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Airline strategies and business models

2016 Airline Planning Workshop


Objectives

• Connect market segments and passenger expectations


• Connect potential airline business models with passenger
expectations
• Connect deregulation and potential airline business models
• Connect partnering strategies and alliances with both
deregulation and airline business models
• Connect cargo strategy impact on airline success
The passenger is at the center

Regulatory
Environment
Airline and
Industry
Strategies

Passenger
Expectations
Technology
Passenger market is segmented

Long-Haul
35% Travel

Long-haul Long-haul
business personal
Business Personal
30% Travel 70% Travel
40-50% 50-60% Revenue
Revenue Short-haul Short-haul
business personal

Short-Haul
65% Travel
Table exercise/discussion questions

1. What are two key passenger expectations for your market segment?
2. How are these passenger expectations changing?
Long-Haul
35% Travel

Long-haul Long-haul
Business business personal Personal
30% Travel 70% Travel
40-50% Revenue Short-haul Short-haul 50-60% Revenue
business personal

Short-Haul
65% Travel
Passenger expectations vary
Long-Haul
35% Travel
• Low price sensitivity • Price sensitive
• Time sensitive – on-time and many • Low time sensitivity
frequencies • On-time performance
• Non-stop; point-to-point • Some cost for changes
• High service levels • Leisure destinations
• Premium end-to-end experience • Wi-Fi connectivity
• Latest tech in cabin • Entertainment choices at low or no cost
• High comfort • Unbundling is OK
Business • Lie-flat seat • Upgrades from FFP
• Key airports Personal
30% Travel • FFP integrated with Alliance/partners 70% Travel
40-50% 50-60% Revenue
Revenue • Price sensitive (a degree) • Highly price sensitive
• Extremely time sensitive – frequencies, • Time sensitive to a degree
on-time • Still looking for point-to-point (but price stronger)
• Flexibility to make changes • Minimal service levels
• Primary airports • On-time reliability still important
• Latest technology in cabin • Unbundling is OK
• Bin space
• Bundled offerings
• Preferred seating
• FFP
• Expect some self-service (airports, etc)

Short-Haul
65% Travel
Business models and
strategies LIBERALIZATION
BUSINESS MODELS
MERGERS,
ACQUISITIONS
History of regulation in commercial
aviation
• International air transportation is
mostly negotiated between two
countries (bilateral)
– Under the framework first
introduced in the 1944 Chicago
Convention
• Increasing liberal agreements over the
past decades, beginning in the 1970s
• Open Skies deals are the most liberal
• Chicago Convention framework is still
being used today
• Ownership of airlines remains to be
nationally based
Freedoms of the Air
Freedoms of the Air
Deregulation

• Reduce government control of


commercial side of airline
industry
– Privatization of government owned
airlines
– Airlines set own fares
• Increased competition in the
aviation industry
– Emergence of hub and spoke
– Access to new routes
• Reduced barriers to entry for
new airlines/business models
• Most ownership rules still in
place
Liberalization within a country (deregulation)
Impacts of deregulation within the U.S.

Southwest Airlines in 2015 – Largest LCC


Southwest Airlines in 1971 – “Texas
Triangle”

DAL

SAT HOU

Deregulation allowed Southwest to grow into the World’s largest LCC


Deregulation amongst a group of countries
Liberalization within the EU
1997
12000 Any European carrier
Can offer service
On intra-European routes

10000

8000
ASMs (millions)

1987
6000 Any European carrier
Could fly scheduled
Service to any
European Market
4000

2000

0
1985 1990 1995 2000 2005 2010 2015
7.4% 7.2% 9.6% 6.4% 5.4% 4.6%

• Source: OAG / Innovata 5 year CAGRs


Liberalization between two countries
• Bilateral
– Negotiated between two sovereign nations
– Specified type of traffic allowed (traffic freedoms)
– May specify: airlines, airports, capacity, frequency & fares
– Typically includes a “nationality” clause
– Reciprocity
– Any changes have to be approved by both governments
• Open skies
– Typically no traffic restrictions other than domestic (Cabotage)
– No limitations on airline designations, points served, service levels (frequencies &
seats), nor fares
– Changes in services do not have to be approved by both governments
– What remains:
• “Nationality” clause
• Reciprocity
A typical bilateral (except Open Skies)

Typical Example:
• Total 18 frequencies per day
allocated to specific route groups
• No gauge restrictions
• Fare: no restrictions
• Must be Chinese controlled airlines
U.S. airlines benefit from Open Skies
U.S. airlines dramatically boosted service to Heathrow after U.S.-EU Open Skies

