Airline strategic planners have viewed growth as their overriding
objective as they have considered changes in customer markets and
operations since WWII. This growth has been largely accomplished through
an industry focus on differentiation with the exception of a few
noteworthy carriers that have used a low-cost focus to achieve market
growth. This research questions whether a strategy designed to achieve
growth based on low cost has moved beyond being considered an exception
to now being considered the norm for the airline industry. The
methodology for answering this question involved an analysis of the
airline industry's modern era business cycles and included an
analysis of changing market forces, opportunities, and threats. From
this analysis, we have to qualify our conclusions by first noting that
the answer to the research question was not as obvious as the popular
literature would suggest. Documented support for a low-cost strategy is
summarized, and conclusions are drawn as to the long-term attractiveness
of this strategic option.
The current airline industry financial cycle began in mid-2000
(Lorenzo, 2001) with the declining national economy and a sharp drop in
airline revenues and has received wide coverage in the popular press,
scholarly research, and business media. Though currently in decline, the
glamour nature of the industry has always inspired optimism, even as
investors have seen wide ranging swings in profits and losses over an
extended period. When viewed in the context of financial performance,
reported research finds that the profit margin for the industry averaged
only 1.6% during the 1980s (Poling, 1990) and only 1.0% for the period
between 1990 and 2000 (Samuelson, 2001) before recording industry-wide
losses of $7 billion in 2001(Airline of the year, 2003), $7.5 billion in
2002, and $5.3 billion in 2003 (Velocci, 2004). In fact, the only member
of the industry to have long-term profits has been Southwest Airlines,
which has had thirty consecutive years of operating profits (Azoulai,
2000; Airline of the year, 2003). Low profitability is, then, a
traditional industry theme and is discussed today by some business
analysts who write about industry problems and solutions, business
cycles and trends, or government regulations and controls in a manner
similar to that of writers in previous periods. However, a review of the
literature finds a recurring theme linking profitability to an
industry-wide, low-cost strategic focus. For example, Costa, Harned, and
Lundquist (2002) observed that while some airline analysts are optimists
and assume that the industry has learned how to manage cyclic activity,
others view the current industry climate and observe that dramatic
long-term changes in both fleet composition and airline networks will
require traditional carriers to adopt a service model based on an
improved cost structure. Donoghue and Geoff (2003) offered additional
evidence to support this conclusion based on both their analysis of
recent statistics collected by the Air Transport Association (ATA) and
on their review of current sentiments expressed by airline industry
leaders. In their findings, they noted that the ATA predicted a
reduction in air travel spending and that many of today's airline
industry leaders strongly support a long-term planning model built
around a cost structure that would yield better profitability. This view
is consistent with other research findings that confirm the widely held
consensus that restructuring, based on cost, must be at the heart of the
industry's long-term survival strategy (Forsberg, 2001; Kangis
& O'Reilly, 2003). The fact that the popular press is also
aware of the airline cost issue can best be exemplified by an editorial
in the Chicago Tribune, which addressed the airline financial landscape
and noted that low fares and electronic shopping have "irrevocably
shifted" (Airlines: Cut Cost, 2002, p. 28) the planning environment
and created other options for today's business passenger.
Recognizing this new environment, The Economist suggested that
traditional network carriers are "not just grappling with a
cyclical slump in the basic airline business model but will have to
reinvent themselves or go out of business" (Silver linings, 2004,
So, it is obvious from today's literature that airline
managers are advised to see more than the usual suspects when
considering industry problems. However, since most major airlines have
successfully flown through past financial cycles without adopting low
cost strategies, what facts today would support an industry-wide shift
from a strategy emphasizing growth and differentiation to one
emphasizing standardization and cost control? To answer this research
question, this paper will review both the past and present operating
environment of the U.S. airline industry and will contrast the current
financial cycle with well-documented past cycles. Important factors
considered in this review will include the environmental opportunities
and threats offered by new technology as well as the impact on long-term
strategy caused by the effects of industry life cycle and the threat of
substitutes for airline business travel. Finally, in answering the
research question, two overriding factors were considered: the redefined
business travel climate since 9/11 and the continued refinement of
e-commerce and technology tools. This research concludes that these
factors have come together to influence airline strategy in ways not
seen since the beginning of the modern era of the U.S. airline industry.
