State of the Aviation Industry

Booz & Co analyses the state of the regional aviation industry.
ANALYSIS, Aviation

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As a new year begins, Booz & Co analyses the state of the regional aviation industry.

Airports
With the expansion of the Middle East’s national carriers, regional governments are also investing in upgrading and building new airports. In particular, the airports of the major airlines are becoming best-in-class emerging global hubs: They make use of advanced technologies (such as electronic immigration, navigation, and docking systems) to improve passenger flow and air fleet operations, and their terminals are designed to facilitate access to retail areas, maximising passenger spending.

Dubai, in particular, has become the largest hub in the GCC region, on course to becoming the fastest-growing airport worldwide, with 9.2 percent growth and a record 40.9 million passengers in 2009. In comparison, Heathrow and JFK had 66 million and 46 million passengers respectively.

Regional expansion is planned to continue, with proposed projects to grow capacity for Abu Dhabi (from 7 million to 33 million), Doha (from 12 million to 38 million) and Dubai (from 70 million to a remarkable 120 million with the new Al Maktoum Airport).

In parallel to growth in passenger traffic, airports in the Middle East are facing other emerging trends. Greater airline focus on costs is leading to aggressive negotiations.

Passengers expect greater convenience and services, such as limousine service, luxurious lounges, and a wide range of duty-free shopping. The difficulty of finding qualified personnel to support growth and services is leading to operational constraints.

The regulatory and political environment has generated enhanced security requirements, compromising service and convenience. Finally, increasing competition between neighbouring airports is leading to significant oversupply.

The trends are spurring four major challenges: a need for improved airport processes, such as upgraded security facilities; aeronautical revenues that are not growing at the expected rate; the need to streamline passenger interfaces and services; and the need to optimise costs through improved asset utilisation and partnering models.

Consequently, airports will need to rethink their strategies to achieve long-term sustainability, moving away from traditional aviation business models and better incorporating private partnerships, promoting privatisation, and driving non-aviation revenues.

By Fadi Majdalani, partner, and Tansel Kilicarslan, senior associate

Civil Aviation
The year 2010 has been a challenging one for the Middle East’s aviation regulators, particularly in four areas: flight safety, aviation security, environment, and market liberalisation.

The region’s record in aviation safety has reached worrisome levels: The number of catastrophic accidents per million flights is 3.32, four times the worldwide industry average.

The strong growth in traffic and fleet size requires more capable industry oversight that makes more efficient use of regulators’ time and efforts. CAAs should consider switching to smarter risk-based methodologies, which are the foundation of ICAO’s State Safety Plan (SSP) program. Regional regulators should focus on full implementation of the SSP, which most states have launched in some fashion but none have yet taken to full operational implementation.

Concurrently, global aviation security was shaken in October 2010 by several unlawful actions targeting cargo aviation, which could have led to a large-scale, multiple-attack catastrophe. They had a particular impact on regional security, since the packages containing explosives originated in Yemen and one was routed through Doha and Dubai.

System inadequacies in identifying and tagging the weak links in the security chain make it regulators’ top priority to implement risk-based intelligence and threat assessment methodologies, which will enable co-ordination with the relevant national security intelligence systems.

In terms of environment and emissions levels, IATA committed in 2010 to carbon-neutral growth starting in 2020, with the goal of halving 2005 industry emissions by 2050.

Meanwhile, despite the Middle East’s young fleet, fuel efficiency in the region continues to be poor, mainly because airspace requirements force airlines to take longer routes than necessary, with more frequent ‘go-arounds’ prior to landing.

As such, environmental sustainability is a key challenge for regional CAAs. They need clear national policies empowering them to regulate ground and flight emissions, move towards a technologically and operationally harmonised airspace, and influence the international ETS debate by expressing their respective governments’ positions.

Finally, market liberalisation remains a long-standing priority due to restrictions on air traffic rights, the lack of a uniform air traffic service, constraints on free travel, and travel taxation.

Regulators should focus on implementation of the 2004 Damascus Convention to enable the region’s market to develop to its full potential.

By Alessandro Borgogna, principal, and Leonardo Monti, senior associate

Air freight
The Middle East air freight market accounts for approximately 8 percent of the 40-45 million tonne global market, and primarily serves volumes originating from Europe and Asia Pacific. It was the only region to show some growth in 2009.

Dubai, for example, witnessed the year’s highest growth in air cargo movement, showing an increase of 5.6 percent. As global air cargo traffic is recovering in 2010, we expect steady growth in the region to resume at an average rate of 5 to 6 percent per year.

The air cargo market will continue to develop in the Middle East, driven by the region’s strategic position at the crossroads of global trade routes.

Dubai was the first mover in taking advantage of this strategic position and has already become one of the world’s major re-export hubs; it now serves over 60 percent of regional air cargo volumes.

