What’s Happening?What’s Happening?

We are catching up to the schedule on the course syllabus.

ISMA meeting scheduled for today has been postponed for a week—Jan 28, 4:30 to 5:30 College 8, room 240. Speaker is JP LeBlanc, Director of RAD Development, Borland

Chapter 4 IntroductionChapter 4 Introduction

Airline Industry Airline Industry AnalysisAnalysis

Major Chapter TopicsMajor Chapter Topics Airline Industry analysis using the Porter Competitive Model as a clearly defined industry.

Revisit Business Strategy Model. Lessons Learned from Consistently Profitable Carriers.

Is American Airlines the right standard for the US industry?

Importance of Information Technology to the Airline Industry.

Consistently Consistently Profitable AirlinesProfitable Airlines

Singapore Airlines– Geographic Location, National Strategies, Leadership in IT, Competitive Strategies

Southwest Airlines– Aircraft Utilization, Focus on City Pairs, Point-to-Point Route Structure, Corporate Culture, Cost Savings in Reservation System

American AirlinesAmerican Airlines• Largest airline in the US versus United while also a contender on the international level.• A premium service airline with a hub and stoke route structure. • Has consistently been recognized as an industry leader.• Currently faces the same financial problems as other major carriers.• Faces challenge of dealing with strong unions.

Porter Competitive ModelPorter Competitive Model

Intra-Industry RivalrySBU: American AirlinesRivals: United, Delta, US Air,Northwest, Southwest

BargainingPower of Buyers

Bargaining Power

of Suppliers

Substitute Products

and Services

PotentialNew

Entrants

Airline Industry Analysis - North American Market

•Travel Agents •Business Travelers•Federal Government•Pleasure Travelers•Charter Service•U.S. Military•Cargo and Mail

•Alternate Travel Services•Fast Trains•Boats

•Private Transportation•Videoconferencing•Groupware

•Aircraft Manufacturers•Aircraft Leasing Companies•Labor Unions•Food Service Companies•Fuel Companies•Airports•Local Transportation Service •FAA•Hotels

•Foreign Carriers•Regional Carrier Start ups•Cargo Carrier Business Strategy Change

Figure 4-2

Europe

North American

Pacific Rim

MARKETS

Short Haul

Long Haul

ROUTES AND ROUTE STRUCTURE

Hub and Spoke Point to Point FARE STRATEGY

Low Fare

Premium Fare

Independent Alliances

COMPANY STRUCTURE

INFORMATION SYSTEMS FOCUS

Figure 4-1

Latin American

Business Strategy Model - Airline Industry

Passengers Operations Logistics Business

PRODUCT/SERVICESScheduled Passenger

s

Charter Services Cargo Mail

Air Express

Modified compared to the example in the textbook.

Benefits of Information Benefits of Information Systems to American Systems to American

AirlinesAirlines Convenience to CustomersConvenience to Customers

– Reservation System, Request hotels, car.Reservation System, Request hotels, car. Knowledge of CustomersKnowledge of Customers

– Frequent-Flyer Program: AAdvantage.Frequent-Flyer Program: AAdvantage. Providing a Foundation for Other Providing a Foundation for Other SystemsSystems– Yield-Management System.Yield-Management System.

Building a Base for Other BusinessesBuilding a Base for Other Businesses– American designed systems for others.American designed systems for others.

Airline Industry Airline Industry Value ChainValue Chain

INBOUNDLOGISTICS

OPERATIONS OUTBOUNDLOGISTICS

MARKETING AND SALES

SERVICE

PROCUREMENT

TECHNOLOGY DEVELOPMENT

HUMAN RESOURCE

MANAGEMENT

FIRM INFRASTRUCTURE

Adapted with the permission of Michael E. Porter from Competitive Advantage: Creating and Sustaining Superior Performance, copyright 1985 by Michael E. Porter.

