Table of Contents:

Trends in Airline Industry Airlines Industry review Intense competition domestically: Possible Mergers in the US airlines industry Impact of high oil prices Impact of the credit crunch Fuel efficient aircraft: Cyclical business cycle Regulatory environment - does a Democrat in the White house change things? Economies of Scale?? A mature market (vs an entrepreneurial one) Network carriers compete in "long haul markets Global Protectionism Global Alliances Price Fixing scandals Airline innovations

 

Trends in Airline Industry

 

1.  Reducing capacity in resonse to higher oil costs:

 

8/2008:  Southwest Airlines became the latest American carrier to reduce its capacity because of high fuel costs. It will scrap almost 200 flights from its schedule, or around 6% of its departures, starting next year.

 

 

Airlines Industry review

 

Airline profitability is based on 6 factors:

1. Yield (average revenue per "revenue passenger kilometer"),
2. Load factor,
3. capacity,
4. fuel prices,
5. foreign exchanges,
6. labor costs

 

 

 

Intense competition domestically:

 

Due to ever-lowering barriers to entry, there are relatively few barriers to stop new competitors to entering the market.   Because of this, competition on price is intense and may keep profits of carriers to a minimal (at least on the domestic side). 

 

 

Possible Mergers in the US airlines industry

 

2008: Delta & Northwest attempt merger.  Feeling is that a merger is the best chance for survival in tough market conditions.   There is not much more cost savings that can be accomplished alone, as the industry has already reduced workforce by near 40% and wages by 30%, as well as defaulting on pension obligations of $20 billion.  Even still, the industry is in dire shape, and many industry analysts predict that a wave of Mergers and Acquisitions is necessary to save the companies from bankruptcy.  By merging, the two companies predict they can save up to $1 billion a year by centralizing their back office operatnions, and by reducing management staff. 

 

News:  2007

ONE by one, the obstacles along the runway to what could be one of the most transforming deals in the world's air-transport industry are being cleared. If, within the next few days or weeks, executives at Delta and Northwest succeed in hammering out a common labor contract with their 11,000 pilots, the airlines will declare their intention to merge, subject to regulatory approval.

 

Were the deal to go ahead, it would almost certainly trigger similar mergers between the rest of the “big six” American network carriers, with United and Continental likely to pair off on one side, and American and US Airways on the other. If, and it is still a big if, what emerged was a stronger, more stable American airline industry, that in turn would be an important step towards completing the stalled liberalization of the global aviation industry.

 

It is not the first time that America's big airlines have attempted to join forces. Delta saw off an $8.7 billion hostile bid by US Airways in 2006, and proposed mergers between Northwest and Continental in 1998 and United and US Airways in 2001 were blocked by the competition authorities. But a lot has changed since then. Four of the big six have been restructured under Chapter 11 bankruptcy protection, the industry has reduced its workforce by 39%, wages have been cut by 30% and there has been a $20 billion default on pensions. Even so, and despite booming business and leisure demand and a return to respectable profits in the past few years, the big airlines are still in a fragile state.

 

 

Impact of high oil prices

 

Gains in operating efficiency have been partially offset by the huge rise in the price of jet fuel.  According to the International Air Transport Association (IATA), airlines' global spending on fuel has risen from $40 billion in 2002 to $135 billion last year. Expensive fuel hits the American airlines harder because their fleets are much older than those in Europe and Asia.  Buying new planes, which are up to 30% more fuel-efficient than old ones, was not an option. And balance sheets are still too stretched to permit large-scale fleet renewal.

 

Impact of the credit crunch

 

The credit crisis of 2007 has had a strong negative impact on the airline industry.   The combination of high oil prices, and a lack of credit has led to a wave of bankruptcies in the airline industry.  Aloha, Skybus, ATA and Frontier all low cost American airlines filed for bankruptcy in early 2008.

 

Fuel efficient aircraft:

 

Newer planes can be 40% more fuel efficient, but the trouble is that most US-based airline companies have not had the cash to invest in newer airlines.  And so, as a result, these airline companies are flying planes that may be 40 years old, and require 40% more fuel than their younger competitors.  This is terrible in an age of rising fuel prices, and accounts for much of the US-based airlines troubles.  These older planes not only need more fuel, but they also require more maintainence, and miss more flight time.

