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Published: May 21, 2003

 
 

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

It won’t be easy to achieve. Any industry that undertakes such change faces the fear that not only will revenue premiums be lost, but costs will not fall commensurately. It is difficult to reduce fixed-cost structures. Existing infrastructure may be underutilized with the new business model, and the current aircraft base may not fit the new requirements. Another key challenge for airlines would be the potential drop in revenue in connecting markets. But they could make up this loss by using their lower cost base to stimulate market growth, and by offering viable new services that are not economically feasible at current cost levels.

The Horizon
To survive, major airlines have no choice but to change course. With a fundamentally lower cost structure, the large airlines would be far better positioned to become profitable, grow, and launch a marketplace offensive against low-cost carriers.

At this point, the outlook for the industry is highly uncertain. If the hub-and-spoke carriers stick to the current business model, and attempt to reduce costs within today’s operational framework, they risk facing continued market share loss to LCCs, a round robin of bankruptcies, and a struggle for survival. The large U.S. airlines’ early 1990s crisis was a cyclical, economy-based downturn. LCCs were not a major issue then. When the economy and their performance improved, the airlines largely ignored the threat posed by the lower-cost format. That inaction only hid the real emerging problem.

This time the crisis is again cyclical, but it is exacerbated by the presence of low-cost carriers. If the economic picture brightens significantly, it’s possible that the large airlines will rebound, and that the fundamental business model problems will not be addressed. If that happens, the next cyclical crisis will be so much worse. In the U.S., the low-cost carriers could then dictate pricing in more than 70 percent of the domestic market, as opposed to the current 40 to 45 percent. At that point, a turnaround would be significantly more challenging than it is today.

Alternatively, if a few large carriers adopt the new business model that we suggest, the industry could be led by a couple of thriving carriers in the U.S. and Europe, with one to two random hubs each serving intercontinental and small community markets, a more differentiated service offering, and a number of centers of mass similar to those operated by Southwest Airlines.

The risk of inaction is much greater than the risk of change. The first traditional airline to apply a fundamentally new business model will reshape the industry’s competitive landscape. The first prize that awaits the boldest flyers is significant, not just in terms of cost reduction, but also in considerable growth and future market leadership opportunities.

Reprint No. 03208


Authors
Tom Hansson, [email protected]
Tom Hansson is a vice president in Booz Allen Hamilton’s Los Angeles office. He focuses on strategy and operational restructuring in the airlines and travel arena.

Jürgen Ringbeck, [email protected]
Jürgen Ringbeck is a vice president in Booz Allen Hamilton’s Düsseldorf office. He focuses on strategy and transformation for companies in global transportation industries, such as airlines, tourism operators, postal and logistics companies, and railways.

Markus Franke, [email protected]
Markus Franke is a principal in Booz Allen Hamilton’s Düsseldorf office. He focuses on strategy, network management, sales, and distribution in the airlines, transportation, logistics, and rail industries.
 
 
 
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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.
 
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