-Financial Policy - Accounting -Regulatory Compliance - Legal - Community Affairs

Pilot TrainingSafety Training

Agent Training

In-flight Training

Baggage Tracking System

•Promotion•Advertising•Advantage Program•Travel Agent Programs•Group Sales

•Ticket Counter Operations•Gate Operations•Aircraft Operations•On-board Service•Baggage Handling•Ticket Offices

•Route Selection•Passenger Service System•Yield Management System (Pricing)•Fuel •Flight Scheduling•Crew Scheduling•Facilities Planning•Aircraft Acquisition

Information TechnologyCommunications

Product DevelopmentMarket Research

•Lost Baggage Service•Complaint Follow-up

•Baggage System•Flight Connections•Rental Car and Hotel Reservation System

Computer Reservation System, In-flight SystemFlight Scheduling System, Yield Management System

Baggage HandlingTraining

Flight, route andyield analysttraining

Figure 4-3

ConclusionsConclusions The Airline Industry is a vivid example of the dynamics of the market that it serves.

Shows that establishing strategies dictated by the market is critical.

Once the right strategies have been identified, information systems can play an important supporting role.

Chapter 4Chapter 4

Porter Competitive Porter Competitive Model Model and and

the Airline the Airline IndustryIndustry

2003 - A Hundred Years 2003 - A Hundred Years of Flightof Flight

Aviation is celebrating its centennial year. From its first brave beginnings the civil aviation industry remains dynamic and although some of the priorities have changed, the spirit and passion remain.Some priorities are not new: safety, the need for efficient operations, adequate capacity to meet growth and, of course, customer satisfaction. Other priorities have gained prominence in recent years – security, war risk insurance and environmental concerns – and will remain important in the coming years.

This industry is always in This industry is always in the the

grip of its dumbest grip of its dumbest competitors.competitors.

Robert CrandallFormer CEOAmerican Airlines

We must look at the We must look at the world as it is versus world as it is versus how airlines would how airlines would like it to be.like it to be. Robert L. CrandallRobert L. Crandall

And as government officials, politicians and consumers would like it to be.

Airline Industry GoalsAirline Industry Goals Public Service. (Service to Customers)Public Service. (Service to Customers) Return to Investors.Return to Investors. Country Strategic Resource.Country Strategic Resource.

Are these consistent or in frequent conflict?

Airline ProfitabilityAirline Profitability

In order to survive and profit in this tough environment, airlines attempt to manipulate three main variables:

Cost, calculated as total operating expenses divided by available seat miles (ASM)

Yield, calculated as total operating revenues divided by the number of revenue passenger miles (RPM)

Load Factor, calculated as the ratio between RPMs and ASMs, which measures capacity utilization.

Profitability = [yield X load factor] - cost

United Flight 815 United Flight 815 Chicago to LAX, October 31, 2001

204 tickets were sold and 186 people showed up.68 passengers originated in Chicago and 118 were from connecting flights.97 passengers terminated at LAX, 89 continued on another flight.Of the 33 passengers that were only Chicago-LAX there were 27 different fares:• A frequent flyer passenger paid nothing.• A 1st class passenger paid $1,248.51 on the day of the flight.• A coach passenger paid $102.26 on the day of the flight.• A cash fare passenger paid $87.21 twenty-nine days in advance .

The National Commission to The National Commission to Ensure a Strong Competitive Ensure a Strong Competitive

Airline IndustryAirline Industry

Change, Challenge Change, Challenge and Competitionand Competition

A Report to the President and CongressAugust 1993

Airline Industry Airline Industry ReportReport

The air transportation system The air transportation system has has

become essential to the become essential to the economic economic

progress for the citizens and progress for the citizens and businesses of this nation.businesses of this nation.

The commission questioned some of the The commission questioned some of the most basic assumptions that have most basic assumptions that have formed the foundation of policy formed the foundation of policy toward this industry--and behavior toward this industry--and behavior within it--for the past half century.within it--for the past half century.

It also questioned whether the It also questioned whether the airline industry has basic airline industry has basic structural structural

problems or if it is just a problems or if it is just a collection collection

of poorly managed companies.of poorly managed companies.

Commission Findings • The Airline Industry is more competitive than before deregulation in 1978.

• Travelers and shippers are charged less than in 1978.

• The Airline Industry has never made a sustained, substantial return on investment.

• It lost huge amounts of money from 1990 to 1993.

• It canceled many aircraft orders shortly after an unprecedented buying binge.

• Its freedom to compete in international markets is uncertain because of government restrictions.

Commission Conclusions

For the U.S. to prosper in a global marketplace the airline industry must: • Be efficient and technologically superior.