SEA

LHR
SFO

LAX
DEN MSP
PHX
ORD
DTW
DFW EWR BOS
PHL
IAD JFK
IAH RDU BWI
ATL
New service
More service
Same service
MIA

Source: OAG June 2007/2008


Multilaterals
Agreements between multiple countries

• Is structured like bilateral or open


skies agreement
• Still negotiated between
governments
• Examples of multilaterals
• Creating common aviation areas
– ASEAN
– EU Single Aviation Market
• Regional bilateral agreements
– US – EU open skies
– MALIAT (Kona) agreement
Why is liberalization important?
Continued liberalization adds to growth

Source: IATA, Oxford Economics


Business models and
strategies LIBERALIZATION
BUSINESS MODELS
MERGERS,
ACQUISITIONS
Low cost carriers have changed the industry

Long-Haul
35% Travel

Business Personal
30% Travel 70% Travel
40-50% 50-60% Revenue
LCCs
Revenue

Short-Haul
65% Travel
LCC business model has gone worldwide
Today LCC’s operating in most regions

Europe & CIS


North America Flights/week: 42,720
Flights/week: 41,000 km/flight: 1,190
km/flight: 1,440

Middle East NE Asia & China


Flights/week: 3,820 Flights/week: 14,400
km/flight: 1,560 km/flight: 1,100

SE Asia
Flights/week: 20,930
km/flight: 1,160

Africa
Latin America
Flights/week: 1,310 SW Asia
Flights/week: 14,400
km/flight: 1,050 Flights/week: 7,450
km/flight: 1,010
km/flight: 1,080

Oceania
Flights/week: 2,730
km/flight: 1,660
Source: Diio/Innovata 2015
Only Selected Regions Have Low LCC Penetration
2015 LCC market share - measured in annual seats
(by airline domicile)

SE Asia 54%

S Asia 50%

Europe 36%

Lat America 33%

N America 29%

World 28%

Oceania 26%

NE Asia 16%

Middle East 12%

Africa 9%

China 9%

Former CIS 1%

Source: Diio/Innovata 2015, jets only


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LCC business model evolving

• ULCC
• Low fares
• Ancillary revenue
• Secondary airports
• No connections / point to point
• Once aircraft type / high utilization
• Hybrid LCC
• Premium cabin
• Seat assignments
• Frequent flyer
• Code-sharing
• Connecting flights / major hubs
• Long-haul flying
• Additional aircraft types
LCC’s strategizing to meet the needs of their customers
23
LCC unit cost advantage is critical

20 Unit costs in US cents/ASM, 2014


18 19.0
16
14
12 13.3
12.4
10 10.9
8 9.7

6
4
2
0
Avg. of US Southwest JetBlue Allegiant Spirit
major network LCCs must achieve at least 20-40% lower cost
carriers than network carriers
Source: US DOT Form 41
Stage length adjusted to system average
Low costs and fares stimulate growth

Local traffic and average yields


750,000
before and after LCC entry 75¢

Before SWA After SWA

600,000 60¢

48¢

Annual O&D Passengers


42¢
450,000 45¢

300,000 30¢
22¢ 30¢
27¢
150,000 15¢

16¢

0
Denver (DEN) Chicago (MDW) St. Louis (STL)
Source: Sabre ADI, 2009-2011
Airlines focusing on ancillary revenues
2014
Top 10 airlines ancillary revenue (US$)
$25,000
$24,000
$23,000
$7,000
$6,000
Passenger revenue
$5,000
$4,000
• A la Cart
$3,000 – Buy onboard
$2,000
$1,000
– Checked bags
$0 – Seat assignments
– Early Boarding
– WiFi
• Fare / Product Bundle
Top 10 airlines ancillary revenue – Early boarding, seat, bags
(% of Total Revenue)
2014 Other sources of revenue
40%
• Commission –Based
30% – Hotels, rental cars, travel insurance
20% • Frequent Flyer Programs
– Sale of miles/points
10%
• Advertising
0%

Source: The CarTrawler Yearbook of Ancillary Revenue / IdeaWorks Company


Medium-Haul LCCs
Medium-haul LCCs

OSL-BKK CPH-HGH
OAK-ARN (8666km) (8283km)
(8581km)

ARN-BKK
(8290km)

KWI-MNL
RUH-MNL (7596km) NRT-OOL
LAX-CPH (7770km) (7236km)
(9022km)
JED-KUL
MCO-VCP (7060km)
(6787km)

MEL-HNL
(8869km)

