26/05/2005. IT S ALL ABOUT MONEY. Air transport strategies and their economic consequences SOME FIGURES TO START WITH SOME FACTS TO START WITH

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1 IT S ALL ABOUT MONEY. Air transport strategies and their economic consequences Hilde Meersman Eddy Van de Voorde Thierry Vanelslander 1 SOME FIGURES TO START WITH Results of 2004 (USA) traditional carriers: a loss of 9.2 bn USD Southwest: 313 mn USD profit other LCC (JetBlue, AirTran, Frontier): profit Forecast for 2005 IATA members will have a loss of 5,5 bn USD 2 SOME FACTS TO START WITH Bankruptcies in Europe (Swissair, Sabena, Delsey, Air Lib, City Bird, ) Mergers and acquisitions in Europe (AF-KLM, LH-Swiss, SNBA-Virgin, ) Chapter 11 in USA (United Airlines, US Airways, ) Different strategy? Influence/position of the government? 3 1

2 CONTENT OF THIS LECTURE Basic characteristics of a strategy Bankruptcies: analysing potential reasons Consequences for the global air transport business What can we learn? Conclusions 4 AIRLINES ARE NOT ALONE Politics/law Regulation Economics Social demography Technology The Business Strategy Marketing Finance Operations HRM 5 BENCHMARKING TOOLS Demand Total market evolution Route areas Segmentation Influencing variables Supply Available seat-kilometres Cost analysis Strategies Equilibrium Load factor Yield 6 2

3 YIELD TRENDS Boeing World Air Cargo Forecast 2004/ DIFFERENCES IN STRATEGY: FUEL AS AN EXAMPLE Traditional carriers (LH, AF, ): hedging against fuel price increase Low cost carriers: No hedging No extra fuel charge Fuel price increase affects profit margins 8 TREND BEFORE SEPT 11 th, 2001 Huge growth figures Entry of new players Difference in company growth * autonomous * alliances * mergers Crisis: how to survive? 9 3

4 NOTHING NEW.. The business cycle of air transport * linked to economic activity * new entry * exit Examples from the past (Braniff Airways, Metro, Laker, Eastern Airlines, PanAm, Trans World Airlines.) 10 BUT Various companies were linked by capital (Swissair, Sabena, Air Lib,.) Some countries were losing (e.g. Belgium with Sabena, City Bird, Delsey, Sobelair, ) Strange investors enter the business (benefactors? reorganise and cashing? laundry?) New entry plans driven by motivated people (e.g. BEAP, Belgian Universal Airlines (BUA)) Charter business transformed (TUI, Thomas Cook, ) 11 THE CASE OF SABENA Too much emphasis on increasing market share by adding frequencies and reducing fares (to fill the additional seats) No priority on increasing yield and cost control Strange investment decisions (e.g. the purchase of airbusses) 12 4

5 THE IBERIA CASE 1992: state aid (120 bn Pesetas) last cash injection by the state 1995: a further 87 bn Pesetas officially no state aid, as the capital increase was to happen under normal market conditions 13 AMERICAN EXPERIENCE Government intervention (after September 11th) 5 bn USD: no loan but compensation 10 bn USD: loan guarantee program (in january 2003: 1.5 bn USD taken up; UA plan refused) 14 AMERICAN EXPERIENCE (ctd) Ungoing concern: much more interesting for creditors (e.g. US Airways and UA) Difference with Europe where some banks reacted very strictly (selling assets and cashing) 15 5

6 AMERICAN EXPERIENCE (ctd) Court intervention (cf. UA-case) Position of staff in capital (UA) * confrontation with management * priviliged character is drawback 16 ATTITUDE TOWARDS BANKRUPTCY Chapter 11: no stigma Europe: break up, give back to shareholders, stigma Exception: TEA, EBA, City Bird, Birdy Airlines 17 POTENTIAL CAUSES The size of the airline ( too small to be global players but too big to reconcile themselves to the role of a niche airline, R. Doganis, 2001) Unclear mission and difficulty to take the right strategic decisions Vague business model 18 6