The region, and Dubai in particular, serves large volumes of cargo that originate from South East Asia by sea and is then transported to Europe by air. Demand is also on the rise from withian the region, as nations continue tao diversify into non-oil sectors such as manufacturing, logistics, and construction, which have a need for air freight services.

New infrastructure, especially Al Maktoum International Airport with 16 cargo terminals and its integrated logistics capabilities, will further boost the region’s position as a trans-shipment and cargo hub.

Also, Abu Dhabi, Qatar, Saudi Arabia, Oman, Bahrain and Kuwait have continued to expand their air freight capabilities and infrastructures to meet the growing demand. Although the overall outlook is positive, the sector is likely to continue facing a number of challenges.

Aggressive airport and fleet expansion plans may lead to overcapacity: In addition to the expansion under way at Jebel Ali, there are substantial airport expansions moving forward in Abu Dhabi, Doha, and Dubai, with other, smaller expansions happening around the region.

The regional cargo fleet currently consists of more than 40 aircraft and is expected to expand in the near future: Emirates SkyCargo alone currently has 15 cargo planes on order. The sector will also need to work with governments to address complicated customs regulations and procedures, which remain a major impediment to cargo movements.

By Alessandro Borgogna, principal, and Ekaterina Arsenieva, senior associate

Airlines
Although air travel all over the world has started to recover from the global downturn, the growth of the Middle East’s aviation industry has been notable. Passenger traffic was up 19 percent in the first nine months of 2010, compared with 8 percent worldwide; freight traffic is up 31 percent, compared with 25 percent worldwide. This growth is mainly driven by three factors.

The first is the growth of the network carriers, such as Emirates Airlines, Etihad and Qatar Airways, which have capitalised on their strong network and the region’s geo-centricity: Four billion people living within an eight-hour flying zone.

The second is the growth of the budget carriers, such as Air Arabia, Jazeera Airways, and Fly Dubai, which have drawn on the unprecedented boom in point-to-point budget travel within the region.

The third factor is the massive influx of investments into the region’s aviation system, including state-of-the-art and passenger-friendly airports; the latest generation of aircraft, which can connect, non-stop, any two points on the globe with lower operating costs than older aircraft; and award-winning products and services that offer passengers an unparalleled travel experience.

Yet looks can be deceiving. The region’s rapid growth in aviation masks some significant challenges. Middle East carriers have more than 500 aircraft on order, posing the risk of overcapacity—particularly since the region’s airlines have similar value propositions and considerable network overlap, leading to a potential price war. Another critical challenge is the risk of securing additional traffic rights in some markets to support their rapid growth, as illustrated by the recent dispute between the UAE and Canada.

In light of new competitive circumstances and industry changes, Middle Eastern carriers need to rethink their growth strategies. They should consider global partnerships to further strengthen their network and access untapped and bilaterally constrained markets. Local consolidation could increase market share while maintaining healthy price levels. Finally, diversified business models could generate new income streams.

By Fadi Majdalani, partner, and Marwan Bejjani, associate

Airspace Management
Airspace is one of the factors that most restricts the full development of the Middle East civil aviation industry. Passenger and cargo traffic growth in the first nine months of 2010 have been strong, at 19 percent and 31 percent respectively; by 2011, growth should be back to pre-crisis levels.

Additionally, there is likely to be more traffic through the Mediterranean routes as the Single European Sky (SES) doubles capacity, beginning around 2012. All of this traffic is fighting for space within fragmented airspace that is heavily restricted by the military, as well as burdened by varying air navigation technologies and traffic management procedures.

These issues limit the industry’s capacity for traffic growth, causing increased complexity and higher costs to air carriers. In this context, three key areas should be of primary concern to Middle East governments and their Air Navigation Service Providers (ANSPs).

Strategic Co-ordination: Despite IATA’s efforts, the region still lacks a defined airspace master plan to guide its evolution in the next five to 10 years. Decision-making by the region’s ANSPs and regulators is still too individualistic; more active and collaborative participation among the existing working groups is needed to build a common vision of the region’s airspace future and structure.

Military Restrictions: The region’s airspace is extensively restricted by military no-fly zones. As a result, airlines have to fly longer routes and burn more fuel, while airspace capacity is reduced and congestion-induced flight safety risks are increased. Middle Eastern governments should wait no longer to introduce flexible use of airspace, whereby airspace is dynamically allocated to the military on an as-required basis.

Operational Harmonisation and Consolidation: Due to the high density of ANSPs in the region, airspace is fragmented and bottlenecked by the technology-limited providers. Governments should therefore focus on harmonising technology and, more important, look at consolidating ANSPs at national and international levels following the European model.

Technology-limited providers should seek public and private financing for their ANSPs; since these ANSPs have an impact not only on their own airspace but on their neighbours’, wealthy neighbouring countries may also want to consider investing in this infrastructure. Assigning peace-time military traffic control to civil ANSPs is another highly recommended lever, as demonstrated by the successful stories of several European countries.

By Alessandro Borgogna, principal, and Leonardo Monti, senior associate

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