Porters Five forces and the sixth force in airline industry
What affect has and what is the future of airline industry
To begin with the purpose of the particular essay will intend to give an explanation about the Porter’s five forces. However the discourse will focus on the sixth force and what affect has. The first part of the discussion will be analysed and supported by arguments about the meaning of Porter’s five forces. Nevertheless examples for the five forces will mentioned in order to support and take thesis in the particular analysis. However examples about the sixth force will be mentioned in order to give the reader a satisfactory explanation and to make clear the effect that have in airline industry. Afterwards the essay will analyse the future of the airline industry. Finally a conclusion gives the reader a summarizing about the aspects discussed on the analysis.
The Airline Industry has changed the people’s life. In addition it has drop the travel time and decrease the distances making possible to visit lands that cannot be imagined in the past.
Michael Porter had created a model showing the influence on industry by five forces. This model help the managers to understand better the strategic forces that appear on industry and how they affect profitability. Five forces analyzing five key areas namely competitive rivalry, the threat of substitutes, the threat of entry, the power of buyers and the power of suppliers. Furthermore Porter referred to these forces as the micro-environment, to contrast it with the more general term macro-environment. Airline industry is very interesting analysis because even if the profitability is low, individual companies are able to make a return in excess of the industry average applying unique business models.
The airline industry lives in an extremely competitive market. Old established airlines have faced one another in head to head competition. They have the most similar aircraft and they use almost the same aircraft seating configurations. Moreover they have similar frequencies and timings, but few airlines prepared to allow their competitors a frequency advantage. Furthermore the on-board products have been comparable and the pricing policy is almost the same. Additionally airlines charge very high fares in both business and economy class offering full flexibility and low fares in economy class with very tight restrictions in order to prevent the travelers choose them.
Afterwards substitution appear in airline industry when an airline find a new and better way of meeting the same customer needs than the others airlines. The most important substitution is the effect of electronic methods of communication on the market for business air travel. Video conferencing, teleconferencing and email is a new way for effective communication as a result business travelers travel less. Further another important substitution is the surface transport for example rail. Traveling with rail it save travel time because the railway offer city centre to city centre journey that airlines cannot offer. Subsequently email have reduce the market for sent urgent documents by air and newspapers do not provide anymore the air freight commodity. Also, the publishers can reach the readers by the internet which is cheaper than using air freight.
In addition in airline industry the new entry is not very difficult, especially in short-haul. A way to entry is from regulatory limitations. There are many regulatory barriers to entry in international markets and airlines are controlled in their market entry policies by outdated limitations on ownership and control. Further another way for entry is the resources. But the entry will controlled if the important resources are unavailable or very expensive. Moreover airport slots gives a way to entry. When there is recession in airline industry, aircraft manufactures will give attractive deals in order to prevent cancelations. Also, there are many parked aircraft where the owners will offer enormously low lease rates in order to have their aircraft fly. Accordingly the staff will lose their jobs or to take new ones with low salaries and wage. Finally a new entrant can buy the support services, such as maintenance and ground handling. Many airlines have create a subsidiary business with these services which they sell them to new entrants.
The bargaining power of buyers in the airline industry is quite low. There are high costs involved with switching airplanes. The most of the airlines use only Boeing aircraft as a consequence to built a large investment in Boeing spare parts, simulators and training the staff with Boeing products. There is a large financial incentive to continue buy Boeing. Moreover if the competitor Airbus want to break this financial investment, it needs to give enormous offers, discounts and free pilot training in order to pay themselves the switching cost and moving away the Boeing.
The list of suppliers for airlines is very long containing air traffic control and airport services. The airlines have no choice but to pay whatever the airport charge them and many airport show strong financial returns as a result to reflect the monopoly power that many of them have. Furthermore the most powerful supplier in the airline industry is the Global Distribution Systems (GDS). The GDS has create technology which allows travel agents to make reservations with many different airlines, hotels, car rental and tour operators from their computer. Additionally the capital cost to enter the airline industry is very high, but running costs are low as a result to only be four big players in the global GDS industry.