• Have the financial strength to respond to rapid change and opportunity.

• Efficiently move people, products and services to markets, wherever they exist.

Recommendations

Efficiency: Reinvent the FAA.

Financial Health: Deal with factors that impact the financial health of the industry.

Access to Foreign Markets: Replace the current bilateral system with a multi-national regime.

To return their balance sheets to To return their balance sheets to respectability, most airlines would respectability, most airlines would have to achieve profit margins that have to achieve profit margins that are almost unprecedented in their are almost unprecedented in their history, and sustain those margins history, and sustain those margins for years.for years.

September 11 ImpactSeptember 11 Impact

An absolute disaster for the industry.

1990-1993 Was a 1990-1993 Was a Disaster!Disaster!

The Gulf War.The Gulf War. The general decline in the world The general decline in the world economy.economy.

Aircraft fuel price increases.Aircraft fuel price increases. Wages, work rules and work patterns. Wages, work rules and work patterns. Chapter 11 bankruptcy airlines.Chapter 11 bankruptcy airlines. Excess capacity.Excess capacity. A very capital intensive business. A very capital intensive business. Too many years as regulated airlines.Too many years as regulated airlines.

Airline IndustryAirline Industry

The shock of September 11th has forced airlines to face an awkward fact: in some respects, aviation is a declining industry.

Nov. 22, 2001The Economist

Decline in Air TravelDecline in Air TravelAt Thanksgiving in 2000 a record 2.2 million Americans took a flight to spend the holiday with family and friends.

Air traffic in October and November 2001 was down by about 25% compared to the previous year in the world's biggest aviation market, thanks to a combination of recession and the attacks on September 11th.

International TravelInternational TravelInternational travel from America has been hit even harder: the number of Americans flying across the Atlantic is down by over 30%.

Never mind that more people are killed on America's roads every three months than have died in the entire history of commercial aviation.

Fatalities by Transportation M ode

0 5000 10000 15000 20000 25000

Passenger Car

Railroad

Airline 12

530

20,818

Load FactorsLoad FactorsDespite cutting capacity, the big American airlines are still flying with planes barely 60% full—a figure that would be much lower were it not for hefty discounts.

Boeing and Airbus, the two manufacturers of large jetliners, are offering airlines special financing deals to pay for their purchases in order to stave off outright cancellations. The last time the airlines were in such straits, during the Gulf war and recession in 1990-92, it took them four years to return to profit, even though traffic recovered within a year.

European AirlinesEuropean AirlinesThe situation in Europe is no better.

Two flag carriers, Swissair and Sabena, have collapsed since the terrorist attacks.

Other big carriers, such as British Airways (BA) and KLM, are in major financial trouble.

Traffic within Europe fell by over 10% in September and October 2001, while traffic from Europe to America and Asia fell by 35% and 17% respectively.

Financial PictureFinancial PictureAlthough air travel, measured by number of passenger-kilometers flown, has long risen faster than economic growth, airline revenues have lagged world GDP growth for the past 20 years in real terms,

Revenues and profits per seat have been falling because of greater competition springing from deregulation, first in America and then within Europe and across the Atlantic.

Even before the latest slump only a third of mainstream airlines in Europe, America and Asia earned enough to cover their cost of capital, which is 8% on average.

Looking for OptionsLooking for OptionsIn most industries, such a situation would quickly lead to mergers. But this is not so easy for airlines, hemmed in as they are by national ownership rules and rigid international regulation of routes.

America's airlines are retreating to their strongholds in the hub airports they dominate, such as Dallas-Fort Worth (American) and Atlanta (Delta). Most airlines have cut at least one “wave” of coordinated flights in and out of their hubs. If additional security checks are introduced for transferring passengers before they board their outbound flights, and the handling of such travelers thus slows down, some observers expect the airlines to switch to fewer flights in larger aircraft.

Dropping Point-to-Point Dropping Point-to-Point FlightsFlights

The biggest effect has been for airlines to drop non-stop “point-to-point” flights rather than those that go through hubs.

The network economics of hubs becomes more attractive for big carriers when times are tough.

A study of America's changed airline-route map shows that large carriers are cutting non-stop flights to cities where they do not operate hubs by more than they are trimming hub flights.

