Low Cost Model For Long Haul Airlines

As most industries reach a stage of maturation, the changing nature of the airline industry is evolving to integrate novel strategies and business models needed to comply with consumer needs. The low-cost airline sector is a model that generated large financial gains but saturation is observed, leading companies to discover new opportunities in the long-haul low-cost market. The article explains the principles behind the idea, justifying the failure of previous attempts and proposing a novel business model that can be adjusted to today’s economy.

1. Introduction

The airline industry is characterized by instability and unpredictability making it one of the most risky to invest in, succeeded only by the hospitality industry. Due to significant exposure to external factors, the airlines are subject to financial losses and damages, with the most recent being the terrorist attack on the US on September 11th in 2001. The global airline industry suffered greatly and any financial stability plummeted – reports show losses of $10 billion only by US airlines in 2002 (Wensveen et al., 2007)

In order to adapt with the continuously changing environment, airlines employed a cost-reduction policy by reducing capacity, in-flight amenities and management expenditure. The effectiveness of this method urged many companies to reconstruct their strategy to comply with consumer demand and lifestyle (Taneja, 2005). As a result, passengers were starting to prefer the more cost-effective approach of Low-cost carriers (LCCs) than conventional methods. A form of low-cost travelling had already emerged in the 1970’s by Southwest Airlines, who kept low-unit costs by reducing aircraft turn-around time at the gate which inspired current companies follow its business strategy (Bamber, 2009). Today modern development of the strategy lead to a ‘low-cost revolution’ with LCCs controlling 30 and 40% of the market capacity in the US and UK respectively since 2005 (Taneja, 2005).

Due to the success of the model and the inevitable future saturation of the short-haul LCCs, companies focused their interest in converting the same business model for long-haul flights and turning it into a profitable business plan. However the concept of a low-cost long-haul airline is not new but previous attempts have not been successful. The earliest example is Freddie Laker’s Skytrain which offered ‘no frills’ transatlantic flights from London Gatwick to New York with single class tickets costing only £59 one-way. The competitive pricing from established airlines that ensured after the relaxation of transatlantic market fare regulations, lead to debt accumulation of £270 million and the company ultimately failed in 1982 (Calder, 2006).

This review will examine the issues raised by the entrance of low-cost airlines to the long-haul route market and assess the factors that lead that prevented growth and establishment of such companies. By assessing how the elements of low-cost travelling are transferable to long-haul operations and the sustainability of such projects, solutions to building a successful business model could be found.

2. Other LCCs and proposals

Shortly after the demise of Laker’s venture, a US based low cost airline named People Express commenced flights from New York to London Gatwick in 1983 and later added Brussels. By providing connecting flights at its Newark hub and charging $3 for checked baggage, the company proceeded to expand from a successful low-cost carrier to offering economical long-haul flights. However, due to over-expansion and management problems the company was terminated in 1987.

Recent attempts to adopt the “Skytrain” model of low-budget travelling include Oasis and Zoom Airlines. Oasis, based in Hong Kong, offered non-stop service between Hong Kong and London Gatwick in 2007, generating huge success due to the low cost of £75 for one-way flights. Due to growing competition by leading airlines which landed in the more centrally located Heathrow and rapid accumulation of losses due to the unsustainable fares, the company failed just after 18 months. On the other hand, Zoom Airlines which operated between Toronto and several UK airports since 2006, had a longer lifespan but was forced to shut down after outstanding debts and bankruptcy were reported.

A variety of ideas and proposals for long-haul travelling were suggested but were unable to raise the necessary finance. One of the most controversial cases is Civair, which was scheduled to start up a low cost flight between Cape Town and London Stansted in March 2004. However in December of that year, 7,400 passengers were left stranded when the company did not have an aircraft for the flight and no alternatives could be funded leading to closure.

