Singapore Airlines needs more partnerships to complete new long-term strategy

SIA pursues strategic changes but profits continue to slide

SIA has undergone a major strategic transformation since Mr Goh took over as CEO from Chew Choon Seng at the beginning of 2011. The establishment of long-haul low-cost subsidiary Scoot was Mr Goh's biggest, boldest and most high profile move to date. But there have been other changes which are designed to usher in a new era of faster growth and, eventually, improved profitability. This includes rapid growth at SilkAir, along with closer cooperation between the regional subsidiary and SIA, and increased involvement in short-haul LCC affiliate Tiger Airways.

The strategic changes have not yet had a positive impact on profitability, as evidenced by the group recording a further 20% drop in operating profit to SGD229million (USD182 million) for the fiscal year ending 31-Mar-2013 (FY2013). Profits have fallen by over 80% since FY2011, the last full year under Mr Chew.

SIA Group annual operating profit: FY2009 to FY2013

Source: SIA Group (FY2013 results presentation)

But the drop in profits over the last two years is more a reflection of unfavourable market conditions. The new strategy implemented by Mr Goh will take a couple of years to bed down.

See related reports:

• Singapore Airlines looks to ride out the storm as profits continue to slide
• Singapore Airlines looks to improve long-term outlook following its biggest ever strategy shift

SIA continues to increase focus on Asia-Pacific region

SIA is heavily exposed to the European and North American passenger and global cargo markets, which have remained weak and continue to negatively impact profitability. SIA has been working to reduce this exposure by increasing focus on the stronger Asia-Pacific market. This involves pursing rapid growth within Asia-Pacific at both ends of the product spectrum - using the SIA and SilkAir brands at the top and the Scoot and Tiger brands at the bottom.

Over the last three years the SIA Group has increased frequencies to China by 71%, to Australia by 45%, to India by 24% and to Southeast Asia by 27%. Most of the growth to China, India and Southeast Asia has been driven by full-service regional subsidiary SilkAir, which grew capacity by 20% in FY2013 and will again record double digit capacity growth in FY2014 as its fleet expands from 22 to 24 aircraft.

SIA Group weekly flight frequencies for select markets in Asia-Pacific: 2013 vs 2010

Source: SIA Group (FY2013 results presentation)

China and Australia are also Scoot's two biggest markets. The new long-haul LCC, which launched operations in Jun-2012, only operates within Asia-Pacific and has no intentions for now of serving other regions. Scoot recently added its fifth Boeing 777 but is not slated to receive any more aircraft in FY2014 as it waits for 20 more efficient 787s, which are scheduled to be delivered from 3QFY2015.

See related reports:

• Scoot selects Nanjing, capping a busy first year of operations for the Singapore Airlines subsidiary
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Tiger also has been expanding rapidly, with its Singapore operation growing capacity by 16% in FY2013. Tiger Singapore plans to pursue even faster ASK growth in FY2014, about 25%, as it expands its fleet from 20 to 25 aircraft. Tiger is not included in the SIA Group figures as the short-haul LCC group is only partially owned by SIA, although SIA under Mr Goh has been steadily increasing its involvement in Tiger.

See related report: Tiger Airways narrows losses in FY2013 - but challenges for FY2014 remain

SIA mainline also has focused nearly all of its capacity growth in Asia. SIA capacity was up 4% in FY2013 and the carrier expects mainline ASK growth of another 3% to 4% in FY2014. Nearly all the growth is being allocated to routes within Asia-Pacific. In FY2014 SIA only plans to increase capacity in one of its European markets, Copenhagen, as SIA sees higher demand on the Singapore-Copenhagen route as a result of its joint venture with SAS. In North America, capacity is decreasing as its two non-stop all-premium routes to the US - Newark and Los Angeles - are axed.

SIA fleet to remain flat in FY2014 as new generation premium product is introduced

SIA will see its mainline fleet remain flat in FY2014 at 101 aircraft. The 3% to 4% growth in capacity is made possible as the carrier's fleet of five A340-500s, which are in all-premium configuration with only 100 seats, are phased out while new batches of A330-300s and 777-300ERs are delivered.

The new batch of 777-300ERs will be the first aircraft to feature SIA's new premium product, an important component of the group's strategy to leverage technology in an attempt to remain a leader at the top end of the market while it diversifies with its multi-brand approach. SIA plans to reveal details of its new business class seat, which will eventually be rolled out across its long-haul fleet, within the next few weeks. The new batch of 777-300ERs, which are slated to be delivered starting in Aug-2013, will also feature a new generation in-flight entertainment system.

