an opportunity for consolidation in the Indonesian aviation market.
Lion Air, Garuda Indonesia, and Sriwijaya Air are the largest domestic players in Indonesia and will benefit from Batavia Air's exit.
Indonesia AirAsia and Mandala could be the biggest beneficiaries as they can establish a stronger presence in the domestic market.
Batavia Air's bankruptcy and suspension of operations did not come as a big shock as the airline had already reduced in size in 2012.
Batavia Air's exit allows other major carriers to expand rapidly and fill the void left by Batavia.
Sriwijaya Air, as the closest competitor to Batavia Air, will also benefit from the suspension as it can maintain its position in the market.

Batavia was reportedly only operating 13 aircraft when forced by an ILFC petition to file for bankruptcy on 30-Jan-2013. ILFC initially leased two A330s to Batavia, which previously only operated narrowbody aircraft, at the end of 2009. ILFC claimed Batavia was nearly USD5 million behind in lease payments.

Batavia struggled to fill up the A330s, originally acquired to expand into long-haul routes, but ended up being used primarily domestically. Batavia also reportedly fell behind in lease payments for its fleet of A320 family aircraft, which it has been acquiring in recent years with the aim of eventually replacing its ageing 737-300/400/500s.

Batavia had already seen a significant drop in market share

Batavia launched operations in 2002 and had been Indonesia's third largest carrier after Lion and Garuda until 2011. Batavia reported flat traffic in 2011 as the overall domestic market grew by 16%. As a result its share of the domestic market slipped from about 13% in 2010 to 11% in 2011. Indonesian transport ministry figures for 2012 are not yet available but Batavia's share dropped even more significantly, particularly in the second half of the year, as aircraft were returned and its network was restructured.

Batavia annual passenger traffic: 2006 to 2011

Annual passenger traffic for Indonesia's leading carriers: 2006 to 2011

Batavia was only serving about 30 domestic destinations and four international destinations at the time it suspended services, according to Innovata data. In 2011 the carrier had over 60 domestic destinations. Batavia's international operation was always relatively small and flew only about 300,000 passengers in 2011.

Based on the schedules Batavia had initially filed for the week commencing 4-Feb-2013 the carrier had seen its share of domestic capacity drop to less than 5%. Citilink was slightly larger than Batavia in the domestic market while Indonesia AirAsia and Mandala were smaller.

Citilink would have overtaken Batavia in 2013

The capacity Citilink is adding in 2013 alone would be sufficient to fill the void left by Batavia. Citilink, which currently only operates domestically and has a fleet of about 20 aircraft, aims to carry 10 million passengers in 2013. Citilink carried 2.5 million passengers through the first 11 months of 2012, an increase of 74% over the same period of 2011.

Citilink currently serves five of Batavia's largest 10 routes. It will likely add capacity on these routes as it generally has a significantly smaller share of capacity on these routes than Lion.

Citilink will also probably look to launch services on some of the other five routes, particularly the three already served by Lion or its regional subsidiary Wings Air, as it rapidly expands its domestic network in 2013. Lion is the largest carrier on most of Batavia's routes and while Lion will likely add capacity on these routes, there are bigger opportunities for smaller LCCs proportionally to increase their shares.

Batavia top 10 domestic routes based on weekly seat capacity

Indonesia AirAsia domestic expansion comes at good time

Indonesia AirAsia and Mandala are also keen to fill some of the void left by Batavia as both carriers were already planning to pursue significant domestic expansion in 2013 - from a low base. Indonesia AirAsia currently only has about a 4% share of domestic capacity while Mandala has about 1%.

Indonesia AirAsia has already more than doubled its domestic capacity over the last year. A large chunk of the expansion occurred in 4Q2012 as the carrier added six domestic routes (Medan to Pekanbaru and Banda Aceh; Surabaya to Semarang and Jakarta; and Ujung Pandang to Balikpapan and Jakarta) as its fleet expanded from 19 to 22 A320s.

Indonesia AirAsia is planning an even bigger push in the domestic market in 2013 as its fleet expands to a planned 32 A320s. As Indonesia AirAsia currently only competes on one of Batavia's largest 10 domestic routes, Jakarta-Surabaya, the carrier will likely look to prioritise its domestic expansion to focus on former Batavia routes.

Almost all of Indonesia AirAsia's near to medium term expansion will be dedicated to the domestic market after the AirAsia Group determined it needs to be a bigger player in Southeast Asia's largest domestic market if it is to meet its ambition of being the largest LCC group in ASEAN. Indonesia AirAsia had previously focused more on the international market. It is - perhaps surprisingly - the largest international carrier in Indonesia based on passengers carried, ahead of Garuda, and currently allocates almost 60% of its seat capacity to the international market.