2.1 Long-haul vs. short-haul flying

Low-cost carriers have inherent differences in various factors when distinguishing between short-haul and long-haul flights. These include crew and security requirements, turn-around times, airport facilities, route authorities and route density. The competitive advantage acquired in short-haul LCCS cannot be transferred to long-haul, low-cost carriers because the only means of being profitable is optimizing aircraft capacity. Theories that could possibly create revenue by using the low-cost, long-haul model fall in two categories: either using a long haul airbus, charging higher baggage fees, buy-in food and beverages and fly to secondary airports or acquiring many cheap long-haul aircrafts with two-class service and secondary airport bases which will conduct multiple flights per week(Wensveen and Leick, 2009). The former theory would only be viable in practice if high volume city pairs could fill all the seats in the aircraft while the latter relies solely on getting cheap aircraft. However before developing hypotheses and specifications, attention should be given on the business side of airline operation. Judging from previous attempts, despite the original promising profits, most companies failed due to improper business planning.

3. Airline business planning and airline failure

Every attempt of an airline entering the low-cost, long-haul flight market lead in failure, despite all the positive indications in the beginning. While there are hundreds of reasons leading in an airline failure, several common errors in business planning are shared between all of the cases.

3.1. Inability to maintain competitive advantage

A company should be able to establish a sustainable, competitive advantage by analyzing and targeting the correct market while having the ability to compete with other carriers in the long-term. In the case of Skytrain, where Laker Airways entered the market of LCLH market without any competitors, it generated significant gains which were quickly diminished after the introduction of other airlines in the market. Uniqueness of an airline’s business concept is important as it sets it apart from the competition otherwise will fail to raise necessary funds.

3.2. Inadequate income growth and profitability

In most cases, many airlines business often don’t demonstrate income growth and profitability. By displaying unrealistic financial projections in order to sell the business concept, the airline will fail. “Bottom line” growth is vital for the financial establishment of a company and that growth should be based on valid financial assumptions which can be backed up by quality measurements.

3.3 Incompetent leadership

While the importance of a capable management team is underestimated, it’s one of the most imperative factors I gaining the interest of potential investors, as it’s believed that an average idea can be made profitable by the correct mindset. In most airlines the management team is overlooked in the business plan and this discourages investors from investing money. On the contrary, a good team is able to highlight any risks involved in the strategic objectives of the company and create a business plan that will ensure growth. A prime example is the introduction of Gordon Bethune as a new Chief Executive Officer of Continental Airlines – the company had already filed for bankruptcy but Mr. Bethune’s actions reinstated the fading airline into the most thriving carriers(Bethune et al., 1998).

3.4 Limited initial funding

Most airlines require large funding throughout their development which cannot be obtained easily and combined with poor business plans lead to untimely failing. Airlines such as Oasis and Zoom were closed due to inadequate funding while competition by other companies was rising (Bradsher, 2008) . Correct estimations of the funding required and also taking into account the money lost during setup and initial operations, will lure investors for money investment as the potential for profitability will be significantly displayed.

3.5. Overexpansion and lacking flexibility

Airlines often tend to expand their destination and aircraft base, with the impression that it will increase income revenue. In most of the cases, it was the limiting-step towards failure. Moderate growth and balanced route frequency can prevent overexpansion and sustain optimal gains. Additionally, the ability to compromise and adjust to the changing economical and social environment can subsequently increase the popularity of an airline among passengers. Continuous operation will lead to dependence on financial support from loans or subsidies and eventually bankruptcy.

4. Can the long-haul, low-cost model work?

Studies have examined the possibility of the low-cost model integrating in long-haul flight business and clear advantages and disadvantages have been noted. At first, due to the absence of direct substitute for long-haul flights as well as the already competitive prices, there isn’t adequate evidences that lower fares can increase demand in the same manner as in short-haul flights. Moreover, secondary airports cannot be used for the landing of large-aircrafts due to size and time limitations and also cost-effectiveness (Maertens, 2010). However, a cost advantage of 20 to 25% is possible if a carrier can offer online booking to reduce distribution costs and only point-to-point services where connective flights to the desired destination can be arranged by the individual passenger. Today, companies such as AirAsia X and Jet Star have managed to find a balance between price and service in order to provide low-cost flight opportunities.