Unions and Vendors Unions and Vendors

The industry's woes will also force airlines to get tough with unions and suppliers over restrictive practices that raise their costs.

European ChangesEuropean ChangesIn Europe, where the failure of Swissair and Sabena has shown that there is room for only a handful of mainstream carriers rather than today's 14, a shake-out is already under way.

Airlines: How Ugly?Airlines: How Ugly?The outlook is either bad or outright ugly.Two problems: Post 9/11 fears and increased hassles based on new security measures.

US Airline Industry US Airline Industry Must Restructure or Must Restructure or

DieDieAviation Week & Space TechnologyAviation Week & Space Technology

November 2002November 2002 Low-Cost Airlines, Not September 11, Have Transformed Industry

Fundamentals "When people say the traditional industry model is broken, they are moving their jaw without putting their brain in gear," responds former American Airlines CEO Robert Crandall. He added that he is skeptical that the industry will ever be competitive as long as there are so many carriers selling what has evolved into a commodity product.

Aviation Week Aviation Week ContentionsContentions

A collapse in pricing power and a fundamental shift in the buying behavior of business travelers, coupled with fierce competition from low-cost airlines, is forcing U.S. major hub-and-spoke carriers to restructure their operations or face the prospect of eventually going out of business. Airline executives and industry analysts note that the September 11 attacks, while devastating, are not the root cause of the financial crisis gripping major network carriers. The crux of the problem is a combination of excessive costs in relation to carriers' current and projected revenues, an imbalance between the supply and demand for available airline seats, and an inability to boost air fares.

Corrective ActionsCorrective ActionsU.S. airlines have axed more than 70,000 jobs. In addition, some unions representing many of the industry's employees have made a commitment to work with management to help the carriers compete more effectively with low-cost rivals. It will take much more than concessions by labor for major U.S. airlines to solve their financial problems. The financial problems carriers are suffering could actually worsen in coming months if the U.S. goes to war with Iraq. The U.S. airline industry cannot take another major hit. A brief war doesn't qualify but a messy, extended war or another significant domestic terrorist attack does.

Airline Industry US Airline Industry US Market ShareMarket Share

Based on current trends, the domestic market share held by the six major US airlines (American, Continental, Delta, Northwest, United and US Airways) plus Alaska Airlines will drop from 75% in 2002 to 62% in 2010—and 45% by 2020, according to an industry projection. Southwest could pass American to become the largest U.S. airline by 2013, and JetBlue could pass Delta to become the third largest by 2020.

Industry Structure Industry Structure ProblemsProblems

The fact that low-cost carriers have been able to mature this far says as much about what's wrong with the majors as it does about what's right with their low-cost counterparts, and begs the question: does the underlying strategy or business model employed by the large hub-and-spoke airlines still work? Analysts and other industry observers believe it does, but to function properly carriers must reduce their costs and restore the balance between supply and demand.

A Sobering FactA Sobering Fact

Before September 11, 2001, the global industry was showing a net loss on international services of around $3 billion.

Corrective ActionsCorrective ActionsReduced capacity.Older aircraft may never return to service.Reduced wage pressures.Continued joint agreements.Discounted tickets and more travel packages.

Code Sharing Code Sharing AgreementsAgreements

The US Transportation and Justice Departments approved a pact Friday that will let Delta Air Lines, Continental Airlines and Northwest Airlines share access to each other's routes. The code-share agreement allows each carrier to market the others' routes as its own. One Northwest flight, for instance, might also have a Continental flight number and a Delta flight number.

The agreement will be the biggest in the industry. US Airways and United Airlines have a similar agreement and Continental have some shared routes in a deal that dates to 1998.

Code Sharing Code Sharing AgreementsAgreements

It's an especially appealing arrangement to frequent fliers who prefer to build up miles on one airline while flying all three. The government placed several conditions on the deal. Specifically, the DOT said 60 percent of any new code-sharing routes must serve those areas of the country that are considered under-served. It also bans anti-competitive practices like coordinated pricing or shared decisions about route planning and capacity.

American AirlinesAmerican Airlines

American Airlines asked its employees to come to the aid of the carrier, saying they have no time to waste if they want to keep the financially strapped airline in business. The plea comes as two major unions at the world's largest carrier consider a company request to freeze their wages and another union is trying to hammer out a new contract. Company management says carriers that have reduced costs through bankruptcy protection have put even more pressure on AMR.

