Post-crisis change

Air passenger traffic in Russia has been growing at an unprecedented rate since the beginning of the year, rising by about 30% in the first nine months. Particularly pronounced growth is observed in the more lucrative segment of international services, whereas domestic traffic has been shrinking.
The country’s 35 largest airlines in terms of passenger traffic continue to carry the lion’s share of passengers (96%) and together account for this year’s total growth in passenger numbers. More than one half of the 2010 increase in passenger traffic is due to the performance of the top five carriers.
Geographically, the structure of passenger services in Russia remains irregular. The majority of routes originate or end at one of the three Moscow airports. Three-fourths of the aforementioned 35 largest airlines are registered in central Russia. More than 65% of all domestic passenger traffic is between 36 city pairs, with annual passenger numbers per destination ranging between 1 million and 100,000 people. The greatest number of passengers this year has been carried between Moscow and St. Petersburg, and the smallest - between Khabarovsk and Yuzhno-Sakhalinsk.
There are two reasons for the current unprecedented traffic growth. First, the upward trend stands out against last year’s crisis-induced slump in demand. Second, many Russian airlines reduced fares dramatically during the economic crisis in a bid to preserve their market share. Purchasing power is now recovering, but it is much more difficult to raise prices in a competitive environment than cut them. This is why, although traffic figures are growing, the airlines’ profits are not. Many carriers have been suffering a decrease in commercial performance caused by overcapacity: 10 of the top 35 are reporting a drop in passenger load factors and 13 carriers have seen their revenue rates go down. At the same time, the growing passenger numbers require an increase in working capital, which adds to the airlines’ already hefty costs in the current difficult borrowing environment. Air carriers are burning through their last financial reserves, they are generating losses and their debts are mounting. Fleet expansion measures further increase the burden of debt. Accoridng to the Rosaviatsia Federal Air Transport Agency, only the top five Russian airlines remain financially strong.

Leadership strategies
Table 1 presents a comparison of the top four Russian airlines’ key performance indicators for the first six months of the years 2008 through 2010; table 2 illustrates how their financial indicators have changed since the pre-crisis first half of 2008.

Table 1. Key performance indicators for the top 4 Russian airlines for the first six months, 2008-10

Carrier	Revenue, bln rubles*			Profit, bln rubles			Traffic, bln passenger kilometers			Passengers carried, mln
	2008	2009	2010	2008	2009	2010	2008	2009	2010	2008	2009	2010
Aeroflot	43.0	40.9	48.3	2.252	3.299	3.900	12.71	11.34	15.67	4.39	3.85	5.10
Transaero	15.4	16.5	24.4	0.112	0.014	0.107	7.97	7.58	11.38	2.07	1.95	2.78
S7 Airlines	18.2	15.5	15.5	0.159	0.138	0.141	6.82	4.33	4.60	2.81	1.89	2.17
Utair	12.6	14.7	17.6	0.661	0.222	0.116	2.31	2.31	3.59	1.51	1.44	2.11
Note: * 1 ruble equals 0.033 US dollars at the current exchange rate

Table 2. Changes to average revenue and profit for the top 4 Russian airlines for the first six months, 2008-10

Carrier	Revenue per passenger km, rubles*			Profit per passenger km, rubles			Change between H1 2008 and H1 2010, %
	2008	2009	2010	2008	2009	2010	Traffic	Revenue per passenger km	Profit per passenger km
Aeroflot	3.38	3.61	3.08	0.18	0.29	0.25	23	-9	40
Transaero	1.93	2.18	2.14	0.01	0.002	0.009	43	11	-33
S7 Airlines	2.67	3.57	3.38	0.02	0.03	0.03	-33	26	32
UTair	5.45	6.40	4.90	0.29	0.1	0.03	55	-10	-89
Note: * 1 ruble equals 0.033 US dollars at the current exchange rate

The figures for the fifth largest carrier, Orenair, are of less interest because its business model is that of a tourist airline working closely with a major tour operator. The partner ensures that Orenair’s passenger load factor stays at over 97% - a virtully unattainable figure in the world of scheduled operations. The other four largest carriers are mostly into network operations.
Aeroflot has seen its traffic grow by 23%; its average revenue has decreased by 9%, and its profit per passenger carried has grown by a whopping 40%. This peculiar performance pattern defies rational explanation. In general, Aero­flot’s economics radically differ from those of its nearest competition: the carrier boasts 1.5 to 3 times greater traffic volume and 2 to 2.5 times more passengers carried, but when it comes to profits, Aeroflot’s figure is about 25 times higher than that of the second-largest Russian airline. This may have something to do with Aeroflot holding the commercial rights to a majority of international routes originating in Moscow, and also with the fact that it the direct beneficiary of Siberian overflight payments made by foreign carriers.
S7 Airlines is one of the few Russian airlines whose reaction to the economic crisis was similar to that of the majority of international carriers. In a massive efficiency drive the company reduced its passenger capacity by retiring Soviet-made airliners and two of its Airbus A310s. Furthermore, S7 may shortly part with the remaining A310 fleet. As a result, in the past two years the airline’s traffic has decreased by 33%, but its average revenue has grown by 26%, and its average profit by 32%.
Transaero and UTair Aviation, for their part, opted for traffic expansion. Transaero’s passenger traffic has grown by 43% over the past two years and its average revenue has increased by 11%, but its average profit has dropped by 33%. This may be explained by a significant proportion of low-profit charter flights in the structure of Transaero’s operations.
UTair has been experiencing the most dramatic changes by achieving a 55% growth in passenger numbers; at the same time, its average revenue has decreased by 10% and its average profit by 89%. Such a business strategy may be described as investing in route network expansion, but much has yet to be done for these investments to pay back.

Changes afoot
The changes faced by Russia’s largest carrier Aeroflot have the potential to seriously affect the country’s entire air transport sector. The government is planning to transfer to Aeroflot a number of major state-controlled civil aviation assets. These include Rossiya, Orenair, KMV Avia, Saravia, Vladi­vostok Air, and SAT Airlines. Aero­flot’s development strategy through 2025 calls for creating a group of airlines that would specialize in different business models, including one low-fares carrier and one charter operator. This appears to be a fairly complex and ambitious managerial task, but if it is implemented the resultant airline group will be comparable to the Lufthansa of today. According to Aeroflot’s plan, the proposed group of airlines is to capture 65% of the domestic market, and to carry 80 million passengers annually, by the year 2025. Implementing plans of this magnitude is going to be anything but easy. Irrespective of the outcome, Aeroflot’s massive reorganization will have a lasting effect on both the carrier and the Russian airline industry as a whole.
One prominent event of the past two years was the launch of the Avianova low-fare carrier. Up until that moment the only operator in the Russian no-frills segment was SkyExpress. In fact, SkyExpress has always been careful to position itself as a retailer rather than a discounter. Avianova started operations in summer 2009, and this September it carried its millionth passenger. The airline plans to eventually become the market leader in the volume of domestic traffic.
Strictly speaking, the sustainability of the pure low-fare business model in Russia has not yet been scientifically proven, because SkyExpress has diversified over time - first into charter services and then by forming a strategic alliance with Kuban Airlines. One goal of that alliance is to strengthen both carriers’ positions in southern Russia ahead of the 2014 Winter Olympics in Sochi.