SIN-SYD
(6290km)
Airline Wide-body A/P
AirAsia X A330
Azul A330
HNA Capital A330
Cebu Pacific A330
Jetstar 787-8, A330
Jin Air 777-200
Norwegian 787-8
PAL Express A330
Scoot 777-200, 787-8/-9 Source: OAG 2015 – for wide-body service from Norwegian, AirAsia X (incl. Thai, Indonesia), Jetstar, Cebu Pacific, Scoot, Azul, Pal
Express, HNA Capital, Jin Air
Network business model
Long-Haul
35% Travel

Business Personal
30% Travel 70% Travel
40-50% 50-60% Revenue
Revenue

Short-Haul
65% Travel

Focus on multiple passenger segments


Global network carriers are large

RPKs Share

Top airlines by RPKs - 2014


Global Rank Airline RPK(billions)
Network 1 American Airlines 350.7
Top 9: 2 United Airlines 330.9
3 Delta Air Lines 326.6
34%
4 Emirates 230.9
5 Air France-KLM 229.3
6 Lufthansa Group 214.6
7 IAG 202.6
8 Southwest Airlines :LCC 173.9
9 China Southern Airlines 166.6
10 Air China 154.7

Source: ICAO, IATA, airline annual reports, Boeing analysis


Common characteristics

• Large complex fleets


• Major hub operations
• Domestic and Int’l markets
• Bilaterally controlled environment
• Long haul & short haul routes
• Broad range of service levels
– First class, airport lounges, onboard meals
and IFE
– Economy, buy on board, ancillary fees
• Alliance membership

Serving multiple segments increases complexity


Differentiation for different market segments

Airport
 PED boarding pass
 Automated boarding
 Lounges
On board
 First
 Business
 Premium Economy
 Economy

Value analysis: revenue benefits vs associated costs


Hubs increase reach and create value

• The ideal airline network creates value to


customers Hub example:
3 airplanes; 15 city pairs*
• Hubs make valuable travel options
City A
City D

• Hubs are cost effective


City B Hub City E

City C City F

*City A to 6 other cities + City B to 5 other cities + City C to 4 other cities = 15 city pairs
Example Hub: London (LHR) to Athens (ATH)

10 EDI 2
MAN
6 DUB Other 10
LHR
YVR
3 45
9
YYZ BOS 6
7 ORD
4 PHL JFK

5 SFO 10
6 IAD ATH
LAX
8
LOCAL PAX 45
MIA 3 CONNECTING PAX 89
134 TOTAL PAX

Collect traffic at one point to create volume for non-stop service


Network carriers use marketing arrangements
for revenue & cost benefits
Anti-trust
immunized
joint venture
Expanded
cooperation to
develop joint High
network
Limited
cooperation on
specific routes Joint planning, pricing,
and selling (revenue, cost
Direct coordination and benefit sharing)
of network and
Low FFP and scheduling
Lounge Access
Code Sharing

Interlining

Marketing arrangements do not imply ownership & control


Example:
Qantas had 134 airport pairs in 2014 flying their own metal

Network (2015) ― Own metal ― Partner metal

<Airport-pairs>
Own Partner Total
134
Source: OAG 2015
Qantas’s airport pairs 4X with code sharing

Network (2015) ― Own metal ― Partner metal

<Airport-pairs>
Own Partner Total
134 396 530
Source: OAG 2015
Airline alliances now provides over 60%
of world capacity

Star Alliance oneworld SkyTeam Major Unaligned


U.S./Canada

Europe

Asia Pacific

Other
Codeshare flights by ATI JV
have increased

2010 2015
N ATL, TPAC &
N ATL only Europe-Japan

ATI
JV ATI JV
5% 15%

Alliance
No No
24%
Codeshares Codeshares
52% 43% Alliance
26%
Other 1%
Codeshares Cross-
17% Alliance Other
Codeshares
15%
1%
Cross-
Alliance
130 billions ASKs (weekly) 169 billions ASKs (weekly)
• SOURCE: OAG/Innovata August
Contrasting anti-trust immunity (ATI)
vs non-ATI joint ventures
Airlines joint ventures granted ATI are able to operate as metal
neutral

U.S. requires open-skies to be in place, other governments don’t

Within ATI, some are granted immunity globally, while some are
limited to specific markets (i.e. North Atlantic)

Non-ATI joint ventures


• Can participate in the alliances’ networks and some marketing
programs
• Cannot discuss price, route allocation, etc.
Gulf 3 success: one stop to everywhere
2005
• 6th Freedom business model
but with differentiation
• Prime location
• Supportive governments
• Efficient operation
• Strong brands
• Utilizing 8000NM aircraft
2015

: Emirates
: Qatar
: Etihad

Source: OAG 2015 & 2015


An 8 hour flight is within reach of…
~15% of the World’s Population >80% of the World’s Population

www.gcmap.com : Range circles at 4,000 mi

Emirates business model is strategically located to serve more than 80% of the
world’s population within an 8 hour flight of Dubai
Non-global Network Carriers
face challenges

Long-Haul
35% Travel

Global Network

Business Non-global Network Personal


30% Travel 70% Travel
40-50% 50-60% Revenue
Revenue

Short-Haul
65% Travel
How do non-global network carriers differ
from global network carriers?