Indonesia AirAsia came close to acquiring Batavia in 2012

The decision to pursue more ambitious domestic growth at Indonesia AirAsia came after a deal to buy Batavia fell through last year. The Malaysia-based AirAsia Group and the Indonesian owners of Indonesia AirAsia unveiled plans to buy Batavia in Jul-2012 but announced in Oct-2012 they were not proceeding with the proposed acquisition. Batavia would instantly have given AirAsia a significant domestic presence, valuable slots at Jakarta and a local distribution network.

But integrating the two carriers would have been challenging, particularly as Batavia is not an LCC and operates a mixed fleet. The AirAsia Group was also likely dissuaded as it performed due diligence on Batavia, given the carrier's precarious financial state.

With Batavia removed from the market, Indonesia AirAsia will likely look to accelerate domestic expansion even further. The AirAsia Group already accelerated the fleet expansion for its Indonesian affiliate after the Batavia deal was dropped, by allocating more deliveries in 2013 than originally intended. The AirAsia Group has the flexibility in its fleet plan to allocate even more aircraft to Indonesia AirAsia now that Batavia has suspended operations. As CAPA reported in Oct-2012:

The proposed Batavia acquisition was seen as an attempt by AirAsia to close some of the gap with Lion in the Indonesian domestic market and therefore in the overall ASEAN market. Lion in many respects has emerged as AirAsia's biggest competitor and AirAsia Group CEO Tony Fernandes will not let Lion get in the way of his goal of maintaining AirAsia's leading position in the ASEAN market.

An acquisition of another Indonesian carrier should not be ruled out and if any Indonesian carrier should fail in the intensely competitive market AirAsia will almost certainly swoop in with rapid organic growth. AirAsia simply cannot afford to be a minor player in what has emerged as the fastest growing country in Asia.

Indonesia AirAsia and Mandala could particularly be enticed to accelerate domestic expansion if they are able to secure some of Batavia's slots at Jakarta. Both carriers are based at Jakarta but have had to focus a large portion of their expansion at other Indonesian cities due to congestion at Jakarta.

Assuming it is not able to secure new capital while in bankruptcy and quickly resume operations, Batavia's exit should change the situation significantly. Batavia, which had already reduced capacity at Jakarta by approximately 25% over the last year, accounted for about 5% of movements at Jakarta Airport before suspending operations, according to Innovata data.

Mandala pounces on Batavia situation, accelerates launch of Jakarta-Pekanbaru

Mandala's ability to expand domestically from Jakarta has been limited since the carrier re-launched services in Apr-2012 as a Tiger affiliate, ending a 15-months suspension which began when Manadala filed for bankruptcy in Jan-2011. Mandala, prior to Batavia's suspension, only had four domestic frequencies from Jakarta, three of which take off before 6am and land back in Jakarta in the late evening as the carrier was unable to secure better slots.

Not surprisingly therefore Mandala was the first carrier to offer to help out passengers stranded by Batavia's suspension. Mandala has added flights on some of its existing domestic routes to accommodate Batavia passengers and also has requested for authority to take over some of Batavia's routes. It also has advanced the launch of service on the Jakarta-Pekanbaru route, which is Mandala's fourth domestic route from Jakarta.

Mandala initially planned to launch one daily flight between Jakarta and Pekanbaru on 14-Feb-2013, using another very early morning slot at Jakarta (520am) and returning late in the evening at 2310. Tiger's booking engine shows the carrier has already started operating Jakarta-Pekanbaru with two daily departures in the afternoon and evening through 6-Feb-2013. For now Tiger is selling one daily departure from 7-Feb-2013 to 14-Feb-2013 and three daily departures from 14-Feb-2013, including the originally scheduled launch early morning flight. (Mandala uses Tiger's booking and distribution system and website.)

Prior to its suspension Batavia operated two daily flights on the Jakarta-Pekanbaru route, giving it about 11% of total capacity in the market, according to Innovata data. Indonesia AirAsia and Citilink do not yet operate Jakarta-Pekanbaru. The route is also currently served by Garuda, Lion Air and Sriwijaya.

Batavia also competed against Mandala on Jakarta-Padang and Jakarta-Surabaya. These three routes are all among Batavia's largest five routes.

Jakarta-Padang was one of the routes where Batavia had operated its A330. The carrier had two daily flights on the route, one using an A330 and one using an A320, giving it about a 12% share of the market. Mandala has only one flight on the route, giving it only a 5% share, and has not yet added frequencies to its schedule. Jakarta-Padang is also currently served by Garuda, Lion, Sriwijaya and Citilink.

