Growth unleashed

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The massive growth taking place in the Indonesian domestic market, fuelled by a series of new start-ups, shows just how dramatically liberalisation can take hold

With so much attention focused on the recent phenomenal growth in the low-cost airline sector in Malaysia, Singapore and Thailand, one South-East Asian market has largely been ignored. That is Indonesia, where, in fact, much of the real action has taken place.

Nowhere else in Asia was there more than 50% growth in domestic passenger numbers in 2003, for example. And more new airlines have launched in Indonesia over the past four years than in all the other South-East Asian countries combined. Some of those too have adopted the low-cost model that is now causing such a stir across the rest of the region.

It is all due to liberalisation and it shows what new competition can do for a country's aviation market. At the last count, says Mian Simatupang, a deputy director of air transport in the Indonesian Directorate General of Air Communications (DGAC), 28 airlines had been licensed for scheduled passenger services and 22 are currently operating. This is a vast change from just a few years ago, when there were only five scheduled airlines: state-owned Garuda Indonesia and Merpati Nusantara, privately owned Bouraq Indonesia, Mandala Airlines and the small Dirgantara Air Service.

Growth rates have taken everyone by surprise and Simatupang expects up to 35% more domestic passengers to be carried this year than in 2003, as low fares offered by new entrants continue to stimulate demand. He says recently finalised data shows that 19.1 million domestic passengers were carried last year. Based on his 35% growth forecast, nearly 26 million passengers could be carried in 2004 - well above expectations from the beginning of the year.

The boom in air travel began in 2000, after the government allowed new airlines to be established and then eased restrictions on ticket pricing to enable freer competition. Airlines quickly sprang up, hiring many people who had lost their jobs between 1997 and 1999, when Indonesia was badly hurt by an economic depression. Carriers benefited in no small part from the fact that worldwide aircraft lease rates were down due to oversupply in the market, as airlines in other parts of the world reduced capacity in the aftermath of the 2001 terrorist attacks in the USA.

Economic benefits

"We have to have so many airlines to develop the country," says Simatupang. "It is good for the economy. We have increased the volume of passengers and more people are able to fly."

The bottom line, say Simatupang and others in support of the liberalisation, is that Indonesia is an ideal market for air travel. An archipelago of 17,500 islands - 6,000 of them inhabited - the country has a population of more than 200 million people. Yet even accounting for the enormous growth of recent years, only a tiny percentage of the population travels by air.

There have been a handful of airline failures due to the intense pricing competition, but Simatupang says his department continues to receive applications from groups seeking licences to start new scheduled passenger carriers. If they have a solid business plan, have adequate financial backing and are able to demonstrate they can operate safely, he says, new operating licences will be issued.

With such rapid growth, infrastructure has been under some pressure, although the aviation system has largely been able to cope so far. Last year was the first in which passenger numbers exceeded the 1996 high of 13.5 million domestic passengers. The government also says it is looking at improving airports and upgrading air traffic control facilities.

Indonesia's economy suffered more than that of any other South-East Asian country between 1997 and 1999, when the local currency unit, the rupiah, plummeted in value. The result was a sharp drop in demand for air travel and the handful of existing scheduled airlines were forced to drastically restructure, shedding thousands of employees and grounding hundreds of aircraft. One well-established privately owned airline, Sempati, was even forced to shut down. Things were so bad that in 1998 domestic passenger numbers were down more than 40%, and the following year they were down a further 16%. Overall, in the three years to the end of 1999, domestic passenger numbers plummeted by more than half over the 1996 figure.

But as the economy slowly began to recover, and as new government officials were trying to change a protectionist regime that had been in place under the regime of strongman Suharto, who was forced from power in 1998 after a 30-year reign, authorities decided that the aviation industry needed support. Their answer was a near-instant liberalisation programme.

The first new would-be airline to secure an operating licence was Indonesian Airlines, although it was not the first to start services. That distinction went to AWAIR, or Airwagon International, when in mid-2000 it became the first new scheduled carrier to take flight in the country in more than a decade. It was followed by many other new airlines, sparking cut-throat competition and a severe price war. AWAIR was the first significant casualty, suspending services early in 2002.

Indonesian Airlines managed to get off the ground around the time of AWAIR's suspension, using two Boeing 737-300s. It was planning to grow its fleet to more than 20 aircraft within two years, hoping to become the largest privately owned airline in the country. It halted services this year, however, and is seeking new investors for a relaunch with six aircraft. The largest private airline is now low-cost operator Lion Mentari Airlines, which is commonly known as Lion Air. It is growing rapidly and operates both domestically and internationally.

Rudy Setyopurnomo, president director and part owner of Indonesian Airlines, says that even though his airline was forced to suspend services he sees a bright future in the country's aviation sector. This is one reason why he wants to stay in the industry and is trying to relaunch operations.

Island bridge

"We have 17,000 islands and 220 million people, and to act as a bridge between the islands the airlines are the best way. Certainly Indonesia needs airlines," says Setyopurnomo, who spent 20 years with national carrier Garuda, latterly as vice-president corporate strategy.

"The problem for Indonesia is the investment problem - that is not only in airlines, but for the whole economy." With more private-sector investment in the sector, he believes, more improvement to infrastructure there will be.

Indonesia's airline lobby group, the Indonesian National Air Carriers' Association (INACA), also sees solid passenger traffic growth continuing as economic and political conditions improve, following the recent swearing in of the country's first-ever directly elected president, Susilo Bambang Yudhoyono.