The sixth force is an extension of Porter’s five forces analysis. According to Nicholas Carr there is a sixth force, the public. Carr argues that the public influence the generation and distribution of profits. He argues that “managers need to recognize that the public interest now manifests itself as an economic interest and hence must be concern of business strategy”. (Carr, 2005) Especially the public has become a power changing the industries and influencing the generation and distribution of profits.
The 6th force can be also the complementary products or the government. Brandenburger Adam and Nalebuff Barry add as 6th force the concept of complementors using game theory, helping explain the reasoning behind strategic alliances. Also the complementary products influence the airline industry’s profits by dominating the relationship and can exercise bargain power. Further the political and social forces such as changing consumer demands are keys for the modify of industry and the government control the competition. Government restrict competition through the granting of monopolies and through regulation as a result to creates barriers. Nowadays the bank has become from a simple marketing tactics to mergers and geographic expansion as rivals attempted to expand market. Additionally Porter argues that innovation, government and complementary products and services are factors that affect the five forces and not the 6th force.
Afterwards in Porter’s five forces, situation take place where relationships between firms change radically. This happen when a particular airline in not adding enough value to justify the prices that they are charging. Porter refers to that as Disintermediation giving two examples to illustrate this process in airline industry. The rapid growth of internet as a distribution reflect a attempt by airlines to disintermediate the GDS companies, which has already saved them substantial amounts of booking fees. Furthermore a number of airlines have grown up specialized to provide “wet-leasing” services for large freighter aircraft. This service offer to customers main deck freight capacity without the overheads of owning and operating freighter aircraft themselves. The negative using this service is that they are adding very little value. They usually take pre-loaded Unit Load Devices from air freight forwarders and loading these into the wet-leased freighters. After the freight forwarders maybe choose to employ local handling agents to dealing with the pre-loaded units because it is more profitable.
Afterwards the productivity of labour it may consider also as the sixth force. The labour costs of an airline depends from the wages and the productivity of the labour. Moreover productivity depends on institutional factors such as working days in the week, length of annual holidays, basic hours worked per week and maximum duty periods for flying staff. These factors vary between countries and between operational factors such as size of aircraft, average sector distance, frequencies per sector and level of involvement in freight. When a larger aircraft operates, the labour inputs required more pilots, flight dispatchers, ground handling staff as a result to have big economy of size and so either not increase the size of aircraft or increase less than in proportion to size. Further the sector distance have impact on productivity because the labour intensive activities take place less frequently, for instance passenger check in, passenger and baggage handling, aircraft provisioning and aircraft cleaning. Additionally where airlines operate mostly long haul sectors with very large aircraft then they can achieve high labour productivity. On the other hand short domestic sectors where operated with small aircraft lead to low labour productivity. That shows that size and sector distance usually reinforce each other. Moreover high frequencies can improve labour productivity in two ways. The ground and other support staff do not increase in proportion to the frequencies as a result to produce economies of scale. The same staff can handle one flight or maybe three per day. High frequencies help airlines to achieve higher utilization from pilots and cabin crews as a consequence to reduce the numbers required. At the end, airlines where freight is a important part of their output, appear to achieve high labour productivity because freighters do not require cabin crews or ground staff.
Another factor that influence the labour productivity is the degree of outsourcing which an airline undertakes. When the labour intensive activities as for instance the flight kitchen, heavy maintenance, aircraft cleaning or IT support are outsourced, then the airline’s staff number are reduced and output per employee is enhanced. More detailed, if an airline contracts in catering and maintenance from other airlines, its own staff numbers will be swelled without any corresponding increase in traffic because they may be an increase in revenue generated. The last years many airlines have begun to outsource key functions and others airlines have converted some of their divisions into separate subsidiary businesses to whom the core airline industry subcontracts functions as for example engineering and ground handling. In that way they improve their labour productivity. Further under constant pressure to try and improve the productivity of every group of employees are the airline’s management operation. Because they have reduce the operating costs, managers try to balance salaries paid per employee with the number of employees required for each activity as a result to produce a perfect combination of service standards and unit costs.
