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Published: May 21, 2003

 
 

Flight for Survival: A New Business Model for the Airline Industry

Although making such fundamental changes in a long-standing business model is difficult and risky, it is not without precedent. Successful change in other industries — such as manufacturing and financial services — provides important insights into the ways the burden and cost of complexity can be reduced. Not long ago, a major U.S.-based manufacturer of a highly engineered product realized that its policy of allowing extensive customization was increasing operating cost without delivering commensurate revenue benefits. Certain elements of this company’s products required customization, but by a natural progression of complexity, customization had become an unintentional — and unnecessary — centerpiece of the manufacturing process. Inventory, scheduling, delivery logistics, and the like were built around the ability to alter specifications quickly. The company’s operational resources were directed toward the most complicated features of manufacturing, rather than the simplest. And that was introducing significantly higher costs into its business model.

The manufacturer did an exhaustive study and found, to its surprise, that about 70 percent of the features in its products were never customized. The company introduced engineering controls to these less complicated aspects of the manufacturing process. By taking that step, the manufacturer was able to strategically apply complex systems — such as manufacturing resource planning, inventory, and expediting programs — to only the 30 percent of the design and plant processes that required customization. These segmented operations are called tailored business streams (TBS). Because of this action, which did not hamper service for those customers needing customization, the company is on course to slash 15 percent from its operational expense.

Large carriers must seriously consider three critical elements when restructuring the hub-and-spoke model and eliminating complexity from their business model.

• Remove Scheduling Constraints. At present, hub-and-spoke airlines generally schedule flights in a so-called wave system, which means that departures and arrivals are concentrated in peak periods to maximize effective passenger connections. However, the approach causes long aircraft turnarounds (to allow passengers and baggage to connect to their next flight), traffic congestion, and aircraft downtime at the origin cities, resulting in low labor and aircraft utilization. This system, which is structured around the needs of the least profitable connecting passengers, also necessitates more complicated logistics and provides significantly lower yields — up to 45 percent less revenue per mile than for passengers traveling nonstop. Nevertheless, because of current pricing strategies and fleet structures, airlines rely on connecting passengers to fill seats that otherwise would be empty.

By redesigning the airline’s network around the needs of nonstop passengers, and making connections a byproduct of the system as Southwest Airlines does, large carriers should be able to cut turnaround times by as much as half, increase aircraft utilization, reduce congestion, and significantly improve labor productivity. A large portion of manpower costs is driven by how long an aircraft is at the gate. Shorter turns would mean that pilots, flight attendants, baggage handlers, maintenance staff, and other personnel could be much more productive, and still in compliance with safety regulations. Moreover, with aircraft ready to take off more quickly, airlines could schedule more flights and provide more attractive timetables for nonstop passengers.

The trade-off between efficient operations and connectivity has to be evaluated carefully, however. Most likely the solution will involve “continuous” or “rolling” hubs, which would allow for more operationally efficient, continuous flight schedules throughout the day. The approach would be particularly suited for “mega-hubs,” where the local “point-to-point” market is sufficiently large to support more frequent flights without relying as much on connecting traffic. Some airlines are already experimenting with rolling hubs. To fully realize the cost reduction opportunities created by this approach, and to justify the scheduling change, airlines will need to fundamentally alter airport operations, through such innovations as compressed turns and simplified baggage handling.

 
 
 
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Resources

  1. Tom Hansson, Jürgen Ringbeck, and Markus Franke, “Flight for Survival: A New Operating Model for Airlines,” s+b enews, December 6, 2002; Click here.
  2. David Newkirk, Brad Corrodi, and Alison James, “Catching Travelers on the Fly,” s+b, Fourth Quarter 2001; Click here. 
  3. Susan Carey and Scott McCartney, “United’s Bid to Cut Labor Costs Could Force Rivals to Follow,” Wall Street Journal, February 25, 2003; Click here.
  4. Darin Lee, “An Assessment of Some Recent Criticisms of the U.S. Airline Industry,” The Review of Network Economics, March 2003; Click here.
  5. Shawn Tully, “Straighten Up and Fly Right,” Fortune, February 17, 2003; Click here.