The new Low-Fare Hurdle

[FDJ2]

Hot Flash - March 1, 2004

The New Low-Fare Hurdle

Low Cost Carriers - LCCs - are the latest trendy buzz in the media. And possibly the most mis-reported, too.

To take a lot of what's written at face value, one might think that in five years, almost everybody will be flying on these "new" LCCs, and "legacy" carriers like American and Continental, et al, will be completely submerged out of sight into their financial tar pits.

Don't bet on it. And most mid-size and smaller communities had better be bowing down, burning incense before the craven idol of the Air Service God, praying that it doesn't happen. This new LCC "model" - the one that a lot of journalists have found to be a great way to fill newsprint with stories of enormous growth and wonder - has something called limits. Limits to the size of the market it can enter. Limits to the number of markets it can enter. The point is that there is a finite number of airports that can support this model.

And the bar for low-fare entry is going up almost daily. If every airline were "just like Southwest" in their structure, likely over half of all currently-served US airports would see their scheduled service go down the Crane fixture. That's because such airports cannot generate the traffic and revenues necessary to provide an adequate return for a full-system low cost carrier. Sure, a lot of airports can get a five-day a week pattern to Las Vegas. It's great to have, and a valid development objective. But it's not air service, per se. It's merely a variation on the charter concept that does little or nothing to increase connectivity to the rest of the air transportation system.

The Lubbock Trap. It's understandable that many communities see what low-fare entry has done elsewhere, and therefore embark on efforts to recruit Southwest, or AirTran, or Frontier, or whoever. In some cases, it's possible. In others, it's about as likely as winning PowerBall without buying a ticket.

Unfortunately, a lot of these communities are desperate. They see traffic diverting to other airports. They endure consumer ire because "we don't have Southwest," and that's the "fault" of the local airport, or the mayor, or the city council, or whoever. This is ripe territory for a genre of snake-oil "advisors" who circle these communities like an out-take from Jaws. One of their favored tactics is to inform the victim-community that, wow!, you're bigger than Lubbock, or Jackson, or some other place where Southwest flies. Therefore, the scam goes, "we'll do a perfunctory $40K "pattern" study, and take the secret results to Southwest, or what ever other target airline. Since you're bigger than some places they already fly, golly-gee, when they see our data, you're a shoo-in for the spring schedule."

Wrong. What these people miss is that decisions to enter markets even as recently as five years ago were based on economics that have completely changed. Markets that low-fare airlines entered just a few years ago in many cases would never even be considered now. The entire set of metrics have changed - it now takes significantly more passenger generation to attract and support a low-fare carrier. The 737s and A-320s, as well as the Embraer E-jets that JetBlue has ordered, require a lot of passengers to make money.

Here's a general indicator: Unless an airport can generate - or collect - a clean 250,000 or more passengers for the LCC within some reasonable period of time, the chances of attracting such service are very slim. There are some exceptions, say, where an LCC has a fleet of 70-seat CRJs, but these are not typically low-cost airliners. In any case, if an airport is expecting a schedule pattern of 737s or A-320s, it better be able to come up with at least a quarter million O&D in a heartbeat.

The Low-Cost RJ Trap. We can expect some expansion - measured and limited - of use of 70-seat and above RJs by some LCCs. America West, which some may or may not consider an LCC, is one such carrier. However, the applications of such aircraft will be in slam-dunk markets, focusing on either its PHX hub or in major western markets. Furthermore, these aircraft are not "low cost" - they are high cost and low seat density. Therefore the ultimate result will be well short of the "Southwest Effect."

Then there is the concept that is being pursued at IAD by Atlantic Coast, a.k.a. Independence Air. While the PR for Independence Air is that it will be "low cost" the fact is that it may be "lower fare" than what's in certain markets today. With 16-cent ASM costs (their number) the fare ladder isn't going to be dirt cheap in any market. It may be lower than the Jolly Roger fares now charged, but not bargain basement.

Some "advisors" have pointed out the "success" of RJs within LCC operations, pointing to AirTran, Frontier, and, incredibly, JetBlue. All of which is hogwash. AirTran has a limited fleet of 10 50-seaters used mostly as schedule place holders to bolster frequency. And that appears to be all they're getting. Frontier has dumped its 50-seat sub-fleet, and moved on to 70-seaters. The fact is that 50-seat jets simply are marginally economical to operate in any fleet - LCC or Legacy. The 70-seat CRJs have better economics, but here, too, their main strength is in shoring up frequency and adding spokes that can feed the LCC mainline with contributory revenue.