American AirlinesAmerican AirlinesAmerican asked union leaders to start holding weekly meetings, as early as next, week with company management in a collaborative process. The move comes as United Airlines is trying to squeeze large wage cuts from its employees as it undergoes restructuring under bankruptcy protection. About a month ago, American asked its employees to forgo pay increases. The union that represents flight attendants at American said it is taking a close look at the company's finances and may decide at the end of this month whether to forgo pay increases scheduled for this year.

Continuing ConcernsContinuing Concerns

1. Fuel costs2. Decisions regarding passenger

services like whether to charge for food, the need for more electronic capabilities.

3. Upgrading aircraft.4. Route strategies.5. Union relations.6. Relations with travel agents.

Porter Competitive ModelPorter Competitive Model

Intra-Industry RivalrySBU: American AirlinesRivals: United, Delta, US Air,Northwest, Southwest

BargainingPower of Buyers

Bargaining Power

of Suppliers

Substitute Products

and Services

PotentialNew

Entrants

Airline Industry Analysis - North American Market

•Travel Agents •Business Travelers•Federal Government•Pleasure Travelers•Charter Service•U.S. Military•Cargo and Mail

•Alternate Travel Services•Fast Trains•Boats

•Private Transportation•Videoconferencing•Groupware

•Aircraft Manufacturers•Aircraft Leasing Companies•Labor Unions•Food Service Companies•Fuel Companies•Airports•Local Transportation Service •FAA•Hotels

•Foreign Carriers•Regional Carrier Start ups•Cargo Carrier Business Strategy Change

Figure 4-2

Europe

North American

Pacific Rim

MARKETS

Short Haul

Long Haul

ROUTES AND ROUTE STRUCTURE

Hub and Spoke Point to Point FARE STRATEGY

Low Fare

Premium Fare

Independent Alliances

COMPANY STRUCTURE

INFORMATION SYSTEMS FOCUS

Figure 4-1

Latin American

Business Strategy Model - Airline Industry

Passengers Operations Logistics Business

PRODUCT/SERVICESScheduled Passenger

s

Charter Services Cargo Mail

Air Express

Modified compared to the example in the textbook.

Airline Industry Airline Industry Value ChainValue Chain

INBOUNDLOGISTICS

OPERATIONS OUTBOUNDLOGISTICS

MARKETING AND SALES

SERVICE

PROCUREMENT

TECHNOLOGY DEVELOPMENT

HUMAN RESOURCE

MANAGEMENT

FIRM INFRASTRUCTURE

Adapted with the permission of Michael E. Porter from Competitive Advantage: Creating and Sustaining Superior Performance, copyright 1985 by Michael E. Porter.

-Financial Policy - Accounting -Regulatory Compliance - Legal - Community Affairs

Pilot TrainingSafety Training

Agent Training

In-flight Training

Baggage Tracking System

•Promotion•Advertising•Advantage Program•Travel Agent Programs•Group Sales

•Ticket Counter Operations•Gate Operations•Aircraft Operations•On-board Service•Baggage Handling•Ticket Offices

•Route Selection•Passenger Service System•Yield Management System (Pricing)•Fuel •Flight Scheduling•Crew Scheduling•Facilities Planning•Aircraft Acquisition

Information TechnologyCommunications

Product DevelopmentMarket Research

•Lost Baggage Service•Complaint Follow-up

•Baggage System•Flight Connections•Rental Car and Hotel Reservation System

Computer Reservation System, In-flight SystemFlight Scheduling System, Yield Management System

Baggage HandlingTraining

Flight, route andyield analysttraining

Figure 4-3

Benefits of Information Systems to American Airlines

1. Convenience to Customers.2. Knowledge of Customers. 3. Providing a foundation for other systems.4. Building a base for other businesses.

Four Three Consistently Four Three Consistently Profitable AirlinesProfitable Airlines

1. Singapore Airlines1. Singapore Airlines

2. Cathay Pacific2. Cathay Pacific

3. British Airways3. British Airways

4. Southwest Airlines4. Southwest Airlines

Singapore AirlinesSingapore Airlines Consistently profitable but experiencing profit pressures.

