17-Jan-2013 8:00 AM

Singapore Airlines interline boosts Scoot’s prospects but growth & profits are still two years away

Analysis

The partnerships strategy at Singapore's new low-cost long-haul carrier Scoot has emerged, with an interline agreement covering flights operated by sister full-service carriers Singapore Airlines (SIA) and SilkAir. Scoot - which also began a partnership with short-haul LCC affiliate Tiger Airways in Oct-2012 and will soon add interlines with Tiger's subsidiaries in Australia, Indonesia and the Philippines - expects to add several airline partners from outside the SIA Group during 2013.

The partnerships are crucial as Scoot needs a virtual network and can't entirely rely on point-to-point traffic to fill its 402-seat Boeing 777s. While Scoot has succeeded in filling up its initial fleet of four 777-200s, recording a load factor of nearly 80% in its first seven months of operation, the carrier is slowing down expansion until it receives more efficient Boeing 787s.

Scoot will now only take one additional 777 in 2013 and will not expand its fleet beyond five aircraft until 2015. More rapid expansion is expected in 2016 to 2018 with Scoot's fleet growing to 20 787s by the end of 2018. The partnerships forged now are crucial for providing the traffic base and yields needed to ultimately support a 20-aircraft operation and achieve sustained long-term profitability.

SIA and SilkAir interline expands Scoot network by 11 destinations

Scoot quietly launched on 15-Jan-2013 a new interline with SIA and SIA regional subsidiary SilkAir that gives Scoot access to 19 destinations, including eight destinations already covered through its partnership with Tiger. Scoot has forged a Special Pro-Rate Agreement (SPA) with SIA and SilkAir, as is customary with interline relationships.

The SPA is a one-way partnership, covering only flights operated by SIA and SilkAir and is limited to destinations within Southeast Asia and Australia. SIA and SilkAir connecting flights are now on sale on Scoot's website for travel starting 01-Apr-2013.

The 19 destinations include two destinations operated by both SIA and SilkAir (Kuala Lumpur and Hanoi), 10 operated only by SilkAir and seven operated only by SIA. The earlier partnership with Tiger covers 24 destinations in Southeast Asia, South Asia and China. Eight of these destinations are also now also covered by SIA and/or SilkAir - Hanoi, Ho Chi Minh, Jakarta, Kuala Lumpur, Kuching, Manila, Penang and Phuket.

The three interline agreements give Scoot a total network of 43 destinations (excludes Singapore), including the eight destinations it serves on its own and 35 offline destinations. The destinations that Scoot serve alongside the Tiger and/or SIA brands, such as Bangkok and Taipei, have been excluded from the interline partnerships, leaving Scoot to promote its own Scoot-to-Scoot connections.

Scoot's interline network: as of 01-Apr-2013

The overlap in the interline networks provides Scoot passengers heading to the eight destinations covered by both Tiger and SIA/SilkAir with more convenient, but generally more pricey, options as Scoot-Tiger connections often require long layovers in Singapore in at least one direction. Passengers now have the option of much shorter connection times on several city pairs as they can fly Tiger in one direction and SIA or SilkAir in the other.

In theory the Tiger option on overlapping routes with SIA-SilkAir, such as Singapore-Kuala Lumpur, should be cheaper but Tiger fares fluctuate and Scoot passengers are simply quoted whatever Tiger is charging for that sector as the fare for Scoot-Tiger combinations is calculated on a sum of sectors basis. For SIA and SilkAir the fare for the connecting sector is calculated using a pro-rate.

Scoot, not surprisingly, receives attractive pro-rates from SIA

Ultimately how competitive the pro-rate is will have an impact on how many Scoot passengers end up taking the new Scoot-SIA and Scoot-SilkAir combinations. Airlines typically have SPAs in place with dozens of other airlines but some airlines get better deals and better access to inventories than others. As Scoot is 100% owned by SIA, Scoot most likely received a better deal than SIA's other interline partners.

Scoot seems to have received relatively low fares for SIA/SilkAir, based on a sample survey for travel in Apr-2013 or May-2013. But in most cases the fares are still higher than Tiger for the same sector.