OPERATING ENVIRONMENT: ELEMENTS OF CHANGE
Operating Environment: The Modern Era
The foundation for the modern era of the U.S. airline industry
began during WWII with the construction of airports and the development
of modern transport aircraft. Following the war, hundreds of these
modern transports were declared surplus, and personnel trained during
the war stood ready to staff this equipment as airlines added new routes
to their networks. With these resources in place, air travel was now
possible to most U.S. and international destinations, and the industry
evolved as both its technical capability and the scale and scope of its
customer base grew. For the increasing number of business travelers, the
airlines represented a value-added activity that could bring faraway
customers or corporate subsidiaries within easy reach of each other. For
leisure travelers, visiting distant points became a viable option, even
those with limited travel time. During this growth period, early
prop-driven aircraft were replaced by jet aircraft that were later
augmented with higher capacity, wide-bodied jet aircraft as improvements
to both speed and efficiency contributed to growth. A growth strategy
built around differentiation seemed to be the only logical direction for
airline managers during this early period as they witnessed a dramatic
increase in passenger traffic. Banks (1993) referred to this period as
the industry's "gravy days" (p. 40) and observed that as
the airlines took advantage of technological improvements, they saw an
average passenger growth rate of 13% per year while realizing a 50% drop
in operating costs per seat mile for the period between 1950 and 1973.
However, airline industry growth has not been consistent or uniform over
time. In fact, Costa et al. (2002) observed that the industry has
experienced major economic cycles with each cycle having its own complex
set of environmental forces, lasting from three to five years during
each decade beginning with the 1970s. These cycles, coupled with the
current downturn and threat of future industry downturns, give greater
emphasis to the need for better industry analysis and strategic
planning. The following sections will review this cyclic activity and
will note that in pursuing solutions to the operating problems of these
periods, both marketing and operations decisions would receive greater
emphasis. This review will aid in better understanding the unique role
that cost control plays in the current industry cycle.
Operating Environment: Marketing Innovation
Kaynak and Kucukemiroglu (1993) reported that during the 1970s the
airline industry considered marketing to be "a comparatively
unimportant activity" (p. 32). However, events of the 70s would set
the stage for dramatic changes in the operating structure of the
industry. The stable growth pattern that developed after the
introduction of new jet service was interrupted in 1973 by the
Middle-East oil embargo. The ATA reported that this embargo triggered a
rapid increase in fuel prices that helped increase the rate of inflation
prior to a subsequent energy crisis and downturn in the national economy
(The Airline Handbook, 2003). Gowrisankaran (2002) explained that as the
industry entered the 1970s, route structures and ticket pricing policies
were regulated by the Civil Aeronautics Board (CAB) and were controlled
in a manner similar to that of a public utility with air travel treated
as a public convenience or necessity. In a historical review of the
1970s, the ATA reported that in an attempt to maintain profit margins
during the energy crisis years, the CAB responded by approving fare
increases and limiting the introduction of new routes for a four-year
period (The Airline Handbook, 2003). However, these efforts were
unpopular and unproductive because, even with higher fares, the industry
would continue to suffer from the combined effects of over capacity, a
weak national economy, and poor earnings recorded for most of the 1970s.
During this period, public pressure and dissatisfaction with air service
continued to grow until the role of government in airline regulation was
drastically changed in October of 1978 with the passage of the Airline
Deregulation Act (Gowrisankaran, 2002). This act created a new control
environment that allowed greater flexibility in ticket pricing and route
planning as the industry now came under the control of the Department of
Transportation (DOT). The DOT's regulatory authority would focus
primarily on issues of safety and operating procedures in determining
which airlines should operate. Kaynak and Kucukemiroglu (1993) reported
that in this new marketing environment, airline service began to change
"from a sellers' market to one of a buyers' market"
(p. 33) as incentives to innovate brought new carriers and new marketing
ideas into the industry. Gowrisankaran (2002) suggested that large
fluctuations in the airline economy presented an environment that
offered new opportunities for those carriers willing to innovate.
Marketing innovations became an integral part of this new deregulated
environment as the number of certified air carriers ranked by the CAB in
one of the four main categories (e.g. major, national, large regional,
or medium regional) increased from 37 in 1978 to 100 by 1984 (CAB, 1978
& 1984). Also, between 1978 and 1999 the number of carriers using
large aircraft doubled while the number of flight segments with a choice
of two or more carriers increased from 66% to 85% in the deregulated
environment (The Airline Handbook, 2003). This period would usher in new
marketing concepts and programs as carriers tried to fly successfully
through each business cycle.
