AMandL

A personal reflection on selected recent contextual issues

October 2010

This month it seems appropriate to look outside the European Union at some developments that might be strategically significant.

The risk of under-estimating competitors

Historians have long concluded that an endemic weakness in military leaders is that they often try and fight today’s campaigns based upon yesterday’s assumptions. To this they add that many military disasters have been the result of the leaders underestimating the new quality of their opponents, often because they fail to realize how far they have developed in capability and strategic ability. The British in Singapore and the French in Vietnam are perhaps now far enough back in the past to cite as examples without being insensitive to other’s feelings.

It is not so long ago that Lord King of British Airways said that he could not take Richard Branson seriously as he was a man with a beard who wore fluffy pullovers. Nor did the then boss of American Airlines endear himself in Europe when he remarked that no European airline could teach an American airline anything. The continuing survival and growth of Virgin Atlantic suggests that British Airways underestimated their new rival. Similarly the long struggle by American Airlines to secure a viable European airline partner and to gain regulatory approval also suggests that this management may have underestimated some of the capabilities in other European airlines as they watched first Star and then SkyTeam outdistance them.

Time moves on and within the last ten years studies by McKinsey and others doubted that low cost airlines could ever capture more than 30% of the European market. Similarly analysts queried whether airlines whose leaders were better known for ambush marketing in orange boiler suits, or for being extremely rude to other airlines and political leaders, represented sound investments.

Now, in a very global aviation market, European airline leaders have many other airlines to consider as partners and competitors.

As the global market repositions

In aviation competitiveness continues to increase – especially as the economic recession eases in some part so of the world. Traffic is reported as increasing in most of the BRIIC countries, and premium traffic and yield also seems to be recovering in key markets such as over the North Atlantic and in the Pacific Rim.

With much attention focused on the consolidation of the major North American and European airlines this may be an apposite time to look a little further afield at airlines whose competitiveness may surprise some established airlines in the near future.

The current merger of United and Continental Airlines in the USA, following that of Delta and Northwest, will consume significant managerial attention, not least in securing continuing stakeholder approval on mainly US domestic and North Atlantic routes. Similarly in Europe the merger of British Airways and Iberia, following some years after the merger of Air France and KLM, represents a significant managerial challenge in meshing systems and resources and reducing cost – whilst fulfilling regulatory requirements contingent on anti-trust approval

For British Airways the merger offers a chance to expand international routes: an opportunity that the congestion at London Heathrow and decision by the new coalition government to cancel any new runway developments had removed from its main UK hub. This could reconfigure the nature of competition between the main European alliances through their hub airports.

Increasing competition and new alliances

Looking a little further afield, however, there have been some other recent developments that suggest competition will not just be between the established players.

Aeroflot has traditionally been regarded as under-performing as an international airline. Hampered by uncompetitive equipment and with an approach to service that was functional rather than inspiring the Russian airline has often been regarded as surviving on reciprocal air service agreement rights, often gained for other’s services across Siberia. The Aeroflot of this Millennium, however, is not the airline of the USSR. Now a fully fledged member of SkyTeam, with growing domestic strength as it absorbs failed assets from the many small airlines formed under the CIS, equipped with modern aircraft operating from new airport terminals, it is increasingly offering services and products that appeal in an international market.

The current Aeroflot strategy is to become a more dominant player in the Russian air travel market. Along with the six regional operators the flag-carrier expects to transport 79.5 million passengers in 2025, up from 20 million this year. As a result, its market share is projected reach to 65% with increasing yield to match. This strategy places special emphasis on the need to enhance domestic rather than international point-to-point services and as such would present a growing threat to those European airlines who do not have access to SkyTeam.

Further afield Virgin Blue has received an interim approval from the Australian Competition and Consumer Commission to form an alliance with Etihad Airways. This decision allows Virgin Blue and Etihad to cooperate on joint pricing and scheduling of services across their networks. The alliance will specifically add significant capacity between Australia and Abu Dhabi. The plan is to for Etihad and V Australia to aim to jointly offer 27 weekly services between Abu Dhabi and Australia. This will includes double-daily services between Abu Dhabi and Sydney, daily Melbourne-Abu Dhabi flights and six frequencies per week between Abu Dhabi and Brisbane.