SIA planned mainline fleet developments for FY2014

Source: SIA Group (FY2013 results presentation)

Virgin Australia partnership supports SIA's Asia-Pacific growth strategy

SIA is also growing its network and operation in the Asia-Pacific region virtually through partnerships. The group's partnership with Virgin Australia, which was initially inked by Mr Goh and Virgin Australia CEO John Borghetti in Jun-2011, is a particularly important component of the increased focus on Asia-Pacific.

SIA has quickly expanded the partnership by adding codeshares on more flights, including from Singapore to Europe, and by acquiring a 19.9% stake in Virgin Australia. It is no coincidence SIA has meanwhile shed its 49% stake in Virgin Atlantic, which primarily operates across the Atlantic - a mature market which is no longer of strategic significance to SIA.

See related reports:

• Singapore Airlines cements its partnership with Virgin Australia, joining ANZ and challenging Etihad
• Australia-Asia market shake-up part II: SIA and Virgin in lead position as Qantas faces challenges

The new partnership with Virgin Australia - and to a lesser extent other new or enhanced codeshare agreements - has driven a 41% increase in the number of offline destinations in the SIA network since 2011. SIA says the number of SIA marketing flights on codeshare partners also has increased by 59% over the last two years, which is the equivalent of about 1,500 weekly flights. The Virgin Australia partnership is almost certainly the biggest contributor of this increase.

SIA and SilkAir have increased capacity (ASKs) to Australia by 18% over the last two years. During SIA's FY2013 analyst briefing on 17-May-2013 Mr Goh said SIA's ability to "pump in more capacity" in the Singapore-Australia market is directly related to its partnership with Virgin Australia. He promised that the SIA-Virgin Australia codeshare agreement will soon be extended to more markets. But he declined to provide any revenue figures generated so far by the partnership.

The relationship with Virgin Australia is of huge significance to SIA as it finally gives the group access to secondary cities in Australia and improves its already strong position in the Australia-Asia and Australia-Europe markets. But it could prove to be only the first component of a new partnership strategy for the SIA Group.

SIA lacks strong partners

SIA currently has 23 codeshare partners (excludes SilkAir). But most of these partnerships are limited. Only eight of these carriers currently serve Singapore.

SIA is a member of Star but has always taken a passive role in the alliance. It does not currently codeshare with about half of the other Star members, including a few Star carriers which serve Singapore.

Mr Goh says SIA has no intention of leaving Star but has identified pursuing more partnerships - within or outside Star - as an ongoing initiative. "Star Alliance is not itself a constraint for us to cooperate with people or airlines outside that particular alliance," he said during the recent analyst briefing.

SIA has repeatedly identified China and India as two important markets it would be interested in expanding through partnerships, including with potential equity stakes. This pre-dates Mr Goh's tenure as CEO. In 2008, under Mr Chew, SIA attempted but ultimately failed to buy a stake in China Eastern. Back in the late 1990s, attempts by SIA to set up an airline in India with the Tata Group failed. (Some 15 years later, Tata recently emerged as the local partner behind AirAsia India, which is preparing to launch services in late 2013.)

SIA currently has a limited codeshare with Air India and incredibly didn't have a single codeshare partner in China until it signed an agreement with new Star member Shenzhen Airlines on 20-May-2013.

Shenzhen Airlines deal represents first partnership step for SIA in China

The Shenzhen deal only initially covers flights between Singapore and Shenzhen (SilkAir and Shenzhen Airlines each operate one daily flight on the route). But the new partnership could lead to domestic codeshares beyond Shenzhen and other Chinese gateways.

SIA and SilkAir currently serve 11 destinations in China. The lack of an offline network of secondary Chinese cities is a huge weakness for SIA. The group needs to access Asia's biggest domestic market in order for its overall long-term network and partnership strategy to succeed.

Shenzhen Airlines is partially owned by Air China, which brought its smaller sister carrier into Star in 2012. An Air China-SIA relationship would be logical if it was not for the cross-ownership between Air China and SIA rival and oneworld member Cathay Pacific.

China's other two major carriers, China Eastern and China Southern, are both in SkyTeam, although this would not necessarily preclude a relationship with SIA. Independent Hainan Airlines, which is China's fourth largest group, could also be an option.

Partnerships do not come easy for SIA

Finding the right partner in China and other under-covered markets could prove challenging given SIA typically doesn't make an easy bedfellow. Potential investment targets are likely to be reluctant to give SIA the control it seeks. This was a key barrier that derailed the deal with China Eastern.

SIA also has not yet embraced metal neutrality. It is sharing revenue as part of its new joint venture with SAS, which was forged in May-2012 and implemented in Feb-2013. But there is no metal neutrality because SAS currently does not operate the Copenhagen-Singapore route.

