Global LCC Outlook v2

2
Published by

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Principal Authors:
Peter Harbison and Dr Phil McDermott

Contributors:
Derek Sadubin and Liz Thomson

2009 Centre for Asia Pacific Aviation

No part of this publication may be reproduced, or transmitted in any form,
without the prior permission of Centre for Asia Pacific Aviation. This report is
for internal use only by full time employees of the purchasing company.

Dates and coverage:
Part One of this report covers developments up to and including October-
2009, while Part Two covers the period up to June 2009. For more recent
carrier updates, please refer to www.centreforaviation.com/profiles/airlines

Disclaimer:
Centre for Asia Pacific Aviation has made every effort to ensure the accuracy
of the information contained in this publication. The Centre does not accept
any legal responsibility for consequences that may arise from errors,
omissions or any opinions given. This publication is not a substitute for
specific professional advice on commercial or other matters.

3
Foreword

The airline industry has changed. Take Ryanair for example. It is
profitable, while many are deep in red ink even in the UKs
deepest recession in 80 years. And it is still expanding at breakneck
pace. Meanwhile, Southwest Airlines, the global role model, lost
money in four of the last five quarters, after 30 unbroken years of
profits.

Look at how Ryanair is profitable: over 21% of its revenue is
ancillary, from charges for non-essential items, previously taken
for granted on airlines with frills.

Yet Ryanair showed a 17.6% net return on total revenue (which
was flat year-on-year) for the first quarter of its financial year
ended 30-Jun-2009. Ryanairs ancillary revenues outpaced
scheduled traffic growth and rose by 13% in the first quarter to
EUR165.3 million. Net profit rose 550% to EUR136.5 million.

In other words, had it not been for that 21% of non-essential
payments, it too would have been deeply in the red. Meanwhile,
legacy airlines in the US will generate billions this year from similar
ancillaries (including baggage fees). That is just one way that the
industry has evolved.

In this wide-ranging report, we do not seek to cover every aspect of
the airline industry, nor do we expect to escape unscathed from
either purists who will debate every definition nor even many who
will quite appropriately correct errors we have made.

For the latter we apologise. But we felt it was worth the effort to try
to capture in words and some numbers - a period in which the
industry has been transformed. As our contribution to recording a
piece of the history of this infinitely fascinating business, we hope
you will find it of value.

The Centre has been privileged to work with many of the airlines
and personalities identified in this report over many years. From
first working with Ray Webster later to be founding CEO of
easyJet on developing a Southwest-inspired LCC airline model in
the early 1990s, through continuing contacts with most of the LCCs
in Asia and the Middle East, then later Europe and north America,
we consider ourselves fortunate to have witnessed at first hand the
remarkable transformation of the airline industry which these
airlines have driven.

This movement, which has now become very
much part of the mainstream, has changed
the world. And, what is more, there is a lot
more excitement to come.

We welcome your feedback, so please

Peter Harbison
Executive Chairman
Centre for Asia Pacific Aviation
October 2009

4

Acknowledgements

Our special thanks to the following for their
valuable contributions to this report:

Professor Michael E. Levine
Professor Nawal Taneja

Bill Franke, Indigo Partners
Dr Julius Maldutis
Jim Parker, Raymond James

Gary Kelly, CEO Southwest Airlines
Dave Barger, CEO, JetBlue Airways
Adel Ali, CEO Air Arabia
Sanjay Aggarwal, CEO SpiceJet
Azran Osman-Rani, CEO AirAsia X
Nico Bezuidenhout, CEO Mango
Bruce Buchanan, CEO Jetstar
Michael Cawley, Deputy CEO and COO of
Ryanair
Alex Cruz, CEO Vueling
David Cush, CEO Virgin America
Tony Fernandes, CEO AirAsia
Brett Godfrey, CEO Virgin Blue
Jin Air, Korean Air LCC subsidiary
Yasuyushi Motu, former CEO, Adviser to the
President, Starflyer
Gidon Novak, CEO Kulula/Comair
Kevin Steele, CEO Sama
Tero Taskila, CCO airbaltic
Nigel Turner, CEO bmibaby
Wang Zhenghua, President Spring Airlines

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Professor
Michael E. Levine
Southwest
Gary Kelly, CEO
Professor
Nawal Taneja, CEO
Indigo Partners
Bill Franke, Partner
JetBlue
Dave Barger, CEO
Air Arabia
Adel Ali, CEO
SpiceJet
Sanjay Aggarwal, CEO
AirAsia X
Azran Osman-Rani, CEO
Doctor
Julius Maldutis
Raymond James
Jim Parker, Partner
Mango
Nico Bezuidenhaut, CEO
Virgin Blue
Brett Godfrey, CEO
AirAsia
Tony Fernandes, CEO
Sama
Kevin Steele, CEO
airBaltic
Tero Taskila, CCO
bmi
Nigel Turner, CEO
Jetstar
Bruce Buchanan, CEO
Ryanair
Michael Cawley, COO
Vueling
Alex Cruz, CEO
Virgin America
David Cush, CEO
6

Part I: Review, Performance and Prospects
1 An industry in turmoil .......................................................................................... 14
1.1 How did we get into this mess? .............................................................................. 14
1.2 2008/09: the pendulum swings to a new era ........................................................... 16
1.3 Old airlines dying of sclerosis, new entrants sprouting .......................................... 17
2 LCCs account for all global passenger growth since 2001 ................................... 20
2.1 Two distinctive facets to growth ................................................................................. 23
3 (Not) Defining the Low Cost Carrier .................................................................. 29
3.1 Proliferation and diversification.............................................................................. 29
3.2 Attributes common to low fare airlines and low cost carriers ................................. 31
3.3 Innovation and Entrepreneurship: Making a difference ........................................ 46
4 Distribution & sales and social media ................................................................. 51
4.1 LCCs and Distribution ............................................................................................ 51
4.2 Accessing corporate markets .................................................................................. 54
4.3 Social Media opportunities and... ........................................................................... 55
5 The spread of LCC operations around the world ................................................ 61
5.1 The growth of the Low Cost sector since 2000 ....................................................... 61
The Expansion of LCCs, 2000-2009 ............................................................................. 61
5.2 Drivers of Growth .................................................................................................... 63
5.3 LCC growth by region............................................................................................. 65
5.3.1 North America .......................................................................................... 66
5.3.2 Europe ....................................................................................................... 70
5.3.3 Asia Pacific ............................................................................................... 75
5.3.4 Other Emerging Markets........................................................................... 79
5.3.5 Country Performance ................................................................................ 80
6 The evolving model .............................................................................................. 85
6.1 Hybridisation and evolution ................................................................................... 85
6.1.1 Directions in hybridisation ........................................................................ 85
6.1.2 Other variations on the basic model .......................................................... 88
6.1.3 The Future? Going international, going long haul .................................... 89
6.2 Ancillary revenues: a growth future ........................................................................ 96
6.2.1 Charges for Services: Up-Selling or Downgrading? ................................ 96
6.2.2 Managing Costs or Chasing Revenue? ..................................................... 98
6.2.3 What the consumer pays ........................................................................... 99
6.2.4 A simple equation: ANCILLARIES =PROFIT ..................................... 101
6.2.5 The prospects for ancillary revenue ........................................................ 102
6.2.6 On-line Sales ........................................................................................... 103
6.2.7 Beyond travel products ........................................................................... 103
6.2.8 The Leisure Line ..................................................................................... 104
6.2.9 Cargo carriage ......................................................................................... 105
6.2.10 Frequent Flyer Programmes .................................................................... 106
7 How the legacy airlines have responded ............................................................ 108
7.1 Reduce fares: low fare-high cost, a dangerous formula .....................................109
7.2 LCC Subsidiaries by region ................................................................................... 113
7.2.1 North America ........................................................................................ 113
7.2.2 Europe ..................................................................................................... 113
7

