Airline Competition 1980-2010 R.I.P.
Part 5 : The demonstrated lack of
growth in airlines to date
When Freddie Laker's pioneer discount airline
Skytrain went bankrupt, its receivers filed suit, claiming
the major airlines conspired to force Skytrain out of
business. They secured a $60+
Part of a series on airline competition
- see extra articles listed in the right hand column.
Economic textbooks are full of
the theory of how monopolies and oligopolies can
break the ideal balance between commerce and consumers. While economists rarely agree on much, there is close to
universal agreement that a few major companies dominating a
market is a bad thing.
Let's take the theory and apply
it to the reality of the airline industry and see how airline
competition can now be controlled and suppressed by the existing
The Two Issues Surrounding New
Any new airline today has to
frame their business plan around two major issues. The
first issue is 'Are there any routes I can fly where I won't
immediately attract deadly competition from existing airlines?'.
The second issue is 'When I
am attacked by existing airlines, how will I withstand their
competition and survive?'.
Choosing a Non-competitive
Recognizing the difficulties
of competing, head to head, with major airlines, We have seen
several airlines adopt this strategy, with varying measures of
It has become a cornerstone
of some very successful airlines overseas (think Ryanair in
particular) - airlines that fly either between secondary
airports in major cities, and/or between secondary cities not
currently served by nonstop flights.
Southwest Airlines - non
traditional routings and subsequent success
In the US, the idea of
operating secondary routes, and point to point rather than via
hubs, has been a key part of Southwest Airlines' success, at
least until the last decade or so. Southwest historically
has operated point to point flights, rather than hub and spoke
flights, and has focused on providing more convenient and
nonstop services to passengers who otherwise would have to take
very much longer to fly first from their home airport to a major
hub, then change planes and take a second flight on to their
This has been a very clever
move on Southwest's part, because it gives them a double
advantage. Assuming that a major airline doesn't choose to
compete by scheduling matching nonstop flights (and that is
usually a moderately fair assumption to make, due to the general
commitment to the over-arching hub and spoke model by the major
airlines), Southwest can easily beat any competitive pressure
because on the one hand, its nonstop flight is more convenient,
and on the other hand, its underlying costs to transport a
passenger on a single short flight are greatly lower than the
costs of the competing carrier that quite possibly has to fly
the passenger more than twice as many miles, and on two flights
rather than one.
Even if both airlines had
the same cost per flight mile (and in the past Southwest's
costs/mile have historically been significantly lower than those
of the major dinosaur carriers, even though these days they are
much more closely in line) the extra miles makes all the
difference, making it easy for Southwest to match or undercut
any competitive fare and still make a profit, while the other
airline would be making massive losses.
Southwest - now part of the
Southwest has several other
advantages these days, too. After, for many years, being
ignored and treated with disdain by the major airlines, who
too-proudly asserted that the flying public would happily pay a
premium 30% or greater to fly on a dinosaur 'full service'
airline rather than on budget Southwest, Southwest has grown so
large (now the largest airline in the US in terms of passengers
flown) that it now has critical mass and is no longer vulnerable
to competitive attack.
If any other airline decided
to play hardball with Southwest, it would find itself up against
an airline with as much and probably much greater financial
strength, and at least as much route system resource as
the other airline. These days, in a competitive fight,
Southwest could give as well as it gets, and quite possibly
could ride the other airline down into oblivion. So few
airlines choose to directly compete with Southwest, and more
commonly it is Southwest encroaching on other airlines (and
generally winning the battle) than vice versa.
Southwest's route network
has also evolved, and while it still has a great deal of point
to point traffic, it has increasing emphasis on hubs for taking
people greater distances than that possible on a single flight.
Southwest grew to become a
major airline due to the major airlines ignoring Southwest, but
now that its alternative approach to business has brought it
size and success, Southwest is increasingly adopting similar
strategies to those of the dinosaur carriers it now flies
alongside, and can be considered every bit as much a competitive
threat for other new carriers as are any of the other current
Skybus - a shortlived failure
We have seen other examples
of flying secondary routes. Shortlived low-cost airline
Skybus (started flying in May 2007, ended in April 2008)
embodied this strategy to the extreme, refusing to connect
passengers from one flight to another (ie you'd have to take
your bags off the carousel at the end of one flight, then go and
recheck them (and yourself) for a second flight, and primarily
operating between secondary airports only.
For example, they planned to
offer flights between New York and Boston. But the New
York airport was to have been Stewart in Newburgh (almost 70
miles to the north of Manhattan), and the Boston airport was to
have been Portsmouth, NH (almost 60 miles north of Boston).