In the high competitive world of international airline industry the important is the cost of employees in relation to the output they generate and not the number of them. An airline may be overstaffed but it pays low salaries. Consequently if labour is a cheap resource there may be operational or service benefits. In international competition where are falling fares and yields, as a result to show that trying to improve labour productivity itself was not enough to contain labour costs. After with the price of fuel, airlines have no choice and try to reduce the unit cost of labour. The difficult part is that the employees did not want to work with low salaries as a result to some European governments to apply staff cut, early retirement, freezing and in that way the labour productivity imporved.
In addition Porter argues that some firms achieve success from cost leadership position. Some employ a strategy based on differentiation. Another option is to adopt a focusing position. Moreover Porter add a fourth position which is “lost in the middle” where success is not easy or even impossible.
The airline industry has suffer the bigger downturn in the last sixty years. The airline industry is in an undergoing period of transition during where the remaining regulatory controls will be progressively relaxed while governments will be increasingly uncertain to intervene to support ailing carriers. Many airlines facing serious financial problems and they have only marginal profits. Also, Iraq war, SARS and fuel prices has affect the future of airline industry. Further airlines deal with both the underlying crisis and the many challenges that are creating structural instability within airline industry. In future, three different types of airline will emerge. They will be large airlines which they operating two or three mega-hubs within its own region and carrying both passengers and freight. Their size and their relative dominance will increase consolidation in the airline industry. This will have as a result the failure, the collapse of other network competitors and their own acquisition of major competitors. Moreover the expansion of low cost airlines will affect the big airlines to providing only long-haul air services and stop the shorter-haul air services. Another type of airline will be those operating a low cost model which is basically a passenger model. There will be consolidation within the schedule low cost sector and with two or three major low cost carriers dominating each major region. These will have a consequence to collapse the most of the smaller low cost competitors where some of them may take over in pursuit of policy of rapid expansion. Additionally the rapid growth and the low fares will push incumbent network airlines to stop many of their usually scheduled routes. Also in five years the continued rapid growth the low cost airlines will be dominant in many short-haul market. Further in Europe has been a great development on the concept of the inclusive tour package where flights, hotel accommodations and other holidays are sold together in a single package. Subsequently a third type of airline industry is the niche carriers which are either passenger focused or cargo operators. On the first option there are two types of passengers. The first one will be the larger nationally based niche carriers where they will have survived the crisis, the competitive pressures of low cost carriers and without collapsing by large network dominators and the second one will not survive or they will be acquired by network dominator. Because the survivors are short or medium sized network carrier, freight will be less important for them than for the network dominators, except from those where surface transport is difficult or slow. Moreover in order to survive they need to minimize their network from its size and to have undertaken deep cost cutting. Afterwards the second type will be regional carriers. There are carriers that operating on smaller routes by passing the larger hub airports. Usually they fly smaller aircraft that the traditional network carriers or low cost operators. Finally in future will be more mergers and bankruptcies because the airline industry influence so much from outside factors.
Taking everything into consideration the manner of the analysis was to explain the Porter’s five forces in airline industry and nevertheless if there is a sixth force and what effect have. Further the analysis supports the fact that the five forces are determined general the industry profitability and it is not the individual company’s and the main determinant of firm’s profits is not the industry environment but the other forces which will analyzed in the assignment. This achieved by explaining the Porter’s five forces. There were also different arguments stated giving different view about the sixth force and providing a detailed explanation to the reader for the analysis. Also reasons were mentioned making more clear the important of sixth force. Examples of sixth force were considered important to discuss following the thoughts of the writer. Afterwards the analysis was focused on the different meanings of sixth force. Nevertheless the discussion showed that Porter’s five forces are the basic important forces and the sixth force just influence them and that any airline strategy must deal with a complex interplay of often conflicting forces.