7.2.3 Asia Pacific ............................................................................................. 114
7.3 Reposition: reduce costs and maintain yield differential ......................................120
8 Airport responses ................................................................................................ 125
8.1 A radical change in thinking by airports ...............................................................125
9 Financial performance ........................................................................................ 134
9.1 LCCs as Investments .............................................................................................134
9.2 Investing in LCCs is risky business .......................................................................134
10 Challenges to the low cost model ....................................................................... 138
10.1 Fuel prices and airline performance ......................................................................138
10.1.1 Fuel prices a changed risk profile ........................................................ 140
10.1.2 Avoiding the cost trap ............................................................................. 140
10.1.3 The rising and rising price of fuel ..................................................... 141
10.1.4 Varied airline exposure to fuel prices ..................................................... 142
10.2 The Outlook ...........................................................................................................144
10.3 Aircraft ...................................................................................................................145
10.3.1 Narrowbody development ....................................................................... 145
10.3.2 Aircraft values: September-11 and Great Recession downturns, and
the Outlook.............................................................................................................. 146
10.3.3 One size doesnt fit all ............................................................................ 147
10.3.4 The environmental challenge driving efficiency gains ........................... 148
11 The new economic environment ........................................................................ 150
11.1 Economic outlook ..................................................................................................150
11.2 Impact on aviation .................................................................................................152
12 The Outlook: Great Expectations ...................................................................... 157
12.1 The Outlook for LCCs - and the Airline Industry .................................................157
12.2 The main threats and opportunities for LCCs ....................................................... 171
12.2.1 The Threats ............................................................................................. 171
12.2.2 Opportunities........................................................................................... 177
13 Conclusion: The world has changed and so has the low cost carrier .............. 188
8

Part II: Regional Perspectives
14 Globalisation of LCCs ......................................................................................... 192
14.1 Traffic Growth ........................................................................................................192
14.2 The Role of LCCs ..................................................................................................195
15 North America .................................................................................................... 198
15.1 Market Performance ..............................................................................................198
15.2 The Airlines ............................................................................................................199
15.2.1 WestJ et, Canada ...................................................................................... 200
15.2.2 Sunwing Airlines, Canada ...................................................................... 200
15.2.3 Southwest Airlines .................................................................................. 200
15.2.4 AirTran, USA .......................................................................................... 202
15.2.5 Spirit Airlines, USA ................................................................................ 203
15.2.6 J etBlue, USA........................................................................................... 203
15.2.7 Allegiant Airlines, USA .......................................................................... 204
15.2.8 Frontier Airlines, USA ............................................................................ 206
15.2.9 USA 3000, USA...................................................................................... 207
15.2.10 Virgin America, USA ............................................................................. 207
15.3 Outlook ................................................................................................................. 209
16 Central and South America ................................................................................. 211
16.1 Market Performance .............................................................................................. 211
16.2 The Airlines ............................................................................................................213
16.2.1 Viva Aerobus, Mexico ............................................................................ 213
16.2.2 Avolar, Mexico ....................................................................................... 213
16.2.3 Volaris, Mexico....................................................................................... 213
16.2.4 Interjet, Mexico ....................................................................................... 214
16.2.5 Mexicana Click, Mexico ......................................................................... 214
16.2.6 Gol Airlines, Brazil ................................................................................. 214
16.2.7 Webjet, Brazil ......................................................................................... 216
16.2.8 Azul Brazilia, Brazil ............................................................................... 216
16.3 Outlook ..................................................................................................................218
17 Europe ................................................................................................................ 220
17.1 Market Performance ............................................................................................. 220
17.1.1 Comparative Performance of European LCCs ....................................... 222
17.2 Western Europe The Airlines ............................................................................. 225
17.2.1 Iceland Express, Iceland ......................................................................... 225
17.2.2 Norwegian Air Shuttle, Norway and Sweden ......................................... 225
17.2.3 TUIfly, Germany..................................................................................... 226
17.2.4 Germanwings, Germany ......................................................................... 227
17.2.5 Air Berlin, Germany ............................................................................... 227
17.2.6 Condor, Germany .................................................................................... 228
17.2.7 Niki, Austria ............................................................................................ 229
17.2.8 easyJ et Switzerland ................................................................................. 229
17.2.9 FlyOnAir, Italy ........................................................................................ 230
17.2.10 Air Italy ................................................................................................... 230
17.2.11 Blu-express.com, Italy ............................................................................ 230
17.2.12 Windjet, Italy .......................................................................................... 231
17.2.13 Eurofly, Italy ........................................................................................... 231
9