Mandala could look to accelerate fleet expansion as its outlook improves significantly

On Jakarta-Medan also has about a 5% share share and competes with Garuda, Lion, Sriwijaya and Citilink. Mandala currently has two daily flights on Jakarta-Medan, which is the fourth largest route in Indonesia.

Jakarta-Surabaya is the largest route in Indonesia and the fifth largest domestic route in the world and an even more competitive route, now served by seven carriers: Citilink, Garuda, Indonesia AirAsia, Lion, Mandala, Merpati and Sriwijaya. Mandala/Tiger had faced an uphill battle on Jakarta-Surabaya as a new entrant with a meagre 2% share with its one daily flight. Being able to worry about one less competitor on trunk routes such as Jakarta-Surabaya improves Mandala's outlook on domestic trunk routes, particularly as slots should now be freed up to offer a more competitive schedule.

Mandala's relatively weak position in the market also has been impacted by a less than ideal rotation of aircraft which sees some of its A320s leave Jakarta early in the morning and not return to base until late at night. For example with the Pekanbaru launch on 14-Feb-2013, Mandala will have its latest A320 on a Jakarta-Pekanbaru-Medan-Pekanbaru-Singapore-Pekanbaru-Jakarta rotation. Mandala has already launched Surabaya-Bali and services to Singapore from four Indonesian secondary cities due partially to a lack of slots at Jakarta.

Mandala will now be able to focus more on Jakarta expansion, particularly as its Singapore network will soon reach five destinations, maximising opportunities to connect with larger Singapore-based sister carrier Tiger Airways.

Mandala has a potential advantage in that it could potentially react faster than Indonesia AirAsia in expanding to fill the gap. Mandala was able to add some flights immediately after Batavia's suspension as it already had taken delivery of its seventh A320 ahead of the original planned launch date of 14-Feb-2013 for Pekanbaru services.

The Tiger Group has 10 additional A320s being delivered in FY2014, beginning on 1-Apr-2013. While the group has not yet allocated these deliveries to its affiliates, most of the aircraft will now likely end up in Indonesia, particularly as Tiger's new Philippine affiliate SEAir is struggling and the group's home market of Singapore is relatively mature. If Mandala is able to grow quickly and profitably in the wake of Batavia, Tiger could even look to withdraw - or at least scale down - from the intensely competitive Philippine market. While AirAsia also has some flexibility in its fleet plan, AirAsia generally has healthier affiliates that each still require several additional aircraft in 2013.

Mandala also been under-utilising its fleet since re-launching services in Apr-2012. Its utilisation has improved over the last couple of months and the ability to secure more slots in Jakarta and new domestic routes should help the carrier further improve this.

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Sriwijaya was the Batavia's closest competitor

Sriwijaya, Indonesia's third largest domestic carrier after Lion and Garuda, should also benefit from Batavia's suspension as the airlines had similar models. Sriwijaya and Batavia have always been considered full-service carriers but have traditionally offered competitive fares. Both developed strong local distribution networks, relying predominately on travel agents, and launched at about the same time.

Batavia operated all its aircraft in single-class configuration. Sriwijaya, which launched services in 2003 and overtook Batavia as a larger carrier in 2011, also only offered an economy class product before introducing a business class cabin in some aircraft in 2012. Both carriers' economy class product included some frills, including beverages, light meals and checked bags.

Positioning of Indonesia's major airline brands

Batavia and Sriwijaya were in relatively weak positions as they were not participating in the budget end of the market, where a lot of the growth opportunities are, given the rapid expansion of Indonesia's middle class. Lacking the product and loyalty among Indonesia's upper echelon they were unable to compete at the top end of the market against Garuda. The market was unlikely to be able to sustain two middle market carriers given the growth at the bottom end - led by Lion, Citilink, AirAsia and Mandala - and the increasing competition at the top, with the upcoming launch of new Lion premium subsidiary Batik Air taking on Garuda. But without Batavia, Sriwijaya's chance of succeeding increases significantly. As CAPA reported in Jan-2013:

Sriwijaya risks getting squeezed out as much larger Lion and Garuda pursue rapid expansion in both the budget and full-service sectors while the Indonesian affiliates of AirAsia and Tiger grow rapidly at the low end of the market. But within Indonesia's large group of second tier full-service carriers, Sriwijaya has the strongest position and stands to benefit in the likely event of consolidation.

...While Indonesia's market will likely remain fragmented, with several smaller regional operators required, given the country's vast geography, the trunk routes could see consolidation. There are already seven airlines competing on some trunk routes and this could swell to as many as 10 in 2013.