This is a significant addition to capacity currently offered out of Australia – where Virgin Blue offers 45 direct connections to 45 destinations in Australia, New Zealand and the Pacific Islands. It will also add significant additional capacity on the Australian routes into Europe and beyond through Etihad's network of 65 destinations across North America, Europe, Asia, and the Middle East. Tellingly Etihad claim that 37 of these destinations will be available to passengers through connections within two hours of their arrival in Abu Dhabi.

This marks a significant change by Etihad from its current agreement with Qantas under which Qantas code shares to Abu Dhabi and Middle East destinations while Etihad codeshares to domestic Australian cities, and services between Australia and New Zealand. This agreement has not developed into joint frequent flyer programmes or significant network expansion – with Qantas appearing to favour cooperation with Jetstar as a means of adding to their Middle Eastern destinations.

Emirates and Qatar Airways also continue to grow aggressively in Europe and Asia. Emirates is offering about an additional 10% capacity on these routes in 2010, whilst Qatar Airways is also expanding capacity this year by nearly 20%.

New destinations for Emirates are Amsterdam, Madrid and Prague.

New destinations for Qatar Airways are Nice via Milan, Barcelona, Budapest via Bucharest, Brussels, and Copenhagen. It is also expanding its South American reach with services to Sao Paulo and Buenos Aires. Services to Stuttgart – its fourth German city after Berlin, Frankfurt and Munich– will commence in 2011. This expansion follows agreement by the German government to amend the 1996 bilateral agreement to increase the permitted number of inbound Qatar Airways services from 21 to 35 flights per week, following talks in Doha. Lufthansa has voiced concerns about this expansion by Gulf Airlines stating that they now represent one of the biggest challenges facing European and Asian long-haul operators.

By 2013 Qatar Airways intends to serve 120 destinations, up from 90 today, with a fleet of 120 aircraft

Singapore Airlines continues to add to its long haul network. The latest destinations include daily non-stop services to Los Angeles and Moscow and then on to Houston. The airline is also increasing services from Singapore to Munich-Manchester and is making the Singapore-Dubai- Istanbul a non-stop service.

Plans for 2011 include a new service between Singapore and Sao Paulo via Barcelona thus adding its first South American destination to its network.

The airline will also launch an additional three non-stop Singapore-Milan services per week to ensure that Barcelona and Milan continue to be served daily.

An airline that is very aware of its national responsibilities SIA is well positioned to benefit from the new open skies agreements the Singapore government has signed with Barbados, Brazil, Jamaica and Rwanda.

These agreements give the airlines fifth freedom rights that let them tap on traffic from and to third countries to improve the commercial viability of their operations.

One of the few countries that is limiting expansion by the Gulf airlines is Canada. The Canada-UAE bilateral, which was last expanded in June 2003, permits only three weekly flights from Dubai and three weekly flights from Abu Dhabi. Transport Canada has turned down multiple requests to give UAE carriers more rights, claiming the current rights are sufficient to meet the demand of travellers whose origin or destination is either Canada or the UAE.

On the borders of Europe, and possibly a member of the EU within the next few years Turkish Airlines also continues to develop. A member of the Star Alliance Turkish is planning a rapid expansion of international services mainly focused on Australia, China, and India.

The airline’s strategic goal is to carry 56 million passengers in 2015, more than double the number it carried in 2009. A major target for this growth is transit traffic over Turkey – exploiting its geographical position on the interface between Europe, Asia, the Middle East and Africa. The Istanbul hub is within three and a half hours flying time of 55 countries; many of them underserved in international connections, and manifesting a growing passenger reluctance to transit congested and security conscious European airports.

Currently the airline reports that some 30% of its traffic is transit based, and the target is for this to increase to 50% over the next few years. In order to achieve this fleet plans are to increase from the current 142 aircraft to 184 in 2011 and then to 217 in 2013.In this expansion the priority is on long haul capacity with Boeing 777-300ERs and Airbus A330-300s being introduced next year. In the longer term Turkish Airlines is considering investment in the Airbus A380 and Boeing 747-8. The Boeing 777-300ER will give Turkish Airlines increased capacity to New York, Tokyo and Hong Kong. With this capacity the Turkish capability to offer a global network is significantly increased.

Finally there is the growing awareness of the four major Chinese airlines where SkyTeam has established some earlier partner agreements: also India where the recent refinancing of the major international airlines has confirmed their ability to operate on the global stage and their competitive capabilities are likely to increase.