As a rule, airlines enter recessions first and exit last, and the current recession is no exception. While there have been a few signs of recovery here and there, the figures for premium travel (first class and business class seats) within East Asia remain dismal.
Premium passenger traffic was down 31.6% in May, according to the International Air Transport Association’s (IATA) May 2009 Premium Traffic Monitor. Flights to and from the Americas were not much better, down 30.7%, and flights to and from Europe were down 26.3%.
"Companies are realizing that travel is typically their second- or third-largest controllable expense. They need to get a handle on it and reduce the cost," said Gregor Lochtie, vice-president and general manager of Greater China for American Express Business Travel. Today, firms are ditching their loyalty to a given airline and going for the lowest logical fare, an industry term meaning the cheapest fare that still adheres to a company’s travel policy, he said.
Coping with loss
This is bad news for carriers. Premium tickets typically make up around 25-30% of all passenger revenue, while only accounting for 7-10% of capacity. In the past, airlines could use revenues from premium bookings to offer deeper discounts in economy class. But given the drop in demand for business class seats, carriers face an unpleasant choice: increase the price of economy seating to offset the loss … or absorb the loss.
Already premium ticket prices are down about 20% from last year. Airlines are also moving away from their previous strategy of introducing more luxury offerings in business and first class.
"For Virgin in China, our premium travel is down [by] close to 40%," said Jim Bai, general manager at Virgin Atlantic China. Virgin is trying to offset the losses in business class by targeting Chinese tourists, but some of its competitors – like China Eastern Airlines – have elected to simply shut down routes entirely, he said.
The problem is that economy class tickets are a notoriously price-sensitive sector of the market. "There’s a vicious cycle here. Economy traffic is the most cost-sensitive, so raising prices will contribute to shrinking demand. This will mandate higher costs," said Richard Aboulafia, vice president of analysis at Teal Group, an aviation industry market analysis firm. "We’ve seen a serious reversal in fortune and direction."
Until a few months ago, innovative companies were competing for the high end by focusing on quality service and features like lie-flat seating. "Now, carriers are discounting to attract premium traffic," he said.
In addition, the demographics of business travelers in China are changing. Tens of thousands of expat workers have left the country since the downturn began. Stricter visa restrictions due to the 60th anniversary of the founding of the People’s Republic of China have made travel to the country more of a hassle. To make matters worse for the airlines, in a March circular the General Office of the State Council slapped heavy travel restrictions on employees of state-owned enterprises and government officials.
Carriers are also concerned that the effects of H1N1 (swine flu) could further hurt the industry. Already numbers for premium travel in heavily affected areas like Central America are down more than 60%. Experts worry that if H1N1 spreads, Chinese people might stay away from airplanes in droves. In fact, a report issued by the IATA says the virus might already be showing some effect: "This deterioration [in premium travel] may represent the impact of passenger concerns about H1N1, with the region having been sensitized to these issues following the experience with SARS."
More worrying for the airline industry than the downturn is the possibility of a structural shift in demand. Advances in telecommunications technology are coinciding with a "green" push by many companies to cut down on the pollution associated with the massive amount of emissions-intensive kerosene fuel burned by jet engines. Some industry insiders worry that the current dip could turn out to be a submerged plateau.
Teal’s Aboulafia, however, is not one of them. "We’ve seen predictions of a massive shift away from business travel for technological reasons before, and they’ve always been proven wrong. When the economy comes back, so will business travel," he said.