Operating Environment: Deregulation
Both excess capacity and increased competition are blamed for the
decline in the profitability of the airline industry in the 1980s as
industry deregulation allowed new low-cost carriers to enter the market
and begin to change the competitive landscape (Banks, 1993; Costa et
al., 2002). In this competitive climate, most airline strategies
continued to stress growth, with the established carriers focusing on
market differentiation using new jet service and the newer start-up
carriers generally entering the market using low-cost models. Common
elements of these low-cost carriers generally included a simple,
no-frills product positioned to attract the price-conscious passenger
while following an operational plan designed to reduce unit costs
(Impact of Low Cost, 2002). For example, PeopleExpress was started in
1981 and developed a growth strategy with low fares supported by a plan
to maintain low operating costs. By 1986, it had successfully grown its
market share to become the fifth largest carrier while maintaining a 75%
aircraft load factor compared to an industry average of 55% (Smith,
Gunther, Rao & Ratliff, 2001). In reacting to this new type of
competitor, established carriers generally chose not to pursue low-cost
strategies but chose instead to introduce new programs designed to
differentiate their service, improve loyalty, increase load factors, and
protect space for business travelers. Several innovative marketing and
operational strategies were linked to enable the industry to succeed in
these efforts. One of the earliest of these marketing strategies, the
AAdvantage frequent flyer program, was introduced by American Airlines
in 1981 and is credited by many as being the single most successful
marketing program in airline history (Smith et al., 2001). This strategy
was successful because it addressed the issue of customer loyalty in the
new price competitive environment. Although tickets had been shown to be
price elastic, American Airlines managers did not think that low prices
alone would win and keep their best customers. Through their Sabre
reservation system, they were able to track their best customers based
on mileage. A scale was developed to offer free tickets to any
destination or offer service upgrades to customers based on the number
of miles flown. This bold move differentiated its service and was
successful in retaining American's higher paying, frequent (i.e.,
business) travelers and in developing the largest frequent-flyer program
in the industry (McDonald, 2001).
Efforts to protect the business travel market of the 1980s, while
important, did not cause airline managers to embrace automatically a
low-cost strategy or to forget about growth strategies in other market
segments. Airline managers knew that in order to increase load factor
and to improve yield, they would have to differentiate their service in
ways that would attract more leisure travelers and compete directly with
the low-cost carriers.
Operating Environment: Growth of the Leisure Market
During the 1980s, the number of leisure passengers grew as the
proportion of passengers classified as business travelers declined
(Banks, 1993). American Airlines, aware of the success of carriers like
PeopleExpress, considered the leisure market trend and worked to improve
further both yield and load factors through the introduction of its
Ultimate Super Saver campaign in 1985 (Smith et al., 2001). The result
was full service at discount prices for leisure travelers willing to
accept certain purchase restrictions. This program was designed to grow
market share while protecting seats for use by business travelers who
might buy close to the flight date and be willing to pay more. By having
access to historical flight demand and passenger booking data, company
management science specialists were able to use operations research
tools to predict seat availability and to alter seat price to reflect
projected demand over time. This activity, known as yield management,
helped to determine how many seats to save for late-booking, higher
paying customers and how many seats to make available to those willing
to accept certain restrictions for a lower fare (Belobaba, 1987).