17.2.14 Meridiana, Italy ....................................................................................... 232
17.2.15 Vueling (Clickair), Spain ........................................................................ 232
17.2.16 Transavia.com, Netherlands, Denmark ................................................... 233
17.2.17 Martinair, Netherlands ............................................................................ 233
17.2.18 Transavia, France .................................................................................... 234
17.2.19 bmibaby, United Kingdom...................................................................... 234
17.2.20 easyJ et, United Kingdom ........................................................................ 234
17.2.21 Flybe, United Kingdom .......................................................................... 236
17.2.22 Flyglobespan, United kingdom ............................................................... 237
17.2.23 J et2.com, United Kingdom ..................................................................... 237
17.2.24 Monarch, United Kingdom ..................................................................... 238
17.2.25 Thomson , United Kingdom ................................................................... 238
17.2.26 Ryanair, Ireland....................................................................................... 239
17.3 Outlook ..................................................................................................................241
17.4 Capacity Growth, Eastern Europe ........................................................................ 243
17.5 Eastern Europe The Airlines ............................................................................. 244
17.5.1 Red Wings, Russia .................................................................................. 244
17.5.2 Sky Express, Russia ................................................................................ 245
17.5.3 Wizz Air, Central Europe ....................................................................... 245
17.5.4 Blue Air, Romania .................................................................................. 247
17.5.5 Belle Air, Albania ................................................................................... 247
17.5.6 Smart Wings, Czech Republic ................................................................ 248
17.6 Outlook ................................................................................................................. 249
18 Africa ................................................................................................................... 251
18.1 Market Performance ..............................................................................................251
18.2 The Airlines ........................................................................................................... 252
18.2.1 Kulula, South Africa ............................................................................... 252
18.2.2 1time, South Africa ................................................................................. 253
18.2.3 Mango, South Africa ............................................................................... 253
18.2.4 Atlas Blue, Morocco ............................................................................... 253
18.2.5 Air Arabia Maroc, Morocco ................................................................... 254
18.2.6 J et4you, Morocco .................................................................................... 254
18.2.7 Kathargo Airlines, Tunisia ...................................................................... 254
18.2.8 Fly540, Kenya ......................................................................................... 254
18.3 Outlook ................................................................................................................. 255
19 Middle East ........................................................................................................ 257
19.2 The Airlines ........................................................................................................... 258
19.2.1 Nas Air, Saudi Arabia ............................................................................. 258
19.2.2 Sama Airlines, Saudi Arabia ................................................................... 259
19.2.3 Felix Airways, Yemen ............................................................................ 259
19.2.4 EgyptAir Express .................................................................................... 259
19.2.5 Bahrain Air.............................................................................................. 259
19.2.6 J azeera Airways, Kuwait ........................................................................ 260
19.2.7 flydubai, Dubai, UAE ............................................................................. 260
19.2.8 Air Arabia, Sharjah, UAE ....................................................................... 261
19.3 Outlook ................................................................................................................. 262
20 Northeast Asia .................................................................................................... 264
10

20.2 The Airlines ........................................................................................................... 266
20.2.1 Air Busan, South Korea .......................................................................... 266
20.2.2 J eju Air, South Korea .............................................................................. 267
20.2.3 J in Air, South Korea ............................................................................... 267
20.2.4 Yeongnam Air, Hansung Airlines, South Korea .................................... 268
20.2.5 Eastar J et, South Korea ........................................................................... 268
20.2.6 Skymark, J apan ....................................................................................... 268
20.2.7 StarFlyer, J apan....................................................................................... 269
20.2.8 Air Do, J apan .......................................................................................... 269
20.2.9 SkyNet Asia, J apan ................................................................................. 269
20.2.10 Fuji Dream Airlines, J apan ..................................................................... 269
20.2.11 Ibex Airlines, J apan ................................................................................ 270
20.2.12 Air Next .................................................................................................. 270
20.2.13 J AL Express, J apan ................................................................................. 270
20.3 Outlook ..................................................................................................................271
21 China .................................................................................................................. 273
21.2 The Airlines ........................................................................................................... 274
21.2.1 J uneyao Airlines...................................................................................... 274
21.2.2 Viva Macau, Macau Special Administrative Region .............................. 274
21.2.3 Okay Airways, China .............................................................................. 275
21.2.4 Spring Airlines, China ............................................................................ 275
21.2.5 Lucky Air, China .................................................................................... 275
21.2.6 China West Air ....................................................................................... 276
21.2.7 United Eagle, China ................................................................................ 276
21.3 Outlook ................................................................................................................. 277
22 Southeast Asia .................................................................................................... 279
22.2 The Airlines ........................................................................................................... 280
22.2.1 J etstar Pacific, Vietnam .......................................................................... 280
22.2.2 Indochina Airlines, Vietnam ................................................................... 281
22.2.3 Cebu Pacific, Philippines ........................................................................ 281
22.2.4 Spirit of Manila Airlines, Philippines ..................................................... 282
22.2.5 AirAsia (Malaysia) and AirAsia X, Malaysia ......................................... 282
22.2.6 J etstar Asia, Singapore ............................................................................ 284
22.2.7 Tiger Airways, Singapore ....................................................................... 285
22.2.8 Indonesia AirAsia, Indonesia .................................................................. 286
22.2.9 Mandala Airlines, Indonesia ................................................................... 286
22.2.10 Batavia Air, Indonesia ............................................................................ 287
22.2.11 Citilink, Indonesia ................................................................................... 287
22.2.12 Nok Air, Thailand ................................................................................... 287
22.2.13 One Two GO, Thailand........................................................................... 288
22.2.14 Thai AirAsia, Thailand ........................................................................... 288
22.3 Outlook ................................................................................................................. 290
23 South Asia ........................................................................................................... 292
23.2 The Airlines ........................................................................................................... 293
11

23.2.1 SpiceJ et, India ......................................................................................... 293
23.2.2 IndiGo, India ........................................................................................... 294
23.2.3 GoAir, India ............................................................................................ 294
23.2.4 Air India Express, India .......................................................................... 295
23.2.5 Kingfisher Red, India .............................................................................. 295
23.2.6 MDLR, India ........................................................................................... 296
23.2.7 J etLite, India ........................................................................................... 296
23.2.8 J et Airways Konnect, India ..................................................................... 297
23.2.9 Mihin Lanka, Sri Lanka .......................................................................... 297
23.3 Outlook ................................................................................................................. 298
24 Oceania .............................................................................................................. 300
24.2 The Airlines ........................................................................................................... 302
24.2.1 Virgin Blue Group, Australia .................................................................. 302
24.2.2 Pacific Blue New Zealand ...................................................................... 304
24.2.3 Polynesian Blue, Samoa.......................................................................... 304
24.2.4 V Australia .............................................................................................. 305
24.2.5 J etstar, Australasia .................................................................................. 306
24.2.6 Tiger Airways, Australia ......................................................................... 307
24.3 Outlook ................................................................................................................. 309

Global LCC Outlook Report 2009
Part One:
Review, performance
and prospects
Chapter 1
An Industry in turmoil
14
Global LCC Outlook 2009: The World Has Changed
1 An industry in turmoil

1.1 How did we get into this mess?

The airline industry, never healthy financially, is today in turmoil.
Much of the reason is that the full service model relies on high
yielding traffic to complement a fast-growing leisure market. The
perhaps temporary, but continuing decline of premium demand has
jeopardised the very future of many venerable airlines as a result.