INACA secretary general Tengku Burhanuddin says "the market is still growing" and there is "room for more" in the coming years. "To get between the islands the best way is by aeroplane," he says. "The roads are also not really very good so if people can afford it they will choose to fly. The airlines are creating new markets."

Burhanuddin adds: "Indonesia has 220 million people and really there are maybe only 3 million people who are travelling each year. These are the people who make several trips each year. So it will grow of course, especially as the political and economic situation is getting more stable."

Some domestic airlines are known to be struggling but Burhanuddin says INACA, which represents 16 of the scheduled airlines and nine of the charter airlines, does not fear failures. "Every business in the world is the same - it depends on management," he says. "If they do it right they can be successful."

INACA is concerned, however, about the impact of high fuel prices and increasing aircraft rental costs, cautions Burhanuddin. He says the group is also pushing the government to improve airport infrastructure, particularly at major cities such as Jakarta, Medan and Denpasar (Bali).

Bachrul Hakim, executive vice-president commercial of Garuda Indonesia, goes much further, saying infrastructure problems are likely to become increasingly serious. He also expects more airline failures, arguing that the government did not manage the liberalisation measures effectively.

"The transport policy is just not clear and specifically there is no clarity of the air policy. Things were not well prepared. Of course it is good to deregulate, to speed up the development of the airline industry, but it must be done very carefully," says Hakim. "For example our number one airport in Indonesia [at Jakarta] that used to be underutilised now has become congested, and congested in a very disorderly way. They have not looked at the readiness of the infrastructure."

He adds that the impact on other sectors of the economy was not taken into account when airline licensing rules were eased. Ferry operator are suffering badly as passengers switch to airlines, as are some train and bus companies.

"Okay, it may be good for the customer, but maybe it is only momentary," he says. "We don't know whether it is going to last." He argues that while many of the start-ups may offer low fares, they do not always follow the discipline of the low-cost model, which effectively means that they are just dumping seats. "They sell low fares, but if the volume is not reached they simply cancel the flight and accommodate passengers on the next flight. Luckily a lot of the customers are first-timers - they are very nice people and they don't complain - but the time will come when they will not accept this kind of practice. It may be good for the economy but you have to ensure the sustainability."

He adds that the existing airlines like Garuda, Merpati, Bouraq and Mandala now suffer: "They are squeezed to restructure their whole business because competition becomes very tough and unhealthy. Those who became unemployed because of the monetary crisis became happy because they have new jobs, but the sustainability is still in question. The new airlines, of course, are sabre-rattling, but there is no certainty that they can survive. There are already cases of bankruptcy."

Domestic battles

Complaints aside, Hakim says Garuda is not letting the new airlines steal all its domestic business. He says its small no-frills Citilink domestic division will be spun off as a separate subsidiary airline and aggressively expanded from next year, as it progressively takes over many flights of under 2h duration.

Citilink now operates four 737-300s on exclusively domestic routes, but the fleet will grow to 10 of the type by the end of the first quarter of next year, says Hakim. The carrier also has a handful of Fokker F28s, but these are being phased out. By the end of next year 15-16 leased 737-300s will be operated, followed by "many" more in the following two years.

"Expansion is a must for Citilink," says Hakim. "The businesses will be separate, and they will target separate markets. Our prognosis for the near future is that the share of Citilink will become more and more important. Our domestic and regional market is very suited for the low-cost concept. We know that people will not insist on full service for many of these flights."

Hakim says Citilink could be operating 60-70% of the group's flights under 2h within two or three years, with the remaining 30-40% handled by Garuda itself with some in-flight frills. He adds that Citilink will take over some routes from Garuda entirely, but on certain sectors there will be room for both airlines, depending on the product that passengers demand at specific times of day.

The general idea is that "we have to copy the bus services and have a bus-by-air concept", with no on-board frills and with employees taking on work that traditionally has been performed by several people. This is a concept some of the new-starts have already adopted.

Citilink was established in 2001 as a domestic feeder carrier operating Fokker F28s, mainly in the eastern parts of the Indonesian archipelago. But as the new private airlines have been set up, Garuda's mainline full-service domestic operations are under intense pressure.

"Because of the start-up airlines there is tremendous growth in the low-end segments of the market," says Hakim. "For Garuda, this is a challenge that is not easy to face, so we have to grow Citilink. On the one hand we are quite happy that we are dominant in the high end of the market, but this segment is hardly growing. "For Garuda we want to stay as the market leader, and market share is very important. So we have to penetrate both markets - the high end and the low end."

The government also believes there is still much more room for growth as air travel is the fastest - and sometimes the only way - to move around the archipelago. However, the growth rates are expected to slow. "The growth will slow down after 2004," says Simatupang of the DGAC. "According to the law of supply and demand if prices are low demand will increase. That has happened, and now growth will be slower."

And as for the inevitable question of sustainability? Hotasi Nababan, president director of Merpati, said at a recent industry conference that he believes Indonesia is a market that can support 12-14 airlines, including four big carriers. The others will be acquired by the larger airlines or shut down altogether, as the remaining players grow in size. This is what "every industry goes through after consolidation", he says. "You have hyper competition, then consolidation."

Most agree this will be the case, but they also agree the market has changed permanently and it now has underlying strength that was previously missing. With so many new air travellers each year, things will never be the same. n

REPORT BY NICHOLAS IONIDES IN JAKARTA