 

The trouble for companies such as Delta and Northwest (in 2008) is twofold.  #1 weak balance sheets may not allow them much room to purchase new fuel efficient fleet of planes, and #2, even if they had the cash, the two main airplane producers (Airbus, and Boeing) are fully booked until 2012, so it would be impossible to get the newer more fuel efficient planes until then. 

 

European network carriers such as Lufthansa and Air France-KLM are better positioned to compete globally because they already have the more fuel efficient planes, and have stronger balance sheets. 

 

 

Cyclical business cycle

 

What is also concentrating minds at America's airlines is the certainty that 2007 marked the peak of the business cycle for the industry worldwide, and that North America will be the region hardest hit by the recessionary headwinds. Yields (the average revenue per passenger mile), load factors (the share of seats filled) and profits are already starting to fall.

 

 

 

Regulatory environment - does a Democrat in the White house change things?

 

Airline managers also reckon that time is not on their side for political reasons. If there is a Democrat in the White House next year, it may become even more difficult to secure regulatory approval for mergers that will lead to further job cuts in one of the country's most unionized industries. And although there are good grounds for discounting fears that reduced competition will drive prices upwards, a less pro-business administration may be more inclined to heed the inevitable protests of passenger lobbies fearing the closure of routes or a city hub.

 

 

Economies of Scale??

 

Some industry critics are sceptical of the airlines' claims about the efficiency gains that mergers will make possible. They counter that the airlines are already big enough to enjoy economies of scale and that the difficulties of knitting together complex organizations with different cultures will distract managers and divert scarce cash. They also argue that proponents of consolidation exaggerate the boost to load factors that a reduction in capacity will bring. Low-cost carriers, they say, will quickly move to occupy abandoned hubs and routes, replenishing capacity almost as soon as it is reduced.

 

 

A mature market (vs an entrepreneurial one)

 

And there are good reasons to think that the Delta-Northwest and United-Continental deals would make sense. For one thing, airline managers have become more professional during the past few years. The visionaries have left the field, and their successors have ruthlessly focused on cutting costs. One measure of their success is that the market share of low-cost carriers appears to have stabilised at around 30%, at least for the moment.

 

 

Network carriers compete in "long haul markets

Big network carriers know that their future depends on developing their long-haul business, where there is greater scope for savings, and where the growth of premium traffic continues to buck other industry trends.

 

 

Global Protectionism

 

The prize for passengers, investors and regulators would be a globally competitive American airline industry that no longer needed to shelter behind bankruptcy laws and outdated bilateral agreements that keep foreign investment and ownership at bay.   “All of us in the airline business need a strong American industry, because it would be less protectionist,” says Willie Walsh, the chief executive of British Airways. Giovanni Bisignani, the chief executive of IATA, also sees strong American airlines as one of the keys to unlocking change in the industry and opening the way to further international consolidation, of the kind that happens in other, “normal” businesses. “If we cannot change the rules of the game,” he says, “we will never be a normal business.”

 

 

 

 

 

 

 

Global Alliances

 

 

5 multi-carrier alliances – KLM/ Northwest, oneworld, Qualiflyer Alliance, Sky Team, and the Star Alliance.

- Led to a change – now there is competition among alliances not competition among carriers

- Star Alliance – Lufthansa, United, Air Canada, SAS, Thai Airways ….and more

 

Star Alliance

 

 

Price Fixing scandals

 

he penalties for the growing number of airlines caught participating in conspiracies to fix prices, either in passenger or cargo operations, are rising rapidly. And there are yet more fines or damages to come, as well as possible criminal charges against individuals.   The settlement on Friday by British Airways and Virgin Atlantic of a class action brought in the US, under which the two airlines could pay out about $200m (£102m), represents only one part of the myriad investigations and claims started against airlines round the world in the past three years.  Several leading international carriers have admitted guilt and have been fined.   Last August, Korean Air was fined $300m in the US over conspiracies to fix passenger and cargo fares over a period of more than six years.  Michael Hausfeld, senior partner at Cohen Milstein, said Friday’s settlement was only the beginning. In about two months the first class action settlement was expected to be announced for cargo customers of Lufthansa.  read more here...

 

 

 

 

 

Airline innovations

 

Backpackers Xpress »