Meanwhile, a changing of the guard had been occurring, as new
entrant, predominantly low cost airlines, have irrevocably rewritten
the fundamentals of airline operations. And, partly driven by this new
format, governments across the word have re-evaluated the outdated
regulatory restrictions designed to protect national airlines which
paradoxically have done so much to ensure an inefficient and
unprofitable system.

This report reviews the evolution and current status of the LCC
model, but makes no apologies for raising as many questions as it
answers about the future of the aviation industry as a whole. This is
indeed an industry in turmoil. And, unlike the way things were a
decade ago, any discussion of low cost airlines implies a review of
the entire industry. Depending on the country or region, LCCs
already account for between a quarter and a half of the market, so
when they shout, everyone hears.

Today, at the crest of another shockwave, as global recession and
the threat of a new pandemic batter travel demand, is as good a
time as any to take stock and look at where we may be headed.

For, while H1N1 swine flu - may be seen as just another in the
string of constant shocks that the industry has had to deal with,
prolonged deep recession appears certain to trigger a more
fundamental shift in the shape of aviation. And it is inevitable that
low cost carriers (LCCs) will have a strong influence on how the
sector emerges from the fundamental changes to the economic and
geo-political relationships that have shaped it until now.

Just as there are no two companies that are identical, so there is no
one LCC model. As experimentation occurs and the individual
airlines are steadily transformed, a proliferation of styles emerges.
This is a Darwinian process; some common evolutionary threads
are evident, with local species rolling out so as best to fit their
particular environmental niches.

The future is not simply for LCCs, nor is it simply for hybrid
versions, or indeed for full service airlines. The one irreversible
outcome of what has happened over the past decade is that the
industry will have the opportunity to be much more diverse in the
future than it was ten years ago and, indeed, than it is today. And
even while it diverges, a convergence of models can increasingly be
detected, as full service airlines mimic LCCs to cut costs and the low
cost airlines add frills to boost yields.

15
A very short list of model LCCs

Today, only a handful of airlines can undisputedly be described as
basic model LCCs, which remain brutally focused on cost
reduction to the exclusion of almost all else. These include Ryanair
and Wizz Air in Europe (even though Wizz Air has to operate in a
high-cost airport country); Spirit and Allegiant in the US; Tiger
Airways, Mandala and AirAsia in Asia (although even AirAsia is
diverging from the short haul model, with its long haul offshoot; but
it still has the lowest unit costs in the world); in the Middle East, Air
Arabia is extremely low cost (but has adopted a number of non-core
features); and Indias Indigo, SpiceJet and GoAir are basic models
(but must operate with enormous government fuel taxes).

Southwest, usually cited as the aspirational LCC goal (although
Ryanair is taking that mantle), has long since been obliged to move
from its original hard line strategy, for example adopting
codesharing agreements and serving many of the leading US hub
airports.

But little hope of financial equilibrium

Whatever the outcome of this process, the industry is unlikely to
reach any sort of financial equilibrium. This is an industry that has
never been self-sustaining, despite the fact that it has been so
heavily regulated. While restrictive rules may give the semblance of
stability they have themselves become unsustainable in a world
changing rapidly. Even such regulatory fundamentals as limits on
trans-national ownership of airlines are breaking down. Despite
this, and the need for a dynamic, responsive industry, some
governments are still apparently unable to restrain the urge to
intervene to protect flag carriers, even when those flag carriers
are no longer owned or controlled by the public sector.

LCCs meanwhile have been at the cutting edge of reform, exploiting
and forcing regulatory change. In doing this, they have
demonstrated a capacity for innovation and flexibility in airline
operations. Meanwhile the longer-standing incumbents have merely
been reactive, still emerging from the weight of rules focused on
who should operate and where.

LCCs have demonstrated fast footwork to
take on the incumbents and respond to new
and dynamic markets. And today they face a
real test of their viability, confronted by the
rigours of a prolonged recession without the
comfort of government favour, but only their
cost-efficiency and innovation to rely on.


16
1.2 2008/09: the pendulum swings to a new era

Over the past year, the airline industry around the world has ridden
a roller coaster, first attacked by unexpectedly high fuel prices and
then by disappearing demand, as the global economy deflated.

These two shifts offer a microcosm of the past and the future of the
airline industry; that is, the two core factors that have driven the
past and will determine the future. First in 2008, high fuel prices
a major airline cost item helped neutralise the cost profile of
different airline models. High cost carriers and low cost carriers
alike had to suffer the pain of higher costs.

US carriers fuel costs as % of total (per ASM): 2Q2003 vs 2Q2008

Source: Centre for Asia Pacific Aviation and BTS

In that environment the high cost, full service airlines could still
prosper; they had the advantage of being able to differentiate their
higher value/higher cost premium product to generate higher
prices. And passengers then were still prepared to pay those higher
fares. The lower cost, single product carriers had no such upside
luxury, as fuel prices surged to account for more than half their
total costs. The LCCs suffered much higher proportional cost
increases, but could not recover it on the revenue side; their no-
frills product could not justify charging up to 5 times the basic fare
for a seat, as their full service rivals could.

Then, late in the year and into 2009, the momentum shifted.
Premium demand collapsed, as financial institutions and corporate
clients generally were forced to slash travel costs. Even as oil prices
plummeted, demand evaporated. In the space of weeks, fuel prices
fell by more than a hundred dollars a barrel. High cost airlines, now
with empty premium cabins, still had their high costs, but this time
there were only low value customers. The reduction in fuel prices
helped them a little, by reducing costs by perhaps 10-15% of total,
but yields fell an additional 5% and more. This left full service
airlines scrambling to reduce capacity, often by double digit
percentages, in order to stem losses. Even so, most are still losing
money heavily. That applies to almost every full service airline in
the world today.

But for the LCCs, the late 2008 fuel price reduction was again
disproportionate, this time in their favour, slicing 25% and more off
their bottom line costs. Now become lean again, the opportunity
reignited for them to regain profitability even in the new frugal
consumer environment. The LCCs' ability to offer lower fares, yet
still be profitable, became a virtue where no-one was any longer
prepared to pay five, or even three, times the price for a short haul
journey. Not only was their cost structure made for the new
environment, LCCs could now extend their reach into core full
service airlines as newly cost conscious travellers began exploring
their options.
17
These contrasts of recent months pointedly illustrate the
importance of these very different cost/revenue models.