7 BANKRUPTCIES: ADDITIONAL REASONS Bad management * no flexibility * political influence * wrong incentives Undercapitalisation Wrong alliances? 19 THE IMPORTANCE OF COST CONTROL Bankruptcies and the link with costs US Airways: highest cost level in USA UA: high wage level Reaction of some European airlines (SAS, bmi, ): other cost standards UA: subsidiary is another carrier Leasing vs. ownership (and timing!) 20 REACTION PATTERNS Lufhansa: * Demand: 12% * Supply: 18% * Load factor: * Yield did not decrease drastically Low-cost turbulence (e.g. Ryanair buying Buzz) 21 7

8 CONSEQUENCES Due to derived character of demand * Airports Monopoly behaviour? Capital flows? * Handling agents Optimal size? Economies of scale? Duopolies? Changed negotiation power?) * Manufacturing business 22 POTENTIAL DANGER Suppose the United Airlines-scenario would be successful (i.e. out of chapter 11 plus as a result a lower cost level) American Airlines will get problems (cf. higher cost level) Adjustment required for American Airlines 23 IMPACT ON ALLIANCES USA: consolidation in 3 competing networks, plus Southwest Limited foreign support opportunities (e.g. Lufthansa and United Airlines, within the Star Alliance) But: foreigners cannot own more than 25% of voting shares in an American airline 24 8

9 SURVIVING WITHIN ALLIANCES Objectives: * more destinations * revenue generation * cost reduction * strategic investors Potential danger: * losing control * costs > benefits 25 ARE ALLIANCES SUCCESSFUL? Did alliances improve the airline s operating and marketing efficiency? Did alliances improve the financial returns? Did alliances affect the demand (globally and for each carrier)? What about the cost structure? Is there no dominant position? 26 COMPETITION BETWEEN CHAINS Potential conflict of interest e.g. ticket sold in Brussels, destination New Orleans 2 chains offered * United Airlines: Brussels Washington Dulles Washington New Orleans * Lufthansa: Brussels Frankfurt Frankfurt New Orleans But: both belonging to Star Alliance 27 9

10 WHAT CAN WE LEARN? Vision needed urgently (by all agents), based on process thinking; e.g. which business model? Requires continuity in management, and stable ownership Playing field and rules (at European level, and trans-oceanic, cf. the open skies discussion) Avoid ad hoc policy 28 THE KEY TO SUCCESS A strategy based on successful combination of key variables: unit costs, yield, load factors (e.g. low yields compensated by high load factors) Maximising shareholder value? 29 RECENT CO-OPERATION SNBA-Virgin Together in one holding, SnAir Aim: cost savings and reduction of overcapacity in Brussels Danger: cash reserves? LH-Swiss Acquisition by LH Expected negative effect (100 mn EURO) Aim: high-yield passengers, cost savings and synergies, Zurich as extra international hub 30 10

11 STRATEGY OF AN ENTRANT Make your choice: point-to-point? all types of destination? feeder or big carrier? (limited) hub system? optimal frequency? Opting for the virtual model: * cost control * growth by outsourcing * limited influence of unions What about freight? 31 WHY SHOULD AN AIRLINE OPT FOR FREIGHT? Profit maximisation Potential growth market Yield Economies of scale and scope Capacity utilisation 32 AIR FREIGHT ALLIANCES WOW Japan Airlines Cargo, SAS Cargo, Singapore Airlines Cargo, Lufthansa Cargo & DHL & DHL SKYTEAMCARGO AeroMexico Cargo, AlitaliaCargo, CSA Cargo, Delta Air Logistics, Korean Air Cargo, KLM Cargo, Air France Cargo 33 11

12 AS A CONCLUSION: SOME RESEARCH QUESTIONS Relationship between privatisation process and profitability The influence of financing and the access to the capital market The remaining need for regulation (e.g. to avoid abuse of monopolistic power with respect to fare-setting, allocation of landing slots, or access to terminals 34 IT S ALL ABOUT MONEY THANK YOU 35 12