Another strange airport
choice was Bellingham, WA - supposedly this would serve Seattle
(90 miles to the south) and Vancouver BC (50 miles plus a border
wait of sometimes more than an hour to the north).
The good news was that
Skybus did not attract direct competition from any other
airlines. The bad news was that, notwithstanding being the
best capitalized airline startup ever ($160 million in startup
capital and massive incentives to base themselves in Columbus,
OH), the airline was out of business less than a year after its
There were many reasons why
this particular airline failed, not just its crazy route system
- engineered to avoid the major airlines and their major routes
- but for sure its route system handicapped its ability to
Allegiant Air - A success
story, but not a competing airline
Another example - this time
a success story - of an airline that is succeeding at operating
non-competitive routes is Allegiant Air. After a brief
operational period and then a Chapter 11 bankruptcy in 2000, the
airline has now concentrated on providing infrequent flights
from secondary markets to major leisure destinations such as Las
Vegas (its headquarters) and Orlando.
It flies to secondary
markets and uses secondary airports, and flies sometimes only
one or two flights a week, giving it a very leisure-focused type
of service offering that the major airlines have little interest
in matching. As a result, according to this
interesting article, in October 2009, the airline competes
on only five of its 136 routes (connecting 69 cities back then,
and now - March 2010, 71 cities) and the bottom line is that it
has enjoyed 27th profitable quarters in a row.
The airline says there are
potentially another 300 routes it can grow to serve in the
future, and feels positive about its business model and future.
It is great to see a
successful airline of any description, but it is important to
see the success of Allegiant Air in perspective. Allegiant
is not proof that a new airline can successfully establish
itself; rather it may imply that, if an airline is to succeed in
the US, it can only do so if it avoids competing with the major
airlines on the routes the major airlines fly.
There's no doubt that the
approximately 5 million passengers Allegiant has each year have
benefitted from the airline's presence. But Allegiant is
not a competitor against other airlines - its business plan
revolves around avoiding competition - it specifically has no
desire to enter into competition against the major airlines, so
its success and business plan point as much to the difficulty of
succeeding as they do the the easy of a new airline succeeding.
And in terms of size,
Allegiant is small. It is about the 20th largest carrier
as measured by RPMs, with about 0.5% of the total US market.
Delta is more than 40 times larger.
Withstanding Major Airline
This is the Achilles Heel of
any new airline startup. How can they survive if one (or
more than one) of the major airlines decides to engage in a
straight up and down competitive fight?
The math behind a
competitive fight is inescapable, and the outcome of an
uncontrolled competitive battle to the death is preordained.
Small airlines can not withstand a full on assault by larger
A larger airline can afford
to lose money on every seat it sells competitively against the
smaller airline, because it still has revenue and earnings from
the rest of its route system. But a small airline that
suddenly finds itself having to match below-cost fares on its
entire network has nowhere else to balance the losses it is
making. In addition, it probably does not have a great
deal of free capital, and has slightly nervous investors who
understand the inevitable outcome of a 'fight to the finish'.
Let's look first at the
arguments in favor of big airlines.
Extra flights to bleed away
Noncash benefits the small
guy can't match
- free stopover or free extra flight
- mileage bonuses
- upgrades if the other carrier has fewer classes of service
There's really no secret to
what happens when a small airline tries to compete with a big
airline, whether it be domestically within the US or
internationally. There can't be a secret, because those of
us who choose not to look away see exactly what the airlines
predictably do every time they choose to squash a competitor. The only secret is how the big airlines
continue to get away with their actions, which prima facie
appear to be uncompetitive and unfair.
Let's look at the various
classic responses major established airlines typically offer to
new upstart competitors, in a theoretical scenario where Big
Airline AB already operates some flights between city AAA and
city BBB - let's say it has 50% of the total market for flights
between those two cities, and 75% of the market for nonstop
flights between those two cities.
For the example, we'll
consider airline AB to be similar to one of the large US
airlines, with an extensive route network of flights within the
US and internationally, a broad based frequent flier program,
and operating two class flights between AAA and BBB.
Big Airlines Will Attack Small
Airlines Even if Not Directly Competing
Maybe it is possible to
understand how a big airline feels protective and possessive of
a route it is currently serving, and doesn't want to allow new
competitors to enter that route and make life difficult (ie
But they'll also attack when
smaller airlines establish parallel routes to/from secondary but
nearby airports. For example, a major airline might fly
from New York/JFK to Los Angeles/LAX. A competitor might
choose to sneak in under the radar, offering service from Newark
to Long Beach.