And any "advisor" - or journalist - who points to JetBlue's Embraer 190 order as "regional jets" is totally ignorant of fleet trends and market realities. Not to mention probably a lot more.

The Alternative - Target Legacy Carrier Connectivity. The hard fact is that LCCs by nature are market cherry-pickers. The number of cherries necessary to attract them is going up month by month. If the market has - or, in the case of Flint and Akron - can collect, a strong catchment area traffic base, it's a potential target for LCC expansion. Sometime. But if that's not possible, no amount of money tossed at marketing or "studies" will change the situation. This is economic reality. Not medical science. Spending dough doing repeated research won't find "the cure." You either have the traffic, or the ability to collect the traffic, or you don't.

But all is not lost. Despite the current buzz on LCCs, the legacy carriers are neither dead nor dying. They are re-structuring their operations. Labor costs are coming down. Operational efficiencies are moving up. And within these shifts, they are re-focusing on the value of the traffic generated by mid-size and smaller airports. Business traffic. High-yield traffic. True, the new traffic "floor" will be the ability to support 50-seat jets, and, later in the decade 70-seat jets. But there are a lot of airports that can't attract an LCC but will remain important parts of legacy networks. Bargain-basement fares to Orlando may not be in the cards, but improved connectivity to the legacies' global networks is.

And that means stronger air service connectivity. And connectivity leads to economic growth in the global economy.

Just try flying Southwest to Beijing.

 

[General Lee]

How many stops would that take?

 

[Snoopy58]

General,

Don't worry, it'll be "direct" service...

 

[General Lee]

I'd like to see that! You guys will have 500 737-700s and 5 A380's probably.........

Bye Bye--General Lee

 

[juan2go]

Actually closer to 600 737's by the end of '08. 380's may come with the EMB order.

Regards,

Juan

 

[F9 Driver]

The rest of the story...

http://www.aviationplanning.com/

This is where the "Hot Flash" came from and the rest of today's column is interesting too.

PS. Boyd stole my tag line

"I've Met Ted. And I Don't Like Him...."

United's Ted continues to make news. Not much of it of the positive type, unfortunately.

The New Focus: Give Customers More, Not Less. Or at least the perception of more. Airlines of all stripes are identifying this trend. Some low cost carriers are approaching it with frills like seat-back television, increased legroom, and leather seats. A number of legacy carriers recognize that the loyalty of top business customers is a major weapon to counter LCCs. So they're are trying to keep them from wandering off the reservation by upping the service ante for their mineral-level frequent flyers. Continental, for example, has implemented an exclusive gate boarding line for its Elite-level customers. American is announcing automatic first class upgrades for its Executive Platinum members. Northwest is doing it for all their top WorldPerks customers. The idea is to make sure that the folks who do the most flying stay in the airline's customer herd.

That's the clear industry trend. It's a good one - both low fare and legacy carriers are sharpening their product offerings, becoming more efficient, and more consumer-oriented. At least, most of them are.

United: Don't Worry. We'll Make It Up On Volume. Then, of course, we have Ted, the eventual 45 airplane fleet on which United is betting at least a major portion of its future. Countering what the rest of the industry is doing, Ted is boldly going off in the opposite direction, reducing service options for United's best customers, and instead chasing after the low-fare, less brand-loyal passenger at the expense of service offerings to its top frequent flyers. In particular, the elimination of a first class cabin is not sitting well with some of its best - and up until now - most brand-loyal customers, the availability of Ted Tunes and colorful earphones not withstanding.

It seems the battle has been joined. At least one website has been published by a disaffected 1K Executive passenger - one who appears to be actually in the business of helping companies build customer loyalty. Scott McKain, the site's author, travels extensively out of LAS - a city were most of United's service will be with Ted-configured airplanes in the future. He is not a happy camper, and he may be expressing the feelings of a lot of the airline's most valuable passenger segments:

"I've met Ted and I don't like him... Customers today want superior experiences. United’s response is to take their best customers and make them fly coach... Thanks, United. As a 1K member of your Mileage Plus program I flew over 125,000 miles with you last year – and now I’m told, in essence, “Shut up and get on the bus.” No upgrades for your loyalty – because there are no First Class seats. No special service (other than boarding in the first group) and – at least on (some) flight(s) – not even pretzels..."