Smith et al. (2001) reported that over a three-year period
beginning in 1985, American Airlines used yield management to generate
over $1.2 billion in additional revenues. In a review of the operating
environment of the airline industry, Costa et al. (2003) credited
yield-management techniques with improving revenues and helping to drive
the industry recovery from the 1980s business cycle. By using
yield-management techniques following deregulation, the major carriers
were generally able to defend against the incoming tide of discount
carriers. Low fares supported by low cost alone seemed to hold no
assurance of success during this turbulent period. Records of the ATA
show that 87 airlines filed for bankruptcy protection during the 1980s
(The Airline Handbook, 2003). PeopleExpress, which had been so
successful with its low-cost strategy, saw its aircraft load factor
shrink to 25%, and the company was eventually sold to Continental
Airlines in 1987 (Smith et al., 2001). Carriers classified in the
"major" category survived this financial cycle without
adopting low-cost strategies and actually increased in number from 10 in
1978 to 12 in 1984 (CAB, 1978 &1984). According to Bonne (2003),
many of the discount carriers of this period failed because of flaws in
their business models or because they were squeezed out by the marketing
efforts of the major carriers. Dubin (1984), in reviewing the
performance of new carriers for the period immediately following
deregulation, attributed their high rate of failure to their "weak
management, inept marketing, and under capitalization" (p. 75). As
the industry entered the 1990s, the top ten airlines used similar
pricing plans based on a differentiation strategy of full service with
restrictions and were successful in controlling 90% of the market (Das
& Reisel, 1997). The decade of the 1980s, known for the introduction
of important marketing and operational innovations, would also mark the
point in time when the measured growth of the industry would begin to
stabilize and strategic planners would begin to consider life-cycle
Operating Environment: Industry Life Cycle
For any industry, an analysis aimed at determining the stage of its
product life cycle is a critical factor for strategic planners. Anderson
and Zeithaml (1984) provided an example of this type of analysis with
their in-depth historical summary of works linking life-cycle theory and
strategy. They noted that the stage of a product's life cycle is a
fundamental variable in selecting the appropriate business strategy. Das
and Reisel (1997), in their analysis of life-cycle theory, discussed the
characteristics of maturity and noted that as the product becomes
standardized and there is an over-capacity condition, demand is
mass-market driven and technological innovation is not concentrated.
They found that when no airline has a technological advantage over other
competitors, competitive advantage is achieved through "cost
efficiencies" (p. 89) as assets become more industry specific and
passengers tend to select carriers largely on the basis of price.
Additionally, they found that in these market conditions, it is
difficult to raise prices because the customer has "near perfect
information about fare prices, marketing, and promotion" (p. 90)
and one seat on one airline is a nearly perfect substitute for another
seat on another airline. The importance of these signs of industry
maturity was best summarized by Kluyver and Pearce (2003) when they
observed that "while industries experiencing growth may mask
certain errors in strategy, a mature industry is less forgiving of such
mistakes" (p. 70).
Did the airline industry begin to mature in the 1980s? To answer
this question, Poling (1993) used data from a Federal Aviation
Administration (FAA) forecasting conference and compared industry
revenue with Gross Domestic Product (GDP). He found that airline revenue
grew from 0.65% of GDP in the 1960s to 1.00% of GDP by the 1980s and
then remained steady. His conclusion was that stable revenue growth made
the industry more susceptible to economic cycles. Other research efforts
have measured percentage growth rates based on passenger-booking
statistics and found a long-term decrease in those growth rates. As
previously reported, Banks (1993) found that during the period from 1950
and 1973, passenger traffic grew at a rate of 13% per year. Later, Costa
et al. (2002) reported that the passenger growth rate decreased to a 6%
annual growth rate during the 1980s and further decreased to only a 4.7%
annual growth rate during the period from 1990 to 2000. With the
maturing airline market, the successful passenger growth strategies of
the past became less effective as the rate of passenger growth tended to
be equal to the rate of economic expansion (James, 1993). Additional
evidence of this decline in passenger growth can be seen in the aircraft
manufacturing industry where today only the Boeing Company and Airbus
Industries divide a market in which each continues to battle for at
least 50% of the market for large transport aircraft (Lunsford, 2004).
In a related article, Lucas (2001) noted that the decrease in the rate
of passenger traffic growth has resulted in strategic plans being
changed for some in the aerospace industry. His report examined the
Boeing Company and its efforts to diversify into support services based
on company predictions of a maturing market for new aircraft. For the
major airlines, these symptoms of a mature market led to a shift in
emphasis from passenger growth to one of revenue growth as they began to
use more aggressive yield-management techniques designed to increase
revenue from business travelers. Das and Reisel (1997) conclude that
this type of action by managers in a mature industry is to be expected
as they "will see the future relative to the past and will be less
likely to be proponents of discontinuous strategy options" (p. 88).
Airline Business reviewed the competitive climate of the airline
industry and found that "much of the US market would appear to be
already mature" (Reflections, 2002, p. 70).
