By Courtney Trenwith
Saudi Arabia has announced two new airlines and $30bn worth of new airport infrastructure in 27 cities, but can the kingdom overcome its protectionist and semi-closed market policies to realise the enormous potential of its aviation market?
It could be described as one of the largest industry shake-ups and infrastructure spends in the Middle East - or a belated wake-up to a missed opportunity. Saudi Arabia is – finally – opening up its aviation industry, with two new airline licences, the privatisation of its national carrier and $30bn worth of airport infrastructure that could see the kingdom rival its Gulf neighbours within a few short years.
The General Authority of Civil Aviation (GACA) expects annual passenger traffic to soar from 65m in 2012 to 100m by 2020, including almost a doubling of domestic traffic to 28.5m. The projections appear ambitious but the kingdom could already immediately fill 1.5m more seats if tough regulatory conditions are removed.
“I’ll be clear here: Saudi Arabia has not invested [in the aviation industry] over the last 25 years. However, over the last four to five years there has been a very, very clear plan,” director general of national airline holding company Saudi Arabian Airlines (Saudia), Khalid bin Abdullah Al Molhem says. “We will be one of the strong hub operators in the Middle East.”
Saudi Arabia has by far the largest population in the Gulf – it surpassed 30m last year – while one third are foreigners, handing the aviation industry millions of flights on a platter. Population growth of about 3 percent is unlikely to slow, while wealth, particularly among citizens, also is rising. The substantial pre-existing religious tourism industry also guarantees as many as 10m pilgrims each year (although religious visa quotas have been cut while a $21.3bn refurbishment and expansion of the Grand Mosque in Makkah is carried out).
The country’s sheer size – it is at least six times that of every other Gulf state – and lack of other transport infrastructure also produces a mammoth domestic air travel opportunity, while countries such as the UAE and Qatar have proven the region’s global geographical position make it a potential transit point for international travel between east and west and south to Africa.
Yet, so far, Saudi Arabia has severely lagged behind its neighbours in developing its aviation industry, potentially losing billions of dollars in revenue and flow-on benefits to the wider economy.
The Saudi government attempted to open up the domestic skies in 2007, allowing privately owned low-cost carriers Nas Air and Sama to enter the market. But it failed to create a level playing field by continuing to grant only Saudia a fuel subsidy, leaving the new entrants to make do with fuel that in most cases is actually cheaper when bought from abroad.
Meanwhile, a cap on domestic fares, designed to make air travel affordable, significantly hindered their ability to manage their revenues.
Domestic fares had not risen for 15 years until airlines were recently allowed to add a 3 percent surcharge to flights booked within 10 days of departure, causing a backlash among Saudis who claim $75 for a 1-hour, 45-minute flight between Riyadh and Jeddah is already pricey.
Heavy losses caused Sama to collapse in 2009, while Nas Air, which rebranded as flynas last year, has been forced to focus primarily on international routes, such is the financial pressure at home. After seven years, it has still not recorded a full-year profit.
Saudia, too, has suffered from the inflexible regulations that include service obligations on unprofitable domestic routes. It lost $530m last year, Shura Council member Said Mariq told the government advisory body in January.
Al Molhem says the service obligations and fare cap are preventing Saudia from expanding internationally, while 50 of its planes handle about 94 percent of the domestic market. Significantly, foreign carriers account for 60 percent of Saudi international traffic.
“Putting so many assets into those [domestic] routes does take away our ability [internationally], we lose some potential traffic that is available,” he says.
The constraints mean Saudia is not interested in increasing domestic capacity, leaving customers frequently unable to book a flight. The domestic market expanded by just 11 percent between 2007-2011, according to the CAPA Centre for Aviation.
But two new airlines, both full-service carriers, are expected to enter the fray this year and it’s widely expected that their presence will lead to a greater liberalisation of the entire market.
Qatar Airways-backed Al Maha Airways is due to launch by the third quarter with an initial 10 A320 planes to service the two biggest markets, Jeddah and Riyadh. It plans to add another 10-15 narrow-body aircraft before adding wide-body planes and longer-distance destinations to build up to a fleet of 50. Its aircraft will carry a green version of the Qatar Airways oryx logo.
Qatar Airways CEO Akbar Al Baker said at the Bahrain International Airshow in January there were “many challenges” to operating in the Saudi aviation market, but hinted that major regulatory changes would be in place before Al Maha launched.
“There is a compromise that has been accepted by the authorities regarding the price cap and the fuel price,” he said.