Using the near-transcon experience of LAS-FLL as an example, Mr. McKain makes a very key point...

"When has ANY corporation in the history of American business turned their organization around with the strategy of cutting service to their best customers? I can’t think of a single one."

Trying something new and outside of the box is a great idea. Unfortunately, Ted is neither. In a clumsy attempt to gain market share (essentially with flashy PR and a paint job) United is ticking off some portion of the very customer base it needs to survive. How much, nobody knows. But it will take a lot of new one-off leisure travelers to replace just one 1K United frequent flyer who bolts over to AA or another competitor.

In 2004, the name of the game for airline profitability will be consumer brand-loyalty. That means airlines producing service that not only seeks to gain new customers, but more importantly keep the key passengers they already have. In an environment of slow traffic growth and rapid increases in competition, this is the foundational key to long-term survival.

United might want to take note of this. It's a great airline, but it cannot afford to sacrifice brand loyalty at the altar of some bozo concepts dreamed up by high-paid outside "advisors" who would do well to go back and study Airline 101.

 

[calfo]

washingtonpost.com
The Math Flies
All the Numbers Add Down for the Nation's Low-Cost Carriers

By Keith L. Alexander
Washington Post Staff Writer
Sunday, February 29, 2004; Page F01


The nation's low-cost carriers are profitable even as the venerable "legacy" airlines barely tread water. How can they make money while offering fares that are 40 to 70 percent lower? The reasons are many -- cost of labor is a big one -- but here are 10 major differences between the cheeky upstarts and the big boys.

1.3 million


That's the minimum number of potential annual airline passengers a city must offer before a low-cost carrier will consider it as a destination. Airline industry consultant Michael Boyd of the Denver-based Boyd Group says low-cost carriers avoid smaller cities and target only those areas where they can get the highest revenue. Airports within a 45-minute drive of such locations are sought out by the carriers.

Low-cost carriers, Boyd says, have no plans to take their large jets into such cities as Ithaca, N.Y., or Lubbock, Tex. "All these small communities want low-cost carriers, but they're more likely to get a moon launch than service from one of these airlines," he said.

84.6


That's the number of employees per aircraft at Southwest Airlines. And it's the figure the industry uses to measure employee productivity.

Compare that number with 116 employees per plane at United Airlines, a number the airline achieved last year during its bankruptcy reorganization. The United number had been 173 in 2002, said airline analyst Vaughn Cordle of Airline Forecasts.

Small wonder the so-called legacy airlines are trying to get that number down to get productivity up, Cordle says. The United reduction resulted in a savings of about $2 billion and boosted productivity by 33 percent.

2%


That's the percentage of ticket sales that JetBlue Airways makes through traditional travel agents. By contrast, travel agents sell 61.2 percent of US Airways tickets. The number is about 50 percent for American Airlines.

Selling airline tickets via the Internet, on an airline's own site or on a site like Expedia.com is the lowest-cost channel for an airline -- and that's where the majority of the low-cost carriers do most of their business. In fact, it costs an airline only about 1 percent of the ticket price to sell it online.

While legacy carriers have drastically reduced the commissions they pay travel agents, selling the traditional way remains the most costly method -- between 7 and 9 percent of ticket value. And the big carriers still offer some of the largest agents steep discounts in exchange for moving market share to that airline.

The legacy carriers are looking for ways to attract travelers to their sites by offering steeper discounts, bonus frequent-flier miles or other incentives.

Also, low-cost carriers such as Southwest were among the first to implement electronic ticketing to avoid the costs of printing and mailing. During the past two years or so, legacy carriers have expanded their use of electronic ticketing as well.

40%


That's the percentage of American Airlines passengers who connect to another flight to reach their final destination. The number is significant because routes that include connections are more expensive than direct, nonstop flights.

In general, the low-cost carriers have set up their schedules to focus on point-to-point flights. Southwest Airlines calculates that only 10 percent of its passengers connect to another flight to get where they're going, in large part because the airline focuses on flights to and from destination cities. In essence, the burden for any onward travel is on the passenger to arrange, not the low-cost carrier.

Nonstop, direct flights are cheaper for several reasons. First, because airline employees are paid by the hour and connecting flights take longer to get to a destination, there is extra pay for flight attendants and pilots. Also, connecting flights require more manpower, says American Airlines spokesman Tim Wagner. Remember, bags have to be loaded, then offloaded on the first leg, then reloaded and offloaded again on the final leg of each flight. Also, taxiing for each takeoff and landing burns more fuel than flight time does, Wagner said.

