The intensely competitive airline market and the success of the economy carriers are forcing traditional airlines into a reality check.
The biggest challenge for the legacy carriers has been to align costs with their shrinking revenue. But over the last few years legacy carriers out of necessity have cut costs, streamlined operations, and introduced quality customer service initiatives.
American Airlines, the world’s biggest airline, is fighting its way back and is expected to turn a profit. For decades, the airline had operated with a burdensome and expensive structure designed to capture business travelers.
But with that market becoming intensely price-sensitive, American is changing the way it operates by trying to replicate discount airlines. The ubiquitous $2,400 round-trip fares paid by business travelers – and on which American survived – have all but vanished. Today, a flexible business ticket between Los Angeles and New York can go for as little as $666 – and often these tickets are upgraded to first class.
Likewise, pilot productivity at United Airlines has improved by 61 percent since entering bankruptcy. One airline analyst estimates that United’s pilot cost per available seat mile (at .91) is lower than all other airlines except AirTran (.90) and JetBlue (.56). Southwest exceeds United’s cost by 2 percent, and this is projected to widen when pay raises for Southwest pilots come into effect later this year.
As the legacy airlines are transforming their business models, the cost or competitive advantage enjoyed by economy carriers are diminishing and these low fare airlines are morphing into the type of airlines they once bitterly opposed. A key determinate of the future structure of the economy carriers is the extent to which they can successfully extend on a sustainable basis beyond their dense, short-haul markets, and constrain labor costs.
The traditional cost savings model of economy carriers is increasingly becoming similar to the new and improved models of the legacy carriers.
Economy carriers have cherry picked prime markets. Eventually, economy carriers will be forced to increase routes and the challenges related to this growth will increase their operating costs.
On average, economy airlines operate with approximately 85 employees per aircraft, versus an average of 120 for a legacy carrier. While the employee/aircraft ratio for legacy airlines is likely to decrease, at best, the ratio for economy carriers will remain static or most likely increase.
Economy carriers sell roughly 95 percent of their tickets on-line. As full-service carriers are shifting their distribution towards their own Internet sites, offering incentives such as bonus miles and low price guarantees, legacy carriers will bring distribution cost in line with their economy counterparts.
Low-cost carriers generally avoid expensive foreign flights. Market growth and expansion will dictate that economy airlines expand service. Reportedly, JetBlue is already considering a foreign route.
The average captain for an economy carrier earns $115,000 a year, while a legacy captain earns $225,000 a year. As legacy carriers renegotiate high labor agreements, labor cost will decrease. Conversely, economy carriers are facing tougher labor negations and increased labor costs.
Economy airlines have succeeded by flying one type of aircraft while legacy carriers often fly as many as 15 types. As legacy carriers consolidate aircraft type, they will reduce labor cost, training cost and operational cost, bringing their cost in-line with economy carriers. On the other hand, economy carriers such as JetBlue and Independence Air, are increasing their fleets, introducing additional maintenance, training and operational costs.
Economy airlines have a younger workforce which earns less in salary and benefits than the older workforce of legacy airlines. As time moves forward, the older workforce of the legacy carriers will retire, while the workforce for economy carriers will age causing upward pressure on wages.
Since all economy carriers are similar, they will eventually cut into each other’s markets. While legacy carriers will flourish by offering added value.
Despite the economy airlines rapid growth there remains numerous large markets where the economy airlines have not yet gained a competitive foothold. Traffic growth in new markets that economy carriers have entered since 1995 is relatively low compared to market segments in which low fares service was firmly established in 1995.
Increasing cost pressures particularly on the labor front will ultimately bring the operational models of economy carriers closer to the transformed models of legacy carriers.