For example, Scoot is charging Sydney-originating passengers AUD129.37 (USD136.38) for a SIA or SilkAir flight from Singapore to Kuala Lumpur, AUD161.38 (USD170.08) for a SIA flight from Singapore to Ho Chi Minh, AUD173.37 (USD182.73) for a SilkAir flight from Singapore to Phuket and AUD177.37 (USD186.95) for a SIA flight from Singapore to Manila (includes taxes in all cases). As is typically the case with SPAs, the same fare is offered on all flights regardless of the specific date assuming seats are available (there is also no difference in the fare for SIA versus SilkAir on routes both carriers operate).

Tiger for the same dates is significantly cheaper - generally half the price or less - for Kuala Lumpur, Ho Chi Minh and Phuket as there are promotional fares still available for the dates surveyed. But Tiger is almost identical in price as SIA for Singapore-Manila. For Scoot passengers not booking tickets in advance or looking to travel on peak days, the SIA/SilkAir prices could frequently be cheaper.

SIA will not sell on Scoot

SIA and SilkAir are not interested in selling Scoot flights as they are keen to maintain the premium position of their brand. The group has repeatedly maintained that its low-cost and full-service brands will be kept separate.

SIA has determined that allowing Scoot to sell its full-service flights will not dilute this position or cannibalise its full-service economy class business. Long-haul flights to Europe and North America have been excluded from the SIA-Scoot SPA as the idea is to give Scoot regional connections and as a group attract budget conscious passengers which are now flying within the Asia-Pacific region on other airlines through competing hubs such as Bangkok and Kuala Lumpur.

While SIA's own transit product will overlap with Scoot's new interline product on certain city pairs or connecting itineraries, the SIA Group believes there will be sufficient differentiation between the two. For example a passenger heading from Sydney to Ho Chi Minh on an all-SIA itinerary will be able to receive their boarding passes for both legs in Sydney (or online before going to the airport), have their bags checked through to Ho Chi Minh, be able to accrue frequent flier miles and enjoy complimentary meals, drinks and IFE on both sectors. A passenger buying a Sydney-Ho Chi Minh ticket on Scoot with SIA only operating the Singapore-Ho Chi Minh leg will have to pay for food, drinks and IFE on the first leg and will not be able to accrue frequent flier miles on the first leg.

The Scoot passenger will have the option of paying an additional SGD14 (USD11.40) for the Scoot-Thru product, which allows the passenger to receive the boarding pass for their second flight at a special airside transfer desk at Changi Airport Terminal 2. The transfer desk also arranges the passenger's bag to be checked through to Ho Chi Minh. Unlike SIA, Scoot will not check bags at Sydney through to Ho Chi Minh and if the passenger purchases Scoot-Thru but does not show up at the transit desk the bag will not be checked onto the second flight.

Interline passengers not paying for Scoot-Thru need to clear immigration in Singapore and re-check in for their second flight. The Scoot-Thru product, if purchased at the time of ticketing (it is also sold on the spot at the transit desk for SGD20 (USD16.30)), also provides re-accommodation on the next flight without any charges for passengers missing their connections. Without Scoot-Thru passengers are essentially self-connecting and are responsible for buying another ticket for the connecting flight in the event their first flight is delayed.

Scoot automatically includes its FlyBag bundle with all interline tickets, which makes it easier to work with full-service carriers as a seamless product is provided. There is no flight-only option on Scoot interline tickets and Scoot also currently does not sell business class seats on any interline itineraries. The decision to not offer business class on interline journeys keeps the model simple but also could be seen as a move to protect SIA's premium product. Scoot does sell business class on Scoot-to-Scoot connections.

Scoot now has the platform in place to add more airline partners

Changi Airport, through a contract with Singapore Airport Terminal Services (SATS), is providing the transit service in exchange for some of the proceeds generated from the Scoot-Thru fee. The service includes manning the transit desk and having an employee pick up the customer's bag and check it in for the second flight.