4.1 Jetstar

The Australian airline has managed to become one of the most successful start-ups in the recent years. While being a fully owned subsidiary of a legacy carrier, Quantas, is managed and operated separately. After commencing flights in the domestic Australian market in 2004, Jetstar operated its first international flight to from Melbourne to Singapore on December 2010, marking a new era for economical long-haul flights. Their low fares are based on the notion of offering point-to-point routes between Australia, Asia and the Pacific, in order to complement Quantas’ main international flight schedule. The company also offers choice between two ticket types, economy and premium economy, which various in-flight meals and snacks can be purchased or complimentary, respectively.

5. Building an efficient low-cost long haul airline

By evaluating the facts and figures of the previously mentioned airlines, Jetstar and AirAsia X, it’s evident that that reasonably priced long-haul travel can become a reality by utilizing specific cost-effective methods and business strategies. While this increase in long-haul travelling maybe attributed to the expanding economy in Asia (Hooper, 2005) and the rapidly increasing competition among emerging low-cost airlines in the continent, it has been shown that intercontinental travel as demonstrated by AirAsia can be profitable while maintaining low fares. These techniques can also be employed for any up-and-coming LCLH airline in Europe or US, to ensure their development.

5.1. Ensure faster turnaround of aircraft

Short-hauls are considered to have more cost-advantage than long-hauls due to landing at secondary and less congested airports which allows higher crew and aircraft utilisation. Long-haul flights usually require more time refuelling and servicing, therefore less rotations can be performed compared to short-hauls. However, by landing at a specifically designated low-cost hub, such as Kuala Lumpur, can minimize refuelling times and costs of servicing while providing adequate support for larger aircrafts.

5.2. No frills services

All-economy seating and in-flight food and beverage which can be purchased can aid in the revenue of sales while pre-booked in-flight entertainment such as hand-held devices could be useful in long-haul flights.

5.3. Point-to-point travelling only

This method employed in short-haul flights ensures short turnaround times and prevention of time-consuming services which would affect timetables. Modern long-haul airlines could seek interline partners to expand their flight capabilities, similar to the co-operation of the Australian company Jetstar with its partner company Quantas (Jetstar, 2007).

5.4 High density cabins and lower input prices

Gains from the long-haul flights will be possible if high seat densities exist which could make up for the low ticket fare, as more passengers equal to increased revenue. Also by importing dual-seating system with premium seats which can be charged at higher prices and have extra amenities, a market for passengers requiring conditions similar to business flights can be created resulting in more profit.

New entries in the airline industry are benefited from very low unit aircraft prices in large orders as well as hiring younger and cheaper pilots. Moreover, costs of advertisings and website/call centres can be avoided to cut down expenses, since the low price is a sufficient reason for passengers to choose those companies.

6. Novel business models

Because of the limited solutions and benefits on directly developing a low-cost, long-haul airline, new business models have been developed for potential exploitation into a low-cost model.

6.1. Network specialists

These companies cater mainly to business passengers and are specifically operated as a corporate shuttle for routes with high-yield. A prime example is PrivatAir, a Geneva-based airline which has survived through contracts with major corporations to transport their employees between locations (Wensveen and Leick, 2009). It offers business class seating on trans-Atlantic flights using several Airbus and Boeing planes. It can also operate as an operator for existing airlines such as Lufthansa and KLM which utilize the company for their business class services in Germany.

6.2. Product specialists

Airlines which focus on business and affluent leisure travel and are all-business class, all first class or both. These types of airlines are on par with legacy airline yields and offer premium cabins for long-haul flights. Companies in this market include Eos Airlines, MAXjet Airways, Silverjet and L’Avion. While the first three carriers had gone bankrupt, L’Avion which seemed promising and was recently acquired by British Airways did not make any profit as well (Lagrorce, 2008). Eos and Maxjet airways both operated between London Stansted and New York JFK using Boeing 757-200 while Silverjet operated between London Luton and Newark as well as Dubai. All three airlines ceased operations in 2008. L’Avion operated between Paris Orly and Newark and is currently a subsidiary of British Airways’ OpenSkies unit. While the original offer of low fares and premium facilities seemed promising, all four companies filed for bankruptcy, citing rising fuel and oil prizes, limited funding resources and newly formed competition on the specific routes by legacy carriers. While this business problem does not seem to be problematic, adjustments should be made in order to give motives to increase passenger preference.