Invariably, a new airline
will pre-announce their new flights, because they want to start
selling the flights in advance of the first day they start
operating. And of course, they have to arrange for gates
at the airports, services to be provided to planes, possibly
regulatory or other permissions, and in general, there are a lot
of signs to the watchful wary dinosaurs that a new competitor
may be about to spring into existence.
And so it often happens that
within a day or two of a new airline announcing a new route, an
existing airline will suddenly, as if by astonishing
coincidence, and with absolutely no reference to the new
airline, announce that it too is starting service on the route.
The more cynical among us
might wonder how it is that an airline for decades has never
chosen to fly a route, and then suddenly, by coincidence, it
announces new service on the route, closely timed to match a new
But even the least cynical
of us must surely wonder how it is that, after having started
this new service and enthusiastically operated it, probably at
amazing low fares, when the new competitor has finally been
killed off and discontinues service, the existing airline -
instead of increasing its service to reflect the loss of
additional capacity - will then immediately discontinue its own
The Amazing Changes in Air
Here's another amazing
phenomenon that we're assured is not anti-competitive or unfair.
When a major airline tries to kill off a new competitor
operating a similar but not identical route, and when it adds
its own flights to the similar route, it is normal to see that
the flights on its established (and noncompetitive) route stay
the same price, while the flights on the new route might be less
than half. For example,
when AA started responding to new airline competitors that were
offering all business class service from New York to London's
Stansted Airport, AA added flights to Stansted as well, charging
$2730 to Stansted while leaving its $10,000 and up fares to
Oh, and when the competitors
unsurprisingly went out of business, AA immediately discontinued
its flights to Stansted too.
lower fares to competing
The New Reality - The
Trans-Atlantic is Now Closed to Competition
So with these general
comments as background, let's do a thought exercise
in two parts.
The first part is to look at
the hardest scenario. Let's assume we are a new airline,
wanting to offer service across the Atlantic, from somewhere in
the US (maybe from multiple gateways) to somewhere in Europe
(again, maybe to multiple gateways).
Where would you choose to
fly? Basically you have two strategies - either to join a
very large existing route and hope to secure a small percent of
that market, enough to survive on, or alternatively, you can
choose a currently unserviced city pair that doesn't presently
have nonstop service and hope to be able to build a route
without causing any of the majors to respond and add their own
flights to directly compete against yours.
If you're going to choose a
major market, then you'll probably look at New York to London,
this being the largest market of all, and more than twice the
size of the next largest. DOT shows, for the year ending
June 2008, that 1.62 million people flew each way between New
York and London; the next biggest market being New York to Paris
(639,000) then Los Angeles to London (477,000).
If you were to offer a
single daily service on a plane with a target load of 180
passengers, you'd need to secure about 66,000 passengers each
way a year. This would be 4% of the NY-London market, 10%
of the NY-Paris market and 14% of the LA-London market.
How easy would that be?
Difficult is the short answer.
If you're flying out of New
York, you may have problems getting slots at JFK, and even
Newark is no longer easy to operate from. If you're flying
in to London you either have to accept a secondary airport or
else pay a huge sum (tens of millions of dollars) for a good
slot pair at Heathrow. And to consider the implication of
that, say you buy a slot pair at Heathrow for $40 million (less
than what Continental paid a couple of years ago), and say you
are borrowing the money for this payment at 7.5%. The
interest cost on this loan translates into $91 per roundtrip
ticket - right from the get-go, you are at a massive competitive
disadvantage against other airlines flying to Heathrow using
existing landing rights that they did not have to buy at top
If you're flying from New
York to London, you have a chance of building a route for only
those people wanting to fly between the two cities (just over a
third of passengers on that route have additional flights), with
no desire to travel further on either side of the NY-London
flight, but more than half the passengers on the other two
routes either start their travel somewhere prior to arriving at
the gateway city and/or continue their travel on somewhere else
after reaching the destination city.
Your new airline can't offer
the same connection convenience that the alliance based airlines
can, so instead of seeking the 4/10/14% market share initially
calculated, you're actually hoping to get a market share of 6.5%
(NY/London), 21.7% (NY/Paris), or 30.4% (LA/London).
Okay, so that becomes more
difficult, and now let's think about some of these difficulties.
The first difficulty is that
this analysis is based on you operating a single flight a day.
Your major competitors in all these markets are operating
anywhere from two to ten or more flights. If you have your
flight with a morning departure, you will miss all the people
wanting (or needing) an afternoon departure, and vice versa if
you choose an afternoon instead of morning departure.
Perhaps this can be factored in to the market share by saying
that your timetabled flight times will only appeal to half the
potential passengers. Which means you're now needing to
get, for your brand new airline, a market share of 13% (NY/Lon),
43.4% (NY/Paris), or 60.8%( LA/Lon).
