A few years ago, growth in the Asia-Pacific region seemed like a great opportunity for Hawaiian Airlines parent Hawaiian Holdings (NASDAQ:HA). By early 2013, the airline was getting about a third of its revenue from its international routes.
However, these markets have mostly fallen short of expectations. In the past three years or so, the U.S. dollar has strengthened dramatically against most currencies in the Asia-Pacific region, particularly the yen and the Australian dollar. Coincidentally, Japan and Australia are Hawaiian Airlines' top two international markets. Since most tickets on these routes are purchased in foreign currency, the strong dollar has hurt Hawaiian's revenue.
In the past year, falling oil prices have produced dramatic cost savings for Hawaiian Airlines and other airlines. But even that has been a mixed blessing. On international routes, fuel surcharges have fallen dramatically, further weakening unit revenue. Furthermore, foreign competitors have added capacity in several markets, taking advantage of the improved cost environment.
Fortunately, Hawaiian Airlines is about to catch a break from U.S. competitor Delta Air Lines (NYSE:DAL). Delta is one of the top airlines on Japan-Hawaii routes, but it is making big cuts this fall to bolster its own profitability. This reduced competition should help Hawaiian, too.
Japan is still a key market
Despite moving to redeploy capacity to the U.S. in the past couple of years, international routes still contribute more than 20% of Hawaiian Airlines' revenue. Japan remain Hawaiian's top international market by far. It operates 17 weekly flights to Japan, compared to 11 weekly flights to Australia and five or fewer weekly flights to each of its other foreign markets.
As a result, Japan still likely accounts for about 10% of Hawaiian's total revenue. Most of that comes from its two daily routes: Tokyo-Honolulu and Osaka-Honolulu.
Despite the impact of the weak yen and declining fuel surcharges on unit revenue for Japan-Hawaii routes, capacity between Tokyo and Hawaii declined only 3.1% year over year in the first half of 2015. Meanwhile, capacity between Osaka and Hawaii actually increased by 8.5%.
With as much capacity as ever available on these routes, it has been impossible to offset the unit revenue pressure caused by the weak yen and the reduction in fuel surcharges. But that could be about to change.
Delta pulls back
In the past few years, Delta Air Lines has been slowly cutting back its capacity in Japan in response to the weak yen. In April, it announced a particularly big round of cuts. This fall, Delta will reduce its capacity in Japan by 15%-20%, including a roughly 25% cut to intra-Asia and beach market capacity -- with Hawaii included in the latter group.
This summer, Delta has been flying three times a day from Tokyo's Narita Airport to Honolulu. Two of those flights are operated with 226-seat 767s, while the third flight uses a 376-seat 747 jumbo jet. From Osaka to Honolulu, Delta has routinely operated a single daily roundtrip using a 747.
Next month, Delta will drop one of its daily 767 flights from Tokyo to Honolulu as the summer travel season comes to an end. But then in October, it will drop the other 767 flight, cutting back to just one daily roundtrip on a 747.
Meanwhile, Delta will "downgauge" its Osaka-Honolulu flight to a 767 at the beginning of October, cutting its capacity on that route by 40% (from 376 to 226 daily seats).
Capacity cuts should bolster unit revenue
Delta's capacity cuts on its Japan-Hawaii routes should bolster its own unit revenue. However, Delta is a massive global carrier with more than $40 billion of annual revenue. This limits the impact of changing conditions on any one or two routes on its overall results.
By contrast, since Hawaiian Airlines depends on the Tokyo and Osaka routes for about 10% of its annual revenue, unit revenue improvements there could be material to its future earnings. Delta's cuts on the Osaka-Honolulu route amount to about 15% of total industry capacity for that route. There is more competition on the Tokyo-Honolulu route, but Delta's frequency reductions will have a significant impact on industry capacity there, too.
The easing capacity situation on both of these key routes should allow Hawaiian Airlines to improve its unit revenue trajectory this fall as it will be better able to pass through price increases.
Nevertheless, the market seems very pessimistic about Hawaiian Holdings' prospects -- the stock trades for less than nine times projected 2015 EPS. If the company can show that unit revenue is improving thanks to a better supply-demand balance, investors may reconsider -- especially given the ongoing benefit from low fuel prices. That could lead to a rebound in Hawaiian's stock price.