Airlines Investors Beware: The Price War Has Begun

A few weeks ago, I wrote about how investors might be overly optimistic regarding the benefits of lower oil prices for Singapore’s flagship carrier Singapore Airlines Ltd (SGX: C6L).

In my article, I noted that Singapore Airlines’ share price had rose 32% from an October 2014 low of S$9.41 to S$12.43 on 15 January 2015; the gains had coincided with the sharp slump in the price of oil. The airline’s shares have since climbed higher and now sit at S$12.70.

When I wrote my previous article, I mentioned that lower fuel costs might just be a temporary advantage for Singapore airlines. It seems that the temporary is already fading – fast.

Over the past two weeks, many airlines across the Asia-Pacific region – such as Japan Airlines, Qantas, Virgin Australia, and Airasia – have all announced the removal or reduction of their fuel surcharges. What this means is that savings the airlines could have been enjoying from lower fuel prices are now being transferred to travellers.

It is exciting to see economics in action. In theory, companies in a  perfectly competitive industry, have no control over the pricing of their goods or services. We’re seeing something close to theory happening now with the airline industry.

As I discussed previously, the advantage of low input costs that Singapore Airlines might be enjoying is not really an advantage at all. Here’s a recap:

“Jet fuel is basically a commodity product with standardized pricing. This means that all airlines would tend to experience relatively similar fuel costs in the long run (disregarding the fact that some airlines might be trying to speculate on the price of fuel through the use of financial instruments like forward contracts).

Thus, if the boon that Singapore Airlines can experience – cheaper fuel – is actually an industry-wide phenomena, then there is hardly any advantage for Singapore Airlines to speak of in the first place. As the airline industry settles into potentially cheaper fuel, competition would resume and it’s likely that any cost savings would be passed on to the consumers and not benefit the airlines. The airlines would just go back to earning their usual low profit-margins.”

Foolish Summary

With the price war between airlines having kicked off in earnest, it would be interesting to see how long it is before Singapore Airlines needs to cut its own fares or fuel surcharges in order to stay competitive in the market.

The airline business continues to be a dangerous industry for its operators. After the privatisation of Malaysia Airlines, another carrier in the Southeast Asia region, Thai Airways, is currently forced to undergo restructure after years of weak performance. Then there’s also low-cost long-haul carrier Airasia X, which has suffered through tough cashflow-related challenges; the company currently has plans to overhaul management as well as to raise additional equity through a rights issue.

I may be too pessimistic about the airline industry. But as the saying goes, “A pessimist is only an optimist with experience.” History hasn’t been kind to the airlines.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Stanley Lim owns shares in Airasia Bhd