So we can probably now
dismiss LA/London as being impossible, unless of course you
doubled your flights to operate at different times of day.
But, if you doubled your flights - guess what, you need twice as
many passengers, so you're back to needing to pick up 60.8% of
all passengers on the Los Angles-London route. Still
So let's think some more
about the first two routes. New York - London in
particular looks possible, don't you think?
If you choose to do
NY-London, let's say that you decide that there's no way you can
fly to Heathrow, due to the $91 cost per roundtrip ticket of
buying a Heathrow slot. Remember also that the $91 is with
no repayment - that's just paying the interest alone. If
you decided you wanted to actually pay off the slot - say over
25 years, then you'd be paying $108 per passenger.
For sure, if you do proceed
to establish a new airline, you know several things, don't you.
You know you're going to have to price your service low, and you
know that the big guys are going to match your pricing.
With a $100 per ticket cost penalty, and fares that may well
drop to $200 per ticket, there's no way you could play that game
and win. You need to have costs no higher than the big
guys and hopefully lower, so Heathrow is totally out of the
But if you choose another
London airport, you have a problem - Heathrow is the airport
passengers love to hate. They hate the airport, but they
love to fly through it (rightly or wrongly) believing it to be
the 'best' way to reach London.
The DOT suggests that
passengers choose Heathrow by something like a 3:1 margin.
So instead of needing a market share of 13% of all NY/Lon
passengers, you need a market share of 52% of passengers willing
to avoid Heathrow. Sure, you could spend millions of
dollars trying to promote the benefits of flying to an alternate
airport, but your start-up airline isn't likely to have that
much spare cash lying around, and even if it did, the results
Probably you'll decide that
needing to get more than half the potential passengers onto your
single flight a day airline is too ambitious a goal, which
leaves now only NY-Paris, where you need 'only' a 43.4% market
share - still a ridiculously high percentage needed, but let's
continue the exercise and see the implications of this.
So let's think about other
things that might influence your potential passengers, causing
them to choose either you or an existing airline.
Let's consider both leisure
and business travelers. Leisure travelers are motivated by
two things - the lowest fare and frequent flier miles.
Almost as a given, any person who flies internationally is a
person who also already flies domestically, and so they will
have some type of linkage to one or more frequent flier
programs, and will be keen to get the 7250 miles of frequent
flier credit that they'd earn from a roundtrip between New York
and Paris. It might make all the difference between going
up a level of elite status for the next year. Maybe they
are already an elite member and want to fly their preferred
airline in the hope of getting an upgrade. Or maybe
they're just a regular member, but they apply the rule of thumb
of each mile being worth about 2c to them, meaning that there is
$145 of value in the frequent flier miles associated with this
So to get leisure travelers
to choose your service, you're going to have to discount to
compensate for the fact that you don't have any sort of
realistic frequent flier program to appeal to leisure travelers,
and of course you have no chance of building one in partnership
with any relevant US carrier - who would you choose? They
are all tied in with an alliance and so wouldn't sensibly wish
to help you compete against them.
And then, all of a sudden,
you find yourself at the same cost disadvantage against the
alliances, just the same as if you had to absorb $100 of
Heathrow slot fees per ticket.
On the other hand, what
about business travelers? They're a much more lucrative
and price-insensitive part of the market, right? Wrong.
To start with, business travelers are even more captive to their
frequent flier programs than leisure travelers, so you've got
all the frequent flier issues with double relevance/strength
applicable to business travelers.
And then, many time business
travelers need to follow corporate travel policies. And
corporate travel departments typically do deals with airlines
and their alliances for all their travel. Airlines can
track corporate ticket buying, to see if they are playing fair
or not, and of course, the alliances would all require the
corporate to buy their NY-Paris travel through them as part of
an overall contract negotiation.
Oh - and talking about
contract negotiations, the alliances will probably be extending
up to 50% discounts off their published business fares, making
them less lucrative in any event.
Let's say that two out of
every three passengers will choose their airline based on their
frequent flier affiliations. This means that you will need
your airline to get 130.2% of the remaining passengers.
And - ooops, that's impossible, isn't it.
So scratch now NY-Paris too.
Bottom line - a new airline
can't make the numbers work for any of the three largest
Let's look at it another
way. What size market would you need to be able to access
in order to create a viable service?