The privately owned Saudi company Abdel Hadi Al Qahtani Group will own the second new entrant, Saudi Gulf Airlines, which also is being advised by Bahraini national carrier Gulf Air. The airline started its buying spree in January by signing a $2bn deal with Canada’s Bombardier Inc to buy 16 CSeries jets with options for 10 more.
Al Qahtani Group president Samer Majali has said the airline, to be mostly funded by the company, would look to lease six planes until the jets were ready. Based in Dammam, the kingdom’s third-busiest airport, Saudi Gulf Airlines is expected to start operating by the end of the year or early 2015. The existing carriers also have announced expansionary plans amid signs of a freer market.
flynas, which launched with 19 Airbus A320 aircraft across a network of 30 domestic and international destinations, recently purchased 10 Airbus A330s and reconfigured its existing fleet to include a 12-seat business-class cabin.
Since the November rebranding, the airline has announced numerous new destinations, including long-haul routes to London, Manchester, Paris and Jakarta, as well as a new hub in Madinah. It is preparing for an initial public offering to help finance future expansion plans.
Sulaiman Al Hamdan, the chairman of flynas’ holding company, Nas Holding, told Arabian Business in December the new domestic operators were welcome and would help alleviate some of the pent-up demand, while the additional competition would put “good pressure” on himself and Saudia to ensure a high level of service.
Saudia has purchased 90 new planes in the past six years as it undergoes a major overhaul of its fleet following more than a decade of stagnation. About 70 have been received already. It recently signed a SR7bn ($1.87bn) deal with a group of banks to fund some of the ordered planes, while it is assessing several options to fund further growth.
“Unfortunately, we went through a dry period in the 1990s, which meant that a lot of our fleet has [become] old and are hard to maintain, expensive to maintain,” Al Molhem says.
Saudia also joined the second-largest global airline alliance, SkyTeam, in 2012, while the holding company has been gradually privatising since 2006 after the decision was made in 2000. The company already has sold off its catering, cargo, ground services and aerospace engineering units, while the Prince Sultan Aviation Academy, Saudia Private Airline, a 400-bed hospital and Saudi Airlines Real Estate Development Company are due to be sold this year. Saudia will be the last unit and that process is not due to start until at least 2015.
Al Molhem says he’s “very pleased” to see the new carriers allowed to enter the domestic market, based on the hope that they will relieve Saudia of some of its service obligations, allowing it to concentrate on the more lucrative international operations, while at the same time making it a more attractive investment.
The new carriers also present the Saudi Arabian Airlines holding company with significant business opportunities for its other non-airline units, including ground handling, catering and maintenance. However, while Al Molhem says he would prefer a full liberalisation of the industry, Saudia must be given time to prepare.
“You cannot bring in new airlines with a much lower cost structure [to compete against] Saudia, which is 90 percent national [owned, with] old systems, old salary structures and so on,” Al Molhem says. “To put it into competition with much different cost structures, you are making already an issue of imbalance.
“You need to give time [for Saudia to adjust] and then you need to have regulation that protects everybody and allows that competition to take place efficiently. If you do that then I think subsidies or no subsidies becomes irrelevant.[But] I know that we need a long time to do it.”
CAPA Middle East and Africa senior analyst Simon Elsegood says there is a “laundry list of market impediments” that would prevent the Saudi aviation market from booming and a recent CAPA report said there were indications that at least some regulation of domestic fares would remain.
“The most productive steps would be proper liberalisation of the domestic market and establishing all carriers on the same competitive footing, without market-distorting subsidies,” he says.
“Protecting the national carrier damages the other players in the market by distorting competition. Full privatisation of Saudia, along with a well thought-out liberalisation of regulations will only benefit the Saudi aviation market.”
The secretary-general of the Arab Air Carriers Organisation, which represents 31 airlines, Abdul Wahab Teffaha, says the Saudi aviation industry is one of the most under-served in the world. But will it will rival the UAE and Qatar and become an international hub?
“Yes, definitely,” he argues. “It will start to become an international hub in the near future and it will grow from that point on but...I don’t this is something they can achieve [for] the next three to five years.”
“Will they reach the levels of Emirates, Qatar Airways and Etihad Airways? I think they have the ingredients in terms of labour costs, in terms of the attractiveness of the product, in terms of superior quality and so on. In the next three to five years they would be able to start saying that ‘we are at the level of Emirates’.
“What is a major difference between Saudi Arabia and elsewhere in the Gulf region is that Saudi is a huge country and the domestic market tends to represent 70 percent of total traffic. It’s got a critical mass already and that’s not going to go because it’s also an expansive country, therefore, the existing domestic market will continue to exist and expand. That doesn’t exist in the UAE.”