6.3. Price specialists

These airlines mainly adopt lower-costing strategies to compete with existing companies solely on price. This includes the low-cost, long haul flight plan which has been employed by various airlines such as Oasis Hong Kong, Zoom, Jetstar, Viva Macau and AirAsia X. In order to compete with legacy companies, larger aircrafts with high-seating configuration should be used to make profit. With the exception of Oasis and Zoom, which were bankrupt, the rest of the companies flourished with expanding their flight schedule beyond Asia and Australia. The problems leading to failure in the two named companies mainly involve insufficient business planning as discussed in a previous section. However long-term effects of the plan remain to be seen as sustaining low prices can be proven difficult with the current economy.

6.4. Long-haul charter carriers

While unit costs for charter carriers is 10-20% more expensive than LCCs (Teckentrup, 2007), their increasing use for long-haul travelling made them an attractive alternative to network airlines, usually for summer destinations. Many European charter companies now target specifically long-haul destinations, such as Corsair which operates an all-economy Boeing 747-400 between Paris and Overseas French territories in the Caribbean; such high density planes are not used on other long-haul international travel by the company. Due to competition and projects bearing no success such as Britannia Airways, which discontinued flights from UK to Australia, charter airline long-haul flights have been restricted to limited time frames and leisure destinations. However, charter flights represent a large percentage of long-haul market and could potentially be exploited beneficially.

7. Sustainability of the low-cost model and future projects

As the long-haul market becomes successfully grown and becomes profitable for major carriers again, it is likely that other carriers will be interested to obtain a share of the market. Due to the over-saturation of the low-cost short-haul airline industry in Europe, established LCCs such as Easyjet may utilize point-to-point flights by co-operating with long-haul flight companies to lower prices for distant travelling. Employing new aircraft types such as Airbus A350 and Boeing 787 can fly longer distances offer denser seating that would be possible to fit 800 seats flying between main hubs such as London-New York. Deregulation can also create a potential increase in new services, as many markets are limited to one or two national carriers. As this breaks down, the introduction of new entrants, such as Virgin Atlantic in the India-UK and India-USA markets can spur new competition and lower prices in international travel (Phadnis, 2012).

For now, the low-cost, long-haul market appears to be decreasing as one of the pioneers of this sector AirAsia X pulled its European services citing the damaged economy of European countries and “exorbitant” government taxes affecting its ability to offer low-cost fares (Thomas, 2012). Even Ryanair, which declared that will commence transatlantic flights in 2007, has recently confirmed that long-haul flights are not happening for some years (Olorenshaw and Sturke, 2007).

8. Conclusions

The substantial success of certain LCCs has certainly led to the perception of an attractive business model and its implementation is being utilised by various long-haul operators. Established LCCs are reluctant to join the long-haul market due to the dangers present but that is rapidly changing. Experience and expertise gained by short-haul markets can be transcribed successfully in the long-haul operating scheme, which will greatly compensate to the losses that will occur as the markets become saturated with myriads of low-cost carriers.

On the other had, traditional airlines are equipped with an array of qualities such as established clientele, reducing economy seat fares to attract new passenger and experience in international flights puts the “beginner” low-cost carrier in a disadvantageous position. By employing a long haul point-to-point model to promote cross-selling and service integration with more established, traditional companies allow passengers to fly from smaller markets in other regions via LCCs.

As with any new business model, achieving cost advantages is not enough to deem it successful. There’s a long history of competitors which offered subsidised low fares to combat new entrants in the long-haul market, leading them to financial difficulties and bankruptcy. Continuous innovation is needed in the evolving air transport market and adjusting to emerging carrier types could be beneficial. Combining a solid business plan which is flexible, manageable and competitive with a long term vision will guarantee a successful transition to the long-haul business.

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