Scoot has already been providing the Scoot-Thru product in collaboration with Changi Airport on Scoot-to-Scoot connections since Nov-2012. Previously Scoot passengers on connecting itineraries did not have the option of an airside transfer and had to go through immigration before checking in for their second flight. Scoot has now also started offering the Scoot-Thru product for Scoot-Tiger itineraries while Tiger also recently launched essentially the same product for Tiger-to-Tiger connections for travel starting 01-Feb-2013. Tiger calls the product tigerconnect but it uses the same transit desk and offers the same Changi Connects service. Scoot and Tiger, recognising the value of offering a transit product, were instrumental in defining the Changi Connects programme.

The product is built so that other partners can be added easily. Scoot plans to soon add Tiger affiliates Mandala and SEAir, which will add to Scoot's virtual network more destinations in Indonesia and the Philippines. Scoot also plans to add destinations in Australia by partnering with Tiger Australia. As Tiger Australia does not serve Singapore, in this case the transit point will be at Sydney and/or the Gold Coast.

Other carriers outside the SIA Group could easily be added by Scoot using the same model. The carrier is talking to several foreign carriers which serve Singapore and are interested in offering onward connections from Singapore and/or receiving feed from Scoot.

Foreign carriers that do not currently have any partners, or lack strong partners, in Singapore could potentially find the product attractive. Singapore is now served by over 60 foreign carriers, according to Innovata data. Several of these carriers do not have codeshares or strong interlines with SIA.

As SIA is in Star, airlines which are members of oneworld and SkyTeam or are unaligned would more likely be in need of a local partner in Singapore. But some Star Alliance members could also be interested as SIA is not close to several of its fellow Star members. Scoot would not be as selective as SIA in choosing its partners and is keen to leverage Changi's status as one of the world's 20 largest international airports.

Scoot's Australia network, for example, could be enticing to European carriers looking to offer a product on the kangaroo route between Australia and Europe. While SIA is not interested in selling Scoot flights to protect its premium position, other full-service carriers do not have such issues and in many cases already work with low-cost carriers. As Scoot already automatically includes in its interline product the FlyBag bundle, which includes one checked bag, working with full-service carriers becomes an even simpler proposition as full-service carriers generally do not charge for checked bags and do not want its passengers to be charged for checked bags when transiting to connecting flights.

Partnerships are key to Scoot's long-term success

Scoot is currently talking to several foreign carriers and sees partnerships and providing a network as a critical component of the low-cost long-haul model. The failures of Oasis Hong Kong and Viva Macau, both of which were independent long-haul low-cost carriers which did not work with other carriers and relied entirely on point-to-point traffic, helped prove the importance of a network to the low-cost long-haul model.

Asia's other low-cost long-haul carriers have made similar conclusions, with AirAsia X working with its short-haul sister carriers at the AirAsia Group and Jetstar working with foreign carriers such as Japan Airlines as well as Qantas. (With Jetstar-Qantas, the arrangement also involves Qantas selling on Jetstar as Qantas does not have the same perspective as SIA when it comes to protecting its own full-service product.)

While some of Scoot's routes have sufficient point-to-point demand, the local Singapore market is only big enough to support a handful of medium/long-haul routes purely on local traffic. Approximately half of SIA's passengers transit at Changi onto other SIA or SilkAir flights. If Scoot is to grow as planned, it will need to rely almost as heavily on transit passengers. As CAPA reported in Oct-2012:

Scoot has limited network expansion opportunities due to a variety of reasons including regulatory restrictions, airport limitations and limited market size. The combination of smaller aircraft and feed from other carriers could change the dynamics and open up a significantly larger number of viable routes. There are several potential markets, such as Saporro in Japan, which Scoot has ruled out viewing them as too small to support 400-seat aircraft flying point-to-point.

Scoot to take first 787 in 4Q2014, leading to 15% reduction in operating costs

Scoot has time to build up strong partnerships with other carriers as it will remain a small player, with a 2% to 3% share of capacity at Singapore, until about mid 2015. Scoot has only one aircraft delivery scheduled for 2013 and one more for 2014, when the first of its 20 787 will be delivered.