As they grow and add destinations, low-cost carriers such as Southwest and AirTran will offer more connections. And airline consultant Boyd says that as the number of connecting flights increases, so will any airline's costs. Also, of course, a limited number of flights means that a carrier such as JetBlue simply does not need as many employees as a larger airline does.

23 and 0


This is the number of U.S. cities and foreign countries that JetBlue Airways, the nation's 11th-largest carrier, serves. It's a far cry from the 109 cities and 23 foreign countries reached by the nation's second-largest airline, United. And even those large amounts exclude United's code-sharing alliances with other airlines.

By focusing their routes on U.S. flights, low-cost carriers avoid the costs associated with flying into foreign countries. These longer-distance flights require larger, more expensive aircraft. Also, the airline's workers at a foreign destination are governed by that country's labor rules, some of which, in Europe especially, restrict hours and call for generous benefits.

$215,000 a year


That's the average salary for a captain at Delta Air Lines. In contrast, captains at low-cost carrier AirTran earn, on average, $135,000 a year, although they also receive stock options.

Overall, pilots are the highest-paid labor group in any airline, and labor represents the biggest cost for a carrier. Salaries are often based on a pilot's seniority, which points up another cost advantage the small new airlines have over the legacy airlines. Delta's 7,500 pilots -- 3,500 of whom are captains, the highest rank -- range in seniority from five years to 35 years, said Delta spokeswoman Karen Miller. By contrast, the majority of low-cost carriers are less than about 10 years old. The average seniority for AirTran's entire work group is two years, said spokesman Tad Hutchinson. Four hundred fifty of AirTran's 850 pilots are captains.

As part of its drastic cost-cutting measures, Delta -- which lost about $3 billion during the past three years -- is trying to persuade its pilots union to agree to substantial cuts in their pay and benefits. Delta's pilots are among the highest-paid in the industry.

As seniority increases at low-cost carriers, so will salaries. Pilots at Southwest Airlines, which turns 33 this year, already rank among the highest-paid in the industry, attributable in large part to their seniority and their stock options.

$9.99 an hour


Of the industry average total compensation of $31.23 an hour, $21.24 represents wages and $9.99 goes to benefits, according to compensation consultants Watson Wyatt, based on Bureau of Labor Statistics data.

Bureau statistics show that in general industry, benefits put an employee's total compensation 38 percent above his or her wage base. In the airline sector, in general, benefits add 47 percent to salary.

Employee benefits obviously affect every company's bottom line, and the older airlines simply offer more of them. Delta, for instance, offers medical benefits and a 401(k) savings plan to its workers in addition to a traditional pension plan.

The low-cost carriers generally do not have traditional, defined-benefit pension plans, but most offer medical insurance and 401(k) plans, which are far cheaper than pensions, even when the company matches employee contributions with a contribution of its own.

0


The number of downtown ticket offices low-cost carriers such as Southwest, JetBlue and AirTran operate. US Airways alone has 13 such offices.

The majority of legacy carriers -- Delta, American, Continental and United -- operate these ticketing offices, where passengers can purchase tickets, make travel changes or just get information. US Airways said it costs about $2 million a year to operate the offices, including rent, personnel and other expenses. As part of its cost-cutting move, Northwest Airlines recently announced it would close all 25 of its ticketing offices by the end of March.

$21 an hour


This is the average base pay, excluding benefits, of one of US Airways' 1,930 telephone reservation agents. Before the Sept. 11, 2001, terrorist attacks, US Airways had 3,762 reservation agents.

The average pay for one of JetBlue Airways 700 reservation agents, by contrast, is $8.25 an hour. JetBlue's agents also receive benefit packages that include a 401(k) plan and medical insurance, but they work from home, saving the airline rent on a reservation center.

1


This is how many types of planes JetBlue flies -- the Airbus 320 jet, period. In 2005, however, the airline will begin taking delivery of 100-seat Embraer 190 regional jets as the airline begins flying into secondary markets.

Delta, on the other hand, flies 16 kinds of aircraft.

It's because, the legacy carriers explain, they fly longer routes and more transcontinental and international flights. Such long-haul travel as across the Pacific and Atlantic oceans calls for larger, more expensive planes. So the equipment is inherently costlier.

But, in addition, moving a pilot from one category of plane to another requires about eight weeks of training. That entails the cost of training the pilot as well as the cost of covering the pilot's existing route during training. Because the low-cost carriers have only one type of aircraft, they require little additional training and fewer arrangements because of that training.