Premium passengers may not return

Within Europe travel on premium tickets declined even
more in June at a rate of 31.3%, compared with a 30.6%
decline in May and a 24.2% fall in the first quarter. Economy
travel on this market is moving is the opposite direction with
a moderation in the recent decline to 3% in June, after 4.9%
in May and a 7% decline in the first quarter. The
deterioration in premium travel is despite the better
economic news declared by Germany and France. There
are lags in any cyclical recovery but on this short/medium-
haul market this does suggest some further structural
decline in premium travel. Passengers who had previously
paid premium fares to travel on these markets and have
now moved to the back of the aircraft, or onto low fare
airlines, may not return, IATA, 19-Aug-2009.

Consequently, for the time being at least, the momentum is with
LCCs. That is unlikely to change, as business travellers irreversibly
trade down on short haul trips and as LCCs move into international
markets.

The current equation will at least endure long enough to reshape an
entire industry, FSC and LCC alike. When we emerge from this
economic downturn, the airline profile will be squarely redefined. It
may even evolve sufficiently to lay down a model which is overall
financially sustainable - but that remains far from certain.

1.3 Old airlines dying of sclerosis, new
entrants sprouting

So how indeed did we arrive in this parlous state of affairs, where
only a handful of airlines can be profitable?

Low cost carriers have been around in one form or another for a
long time. However, occasional attempts like Freddie Lakers trans-
Atlantic Skytrain and PEOPLExpress of the 1970s and 80s were
swept away by the seemingly relentless growth of national carriers
and international majors as the full service, network airline shaped
the aviation world in the second half of the 20th century, carrying
with it powerful connotations of a public utility operation.

In shaping the aviation world, todays legacy airlines also played a
significant part in shaping the geo-political world. They linked the
worlds capitals through their networks, alliances, and interlining,
drawing nations together. They tied exotic resort destinations to the
income and consumption centres of Europe, North America and Asia
Pacific. They enabled business people to move quickly between
producers and markets, fostering the globalisation of production,
services and consumption. Within North America and Europe, in
particular, increasing domestic and regional air networks
alongside a parallel explosion in communications brought together
disparate regions and broke down differences among cultures.

While they were helping to shape the world in this way, the airlines
themselves were operating at the high risk end of demand. They
got fat and unhealthy. They became major corporations, but made
only minor profits. Some government owned airlines operated for
decades without ever coming close to profitability.
18

Passenger numbers trended well ahead of GDP, but as markets
grew airlines were buffeted by edgy, price sensitive demand, and
constrained by regulatory limits on where they could go. A heavily
regulated environment, driven by safety, sovereignty and security
concerns and not a little nationalism was reflected in rigid
internal structures. Add to this the high capital costs of aircraft and
the high overheads associated with expansion, the complications of
developing secondary feed routes spokes to the airlines hub
and the expectations of a highly skilled - and unionised - labour
force across a complex array of disciplines, and the result was a
business model offering only indifferent returns and struggling to
remain viable by the end of the 20
th
century.

Over the past ten years airlines have become more exposed as
public ownership and protection became more difficult to justify and
sustain. And the prevailing business model has been buffeted
during the most volatile decade for the aviation industry since the
Second World War. A 50-year history of uneven but more or less
continuous growth was dislocated by unexpected and continuing
financial, security, health and fuel price shocks which collectively
shook conventional airline businesses to the core. It had become an
industry that was inherently fragile and, underneath, supported in
one way or another by a twisted framework of regulation.

As the supporting structure has been progressively (and unevenly)
removed, there have been fewer places to hide when events turned
hostile. The US domestic market has been fully deregulated since
the late 1970s, but the distortions of Chapter 11 bankruptcy laws,
allowing failed airlines protection from creditors, performed a
largely similar distortive and ultimately unhelpful regulatory role in
weakening that industry, too. Today, as a world airline force, the
US domestic market is apparently in irrevocable decline.

Meanwhile, in Europe, protectionism and government subsidy had
prevailed well into the 1990s. The internal market was turned on its
head in the latter half of that decade, as the European Commission
applied its powers to remove national entry restrictions. But it was
not until the current decade that the genre became significant.

Numerically, these two regions still dominate the global LCC market
as they do the full service sector although that supremacy is to
be challenged as the new decade rolls out. As Asias economies
surge and liberalisation spreads through the region, the balance will
rapidly shift.

But still, the awkward relationship between nationalism, regulation
and market demand persists. Consolidation is often suggested as
the essential progression but this is not just around the corner, no
matter how necessary it might be. So the hopes of a brighter
financial future may not be justified quite yet.

New entrants continue to be launched, despite challenging
economic environment

Chapter 2
LCCs account for all
global passenger growth
since 2001
20
2 LCCs account for all
global passenger growth
since 2001

Given the traditional dominance of a relatively small number of
international airlines and national flag carriers, the impact of new
entrants has been as surprising as it has been swift. The number of
seats flown worldwide in May 2009 was 298 million, up 18% from
234 million in 2001 (although it peaked at 307 million in May
2008)
1

.
On this count (seats flown), the capacity of network carriers
actually fell slightly over this period. Consequently, the overall
global capacity growth between 2001 and 2009 was entirely
attributable to LCCs.

This is the more remarkable because the changing of the guard has
occurred during perhaps the most powerful five years of economic
growth in recent history conditions which should have been
particularly favourable for those airlines which receive most of the
benefits of corporate well-being. When the current economic cycle
is done, the contrast will be even starker.

Between 2001 and 2009, LCCs grew from 7.7% of the total to 22%
(66 million seats) at compound annual growth rate of 16%.

Expansion of Worldwide Aviation Capacity (seats): May-2001 to
May-2009
0
50
100
150
200
250
300
350
2001 2002 2003 2004 2005 2006 2007 2008 2009
S
e
a
ts
(
M
illio
n
s
)
NetworkCarriers
Low CostCarriers

Source: OAG and Centre for Asia Pacific Aviation

The nature of LCC operation is typically point-to-point, short haul,
so that a comparable measure of available seat kilometres flown
(ASKs) weights this measure towards the long haul profiles of full
service carrier capacity. Nonetheless, this shift in emphasis is
remarkable for its rapidity.

