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fuel costs

Jul 10, 2017

The good oil on fuel price effects, and an off-screen turf war

Analysis by IBISWorld on the fragile benefits of lower aviation fuel prices also begs the question as to why it has been released to the free media

Lower fuel costs have reduced the immediate appeal of super efficient designs like this Airbus A350-900

To a casual reader or air travel consumer, the signals from airlines about fuel costs going up and down can seem confusing, and the insights that are provided by independent analysts, and stock brokers are almost exclusively placed behind proprietary paywalls.

Even a few years ago, much of that advice was reprinted with permission by the financial media, but less commonly today, with analysts and brokers themselves nervous about the blindingly obvious threats posed to them by likes of Google and Facebook, with their capacity to become even stronger global information portals than they are today.

Which makes an email from IBISWorld (slogan Knowledge is Power) well worth sharing at length as well as trying to relate to the disintegration of the general, and for all intents and purposes, largely free media, even where there is a very low and usually bargain priced paywall to overcome.

Here it is, minus graphics which you can readily access from the filed financial reports of Qantas and Air New Zealand

The current sustained period of low oil prices has been cited in recent IBISWorld research suggesting domestic and international airlines are benefiting from paying less for the industry’s largest cost and improved profit margins on airfares.

“The domestic and international airlines industries have undergone substantial change over the last five years with increased competition from foreign low-cost carriers, ambitious fleet renewal programs and a restructuring of route capacity. The weaker price of crude oil, however, has delivered a significant cost saving to airlines that built sustained high fuel costs into their business models,” said Mr Nick Tarrant, IBISWorld Senior Industry Analyst.

“The number of people travelling to, from and within Australia has increased over the past five years, resulting in increased passenger numbers for domestic and international carriers. Not only has the number of tourists travelling to Australia from nearby Asian countries increased strongly, so too has the number of Australian residents travelling overseas. While international airlines have generated strong revenue growth over the five-year period to 2017-18 as a result of a lower oil price and increasing passenger numbers, domestic airlines’ growth has been curtailed by continued fierce competition between Qantas and Virgin which between them, including subsidiaries, control almost 90 per cent of the domestic market,” added Mr Tarrant.

Fuelling profit

Fuel is the most significant cost for international airlines. Most major players hedge against volatile fuel costs to provide some certainty in their operations. As a result, falling oil prices do not automatically result in greater profits for airlines.

“While oil prices fell sharply in 2014-15, some airlines had hedged the price of fuel at the market rate before the price plummeted. These firms were not able to benefit from the cost savings, which constrained profit margins. However, some airlines benefited from lower oil prices, such as Qantas,” said Mr Tarrant.

Qantas posted a record underlying profit of $512.0 million for its international business in 2015-16, which was a significant recovery following huge losses in 2013 and 2014. Qantas’ total fuel costs as a share of expenditure fell from 27% in 2014-15 to 22% in 2015-16.

“Across the Tasman, Air New Zealand’s results tell a similar story. Fuel accounted for 32.0% of Air New Zealand’s cost base in 2011-12, causing the firm to post a weak profit margin of 3.5%. In 2015-16, fuel accounted for only 21.1% of Air New Zealand’s costs, and the firm posted a significant profit margin of 15.9%,” said Mr Tarrant.

IBISWorld analysis attributed Air New Zealand’s increased profit in 2015-16 to lower fuel prices, new routes and the rising popularity of New Zealand tourism, which is a major revenue source for the airline. Inbound passenger numbers to New Zealand rose by an annualised 6.1% over the five years through 2016-17, on the back of growing demand from Asian markets. Weak consumer sentiment in Australia has also benefited New Zealand tourism, as Australians have substituted long-haul travel with shorter trips to New Zealand.

“Competition on trans-Tasman routes has intensified as Qantas and other major airlines have expanded capacity, causing Air New Zealand to lose market share and profitability on routes such as Auckland to Sydney, and Auckland to Melbourne,” added Mr Tarrant.

Crowded skies

A sustained period of weak oil prices since mid-2015 has also negatively affected major airlines. Cheaper operating costs have made it easier for foreign airlines, such as AirAsia X, Singapore Airlines and Philippine Airlines, to expand into the Australian and New Zealand markets.

“These trends have forced larger airlines such as Qantas and Air New Zealand to alter their route capacity. An airline’s load factor, which measures how many seats are filled per flight, has risen over the past five years as operators have adapted to changing market conditions. Airlines have realigned their capacity to close unprofitable routes and make greater use of existing capacity,” said Mr Tarrant.

Qantas and Air New Zealand have tracked largely in line with major players in the United States, such as American Airlines and United Airlines, as falling oil prices and greater competition have caused airlines across the world to change tact.

Falling fares
“International airfares have fallen significantly over the past few years. Expanding capacity along key routes has bolstered competition, while lower oil prices have allowed firms to heavily discount flights to Europe, Asia and North America,” said Mr Tarrant.

”When oil prices fell in 2015, a lag occurred as airlines did not immediately pass their lower costs on to customers as they aimed to expand or invest in new aircraft. Although most airlines eventually reduced or eliminated their fuel surcharges on international routes due to competitive pressures, these changes took time and allowed airlines to improve their bottom line,” added Mr Tarrant.

Flash fleet

Qantas has focused on renewing its international aircraft fleet over the past five years. The company currently operates Airbus A380s, Airbus A330s and Boeing 787 Dreamliners (among other aircraft) on several international routes. These aircraft, particularly the 787, have greater fuel efficiency and longer ranges than the company’s older aircraft, such as the ageing Boeing 747.