THE BUSINESS TRAVELER
As the industry transitioned into maturity during the 1980s, the
cost improvements associated with jet aircraft operations tended to
stabilize as major airlines found that they could rely less on falling
costs to maintain margins (Banks, 1994). It was in this operating
environment that the business traveler became a critical component of
airline revenue strategy (Banks, 1993). With the need to make unplanned
trips on short notice, the business traveler became the prime candidate
for the application of yield-management techniques. Yield management
worked because customers placed high value and utility on timely air
travel. During the 1990 to 1995 industry cycle, business travelers began
to accept even higher fares for tickets purchased close to the flight
date. This acceptance resulted in improved yields that enabled the
industry to regain profitability by 1995 (Costa et al., 2003). However,
the relative number of full-fare paying travelers had declined from a
reported 52% of total passengers in 1982, to 37% by 1992 (Banks, 1993),
and to 23 % of total passengers by 2001 (Costa et al., 2003). To offset
this decline, major airlines placed less emphasis on cost control and
greater emphasis on yield-management techniques. These techniques grew
in sophistication and tended to keep revenue and margins up during the
growing economy of the late 1990s as the airlines became more dependent
on high paying, frequent business travelers. Their presence in the
ticket pricing equation and their willingness to pay even higher prices
allowed revenues to grow. For example, one survey reported that on any
given flight, the ratio of the highest priced tickets compared to the
lowest priced tickets could be as high as 20 to 1 for the major airlines
(Webbed Wings, 2001). In a specific example, Carey (2002) reported that
United Airlines estimated that business travelers generated 46% of its
revenue while representing only 9% of its customers. By focusing on
yield from the business travel market and achieving this documented
level of revenue growth success, airline strategists have found it
difficult to reflect on an uncertain future and change to a mature
industry strategy where cost control and standardization would be
important to success.
THE CURRENT INDUSTRY BUSINESS CYCLE
Using recent ATA statistics, Donoghue and Geoff (2003) reported
that the U.S. airline industry is currently generating revenues of 0.9%
of GDP. These revenues mirror the 1980s industry average rate of 1.0% of
GDP reported by Poling (1993). At that time, Poling accurately concluded
that future improvements in communications technology would decrease the
volume of business travel while the standard of living, on the rise
throughout the world, would tend to increase the volume of lower
yielding leisure travel. Current data support his conclusions and also
show that in the overcapacity condition of the current business cycle,
even with marginal improvements in yield management, there is little
hope that the combination of higher operating costs and declining
business/leisure mix will lead to an industry recovery (Callahan, 2002;
Loranzo, 2001; Tully, 2003). Lunsford (2004) concluded that the current
overcapacity condition is expected to be a long-term industry problem
because over 500 of the currently unused 2100 aircraft (now parked in
western U.S. storage areas) are capable of being returned to service. At
a time when businesses are considering more widespread use of travel
substitutes, excess capacity is causing many carriers to offer lower
fares and corporate travel discounts of 20 to 30 percent in an attempt
to maintain market share (Costa et al., 2003).
The Threat of Substitutes
Reviewing the business travel market, Belden (2002) reported that
airline executives have begun to accept that the current industry
problems are caused by more than the economy and that the complex
airfare structure has driven away some business travelers and is helping
to support a wide range of travel substitutes. Mechan (2002) supported
this conclusion in a summary of a recent air travel survey that found
that substitutes for air travel have become commonplace in business
Porter (1980) concluded that substitutes pose a serious threat
whenever the relative switching cost is low. Today, we see the dollar
cost of some popular substitutes for air travel coming down just as we
see the effects of added security and other time delays reducing the
value of traditional air travel for the business passenger. For example,
Caton (2004) found that new web-conferencing technology is available
today for less than the cost of one business class ticket. Just as the
value of air travel grew and made it a substitute for rail and ship
travel during the growth period following WWII, today's airlines
must determine which, if any, viable substitutes are ready to compete
for the business traveler. In addition to the market threat posed by
low-fare carriers, two categories of substitutes threaten the
traditional airline business travel market. These substitutes--business
jets and video/information technology--are today receiving widespread
recognition and investment.
The use of general aviation (GA) aircraft, the category of planes
in which business jets are listed, expanded rapidly after WWII,
beginning with single- and twin-engine prop aircraft and evolving into
corporate jet aircraft by the 1960s (Olcott, 2004a). From modest
beginnings, the fleet of corporate aircraft has grown to over 10,500
aircraft according to the General Aviation Manufacturers Association
(GAMA) (General Aviation, 2003). Corporate aircraft come in all sizes
and seating capacity and can serve over 5000 airports while U.S.
scheduled airlines serve only 429 airports (Industry Facts, 2004;
Olcott, 2004a). Corporate aircraft may be wholly owned, fractionally
owned, leased, or chartered. Carey (2002) refers to the fractional jet
option as the "ultimate upgrade" (p. A1) and concludes that
the use of this type of aircraft represents a threat to today's
larger airlines. The business jet, with its many advantages in
convenience and savings of executive time, is a viable substitute for
high-end business travel (Airlines Likely, 2001) and is expected to take
10 % of the business passenger market away from the airlines by 2005
(Costa et al., 2002).
