Vietjet spreads its wings in booming market but challenges await

VietJet has quickly established itself in Vietnam

In recent years, income levels and the middle class population of Vietnam have expanded, putting air travel within the reach of a much large number of people. Demand has been further stimulated as air fares, which were already relatively low, have been reduced to levels that are now, on most domestic trunk routes, similar to bus or train fares.

The total Vietnamese aviation market (including international traffic) has more than doubled in size, from 25 million passengers in 2012 to 52 million passengers in 2016. The Civil Aviation Authority of Vietnam reported passenger traffic growth of another 20% in 1H2017, to 30.3 million.

Vietjet launched operations in Vietnam at the end of 2011 and has already become Vietnam's largest domestic airline, with 42% of the market in 2016 (its total market share is 27%). The airline has also been consistently profitable since 2013.

Last year, VietJet carried slightly more than 14 million passengers, including approximately 12 million in the domestic market. Its traffic was up another 22% in 1H2017, to 8.3 million. VietJet expects to carry 17 million passengers for the full year in 2017, 25 million passengers in 2018, and reach the 30 million milestone in 2019.

Vietjet'sgrowth has been mainly attributed to its price strategy. Low costs are crucial in Vietnam, as it is generally a price sensitive market with very low margins. This makesVietJet's scale and low cost structure an important competitive advantage.

The low costs have enabled this airline to establish profitability at a very early stage. It has been profitable since mid 2013, and profits have since increased steadily. VietJet reported a doubling of its pre-tax profit for 2016, to VND2.239 trillion (US$106 million). In 1H2017 its pre-tax profit increased by another 45%, to VND1.907 trillion (US$84 million).

Many difficulties remain

The first challenge for Vietjet are the low fares in the industry. VietJet's average fare in 2015 dropped by 17%, to only VND815,725 (US$36), as domestic competition intensified.

However, this airline has a simple reservation system that further limits its ability to maximize ticket revenues. The system is so basic that when a new destination is added it is sent to the bottom of the list on its web booking engine, rather than appearing in alphabetical order.

Vietjet has a strong local brand and distribution network but outside Vietnam, the situation is the opposite and the airline is a relatively unknown commodity. As VietJet starts to expand into the market for international flights, it will have to address this weakness.

In addition, VietJet has relied almost entirely on sale and leasebacks since late 2014, when it began taking aircraft directly from Airbus. It has since taken 28 aircraft from its order with Airbus and has sold and leased back nearly every aircraft.

VietJet's profits have surged since 2015 as the number of sale and leasebacks deals completed has increased. It reported a gain of VND518 billion (US$23 million) from sale and leasebacks in 2015, which accounted for 33% of its total operating profit.

This airline might not have been profitable the past three years if it had not been for low fuel prices, low maintenance costs and the sale and lease back profits. Maintenance accounted for less than 3% of VietJet's total costs in 2015 and 2016. At other LCCs in the region maintenance generally accounts for over 5% of total costs, and in some cases over 10%.