“In August 2015, Qantas announced that it had ordered eight 787-9 Dreamliners to replace its older 747s on several international routes. While the 787-9 aircraft will have a lower seat capacity than the 747s, their greater fuel efficiency is anticipated to reduce the company’s fuel costs and enhance passenger comfort,” said Mr Tarrant.

The first Qantas Dreamliner is expected to be delivered in 2017, with an initial flight planned on the Melbourne to Los Angeles route in December. The Dreamliners will also allow Qantas to offer non-stop flights between Perth and London, replacing the previous Melbourne to London route that was serviced by its Airbus A380 fleet. This will allow Qantas to redirect its A380 fleet towards in-demand Asian routes, which IBISWorld expects will boost the firm’s passenger load factor on international routes. Air New Zealand has already benefited from this trend, taking delivery of nine 787-9 Dreamliners since 2013. Conversely, Virgin Australia has not significantly increased its international fleet, preferring to focus on codeshare agreements and  on more profitable domestic routes, having lost significant market share on international flights to a growing number of competitors. (End of body of email.)

That emailed summary reflects the content of separate proprietary analysis of Australian market, as in domestic here, and international.  There is much more detail within each, but unlocking requires money.

In this writer’s opinion, the natural clients for the full reports would not just be serious investors, but existing or intended stakeholders in Australian tourism in local government, and major investors in the discretionary and inbound visitor markets.

IBISWorld has invested considerable effort into its research. It does things traditional newspapers ceased to do in almost all instances much earlier this century, but its bespoke approach to very useful Australian intelligence may have the same relationship to the universal ambitions of the major internet players as dinosaurs had to errant giant asteroids or comets.  It wants to underline its value to a core part of Plane Talking and Crikey’s readerships. This reporter would argue contrary, or additional information, to some of Mr Tarrant’s commentary, although they relate to aspects of the industry that financial analysts wouldn’t find amenable to number crunching, so perhaps they don’t appear in the IBISWorld report because they can’t be measured in hard statistical terms.

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8 comments

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8 thoughts on “The good oil on fuel price effects, and an off-screen turf war

  1. patrick kilby

    Ben, a very good commentary of the analysis. I suspect the bit they won’t refer to is passenger comfort in, say, a 787. The sad thing is the punters are buying it. Checking prices for a trip Canberra Madrid n back. A few months ago QF were quoting the same price coming back either via Dubai and Sydney or via London and Perth. Now the Perth option is $200 more for the same RedE special. This means the bone crunching 787 (I just did it with United where they starve as well as squash you) is in high demand a couple of months after it starts. No upgrades or cheap fares so via Dubai for me.

    1. Dan Dair

      I’m concerned that what I regard as an excellent strategy of Perth to LHR, will fall-on-it’s-head because customers will only do it once & never again.
      After 17 hours squashed into a SardineLiner going to London,
      coming back in A380’s via Dubai might seem like the lap of luxury.?
      Not just half-decent food,
      but room to move your elbows, to comfortably get that food to your mouth.!!!

      1. ghostwhowalksnz

        the seat width is much the same as that other ‘sardineliner’ the 747

    2. Rais

      You should be grateful that they starved you Patrick. If you’d had food you might have needed the toilet. I gather the toilet on a squeezy 787 isn’t easy to use.

  2. Roger Clifton

    If a synfuel industry becomes established and supplying into the aviation industry, it would establish an enduring price for synfuel
    that would set a long-term ceiling in the price of fossil aviation fuel. It would be in the interests of the aviation industry to fund the engineering development and secure long-term contracts that keep both industries afloat… and aloft.

    1. Dan Dair

      An excellent point.
      Additionally, any company, especially if it is working with a local university research group, would massively benefit themselves & the nation if they were the first to begin large-scale production of synthetic aviation fuel.

      Getting-in early, with ownership or the cheap licensing of the patents necessary would be a huge bonus,
      plus working close to Sydney or Melbourne would create a massive potential captive-market for their product.

      Airlines want to be seen as clean & green. They particularly don’t like being singled-out by activists as the future-polluters.
      As soon as the syn-fuel is available, if the price is at least comparable, they’ll go for it & get the ‘tree-huggers’ of their backs.

      Australia can be at the forefront of this technology,
      or it can just languish, disinterestedly, while other nations & airlines take the plaudits (& the marketing opportunities) for leading the way.?

  3. Zarathrusta

    I for one am very happy for airlines to make a profit on their primary business at the moment. The fares at the moment are very good and the airlines need to replenish their coffers for the next downturn.

  4. comet

    Renewable energy must play some roll – I’m not sure how much – in keeping the price of fossil fuel down.

    The day we have aircraft that use electricity rather than explosive fossil fuels may be a step closer. Virgin Group chief Richard Branson was quoted in The Guardian today:

    “I was told 10 years ago it wasn’t possible to get across the Atlantic with a plane carrying a battery powered by clean energy before 2050, because of the weight of it and so on,” he said.

    “But the way things are moving, it’s quite possible that a battery driven plane could carry a plane full of passengers across the Atlantic by 2030. The airline industry could tick that box [on reducing emissions] before some other industries.”

    https://www.theguardian.com/environment/2017/jul/15/trump-paris-climate-deal-richard-branson

    Branson has good connections to the managements of Airbus and Boeing. I wonder what they’ve been telling him.

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