But the critical point, Teffaha says, will be airport infrastructure.
The Saudi government has outlined a plan to invest more than $30bn across each of its 27 airports by 2020, including $10bn in private investment. More than $12.5bn will be spent at the country’s four main international airports in Jeddah, Riyadh, Dammam and Madinah, which handle about 90 percent of the country’s air traffic.
The largest of the upgrades is at King Abdulaziz International Airport in the western capital of Jeddah, worth more than $7bn. Its expansion is nearly completed and will increase the airport’s capacity from 17m passengers a year to 30m, eventually expanding to 80m passengers by 2035. It also will cater for the A380 and be conducive to connecting travel, opening it up as a potential international hub. The first phase of the expansion of King Khaled International Airport in Riyadh, already the largest airport in the world by land mass, will add a fifth terminal and increase capacity from 12m to 35m passengers.
The $2.4bn upgrade of Madinah International Airport, which will see capacity treble from 4.8m to 12m, also will be essential for the kingdom’s religious tourism sector, with millions of pilgrims travelling to the holy city for Islamic pilgrimages Hajj and Umrah. The two-phase expansion involves the construction of a new passenger terminal, the renovation of the existing runway and possible construction of a second runway.
It is the first major private-public partnership project in the kingdom and is being viewed as a forerunner for future PPP arrangements.
A new international airport on the outskirts of the holy city of Makkah also is due, while every regional airport will be upgraded, many from simple huts into fully fledged terminals.
“No doubt this provides a fantastic opportunity for Saudi Arabian Airlines to start operating in much more modern airports, which will lower its cost and start operating as a hub in these airports,” Al Molhem says.
“We will be one of the strong hub operators in the Middle East. What we see from Emirates, Etihad and Qatar ... [is that] the traffic is there and ... our statistics suggest that 80 or 85 percent of all the traffic that the Gulf carriers take from Saudi Arabia is actually destined beyond the airports that they’re going [to transit in]. They’re going to Jakarta, India, the Philippines, so we have that traffic in Saudi Arabia.
“Secondly, if you look at some of the traffic that goes over the skies [of Saudi Arabia], if you captured 5-10 percent of that traffic, that’s a lot of traffic that you can use for your hub operation. More importantly, we look at the hub ... [also] as an economic driver for the whole country. We have the ability to combine the hub operation with the Umrah [religious tourism industry]. That provides a huge opportunity for Muslims from all over the world.
“When you do that and you have [tourists], instead of spending three hours in the airport, spending three days in Saudi Arabia, the economic benefit is huge.”
Research consultancy firm Aranca estimates the number of tourists visiting the kingdom will increase an average 2 percent each year from 14.3 million to 21.3 million by 2023, a similar target to Dubai. About 33 million domestic trips were recorded in 2012.
The government relaxed religious visa restrictions in November to allow Muslim pilgrims to stay in the kingdom longer. Saudi Arabia does not issue standard tourist visas.The government also is injecting billions of riyals into upgrading museums and historical sites, as well as a $20bn upgrade and expansion of the Grand Mosque in Makkah, to boost its tourism revenues, which are one of the largest non-oil contributors to gross domestic product.
According to Saudi Commission for Tourism and Antiquities president Prince Sultan bin Salman bin Abdul Aziz, the tourism industry now employs, directly and indirectly, more than 1.1m people, including about 219,000 in the aviation sector. More importantly, the industry is one of the largest employers of Saudis, with nationals accounting for 27 percent of tourism-related jobs in 2013.
Al Molhem says he’s not “going after” his neighbours’ business but has no reservations in warning them that future revenue is up for grabs.
“We’re not looking to capture their business but we’re looking to capture the growth of the business that is going to be available,” he says.
“Nobody thought that Emirates or Etihad or Qatar would have a business model that was sustainable. Everybody thought that this was just a fluke. But the reality is there’s growth in traffic around the world that requires seats.
“Those investing today in the airline business, whether it’s planes or infrastructure, are not Europe, it’s actually the Middle East. We have much faster decision making, so we can build the airports quicker, buy aeroplanes quicker and operate more efficiently and quickly than Europe.
“So we have a story - that is maybe not pleasing for our competitors - that [Saudia] is sustainable and, long term, it’s going to be a part of the fabric of the Middle East.”
Wasted invetsment. Saudi should focus solely on domestic growth or introduce a charter airline as they can not compete with Eithad, Emirates and Qatar on an international level. Sorry boys, that ship has sailed.