• Lower fleet complexity

• Typically just one key hub

• Can be domestic only or both domestic


and international

• Long-haul might just be Transcon

• Business travel remains key

• Partnering levels vary


Charter Carriers evolving

Long-Haul
35% Travel

Global Network

Business Personal
30% Travel 70% Travel
Charter
40-50% 50-60% Revenue
Revenue

Short-Haul
65% Travel
Class exercise Long-Haul

Global Network

Non-global Network Charter


Business Personal
LCC

Short-Haul

For the segments shown below:


• What is the top challenge in capturing these passengers?
• What strategies/tactics might be used?
1 2 3
Global Network Carrier Non-global Network Carrier LCC
Business
Long-Haul

Business Business
Short-Haul Short-Haul
Air Cargo
Competitive advantage:
High value/time sensitive goods

1% 35%
of world trade of world trade VALUE
TONNAGE is carried by
is carried by Air Cargo
Air Cargo

0% 20% 40% 60% 80% 100%

Note: Does not include trans-border tonnage that was transported by truck, Source: IATA
rail or fixed installations such as pipelines or conveyors
Total air cargo industry revenue by business model

World air cargo revenue


Passenger Express $35.1B
belly only carriers
10%
All cargo
11% Combination
Express carriers $38.3B
38% carriers

Combination
$9.7B
carriers All cargo
41%

Passenger $9.5B
belly only
$92.6 billion

Freighters, directly or indirectly, contribute to 90% of total air cargo industry revenue
Sources: Air Transport Intelligence, U.S. DOT F41, Boeing estimates, and airline reports. (2012 Data)
Will passenger aircraft belly capacity make freight aircraft
obsolete? No!
Case study: daily flights, Asia to/from North America

Issues limiting
150
150 Converting lower pax belly:
hold capacity to • Range and
equivalent payload
freighter flights capability
• Passenger
load factor
50-60 60-70 • Regulations
• Weight,
volume,
hazmat and
10 dimensional
• Handling
Pax Equivalent Freighter Total location and
flights freighter flights freighter ramp proximity
flights flights

80% Asia  North America Cargo Carried on Main-deck

Source: Innovata, DOT T-100, 2013, Boeing Analysis


Business models and
strategies LIBERALIZATION
BUSINESS MODELS
MERGERS &
ACQUISITIONS
Mergers, acquisitions and consolidations
Airline mergers

• Mergers can provide multiple benefits Examples

– Rationalization of costs (including


capacity discipline)

– Expand market access and global


reach

– Ability to compete with competitor


mergers

• Recent major carrier mergers have


been important to remain competitive

• Cross-border mergers can be highly


creative in working with foreign
ownership restrictions
Airlines are making equity investments, buying stakes
in other airlines Examples

For multiple reasons: 49%


49% 29%

• To gain access to
33.3%
restricted markets

• To gain needed 40% 24% 21.2%


network feed

• To overcome
alliance weakness 49% Up to 48.7% 2.98%

• To gain valuable
airport slots 10%

MyCargo
48% 48% UNK

Note: Darwin Airline was renamed to


Airlines are creating subsidiaries for many
purposes

Example: Southeast Asia


• Expanding across borders
into new markets –
example: Southeast Asia

• Implementing different
business model at
subsidiary – example:
new LCC or medium-haul
LCC

• Short-haul feed for Global


Network carrier – example:
HOP! at Air France
Key Takeaways

• Customers (passengers) need to be at the center of your plan


• Passenger expectations differ by segment
– Which passengers are you trying to capture?
• Deregulation enables innovation and is a key market trend
• Airline business models are not “black and white”
– What is your airline’s business model?
• Airlines are working together in many different formats
• Don’t forget about opportunities from Air Cargo!
MonteCristoAir Case Study Connection

• What is MonteCristoAir’s current strategy?


• Given the key factors MonteCristoAir is facing, does their
strategy need updating?
• What are the key regulatory issues facing them?
• What is their current business model?
• How should they adapt their business model to fit their
environment?
• What partnering level is right for MonteCristoAir?
• Should air cargo be part of their operations?
Copyright © 2015 Boeing. All rights reserved. BOEING PROPRIETARY 58
Copyright © 2015 Boeing. All rights reserved. BOEING PROPRIETARY 59