Winner of multiple awards for “airline excellence.”

An extension of the country strategy to be the business and travel gateway to Southeast Asia.

An impressive travel infrastructure. Leader of the Orient Airlines Association (OAA)

– Abacus reservation system.– Price collusion on major routes.

Nervous regarding U.S. carrier price competition.

Why SIA is So Good!Why SIA is So Good!• Clarity and Commitment (to customer service).

• Continuous Training.

• Internal Communications. • Consistent External Communications.

• Connection with Customers.

• Benchmarking.

• Rewards and Recognition.

• Professionalism, Pride and Profits.

Southwest AirlinesSouthwest Airlines A U.S. carrier success story. Commuter airline that concentrates on city pairs. (Average flight is 400 miles or less and takes less than one hour)

CEO Herb Kelleher, a Connecticut attorney turned Texan, had the best labor relations in the industry and an excellent company culture.

Lowest cost structure in the industry. Company vision was to provide low cost airline service to an increasingly larger number of people.

Objective to minimize reservation costs.

A Strength of A Strength of Southwest AirlinesSouthwest Airlines1. Focus.

2. Focus.

3. Focus

Best Airlines for Business Best Airlines for Business TravelersTravelers

1. Singapore Airlines2. Swiss Air3. Cathay Pacific4. Midwest Express **5. Japan Airlines6. Quantas7. ANA8. Virgin Atlantic9. Lufthansa10. KLM-Royal Dutch

11. Finnair 12. British Airways 13. Alaska 14. Air France 15. Varig 16. Aer Lingus 17. Kiwi 18. Air Canada 19. American ** 20. Delta**Source: Zagat Survey of Frequent Flyers

Deregulated But Very Deregulated But Very RegulatedRegulated

Safety factors. Air traffic controllers. Impact on constituents. International routes.

Business Traveler Choice?

Personal Traveler Choice?

Ticket-less Versus No Reservation?

Computer Reservation System:

Airline AlliancesAirline AlliancesThe Star Alliance is the largest of the major groupings. Consisting of 15 airlines led by United Air Lines and Lufthansa. Star serves about 815 destinations in more than 130 countries.

Oneworld, which is eclipsed by only Star among the major airline alliances, is led by British and American Airlines. Eight airlines offer service to 550 destinations in more than 130 countries.

SkyTeam is quickly becoming a major alliance player by serving more than 450 destinations in nearly 100 countries. Led by Air France and Delta, SkyTeam has also consolidated cargo services.

Interplay among government regulations, airline strategies, and airplane capabilities shapes the evolution of world aviation. Boeing Corp.

Barriers to EntryBarriers to EntryAccess to airports continues to be impeded by:

(1) Federal limits on takeoff and landing slotsat the major airports in Chicago, New York, and Washington

(2) Long-term, exclusive-use gate leases

(3) “Perimeter Rules” prohibiting flights at New York’s LaGuardia and Washington’s National airports that exceed a certain distance.

US Industry StrengthUS Industry StrengthFifteen major US carriers represent the following significance in the world-wide airline industry:

29% of the aircraft46% of the employees32.5% of the the 2000 passenger miles

Based on a number of years of operating in a deregulated environment within the US that forced them to compete in a very tough market.

The Bad NewsThe Bad NewsCumulative Net Profit of Scheduled US Airlines:Started in 1938

1970 – 2.2 billion profit1980 – 5.8 billion profit1989 – 8.2 billion profit1994 – 4.8 billion loss1997 – 5.4 billion profit1998 – 10.3 billion profit

1999 – 15.6 billion profit2000 – 18.1 billion profit2001 – 12 billion profit

Airline Industry Airline Industry Conclusions Conclusions

It is a vivid example of the dynamics of the markets that it serves.

Establishing strategies dictated by the market is critical.

Once the right strategies have been identified, information systems can play an important supporting role.

Possible Exam Possible Exam QuestionsQuestions

1. Identify an industry where information systems act as a significant barrier to entry and explain the significance of this barrier.

2. Identify and explain the two basic strategies and three supporting strategies used by intra-industry rivals.

3. What is the primary benefit to be derived through the use of the Porter Value Chain?

4. Explain the logic and growth as a competitive strategy and provide two company examples where this was a key strategy.