Scoot CEO Campbell Wilson tells CAPA that the carrier's first 787 is slated for delivery in Nov-2014 and will be followed by several additional deliveries in 2015. The remaining deliveries are spread across 2016, 2017 and 2018 as all 20 aircraft are slated to be delivered within four years.

The initial batch of aircraft will be used to replace Scoot's 777-200s and once that is out of the way expansion will finally be accelerated. After the last of the five 777-200s exit in the first half of 2015, every 787 delivered will be used for growth. That will result in a rapid growth trajectory as Scoot's fleet grows from five aircraft to 20 within a period of a just over three years.

Scoot has been working on defining a configuration for its 787s since Oct-2012 when the carrier took over SIA's 2006 order for the 20 787s. Mr Wilson expects Scoot will configure its 787s with 350 to 360 seats and have a similar two-class configuration and product as its 777-200s. Scoot configures its 777s with 370 economy seats in a tighter than normal 3-4-3 configuration and 32 recliner-style business class seats in a 2-3-2 configuration.

The fact Scoot's 787s will have about 10% fewer seats than its 777s should be a benefit as Mr Wilson expects the 787s will be 25% more fuel efficient. As a result the 787 will usher in a 14% to 16% improvement in per seat economics, depending on if a 350-seat or 360-seat configuration is ultimately selected, which could easily make the difference between a profit and loss on several routes.

The smaller 787s will also be better for opening new thin routes, such as Saporro and secondary cities in India that Scoot has determined are too thin for its 777s. In addition, the smaller size and better operating economics of the 787 will allow Scoot to increase frequencies on several of its existing markets from 2015.

Scoot plans to hold off increasing capacity in existing markets using its fifth 777, which is expected to enter service in early May-2013. The carrier will instead use the fifth aircraft to add new destinations, which it will decide on within the next couple of months.

Additional destinations in China and/or Australia are possible in 2Q2013

A fourth and perhaps fifth destination in mainland China - where Scoot now serves Tianjin, Qingdao and Shenyang - is a likely scenario. Scoot is also considering further expansion of its network in Australasia, which now includes Sydney and the Gold Coast. A second destination in Japan is not currently under consideration, nor is the Middle East, India or South Korea.

There are bilateral issues with South Korea and India while there is not sufficient demand to support with 777s any Middle Eastern destination or a second Japanese destination besides Tokyo. A second short-haul route within Southeast Asia is also possible but only if Scoot has the downtime in its new five-aircraft schedule for a short flight but not another long flight.

Scoot, which launched services in Jun-2012, currently has six routes with three served daily - Singapore-Sydney, Singapore-Bangkok and Singapore-Taipei-Tokyo Narita. Singapore-Gold Coast is served with five weekly frequencies, Singapore-Tianjin with four weekly frequencies and Singapore-Qingdao-Shenyang-Qingdao-Singapore is served with only three weekly frequencies.

Scoot routes ranked by weekly capacity (seats): 14-Jan-2013 to 20-Jan-2013

Gold Coast and Tianjin, if the markets prove successful during this initial phase, could be upgraded to daily after the 787s are introduced while Qingdao and Shenyang could be separated into two separate flights. The current routing for Qingdao and Shenyang is not economical as the Qingdao-Shenyang sector has to be operated with only passengers heading from Singapore to Shenyang.

Scoot was blocked from its original plan of operating a Singapore-Qingdao-Shenyang-Singapore triangle route, which was more economical as it was one less sector and provided the possibility of full loads on all sectors. The route turned into Scoot's biggest setback in its first seven months as the carrier had to postpone the launch, originally planned for 27-Nov-2013, at the last moment because it did not have assurances that Chinese Customs and Immigration would process its passengers.

Scoot had to cancel the service for six weeks and change the routing from a triangle to a tag, which finally was launched on 11-Jan-2013. All passengers now clear customs and immigration at Qingdao, including passengers heading or originating in Shenyang. Qingdao-Shenyang-Qingdao is operated essentially as a domestic flight but Scoot is not allowed to pick up any domestic passengers.

