When United Airlines said earlier this year that it planned to enter the full-freighter air cargo market by leasing four McDonnell Douglas DC-10s to operate across the Pacific, the news was greeted with dismay and exasperation by existing players. United, they believe, has been seduced by an entirely illusory vision of financial rewards just waiting to be claimed.
To be sure, freight traffic to, from and within Asia-Pacific is booming, with some markets boasting even higher growth than passenger traffic. The impression of robust market health has been reinforced by express freight companies such as Federal Express, UPS and DHL, which are investing more than $1.5 billion into the development of Asian hubs to capture greater shares of the business.
But there is every chance that United's vision will turn to nightmare. Cargo yields in the market are minimal and in some cases non-existent, and there is no sign of improvement as the cargo business becomes ever more marginal. The chief problem - excess capacity - is threatening to precipitate a crisis, probably next year, and United's entry may be the catalyst. The carrier has never operated dedicated freighters before and it sees rich pickings many believe are simply not there.
Air cargo volumes in and through Asia are indeed growing at around 13 per cent annually, far outstripping growth in Europe and North America. The International Air Transport Association (Iata) forecasts that the number of air freighter movements across the Pacific will increase from 14,840 this year to more than 17,000 by the year 2000 and almost 20,000 by 2005. The Europe-Asia and intra-Asian markets will see similar expansion.
But this will coincide with intensifying competition. Airlines based in the region are at the beginning of a period of major fleet expansion, having ordered some $30 billion worth of new aircraft this year alone. This will throw millions of tonnes of extra belly-hold capacity into the market, mainly at marginal rates as an add-on to passenger growth - the airlines' chief objective.
Yet United is not the only airline pursuing freight expansion. Thai Airways is seeking permission from its government to set up a separate all-cargo operation. Asiana, Singapore Airlines and Korean Air are all scheduled to take delivery of Boeing freighters. Major airlines from outside the region, such as British Airways and Lufthansa, are considering campaigns to secure bigger slices of the Asian cargo pie for themselves. The result seems inevitable: the worldwide decline in freight yields of more than 30 per cent over the past ten years will, at best, continue, and at worst may well accelerate.
If it gains the necessary approvals, United plans six flights a week from March 1997 from New York, Chicago, Los Angeles and San Francisco to Tokyo, Osaka, Taipei and Manila. United says these plans are justified by growth in the US-Japan air freight market, where traffic grew by 13 per cent in 1993, 16 per cent in 1994 and 26 per cent last year. Another US operator, California-based Polar Air, also aims to launch six weekly Boeing 747F flights from New York, via Chicago and Anchorage, to Osaka.
But those airlines with experience in the market are proceeding much more cautiously. Rather than expand its own services, Japan's Nippon Cargo Airlines has signed an agreement with Northwest Airlines - already a transpacific cargo carrier in its own right - for joint Boeing 747F flights between Chicago and Osaka. The pair will double their twice-weekly Osaka-Chicago frequencies to four. They also share services from Tokyo to Seoul, Taipei and Singapore.
SIA's director of cargo, Huang Cheng Eng, believes low margins and returns will force many newcomers to vacate the market with as much alacrity as they entered it, but before disappearing they will further undermine the overall viability of the market and the other airlines. He blames the problem on the market euphoria whipped up by the growth forecasters.
The aircraft manufacturers, in particular, are guilty of projecting limitless growth and encouraging airlines to enter the air cargo business, says Huang. He concedes that the growth is there, but profits are not as Asia-Pacific becomes flooded with dedicated freighters operated by airlines ready to slash rates to the bone in order to capture business. This also affects airlines trying to sell belly-hold space in their passenger jets, but for them freight is often a bonus.
'When you have 10 airlines jumping into the air cargo business within a period of one or two years, this is a huge capacity expansion. They jump in and find it's not really a gold mine,' says Huang. 'A lot of airlines lease the aircraft, so for them it's easier to get in and get out. After a year or two they can always say: "OK, let the lease expire." They can change their options.'
Cathay Pacific managing director Rod Eddington takes a more philosophical view, although he does not deny that it remains very difficult to make money in the cargo business. He believes operators such as Fedex, UPS and DHL are actually not relevant to the market issues as they are fast parcel deliverers. 'They built a system which is not about carrying three tonnes of cargo from one point to another. They have built a entire integrated and computerised trucking/airline system for fast parcel operations, and they do it very well.
'But the sort of freight we carry is mostly heavy freight. There are days here in Hong Kong when there are between 12 and 15 Boeing 747 freighters leaving for the US, and we have got Korean Air, Japan Airlines and others, all operating freighters out of here over their own hubs. What that means is a really competitive market, and if anyone else wants to get stuck in, good luck to them,' says Eddington. And his view on the apparent feeding frenzy is simple too. 'If you are competing with 40 players already, competing with 41 in my view does not make much difference.'
Despite Eddington's apparent sang-froid, the strain is already telling on some. Philippine Airlines has asked Manila's Civil Aeronautics Board to strip Cathay Pacific and China Airlines of their cargo rights, claiming they are overstepping capacity limits on freight. PAL accuses both of exploiting sixth-freedom operations to siphon off cargo business from the Philippines to Europe and North America via their own hubs at Hong Kong and Taipei.
Indeed, the aeropolitical implications of all this are only now beginning to emerge. Several governments see liberalisation of air cargo - previously tied to passenger capacity agreements - as a way to increase trade. Australia is considering plans to introduce a range of measures, possibly involving separate bilaterals covering cargo, with the aim of easing limits on capacity increases and allowing more operators.