We already know that you
need 66,000 passengers a year, each way to reasonably fill an
international daily flight. Let's actually round that down
a bit - maybe you can find a less competitive market with higher
fares. Let's be optimistic and take that down to 60,000
Now let's remember that your
one flight a day isn't going to appeal to every possible
passenger. But let's also allow for the fact that in this
secondary market, maybe there is only one (or even no) other
nonstop flights in the city-pair you've selected, so let's say
that instead of having to adjust by a factor of two to
compensate for timetable convenience, you only need to adjust by
a factor of 1.5. So you need a market with a pool of
90,000 potential annual passengers.
Now let's adjust for
frequent flier programs, and let's just adjust that by an again
optimistic factor of 2 (even though we feel a more realistic
factor to be 3 or even 4 or higher). So you need a market
with a pool of 180,000 potential annual passengers.
Let's also make a small
adjustment for the fact that no-one has ever heard of your new
airline before, and many people are reluctant to choose a new
airline they know nothing about. Let's add a one third
extra to the calculation, which means you need to find a market
with a pool of 240,000 potential annual passengers - passengers
who only want to fly between the two cities you are servicing,
with no interest in flights before or after the trans-atlantic
How many city pair markets
are you aware of in the US that are that huge in size and which
are not currently already competitively serviced? None.
So what have we shown so
far? It is impossible for a new entrant to realistically
start service in any of the three largest city-pair markets
across the Atlantic, and it is also impossible for a new entrant
to start service in a small underserved/overlooked city pair.
Let's now, in desperation,
re-examine one of our assumptions. We are limiting our
planning only to city-pairs where there are no flights beyond
the two cities served. But maybe if there was a way to
service additional cities before and/or after the trans-atlantic
flights, then that would massively grow the appeal of the
For example, if you had
feeder flights in to New York so as to draw passengers in from
other cities, that would greatly help boost potential passengers
who would then fly on from New York to London or Paris.
And if you had feeder flights at the other end as well, you'd
get people from other parts of the US, flying first to New York,
then over to London or Paris, then on to a final destination,
Well, in theory, yes, this
But, in practice, there's a
problem. Which airlines in the US or Europe would you
partner with to provide this feeder service? Let's look at
the major airlines in the US and see how likely it is they'd
choose to partner with you :
Top ten US airlines (by
Notoriously independent, would be very
hard to create a relationship with, and
Southwest's open seating single class of
service doesn't fit well with
international reserved seating multiple
alliance member, international
alliance member, international
alliance member, international
alliance member, international
alliance member, international
hub in Atlanta, also in Milwaukee,
Orlando and Baltimore
owned by Lufthansa so unlikely to work
with LH competitors
Republic/ Skywest/ Frontier
Primarily regional carrier, has business
affiliations with United, Delta and
AirTran, so actual unaffiliated flights
it could partner with are not very many.
Frontier's Denver hub could be
Regional carrier with main hub in
Seattle, works closely with Delta and
with American, couldn't provide much
feeder service to cities other than
There are two airlines that seem to offer possible tie-in
opportunities - Southwest and AirTran. Southwest should be
considered 'a tough nut to crack', AirTran might be a possible
US partner, but that would then focus your US gateway cities to
Atlanta, Milwaukee and Baltimore (AirTran has good service to
Orlando too but the routings from further away places makes
Orlando not a good choice of connecting point). Baltimore
is an interesting possibility, with local traffic in the
Baltimore/DC area supplemented by feeder service in to
Baltimore. The AirTran route map can be seen
So, to get your new airline
started, it looks like you have only one possible strategy.
You would need to partner with AirTran and base your operation
in Baltimore - a decision that may or may not be viable, but the
best decision open to you.
If you want to expand in the
future, you could do so to Milwaukee and Atlanta. But if
you wanted to add any west coast destinations, or if you wanted
to add service to New York or Chicago or Dallas or most other
places, you'd be out of luck.
The only airline I'm
aware of which is
Which leaves us only one
We've gone from 50+ airlines
flying across the Atlantic to three major alliances and several
minor unaligned airlines, most notably Virgin Atlantic. DOT
figures for the 12 months ended June 2009 show the following
market shares :
The Magic of Heathrow
London's Heathrow airport is
a curious anomaly, because it is simultaneously one of the most
hated airports in the world, but also the London
(AC) a market share of 25% and revenues of $12 billion.
All these factors would have
seemed to indicate an airline that was growing and thriving.
He slip 'twixt cup and
lip' seemed to be the applicable adage, and the press release
advising their closure referred obliquely to 'some issues arose
that we could not overcome' that prevented them securing the
financing that had seemed to have already been obtained.
DoT's provisional 'show
Why did Eos Fail?
So, what caused the demise
of this airline and are there any lessons to be learned?
Interestingly, the airline avoided trotting out the usual
Part of a series on airline competition
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2 May 2008, last update
21 Jul 2020
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