Today, as we remain embedded in the worst global recession for
decades, the opportunity arises for the first time to test the two
models against prolonged adverse conditions. Temporarily high fuel
costs in mid-2008 nearly brought many low cost carriers to their
knees and did end the lives of some of the more marginal players
where they were unable to compensate for increased costs by
accessing higher yielding traffic.

1
OAG capacity data
21

But, since then, the current downturn has been perhaps most
notable for the destruction of premium traffic. One consequence is
that the low price end of the market becomes the battlefield.

Under these conditions, how far will aviation growth continue to
depend on LCCs. Can the LCC model as we know it continue to
deliver in turbulent times?

Throughout however, the number of people who travel globally has
grown, faithfully tracking a long term growth path from 1.47 billion
passengers in 1998 to 2.29 billion in 2008, according to ICAO
(although a 3.8% reduction is expected in 2009), despite
aberrations following September 11, 2001 and the SARS impact in
2003.

Worldwide passenger numbers (millions): 1998 to 2008

Source: Centre for Asia Pacific Aviation & ICAO

w
w
w
.
a
a
l
.
c
o
m
.
a
u
A tell
-
tail
sign of success
As the capital city of South Australia, Adelaide enjoys sandy beaches, parklands, cosmopolitan cafes
and some of the worlds best winemaking regions such as the Barossa Valley.
Adelaide Airport features modern multi-user integrated facilities and excellent weather
characteristics. Thats why weve been able to attract more domestic and
international airlines ying to more destinations than ever before.
We have available slots for international trafc to grow our network
of non-stop connections to major international hubs.
23
2.1 Two distinctive facets to growth

First, most of the growth has been on ai rlines that were
barel y heard of or did not exist ten years ago.

It has been the LCC sector that has given new life to an ageing
industry, providing for progress during a period of unprecedented
industry turbulence.

but at the expense of the incumbents?

An alternative interpretation is that the expansion of LCCs/new
entrants generally has diverted traffic from the incumbents. Some
would argue the extreme position that this is actually the main
source of business of the new breed. But there is clear evidence
that lower fares have stimulated additional traffic, especially in
developing markets. Low fares have not been the exclusive domain
of LCCs, but prices did dip sharply once they arrived in a market.

A 2006 study in the UK produced some relatively controversial
findings in this regard. In a report entitled No-frills carriers:
Revolution or Evolution?
2

the Civil Aviation Authority (CAA)
examined the impact that no-frills airlines had had on the airline
market, on passengers and on society more widely.
It concluded that no-frills airlines have revolutionised the short-
haul airline market, radically changing the fares on offer, and the
choice of airlines, airports and destinations available to
passengers. As a result, other airlines now ran their businesses
differently as a result of the advent of no-frills airlines.

But, less predictably, the report also concluded, contrary to
commonly held views that:

1. No-frills airlines appear to have had little impact on
overall rates of traffic growth; the average annual rate of
growth of short-haul traffic had been similar to that before
the arrival of no-frills airlines. In other words, most of the
no-frills airlines growth seems to have been at the
expense of other carriers; and
2. There had been little evidence of any marked change to
the income and socio-economic profile of air passengers.
Although the number of leisure passengers from all income
groups increased, the majority of this increase came from
middle and higher income and socio-economic groups.

2
UK Civil Aviation Authority, 15-Nov-2006.
24
Income profiles of UK business and leisure passengers (UK -
EU), departing from surveyed London airports (Heathrow,
Stansted, Gatwick and Luton): 1996 and 2005

Source: UK CAA, 2006

The report concerned only UK operations and arguably may reach
different conclusions if repeated today.

A feature critical to the CAA reports wider relevance - or not - for
other parts of the world is one very special feature of the European
aviation market: charters. This sector of the market, which
slipped under the radar of European restrictions on scheduled air
services, had for many years been carrying a third to a half of all air
travellers.

UK to EU and UK domestic traffic- combined growth 1976-2005
Source: UK CAA

But the report also noted the impact on business travel, where the
finding was somewhat different: There has been a more significant
impact on business passengers.

Parti cular benefits for SMEs

The report noted, they have a lower income profile overall now
than ten years ago. The availability of lower fares to and from more
destinations (and in particular the removal of fare restrictions) has
made trips on a range of airlines more viable for lower income
business passengers, particularly from the UK regions. This change
seems to be linked directly to the effect no-frills airlines have had
on the market.
25
The economic impact of these movements for regional development
must have been highly significant, not only in delivering tourists,
but in facilitating business links (two features which often go hand
in hand in international route development) although there does
not appear to have been any holistic study of this element.

There are also unaccounted benefits from an airport infrastructure
development aspect. Had these additional services operated into
the usual hubs, massive new development would have been
necessary. There will have been enormous, but hard to quantify,
financial (and environmental) savings through more effective use of
otherwise under-utilised regional airports, many of which were
previously disused military strips.

Overall, it is quite possible that the LCCs in fact reinvigorated a
mature market subject with declining rates of growth.

Secondl y, most of the expansion has been on new
routes and newer markets

Meanwhile, much of the global growth over this period, said the
CAA, had been on new routes and in developing nations. There was
a changing of the guard well under way.

Analysis of world air travel during the period 2000-2008
demonstrates that, while North Atlantic nations still dominate,
growth has been shifting the focus to Asia, first Northeast and then
Southeast Asia, and now China and India. The Middle East has also
become a major player, and Central and South America may be
expected to do so over the next decade.

Throughout the developing world, with the exception of China, the
LCC has been the catalyst for growth, particularly in domestic and
regional air travel.

Growth, relative to market size, will be modest in North America
and Europe. Even in these markets, it is likely to continue to
depend on the reshaping of airline operations by the sort of
innovation and fast footwork associated with LCCs.

And, whatever the case in 2006 in the UK, a growing body of global
evidence of substantial market stimulation by new LCC entry
accumulates.

LCCs catal ysing strong regional growth

Where the specific city pair data may get buried in gross data, there
are some remarkable growth figures for many regional airports
around the world many due solely to the entry of LCCs. More than
half of the 60 airports globally to have exhibited more than a
doubling of passenger numbers between 2004 and 2008 have the
130+ LCCs covered in this report to thank.

Ryanair is responsible for pushing eleven of these airports into the
global Top 60, while Wizz Air (3), Kingfisher (including the former
Deccan) (3), Blue Air (2) and Gol (2) have also pushed regional
airports in their home markets onto the list.