SIA has talked up how its joint venture with SAS has allowed it to add two weekly frequencies in the Copenhagen-Singapore market for a total of five, pointing out it has never operated more than three weekly flights in its 36 years serving the Danish capital. But during much of this period SAS also served the Copenhagen-Singapore market with its own aircraft (in more recent years serving Singapore via Bangkok).

SIA also became more willing to pursue a closer relationship with Air New Zealand and SWISS after each carrier pulled out of Singapore. SWISS recently re-launched services to Singapore, but at least for now SIA carries the SWISS code on its Singapore-Zurich service while SWISS does not carry the SIA code on its new Singapore-Zurich flight.

If SIA is to be serious about forging closer partnerships it will need to be more flexible and fully embrace metal neutrality. It should also be open to partnering with rivals including Gulf carriers.

Ongoing strategic initiatives for SIA

Source: SIA Group (FY2013 results presentation)

Gulf airline partnerships for now do not appear to be on SIA's radar screen

Mr Goh evaded during the recent analyst briefing a question on whether SIA would be willing to consider "something radical to lower the costs and be more competitive on the Kangaroo route going forward, either through partnerships or some other arrangement of sharing metal". Instead of answering the question directly Mr Goh chose to defend SIA's cost structure, saying it has one of the lowest cost structures among major airlines and that it has an ongoing initiative to keep its costs competitive.

For now it seems unlikely that SIA will follow rival Qantas (as well as its Australian partner Virgin America) in forging a relationship with a major Gulf carrier. SIA is instead focused on responding to intensifying competition for its premium passengers by further improving its product and trying to make sure it remains a preferred carrier. Inevitably SIA may have to review this approach.

Intensifying competition with Gulf carriers has already had a major impact on SIA's bottom line. The three main Gulf carriers have emerged in recent years as major competitors to SIA in the Australia-Europe and Asia-Europe markets. Gulf carriers are also starting to compete more in the Southeast Asia-North/South America market, competing with SIA on its New York, Houston and Sao Paulo services. (In some cases Gulf carriers offer faster connections than SIA from Singapore to these three destinations, which SIA services with a one-stop online product via Europe.)

Gulf carriers also carry a significant amount of traffic from Asia to the Middle East and Africa, making it difficult for Asian carriers to grow in the Middle East and Africa region. SIA has been shrinking its Middle Eastern operation in recent years, including dropping Abu Dhabi in FY2013, and currently only serves two African countries, Egypt and South Africa, with its own metal.

Has SIA done enough on strategy side to combat declining yields and profits?

In FY2013, SIA's passenger yields were down by 3.4%. While SIA does not breakdown yields by region it confirmed long-haul routes to Europe and North America drove the decrease while yields on routes within Asia-Pacific preformed better.

The decline in yields pushed up SIA's break-even load factor by 2.7ppts to 80.7%, offsetting the 1.9ppts increase in load factor to 79.3% it was able to achieve for the year ending 31-Mar-2013. SilkAir's break-even load factor also increased by only 0.5ppts to 70.2%, keeping ahead of its actual load factor, which slipped by 2.1ppts to 73.6%. (The slip in load factor at SilkAir occurred as the carrier decided to aggressively expand capacity in secondary markets in China ahead of demand as part of a strategy to build up its presence at congested airports before it gets shut out due to slot limitations.)

SIA mainline annual passenger load factor vs breakeven load factor: FY2009 to FY2013

Note: SIA mainline only (excludes SilkAir and Scoot)
Source: SIA Group (FY2013 results presentation)

In 4QFY2013 SIA's passenger yield returned to FY2010 levels, when yields were impacted by the global financial crisis. The group's operating loss widened to SGD44 million (USD35 million) in 4QFY2013. The group's operating profit was also down in two of the other three quarters in FY2013 compared to an already weak FY2012.

SIA monthly passenger yields (includes fuel surcharge): FY2010, FY2012 and FY2013

Source: SIA Group (FY2013 results presentation)

SIA Group quarterly operating profit: FY2013 vs FY2012

Source: SIA Group (FY2013 results presentation)

SIA is banking on long-haul passenger markets to Europe and North America eventually recovering. It prefers to wait out the storm rather than significantly cut back capacity to Europe or pull out altogether.

Embracing the previously unimaginable, a close partnership with a Gulf carrier, was the solution ultimately pursued by Qantas as well as by several major European carriers. But SIA has a different perspective and its renewed push for partnerships will likely focus - at least for now - on carriers within Asia, particularly China and India. Time will tell if this, along with the already completed steps in the new SIA strategic roadmap, is sufficient to reverse the current trend of declining profitability.