Qantas and Virgin Australia both posted big half-year losses this week. Excess capacity was a big driver of the poor performance of both airlines, following a period in which both competitors aggressively increased service levels as they fought for market share.
With Qantas planning to sack 5000 people and trim its services, and Virgin just posting a $84 million loss this morning, Deutsche Bank says in a note to clients this morning that Australia’s domestic aviation sector could now “shrink to greatness”, and has some great charts illustrating how periods of lower capacity growth have led to increased profitability in the US market.
What is evident from these graphs is the sharp increase in profitability for the total markets when capacity growth is constrained.
It can be seen that the US domestic carriers’ combined profitability is at record levels compared to Australia which is at record losses.
We continue to believe that cutting costs (such as Qantas has announced) is only part of the strategy to return to profitability and capacity rationalization also needs to be considered.
Here’s the graph showing how the periods of huge capacity growth in the 1980s US domestic aviation market was a time of comparatively low profits, while the more constrained capacity growth of recent years has laid the foundations for record industry results.
The pattern is similar in Australia, with the years that see a slowdown in capacity growth being quickly followed by periods of increased net income. The implication here is that the likely impending period of more restrained capacity addition should quite quickly lead to better results for the sector.
Qantas detailed a drastic turnaround plan that aims to save the airline $2 billion by 2017. It has slashed or changed routes, frozen staff pay and bonuses and has put plane orders on hold, including the delivery of new A380s, as part of this cost-saving drive.
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