Scoot network: as of 17-Jan-2013

Scoot has high load factors but needs to boost yields and lower operating costs

Despite the hiccup in northeast China, Scoot's first seven months has been relatively successful, with the carrier meeting most expectations during its start-up phase. Scoot passed the 500,000 passenger milestone on 14-Jan-2013, which according to CAPA calculations means the carrier has had an average load factor of 78% since its launch. But the carrier's yields have been very low as very low promotional style fares have been consistently offered on all its routes.

The low yields are not surprising as the carrier has been focused on building exposure during its start-up phase. But profitability with such an approach is virtually impossible, particularly given the economics of the 777-200.

The transition to 787s in late 2014 and early 2015 will immediately improve Scoot's operating costs. By that point, Scoot will have several robust partnerships in place, giving it the volumes and type of traffic to raise yields, particularly as the 787s are smaller.

Scoot's original business plan envisioned operating a fleet of 14 777-200/200ERs by the end of 2016. But the aircraft was always considered an interim solution and the SIA Group quickly realised Scoot needed to switch to smaller and new-generation widebody aircraft sooner rather than later.

The introduction of 787s, combined with a large group of partners, changes the dynamics significantly. Scoot is unlikely to be profitable until both these components are fully in place and the carrier is operating a fleet of several 787s.

The real test for Scoot will not come until the fiscal year beginning Apr-2015, when the carrier should have the fleet, network and strategy to start making positive contributions to the SIA Group. Having a likely initial loss-making period of three years is rather long but SIA Group has the financial backing to withstand three years of losses at Scoot and be patient as the new carrier slowly implements its business model.

SIA and Changi needs a successful (and profitable) Scoot

A successful Scoot would help usher in a new era of growth for the SIA Group as well as for Changi Airport. As much as SIA needs Scoot to tap a new segment of the market and to be able grow again at the group level, Changi needs a new segment for its rapid growth trajectory to be maintained.

Changi Airport was wise to ultimately embrace the LCC transit model and offer the Changi Connects service. Short-haul LCC expansion has been Changi's main engine for growth during the last decade, driving up Singapore's LCC penetration rate from essentially zero a decade ago to 30% today. But the short-haul point-to-point LCC market is now approaching saturation in Singapore.

Changi Airport capacity share (% of seats) by carrier type: 14-Jan-2013 to 20-Jan-2013

Promoting LCC transit traffic will enable further LCC growth at Changi and, therefore, more overall growth. LCC transit traffic will also enable more growth for short-haul LCCs serving Singapore, particularly Tiger, even if there is limited local point-to-point growth. It will also enable long-haul LCCs to be successful, leading to a large number of new LCC routes.

While LCCs have captured more than 50% of the short-haul intra-Southeast Asia market from Changi, they have only started to scratch the surface on medium and long-haul routes. Only with a high portion of transit traffic will these new medium and long-haul LCC routes be viable. Long-haul LCC operations now account for only about 4% of capacity at Changi, with short-haul LCCs accounting for about 26%. There are huge growth opportunities in the former but the model will not work without the transit traffic.

Singapore needs this new source of traffic more than ever as it is losing its status as a kangaroo route transit hub for Qantas at the end of Mar-2013, when Qantas shifts its London flights to rival Dubai. British Airways could be next to move the stopover of London-Sydney flights from Singapore. While Changi will always have SIA, the transit traffic at SIA is relatively stable and the airport needs to unlock LCC connections from the likes of Scoot and Tiger to offset the losses elsewhere and continue growing.

Jetstar has been a pioneer in pursuing transit traffic, including in Singapore where Jetstar has both a short-haul and smaller long-haul operation with three A330s. Jetstar traffic at Changi included a 14% transit component as of the end of 2011 and this portion will likely continue to grow as it works more closely with Qantas on Australia-Asia connections and continues to expand its long-haul operation. Rival Scoot is now following Jetstar with its own well thought out partnership strategy that significantly enhances its own prospects as well as the outlook for Changi.

Appendix

CAPA's complete coverage of Scoot includes the following analysis articles, in chronological order: