China's vision for a hub and spoke network across the country promised a boom for regional airlines and aircraft, but, to date, progress has been slow
In the late 1990s, the Chinese government decided it wanted a US-style hub and spoke network for the country's aviation system, with a host of smaller aircraft feeding the mainline jets plying major domestic trunk routes.
Airlines generally decided turboprops were not for them, and sought to add small regional jets with a vengeance. Western manufacturers were immediate beneficiaries with Bombardier and Embraer offering their respective 50-seat CRJ200s and ERJ-145s, alongside the now-defunct Fairchild Dornier with its 32-seat 328JET.
On the back of bullish demand forecasts for the next two decades (some of them put out by the Chinese government), the three manufacturers pumped millions of dollars into the market, basing sales staff in the country and setting up spare parts distribution centres. But in 2001, after a series of high-profile orders, Bejing dramatically increased import duties and other tariffs on small aircraft and abruptly stopped approving all regional jet order requests from the country's airlines.
Many theories have been floated about the reasoning behind this, including claims that the government wanted to protect China's own aircraft manufacturers. The country's two state-owned manufacturing groups, China Aviation Industry Corp I (AVIC I) and China Aviation Industry Corp II (AVIC II), are now involved in their own regional jet programmes. AVIC I is focusing on the indigenously developed ARJ21, seating around 80-100 passengers, while AVIC II has set up a joint venture with Embraer to build the Brazilian company's 50-seaters in China.
AVIC I claims 35 sales to date from three customers for its ARJ21, which is scheduled to enter service at the end of 2007 or early in 2008. Joint-venture company Harbin Embraer has, meanwhile, sold six ERJ-145s to China Southern Airlines.
Market readiness
Manufacturing ambitions aside, many believe that the Chinese market may not have been ready for regional jets when the government so boldly called for carriers to start adding the types.
At the time, all the manufacturers were boasting that China was a solid 50-seat market with huge potential for growth. But now many agree that it is not - at least not for now. The trunk route network still has to be developed, and yields remain low due to highly regulated airfares and painful navigation and airport charges. Taxes of 23%, which were introduced in 2001, also remain on imports of foreign-built regional aircraft.
"China is not yet a 50-seat regional jet market. Will it ever be? Maybe, but 70-seaters or bigger are more likely to be in demand," says one executive with a major Western supplier who has focused on the Chinese market for years.
"They're not going to get around the fact that it's a cost issue. The 50-seat market will come to China at some point, but it will take time,"says the executive, who asked not to be named. "Most people are much more convinced that the next step in the evolution of China's market is 90- or 100-seaters like the Embraer 190. It's the best balance between operating cost and size. Will there be sales of 50-seaters? Yes, but now is not the right time."
Bombardier apparently agrees with such sentiments, having said publicly that it does not believe 50-seaters can make money in China at present. Several dozen of its 50-seat CRJ200s are already flying in the country, but it also recently placed its first 70-seat CRJ700s in China, with Shandong Airlines, and it is for these larger aircraft that it expects the stronger demand.
The more pertinent question is whether Chinese airlines are making money on their regional jets. The answer from the carriers willing to talk about the subject is a resounding no. They hope the situation will improve in future, but say fundamental change is needed in the operating environment first. In essence they generally admit that current regional jet operations in China have come somewhat ahead of their time.
"The business is slowly getting better but it is not good enough," says a senior executive with one regional jet operator in China, who also wishes to remain unidentified. "The yield is very poor. For the regional aircraft we also have to pay very high import tax, and that is a major problem. We think that we need 70-seat aircraft in our operation but the import tax and the price of that type of aircraft is very expensive. If the import tax situation changes then the 70-seat aircraft will be more attractive to us and to other Chinese airlines."
But he does see a future for profitable regional jet operations in the country at some point. "Sure, they will be successful in the future. In China regional aviation can only start from jets - passengers unanimously believe turboprop aircraft are inferior. But only when the utilisation rate goes up can we make money, when there is enough demand on the thin routes. That will take time - quite a lot of time. Until then the airlines will still want the larger Boeing and Airbus aeroplanes."
Embraer, however, believes that China is indeed a market for 50- as well as 70-seat regional jets. It has five Brazilian-built ERJ-145s flying with Sichuan Airlines and its Chinese venture will deliver the first two of six locally assembled ERJ-145s to the country's largest carrier, China Southern, in June.
Domestic route overhaul
While some see Embraer's Chinese aircraft production venture as an enormous gamble, managing director of Embraer China, Guan Dongyuan, says sales expectations are based on widely accepted forecasts for growth. He also says they are based on the fact that an overhaul is needed in the current domestic route structure, which remains highly inefficient.
Guan says Embraer's studies show that in 2002, of the country's 790 domestic routes, a surprisingly high 560 had only an average of 36 passengers per day. "In other words," he adds, "many of these routes are not served daily, and the majority are served by middle-sized aircraft with 150 seats."
Embraer's forecasts for the next 20 years, which do not differ substantially from those of its rivals nor the Chinese government, foresee a need for 635 aircraft in the 30-110-seat range. Embraer sees demand for 235 units for the smaller 30-60-seat category and another 200 in each of the other two catergories of 60-90-seats and 90-110-seats.
To support the forecasts, Guan points to demand statistics for the majority of domestic routes that show so few passengers and to airport analysis. Of the country's 143 domestic civil airports in 2002, more than 70 handled an average of only 200 or fewer passengers per day. "This means more than half of the airports in China are not very well used," says Guan. "This situation will jeopardise the development of the economy."
He adds: "Airlines don't want to make operations to those airports because their current fleet is not suitable. Last year the total fleet in China was 670 aircraft, of which only 72 were regional aircraft. In other words regional aircraft represent only 11% of the total fleet in China. If you look at this market, not only are 50-seat aircraft suitable, but also 70-seat aircraft. We have to look at the overall view, not just one category. It's the same in the US market and in the European market."
So what is stopping airlines from ordering more 50-seaters? The simple answer is the cost of operations, and even optimistic Embraer acknowledges this is a problem.
"The problem is the current difficulty in the environment for regional aircraft in China - it is not suitable," says Guan. For example, he says, airlines are required to pay fees for snow-clearing vehicles at airports as well as for the use of boarding bridges. But the same fees are paid for the use of small aircraft as they are for larger aircraft, no matter how many passengers may be carried. Which is, according to Guan, an unfair situation.
Remote air services
He and others believe the charges structure will change in China, however, as the government is aware that there is a need for more regional operations in the country. The Civil Aviation Administration of China has announced that it has in no way given up on plans for the development of air services in more remote areas, and for its hub and spoke route network to become a reality. But it will take time.
The executive with the Western supplier adds: "I do believe Embraer's overall forecasts on the need for 50-seaters in China. But their deliveries will come at the back end of their forecast period."
Whether the government's plans for a true US-style hub and spoke network are realised or not, most observers believe losses will continue on small aircraft operations in China for some time, which means no sudden rush of regional jet orders is expected anytime soon. "It's like many things in China," says the supplier executive, "there's plenty of potential, but nobody is making any money out of them now." n
REPORT BY NICHOLAS IONIDES IN HONG KONG
Source: Airline Business