Most major airlines are strongly opposed to this, believing the move could have the opposite affect. 'More cargo operators would lead to a decline in pricing and cut yields even further, perhaps forcing established airlines to pull out of the Australian cargo market altogether,' says one Asian airline official.
Peter Frampton, head of cargo at Qantas, points out that there is growing pressure to open the skies to freighter aircraft and separate passenger and freight bilaterals. 'This trend is likely to continue and will help meet the increasing demand for air freight,' he says. But Frampton makes it clear that Qantas has no intention of getting into the freighter business itself. The Australian carrier owns no freighters, although it does lease cargo aircraft to cope with market needs.
'The cargo industry is revenue driven,' says Frampton. 'Times may be changing, but it has not been a profit-driven industry. We have all struggled to put a value on the belly space of passenger flights, but like it or not, it is a by-product. Marginal costing of passenger aircraft belly space has contributed to pressure on cargo yields, and the result has been a continuing downward pressure on yields of 2.9 per cent per year - almost 50 per cent over the last 20 years.'
Qantas sees no signs of any slowdown in this trend, and it is clear that any airline looking for yield growth and significant profit from air freight will have a long wait. But some are trying to firm up the market. In August freight charges between Hong Kong and Europe were raised by nearly 40 US cents a kilogramme in an attempt to offset rises in operating costs. Stanley Hui Hongchung, chief operating officer of Air Hong Kong, explains: 'At previous rates we just could not continue to maintain our operations.' The old charge range of $2.32 to $2.85 a kilo was 20 per cent lower than 1995 prices due to overcapacity.
The region-wide imbalance between volume growth, revenue and yields is coupled with mixed signals about the future of Asia's air cargo industry. It may not look like good news, but some markets are now showing signs of saturation amidst a more mixed growth picture overall. Cargo movements through Hong Kong rose 11.6 per cent last year, but in the four months up to May this year throughput was up only 2.7 per cent, with the April figure just 0.2 per cent up on last year.
Singapore is seeing a similar trend, with air freight through Changi airport in the first six months of the year only 5.4 per cent up on the same period a year earlier. Year-on-year growth in the first half of 1995 reached 13.5 per cent. In Korea, inbound freight continues to enjoy double-digit growth, but outbound remains flat, creating imbalanced load-factor on flights to and from the country.
By contrast, air cargo in India has grown nearly 50 per cent since 1991, but operators have slashed rates because deregulation has allowed in more players. While freight tonnage has risen - India's air cargo traffic is projected to rise 20 per cent a year - cargo rates have slumped by 30 per cent in the past two years to around $1.52 a kilo.
Other cargo centres are experiencing a range of problems. At one stage this year cargo movement at Kuala Lumpur slowed to a trickle because of problems introducing new electronic systems for handling import and export forms.
But in July a Reuters survey of European air cargo markets suggested a further strengthening of import demand by Asian countries, especially Japan and Korea, after a period of moderate to steady growth. The upturn was not yet accompanied by any increase in prices, although airlines were able sharply to reduce spot discounting and relieve some of the pressure on yields. The survey surprisingly showed that capacity constraints were emerging, with a number of airlines reporting little or no cargo space available. But most operators tell a different story of yields still shrinking fast and endemic overcapacity.
The assertion by SIA's Huang that the aircraft manufacturers are talking up the market appears justified. Airbus and Boeing were distinctly bullish at a recent Singapore conference. Boeing's regional director of cargo marketing, Jim Edgar, pointed to Asian cargo growth as being the highest in the world, adding that declining passenger yields were forcing airlines to look to cargo for revenue growth opportunities. Both manufacturers believe the world air cargo fleet will double in the next 20 years, and that the majority of the freighters will be flying in Asia.
The Airbus group manager for market development, Didier Lenormand, said strong intra-Asian trade movements were driving cargo growth and there was a need for dedicated air freight capacity in Asia. Because of the differing needs of passenger and cargo services, Lenormand argued airlines needed to develop separate products catering to each sector, meaning air cargo would increasingly becoming a stand-alone business requiring dedicated capacity. This sort of talk, say airlines, is encouraging too many new entrants and creates conflict between freighter operators and belly space-only airlines.
At Qantas, Frampton believes service standards and express service will be a key to the maintenance of profitability for airlines which carry belly-hold cargo. He says the integrators - UPS, Fedex, DHL and TNT - are showing the way. 'You can either ignore them, fight them or team up with them, but I don't believe that you can beat them.
'Some of my colleagues see the integrators just as a threat - that they just use the airlines as a stepping stone to flying their own planes. I do not believe this is the case, particularly on the longer transcontinental and intercontinental routes where the one strength a passenger fleet can offer is frequency. This cannot be readily or competitively matched by freighters. We must work together,' says Frampton.
There is no doubt the use of freighters will continue to grow, Frampton adds. 'But if you get it wrong, they are a great way to tear up money. From Qantas' experience, if we make two to three cents in the dollar on a freighter we are lucky. However, we can expect a contribution of 60 to 90 cents in the dollar on the belly space of passenger aircraft.'
It is clear that despite the enormous growth in cargo volumes, both all-freighter and belly-hold passenger airlines are suffering. Many believe that, within the next two years, one of two things will have to happen: either there will be a significant increase in cargo rates, or there will be a shakeout in the market which will force several players from the scene and cut overcapacity.
As of now, no-one can see how these can happen without a great deal of bloodletting for all airlines in the market. There will be victims, certainly, but no-one in the Asia-Pacific market is going to make things easier for the rest by voluntary falling on their sword.
Source: Airline Business