Today's cost of business travel, measured in terms of dollars
and travel time, has spawned a new type of aircraft and threat to
traditional airline service. This substitute, known as the minijet or
very light jet (VLJ), will soon be available to the budget-minded
business traveler. Little is known about the degree of threat that this
new design poses for the airlines. However, initial performance data
indicate that these aircraft will offer point-to-point service and will
cruise at over 400 miles per hour while operating for as little as $1.00
per mile (Olcott, 2004b). There are currently eight companies, ranging
from the traditional Cessna Aircraft Company to the nontraditional Honda
Motor Company, involved in the development of these 6- to 8-passenger
designs (Lunsford, 2004). Stone (2003) refers to these manufacturers as
a "new generation of aviation entrepreneurs seeking to change the
air travel equation and to mint a new class of airplane and air
travel" (p. 60). At present, over 2,500 orders have been placed for
the various designs of the current manufacturers, with the first planes
scheduled for delivery beginning in 2005 and having a potential demand
estimated to be over 10,000 units by year 2020 (Olcott, 2004a).
Supporters see the minijet option as an economical way to save time and
avoid airport congestion for travelers who desire to connect quickly to
all parts of the country. The development of these aircraft is but one
more indication of the threat of potential changes ahead in the business
Evidence that videoconferencing impacts airline business travelers
has been a factor in airline strategic planning for many years. For
example, as early as 1979, Boeing Computer Services used
videoconferencing as a substitute for air travel in its efforts to save
time for engineers (Nordwell, 1990). Saving time was also the focus for
Hughes (1993) when he reported the results of a FAA funded study on the
potential impact of videoconferencing on passenger demand at Boston
Logan Airport. He found that using videoconferencing to save time,
particularly the time needed for visits by employees to other company
facilities, was predicted to impact business trips and could result in a
13% to 23% reduction in business travel by 2010. Because of the
inconvenience of security delays and travel time, many companies today
are turning to videoconferencing to replace airline travel. For example,
Callahan (2002) reported on the results of a survey by the Business
Travel Coalition and found that 61% of corporate travel executives say
that they have urged their employees to increase their use of webcast
and conference calls rather than travel. According to Adams (2001), most
videoconferencing firms saw surges in customer demand of 30% to 50% in
the days following 9/11.
This research questions whether a strategy designed to achieve
growth based on low cost has moved beyond being considered an exception
to now being considered the norm for the airline industry. The
methodology for answering this question involved an analysis of the
industry's modern era business cycles and changing market forces,
opportunities, and threats. Based on this review, conclusions would have
to be qualified by first noting that the answer to the research question
was not as obvious as the popular literature would suggest.
No one expects business jets, videoconferencing, or web
conferencing to replace completely airline business travel. However,
this research finds that dependence on both the business traveler and on
greatly inflated short-term ticket prices is at the center of the
long-term strategic threat for most traditional carriers. Banks (1993),
one of the first to observe this threat, reviewed the role of the
business traveler in airline pricing strategy during the 1980s and found
that most carriers of that time would have realized zero profitability
if they had lost just one out of ten business passengers. Today, with
the industry experiencing its third major business cycle in the last 25
years, there is an increased risk of loss because most traditional
marketing and operational remedies are not available. This review of
industry cyclic activity finds that dramatic changes have occurred in
the competitive landscape. The number of certificated carriers, routes,
and airports served by multiple carriers has increased as carriers
following low-cost operating models entered the industry after
deregulation and had considerable influence in shaping the strategy of
major carriers. Even with this influence, major carriers increased in
number during the 1980-1984 business cycle as they survived without
adopting low-cost strategies. This paper has already documented that
some new discount carriers failed because of flawed business models or
because they were squeezed out by the marketing efforts of the major
carriers (Boone, 2003; Dubin, 1984). During the 1980s, the strategic
choices exercised by the major carriers generally allowed them to avoid
adopting low-cost strategic models and still control 90% of the market
at the end of the decade (Das & Reisel, 1997). Their creative
marketing efforts resulted in the frequent-flyer and leisure- fare
programs that successfully protected market share while the first use of
yield- management techniques helped to recover more revenue from
business travelers. Entering the 1990s, further evidence shows that the
industry was maturing and that airline service was becoming more
standardized with the competitive advantage shifting to those carriers
who achieved cost efficiencies.
