Implications of adding capacity too quickly and getting a wrong “pulse of demand”.
Airlines and airports are anxious to restart operations. It is understandable as they have been operating in a near zero to zero revenue environment. By adding capacity too quickly and mismatching forward looking demand (which has been very difficult to forecast) could be as disastrous for airlines as it was to ground their fleet. Especially, as airlines today are in a weak financial position where cash preservation and properly managing working capital and cash flow are key as reducing cost and rightsizing are.
Would airlines not be better off if they avoid excess capacity and concentrate flying smaller seat capacity planes, operating fewer routes and connecting banks with fewer aircraft types while they get a “pulse of demand” and are able optimize load factors, RPKs, aircraft utilization and rebuild profitability?
Even pre-COVID times, the industry was already facing capacity, unit cost pressures and profitability issues. Aircraft delivery schedule were to double and reached record high numbers in Y2020. Overcapacity was already putting significant pressures on yields and airline profitability. Bad signs were everywhere. Would then airlines finally realize that profitability (even at the expense of operating a smaller but highly profitable network) goes first than crowing about market share that dilutes shareholder value?
Recently, I analyzed a number of FSC networks that have pushed aggressively long and ultra log haul P2P (going solo rather than codesharing with partners and alliance members) services in the past few years. The strategic move centered on deriving higher yield and premium revenue and potentially the ability to balance out unprofitable services especially domestic routes due to fierce ULCC competition. In addition, I noticed that when volumes could guarantee at least three services per week from a tier 2 city, network contribution was significant but it deteriorated when having to connect (with mainline service operator) at primary hubs due to competition at both ends (domestic ULCC operator and intl. FSC operators).
In that case, would airlines not be better off by working out a deal with a domestic ULCC competitor to feed traffic to a hub rather than adding capacity and operating at a domestic route level loss for the sake of maintaining a larger domestic market share? Is it ego that we want to grow larger and larger even at the expense of losing money and destroying investor value? Sometimes, I wonder. Simply put, the one size fits all formula of serving domestic, regional and international flights might have to be reviewed post pandemic era.
In terms of adding seat capacity in these uncertain times, remember we don’t have a vaccine yet and there are more than 40 uncontrollable variables, many unknowns and what if scenarios. Latest industry May 2020 survey from Rockland Dutton shows passenger are even more cautious to book travel. Now, only 45% (down from 60%) will fly within one or two months. Therefore, restarting operations with 50% of a network and one-third of (or less) of normal capacity seems prudent while one tries get a “pulse of demand”, bring back cost efficiently resources (crews/aircraft, etc.), rebuild operations and profitability.
In these times we all need a splash of optimism but it is paramount to be realistic. Carefully matching capacity with demand has perhaps never been more strategic than today in this fragile economic environment.
Going forward, it is expected that the most successful carriers will be those that are able to ramp up operations (while bringing back resources and technology) in the most cost efficiently manner once countries travel restrictions are lifted. However and by adding excess seat capacity (and its high related costs) too soon and getting a "wrong pulse of demand" could mean putting a business at a higher risk of insolvency including bankruptcy or closing doors. Moreover and by offering ultra not sustainable cheap airfares to kick-off a post COVID-19 travel season while destroying yields and profitability would also be detrimental to the business. Worst yet and if seat capacity strategy is not well executed, it might prove to be the final blow for an airline, its employees and investors.
But the question remains: Are we getting into a new cycle of ultra-low not sustainable fares and potential excess capacity in a fragile liquidity and cash on hand position environment? Potentially, yes as per examples below. You decide…
Example of potential yield dilution: $19 OW fares SYD-MEL
Example of perhaps too optimistic views of demand recovery and implications on seat capacity: By Spring 2021 not even the domestic US market will have bounce back to pre-crisis demand levels let alone international markets. The capping of load factor comment does not make sense either to achieve said break even number unless one is charging and arm and leg to each business passenger.
Director, Partnerships at LanzaJet | Sustainable Aviation Fuel | Circular Economy | Nature Positive Solutions | Just Energy Transition
4 年Very thought-provoking, René Armas Maes - clearly, the FSCs and especially those with H&S operations, will be desperate to regenerate a level of scale that underlies the viability of their business model. In saying that, this might lead to unsustainable 'dumping' of supply, in order to artificially re-generate demand, or airlines looking to satisfy their confirmation bias regarding a scope to deploy capacity on a route, based off too little of a 'pulse'. The onus now is on the industry to re-assess and understand why people will want to fly in and beyond a COVID-19 context, what kind of demographic this makes up, what kind of price points are most relevant and ultimately, what business model suits this approach etc. To fall back on old methods and to use pre-existing assumptions to generate Post COVID-19 strategies would be a mistake; and to simply try and allow 'artificial supply to lead demand' is clearly not enough.
Commercial & Strategy I Chairman I Board Member I Advisor
4 年Michael Peters Hello Michael, I saw a previous post where you had questions about post COVID-19 excess capacity and as a way to kick-start the travel season using ultra-low fares. Maybe you can share your thoughts here? Rgds
Regional Director, Airline Marketing at Embraer
4 年Excellent article. Now is the perfect time to review carefully the entire network and restart in a sustainable manner, focusing on generating healthier yields and Load factor rather than just back to 2019 capacity levels.