26
Worlds fastest growing airports (>500,000 pax) between 2004
and 2008 and dominant airlines by capacity share (seats)
Where LCCs are the dominant airline is denoted by bold font
Rank Airport Name Pax -
2004
Pax -
2008
%
growth
2008-
2004
Dominant Airline Capacity
Share of
Dominant
Airline
2 Istanbul, TR 245,601 4,355,717 1,673% Pegasus Airlines 70%
6 Belo Horizonte, BR 446,344 5,036,700 1,028% Gol 48%
9 Subang, MY 93,373 571,476 512% Firefly 94%
14 Wroclaw, PL 343,255 1,478,029 331% Ryanair 52%
15 Cluj, RO 177,862 759,555 327% Wizz Air 48%
16 Katowice, PL 622,612 2,417,754 288% Wizz Air 68%
19 Krakow, PL 813,461 2,923,961 259% Ryanair 31%
20 Riga, LV 1,063,341 3,690,549 247% Air Baltic 68%
22 Moscow, RU 2,489,803 7,923,834 218% Utair Aviation 41%
23 Sharjah, AE 1,661,941 5,280,445 218% Air Arabia 77%
26 Brno, CZ 171,888 506,174 194% Ryanair 36%
27 Zaragoza, ES 209,570 592,920 183% Ryanair 68%
28 Alexandria, EG 410,817 1,102,497 168% EgyptAir 27%
29 Astana, KZ 518,430 1,325,831 156% Air Astana 75%
30 Santander, ES 341,982 856,501 150% Ryanair 62%
31 Hyderabad, IN 2,641,737 6,541,133 148% Deccan/Kingfisher Red 21%
32 Granada, ES 571,081 1,406,869 146% Ryanair 33%
33 Ahmedabad, IN 1,212,871 2,958,669 144% Spicejet 24%
34 Newcastle, AU 459,572 1,110,607 142% Jetstar 65%
37 Eindhoven, NL 697,122 1,629,893 134% Ryanair 66%
38 Guwahati, IN 580,769 1,345,764 132% Deccan/Kingfisher Red 20%
40 Bangalore, IN 4,013,670 9,220,992 130% Deccan/Kingfisher Red 26%
41 Murcia, ES 839,496 1,879,090 124% Ryanair 40%
42 Cochin, IN 1,553,884 3,436,155 121% Jet Airways 15%
43 Bournemouth, GB 494,328 1,088,405 120% Ryanair 68%
44 Timisoara, RO 405,177 889,677 120% Carpatair 45%
45 Banda Aceh, ID 271,731 594,887 119% Lion Air 38%
51 Kiev, UA 3,168,769 6,664,949 110% Aerosvit Airlines 22%
52 Addis Ababa, ET 1,583,383 3,306,836 109% Ethiopian Airlines 78%
53 Amritsar, IN 305,479 636,487 108% Air India 21%
54 Calcutta, IN 3,443,891 7,143,838 107% Indigo Air 23%
55 Vilnius, LT 994,161 2,050,720 106% Air Baltic 31%
56 Cuiaba, BR 695,507 1,433,017 106% Gol 45%
59 Minsk, BY 504,346 1,010,695 100% Belavia 64%
60 Sofia, BG 1,614,326 3,230,696 100% Bulgaria Air 24%
Source: Centre for Asia Pacific Aviation & ACI

And in some very small markets there has often been extreme
percentage growth.

27
Worlds fastest growing airports (<500,000 pax) between 2004
and 2008 and dominant airlines by capacity share (seats)
Where LCCs are the dominant airline is denoted by bold font
Rank Airport Name Pax -
2004
Pax -
2008
%
growth
2008-
2004
Dominant Airline Capacity
Share of
Dominant
Airline
1 Arad, RO 1,778 142,951 7,940% Blue Air 100%
3 Targu Mures, RO 4,211 70,312 1,570% Wizz Air 46%
4 Pelotas, BR 679 9,021 1,229% NHT Linhas Aereas 50%
5 Southend, GB 3,673 47,488 1,193% n/a n/a
7 Eldoret, KE 13,613 98,021 620% Jetlink Express 56%
8 Taranto, IT 448 3,139 601% n/a n/a
13 Vinh City, VN 36,352 160,163 341% Vietnam Airlines 68%
10 Saint-Nazaire, FR 2,663 15,056 465% Airlinair 100%
11 Uruguaiana, BR 551 2,785 405% Nht Linhas Aereas 50%
12 Angouleme, FR 5,495 25,555 365% Ryanair 100%
17 Haiphong, VN 80,149 299,903 274% Vietnam Airlines 73%
18 Sibiu, RO 44,611 165,056 270% Blue Air 52%
21 Baia Mare, RO 6,741 22,264 230% Tarom 100%
24 Foggia, IT 9,331 29,502 216% Darwin Airlines 91%
25 Salamanca, ES 19,594 59,779 205% Iberia 100%
35 Maribor, SI 7,083 17,096 141% n/a n/a
36 Nador, MA 89,287 215,045 141% Royal Air Maroc 43%
39 Grenoble, FR 204,068 469,777 130% n/a n/a
46 Fez, MA 188,851 409,271 117% Ryanair 51%
47 Rabat, MA 155,857 334,664 115% Air France 44%
48 Ostend, BE 81,340 173,068 113% Jetairfly 100%
49 Karlovy Vary, CZ 36,327 77,283 113% Czech Airlines 70%
50 Ndola, ZM 80,259 169,793 112% South African Airways 40%
Source: Centre for Asia Pacific Aviation & ACI

These are only the airports where rates have exceeded 100%.

But headline statistics too often do not fully illustrate the impact of
new entry. For example, for Asia Pacifics AirAsia, nearly half of the
city pair routes the LCC operates today did not even have direct
service prior to the carrier's entry. This is commonly the case in
global markets, as new entrants seek to address untapped
opportunities.

Inevitably there has been some displacement of full service airlines,
at least in proportional shares, on larger city pairs and airports, but
low fare responses by those airlines have also contributed to growth
where there is head to head competition.

Chapter 3
(Not) Defning the
Low Cost Carrier
29
3 (Not) Defining the Low
Cost Carrier

3.1 Proliferation and diversification

The proliferation of LCCs has been the key structural change in
aviation over the past ten years. The LCC model has been favoured
for airline start-ups, with around 130 new LCCs established and
some 90 surviving since 2000.

Given another 36 that existed before 2000 although not
necessarily initially in the form of LCCs we can identify 126
operating airlines in early 2009 that feature at least several of the
key characteristics identified in the classic model:

High seating density;
High aircraft utilisation;
Single aircraft type;
Low fares, including very low promotional fares;
Predominant usage of internet-based booking;
Single class configuration;
Point-to-point services;
No (free) frills;
Predominantly short- to medium-haul route structures
Frequent use of second tier airports;
Rapid turnaround time at airports.