This review of the 1990 to 1995 industry cycle observed that the
major carriers were successful in holding off most low-cost carriers
even though the low-cost strategies of some competitors had become a
permanent fixture in the industry landscape. For example, Southwest
Airlines, a benchmark low-cost carrier, had become so successful in its
low-fare promotion by the early 1990s that when it began to operate
flights out of any airport, the resulting effect on all ticket prices
undermined the ability of major carriers to charge the higher prices
needed for them to recover their higher operating cost. The FAA called
this phenomenon "the southwest effect" (Bennett & Craun
1993). Today, low-cost carriers control about 20% of the U. S. airline
market, and analysts expect this market share to expand to 40-50% in the
future (Velocci, 2004). Ott (2004), in his analysis of the perils faced
by discount carriers, noted that this expansion will not be without
risks as the industry faces the harsh tests of reorganization and
reconstruction. However, Tretheway (2004) observed that today's
low-cost carrier model "is not a fad, but rather a business model
with a permanent role in the marketplace that undermines the price
discriminating ability of the full cost carriers and is the most
important pricing development in the industry in the past 25 years"
In a maturing market, industry planners should not depend on growth
to attract new business customers, nor should they depend on management
science specialists to find dramatic new opportunities to increase
yield. This research concludes that a low-cost strategy should no longer
be considered an exception but rather should become the norm for the
airline industry. Most past options that have enabled the industry to
avoid embracing a low-cost strategy are simply not available today. The
major airlines need to change fundamentally their concept of the
industry and understand that once benchmarked, today's low-ticket
prices will be difficult to move up (Donoghue, 2003). Today's
airline passenger, aided by better information technology and the
internet, has gained the advantage over the airlines in ticket prices.
Becoming profitable with a benchmark 2 to 1 spread from highest to
lowest ticket price for a given flight should become a goal (Webbed
Wings, 2001). Lower prices must be supported by lower operating costs
while maintaining a service level needed to attract and keep business
LOW-COST SUPPORT AND APPLICATION
There is no magical formula for achieving a low-cost operating
model. The literature offers many suggestions aimed at cost reduction,
and the following section summarizes both the support for and examples
of cost-cutting strategies found to be successful today. This summary is
not offered in any ranked order because market and route structure will
dictate application for each carrier.
Information Technology (IT)
Today, the leading low-cost carriers have embraced IT applications
(Burns, 2001). For example, at JetBlue Airways all calls to its unique
reservation unit are directed to a reservation specialist working out of
his or her home (Ford, 2004). In this example, internet-based technology
is a vehicle that has allowed a low-cost carrier to connect successfully
e-commerce through strategy to its core business. Moon and Frei (2000)
suggested that airlines adopt a co-production concept of e-commerce.
They concluded that flight and ticket price information be revealed in
an IT system designed for ticket shopping that helps remove the mystery
and reduce the cost of making a flight reservation. In an example of
this logic, Schwartrz and Zea (as cited in Smith et al., 2001) reported
that America West Airline reduced its average per-ticket distribution
costs from $23 for tickets sold in a traditional manner to $6 for direct
internet sales. This example supports the overall IT goal of providing
the online data and information needed by the customer while cutting
cost and improving efficiency for the carrier (Azoulai, 2000). Other IT
examples, such as the use of Kiosks technology for ticketing and
check-ins, not only lower costs, but also give today's travelers
some control over a process in which they sense a lack of control.
Homogeneous Fleet Type
A homogeneous fleet type will allow common flight crew training,
crew certification, maintenance procedures, and supporting inventory.
All carriers should adopt an aircraft purchase or replacement process
that will limit their fleets to the minimum number of aircraft types
necessary based on route distances and payload considerations (Airline
of the year, 2003; Franke, 2004). For example, today's operation of
each aircraft in each aircraft type typically requires five crews, and
when these crew members change their route bid lines to fly different,
higher paying type aircraft, there is a fleet-wide domino effect in
training requirements as crewmembers bid to fill vacant positions
(Dismal Demand, 2003). Today, the five largest U.S. carriers operate an
average of eleven different aircraft types with eight different flight
crew pay classifications ("Pilots Defending the Profession,"
2004). On the other hand, Southwest Airlines and JetBlue Airways,
current low-cost leaders, have successfully operated single fleet types.