Indonesia's domestic market is huge but likely could be supported by a few big players along with several small regional carriers. As the Lion and Garuda groups get bigger and bigger, it will become challenging for others.

Unlike Batavia, Sriwijaya has steadily grown over the last several years and has not had any years of zero growth or cutbacks. Sriwijaya is planning to continue to grow domestically at clip of about 15%, including in 2013 as it takes delivery of additional 737-800s and potentially its first batch of E190s which could be operated by new premium carrier subsidiary Nam Air. With Batavia withdrawing, it is more likely the capacity addition planned by Sriwijaya can be absorbed and Sriwijaya can maintain its position in Indonesia's highly domestic competitive market.

Indonesia's LCCs and Sriwijaya could take over some of Batavia's international routes

Batavia's suspension could also create some niche opportunities in the international market for Sriwijaya and some of Indonesia's LCCs. At the time of its grounding Batavia was operating six international routes: Singapore to Jakarta, Pontianak and Semarang; Kuching in east Malaysia to Pontianak; and Bali to Dili in Timor-Leste and Hangzhou, China. All five routes were served less than daily, except Singapore-Jakarta.

Singapore-Jakarta is a highly competitive route served by four other Indonesian and three Singaporean carriers, but is constrained by a capacity cap. One of the four Indonesian carriers serving the route - Garuda, Indonesia AirAsia, Lion Air and Sriwijaya - will likely seek to add capacity using Batavia's traffic rights.

Indonesia AirAsia will benefit on the Singapore-Semarang route as the carrier had already unveiled plans to launch four weekly flights between Singapore and Semarang on 7-Feb-2013. Batavia had been the only carrier serving the market as well as on the Singapore-Pontianak route. Indonesia AirAsia or Mandala would be the carriers most likely to look at launching Singapore-Pontianak.

Merpati, a government-owned carrier that does not generally compete with Indonesia's major carriers as it focuses primarily on regional routes, is the only other carrier serving the Bali-Dili route. Malaysia Airlines is the only other carrier linking Kuching with Pontianak, both of which are located on the Malaysian-Indonesian island of Borneo.

Hangzhou-Bali was Batavia's longest route and, unlike any of its other routes, catered to the inbound tourism market. The market is also served seasonally by China Eastern Airlines and Lion subsidiary Wings Air.

Until recently Batavia also served Guangzhou from Jakarta, a route also served by Garuda and China Southern. Sriwijaya has been looking at Guangzhou and could accelerate plans to expand internationally in the aftermath of Batavia's exit. Sriwijaya currently only serves two international destinations and flew only 200,000 international passengers in 2011, making it even smaller than Batavia.

Domestic opportunities abound in Indonesia as carriers race to fill the gap left by Batavia

But nearly all the opportunities for Indonesia's remaining carriers in the aftermath of Batavia's suspension come domestically.

Batavia had allocated less than 10% of its seat capacity to the international market and was even using its A330s domestically after struggling with services to the Middle East. Batavia failed to win contracts for Haj charters, the original anticipated mission for the A330s, but launched scheduled services to Saudi Arabia in 2010. Jakarta-Jeddah was served until recently but the long-haul flights were a drain financially. Expanding into widebodies was a risky strategy which ultimately backfired, contributing to Batavia's demise.

All of Indonesia's carriers including Garuda are now focusing mostly on domestic expansion and see huge opportunities to tap into the anticipated rapid growth in Indonesia's domestic market, which is expected to reach 100 million passengers in 2015. There are huge opportunities in Jakarta as well as on secondary routes as Indonesia's economy continues to grow rapidly. Expansion at Jakarta is limited by congestion but the suspension of Batavia should free up space for other carriers as about half of the airline's capacity was allocated to the capital.

Given Batavia's relatively small size in its last few months of operations, the hole it leaves will be filled rapidly. More than half of Batavia's historical share of the market had already been lost in 2011 and 2012 to rivals, primarily market leaders Garuda and Lion. Garuda, which recorded 15% domestic growth through the first 11 months of 2012, and its even faster-growing budget subsidiary Citilink along with Lion, will be able to absorb some of the capacity Batavia continued to operate through Jan-2013.

But Indonesia AirAsia and Mandala stand to benefit most, given the exit of a larger domestic carrier significantly improves their chances of succeeding in their pursuit of a more meaningful slice of Indonesia's huge pie. The exit of one of the several carriers competing on domestic trunk routes should lead to a welcome improvement in load factors and yields for all remaining players, improving profitability.

While Indonesia's market may grow slightly more slowly in 2013 as a result of Batavia's exit, it will still grow and the industry overall is healthier with one less competitor.