© 2004 The Washington Post Company

 

[juan2go]

Interesting article.

I don't get the part about small cities like LBB. But I don't get alot of things in life.

Juan.

 

[FlyBoeingJets]

I love the last two articles.

1st article--My perks are down, that is unacceptable even if it costs less. I don't get anything for loyalty.

2nd article--Cut the cost, oooh the labor cost and complicated network of aircraft of a "mature" carrier is raising my ticket price too much. We need something new.


You've got to be $h#tting me!! You want to be rewarded for loyalty, yet are unwilling to give loyalty unless you get traditional first class perks at a "new" low cost carrier. All those older carriers cost too much because "everyone" has 20-30 year seniority.

So I'm figuring the answer is to fire (furlough, I guess) all the labor at airlines over 5 years old and start fresh with young cheap workers. Only then will the passengers get the amenities they want at the price they need.

Boo, hoo. I'm crying over here for the plight of the passenger.

So the cycle is likely to continue. Out with old, in with the new. At least until investors run away screaming to other industries. I figure that will happen in late '04 or '05 and Virgin USA will be a dud. Our hyper competitive market will not support it.


Hey, when's the merger with North American?

 

[Ty Webb]

It's an economy of scale thing. LCC's will do what they do most efficiently. Legacy carriers will do what they do best. Once the legacy carriers stop trying to fight the LCC's for the most price-sensitive customer, everyone willbe better off.

 

[General Lee]

Ty,

Delta doesn't want to give up on a group of passengers that has gotten larger since 9-11. That is why they have created Song---and so far it has been an interesting experiment (even though we are getting better loads as of late--probably Spring Break related down to FLA). You can't just ignore the people who want very cheap tickets---so you put all of them in larger planes (like 757s with 199 seats) and try to squeeze a profit out of that. Yes, we also need some sort of pay cuts to help, but the experiment is interesting indeed. I wonder what Grinstein will do.....He may make it bigger, or he may return the planes to Mainline....?

Bye Bye--General Lee

 

[Ty Webb]

If they can make money at it, fine.

But this is a business, not a charity. I predicted two years ago that if DAL kept focusing on "preserving marketshare" instead of focusing on "making a profit" that the BOD would call for Leo's head . . . . .

So far, it's Ty Webb 1, Leo 0 . . . . .And guess which one of us still has their job (no, it's not Leo!).

 

[Fly-By-Cable]

This came from Joe Leonard's presentation at annual transportation conference last month:

It shows the risk of LCC to competition.

Most profitable city pares SWA .. AIRTRAN .. Frontier .. JB

5...................................6% .... 12.6% ... 20.8% ... 45.3%

10..................................9.9% .. 21.2% .. 35.3% ... 67.1

20................................16.6% .. 33.6% .. 54.4% ... 87%

This is according to DOT Q3 of 2003.

It show that JB is the easiest target for legacy carrier to take on by simply overlapping 20 most profitable city pares.

Likewise it is an incredibly expensive task to hurt SWA.

Joe said that they are trying to bring AirTran's numbers closer to SWA by connecting a lot of dots in a future.

 

[spanky2]

Yo Ty,
Leo has no job? Poor Leo. He walked with $16M (plus who knows what else) after 6 years on the job. Guess you showed him. He is laughing somewhere...at all of us.

 

[Ty Webb]

Well, Spanky, my post was a little "tongue-in-cheek" but to CEO types, the money is only part of it.

I flew CEO's for a number of years as a corporate jet pilot, and after hundreds of conversations with different ones, spending time at their houses, with their families, etc., I can tell you that the ones I know are motivated by more than how much money they can "parachute out" with.

I can guarantee you that Leo would have much rather engineered a turnaround of DAL, been lauded by his peers, been the darling of Wall Street (and the institutional investors) and had a mega book deal . . . . . alas, 'twas not to be.

PS., I never met Leo mself, but my mother used to work with him at Com Ed, and she was not impressed.

 

[Stifler's Mom]

So far, it's Ty Webb 1, Leo 0 . . . . .And guess which one of us still has their job (no, it's not Leo!).

Actually, I believe Leo left with 19,000,000 points.

 

[Jack Schitt]

Let's not forget that Ty also predicted the liquidation of UAL in 2003.

Ty Webb (master prognosticator) 1, Leo 19,000,000, United 1