Use of the Regional Jet (RJ)
The RJ is designed to lower cost while offering passengers more
convenient direct service over short to intermediate distances (Costa et
al., 2003; Kluyver & Pearce, 2003). For instance, the Embraer RJ, a
type of regional jet, can be configured with 70-118 seats, 85% common
parts, and 100% common cockpit crew configurations (Shifrin, 2004).
Southwest Airlines is now considering the RJ option, and JetBlue Airways
is committed to buying the Embraer RJ for use over routes having low
demand (Trottman, 2003). However, for many carriers their pilot labor
contracts may contain a scope provision which sets pay based on aircraft
seating capacity and may limit the use of the RJ designs (Feldman, 2001;
Ott, 2002). Addressing the scope clause limitation on aircraft selection
should be a priority in labor contract negotiations.
Work Rules and Pay
Low-cost does not necessarily mean low pay. During the 1990-1995
business cycle, Dooley (1994) addressed the issue of operating costs and
noted that the average salary of employees at Southwest Airlines was
about the same as the average employee salary at the largest carriers.
In one job classification example, he found that in 1992 favorable work
rules allowed Southwest pilots to fly an average of 63.7 hours/month
compared to an average of 48.3 hours/month for the largest carriers.
Measuring in terms of operating costs, he found that the additional duty
hours spent operating a single-plane type gave Southwest a 38%
productivity advantage, which resulted in a $1200 labor cost savings per
average flight when compared to the largest carriers. A decade later,
McCartney (2002) addressed this same issue and found that flight crews
at Southwest had more favorable work rules that allow them to fly more
duty hours/year compared to the other large carriers, yet flight
captains with ten-years experience earned about the same, or $150,000
per year, at Southwest and the other large carriers.
Traditionally, major carriers with hub operations have banked
flights so that many flights would arrive during a short time interval.
This banking could be repeated several times each day and provide
passengers with the minimum time between connecting flights. In the new
airline environment, an operating model involving "rolling
hubs" is suggested in order to avoid arrival or departure
congestion and to spread flights out more evenly throughout the day
(Arndt & Zellner, 2003). The negative effect of this change is an
average increase in passenger connection time between flights, but the
positive effect is a reduction in block times. Block time begins when
the aircraft leaves the parking blocks at the departure gate and ends
when it stops at the parking blocks at the destination gate. A reduction
in block time saves aircraft and crew time that can be used for flying
rather than waiting on the ground. In one example, Ott (2003) reported
on the benefits recorded by American Airlines with its introduction of
rolling hub scheduling. In his report, he noted that American estimated
savings of $100 million per year in facilities, personnel, and fuel
costs at the expense of 10.7 minutes average increase in passenger
connection time. The smoother traffic flow resulting from rolling hub
scheduling improved efficiency at American and allowed it, for example,
to complete its Chicago flight schedule with five fewer aircraft, four
fewer gates hosting 8-9 departures/day, and a 5% manpower reduction.
Donoghue and Geoff (2003) concluded that a fundamental change is
needed in the way that network carriers look at the industry and that
they need to outsource activities such as maintenance. In-house
maintenance activities have been a standard part of the business models
of major carriers for decades with large airlines devoting 12% of their
operating expenses to maintenance (Bacheldor, 2003). Arndt and Zellner
(2003) noted that Southwest airlines and other successful low-cost
carriers are outsourcing their engine and airframe maintenance. They
suggested that those carriers with in-house maintenance units should
consider selling the facilities to their employees, contingent on an
initial maintenance contract. This action would be difficult to initiate
and implement in any environment other than the current high-loss,
high-risk climate. Dedicated aircraft maintenance firms and the
maintenance divisions of the original equipment manufacturers (OEMs)
offer the higher volume and spare parts inventory pooling needed to
lower costs. McDonald (2002) stressed the importance of controlling
costs for aircraft parts and noted that the tighter management of
aircraft spare parts represents a potential for savings that is greater
than any existing opportunity for improved revenue.
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Richard Cobb, Jacksonville State University