While some airlines remain pure, the classic model has
increasingly been eroded, and the lines between low cost carriers
and large network and regional carriers blurred as a result.

The strategy and business model of the purist version is best
described by the Tiger Airways description on its website:

Core Business Strategy
Tiger Airways, a true low fare airline, operates on three customer-
focused core strategies:

Market stimulation - creating opportunities for new travellers
and empowering budget-conscious people to fly more often
by making travel affordable with its consistently low fares;
Stringent cost controls through our operations so that we
can keep our fares consistently low for travellers;
Capacity utilisation - maximising the number of sectors
served by our aircraft per day with efficient air traffic
planning.

The Proven Business Model
The Tiger Airways business model is based on Europe's successful
Ryanair, which uses its very low cost base to offer competitively low
fares on a consistent basis. It also involves scrutinising every single
aspect of the business to remove non-essential costs but not cutting
any corners in passenger safety, security and punctuality.
This includes:

Online Internet sales to help keep sales and distribution
costs low. 95% of flights are booked directly at
www.tigerairways.com
Ticketless travel to save on print and distribution of paper
tickets
Removing frills so passengers only pay for what they want.
30
Excess luggage, meals and entertainment onboard flights
are all available at affordable prices should passengers
want them
New aircraft provides new technology with greater fuel
efficiency and less maintenance, plus passengers enjoy a
more comfortable ride
Operating at budget terminals and secondary airports to
reduce operating costs
Short aircraft turn-around to keep ground time low and flying
time high. This means more seats can be sold on more
flights for passengers to enjoy more cheap fares
Outsourcing aircraft maintenance to reputable companies
such as Singapore Airlines Engineering Company to ensure
high safety standards are achieved at competitive rates

There is continuing convergence with the operating profile of
network airlines, as they adopt innovations introduced by LCCs, and
of LCCs varying the business model to meet local circumstances, to
pursue higher yields, and in response to increasing low cost
competition. This applies to the majority of airlines. Today there are
in reality few carriers which would qualify as low cost airlines on the
principles of a decade ago.

As noted in Chapter 1, apart from Ryanair, only the Indigo Partners
stable of airlines Tiger, Mandala, Spirit, Wizz Air and Avianova
AirAsia, AirArabia and Indias Indigo, GoAir and SpiceJet and
Allegiant in the US can be described as ultra-low cost.

31
3.2 Attributes common to low fare airlines and
low cost carriers

To avoid unhelpful pedantic explorations, this report does not
attempt a definitive description of the term low cost carrier; so
many varieties of airline have emerged since the beginning of this
century, many of them still evolving, that the exercise becomes
fruitless. Meanwhile full service airlines have remodelled to
incorporate some, or even much of the character of their low cost
competitors.

This lack of definition will necessarily leave some of our statistics
and comparisons open to different interpretations and even to
challenges. But the purpose of the report is instead to provide a
reference point in history for the evolution of a movement not
merely one type of airline that has changed the aviation world
irreversibly.

Nonetheless, there are certain characteristics that are self-defining,
most particularly that the airline offers low fares, with no or limited
frills and, of course, operates off a low cost base. These include the
following, some or all of which relate to most so-called LCCs.

Attributes common to low fare airlines and low cost carriers
Attribute Benefits Downside Importance
Strategy
Short haul, point-to-point services
Minimum on-board service;
Build passenger volume through higher
frequencies;
Rapid turnaround improves aircraft
utilisation
Operating costs spread
over shorter distances
High
Underserved airports close to large
population centres
Provides access to substantial under-
served markets;
Avoids congestion, better access to slots;
Minimises direct competition; and
Lower user costs, including landing fees
Longer ground transport;
Limited airport facilities
Reduced connectivity
with other services
High
Target mature, high fare markets,
greater degrees of business travel
elasticity
New passenger take-up of low fares;
Tap into regular business travellers
seeking lower fares (short-haul)
Market may be less price
sensitive;
Limited corporate travel
accounts
High
Operate in liberal regulatory
environment
Limited or no restrictions on entry,
development of services
Open to entry of other
low fare competitors
High
Technology friendly markets with
right demographics
Internet reduces distribution costs;
Younger age groups receptive
Internet users tend to
shop around
Medium
Operate in homogenous cultural
and economic environment
Enhances marketing, customer
acceptance of LCA product
Limits potential market Medium
Strict adherence to business plan
Ensure consistency, limit risks; and
Avoids ad hoc costs and confusing the
market
Could slow response to
change operating
environment
High
Neutral geographic (non-flag)
branding
Consumer (and government) acceptance
of unconfined operational potential
Allows development of global brand
which is at home in any market
No flag carrier
protection
Medium
Service Structure
Differentiated product (alternate
airports, city-pairs)
Limits direct competition;
Marketing benefits in new markets
Higher risk in targeting
untested airports, routes
High
Uncomplicated yield
management/low fare structure,
one way fare pricing, 50% below
standard economy rates, with few
conditions
Highly competitive, transparent pricing
framework;
Facilitates marketing;
Streamlined passenger loading (first come,
first served)
Minimises ability to
manage;
Full service competitors
can match rates (although
limited availability )
High
No frills services
Lower operating costs, quicker aircraft
turnaround
Advantages full service
providers;
Limits to business market
Medium
Highly-motivated airline culture
Assists in differentiating product;
Enhances customer acceptance;
Reduces industrial disputes
Difficult to sustain over
long period
High
High seat density Maximises revenue per flight
Disincentive to
passengers
Medium
32
Attribute Benefits Downside Importance
Operations
Single aircraft and engine type
Reduces maintenance, training &
inventory costs;
Increases employee familiarity with
aircraft
Limits range of services
and routes
High
Operational efficiency (operating
on time, baggage handling, aircraft
utilisation)
Minimises operating overheads;
Reinforces brand image; and
Encourages repeat travellers
High customer
expectations;
Vulnerable to airport
operational problems
High
Outsource non-core activities
(maintenance, ground handling,
catering)
Reduces employee and infrastructure
costs;
Provides for more efficient support
services; and
Allows for innovative third party
arrangements
No direct quality controls;
May be less reliable,
depends on third party
availability
Medium
Productivity-based labour
agreements (preferably with non
unionised workforce)
Lowers key component of unit cost;
Enhances utilisation of aircraft and other
assets;
Limits wage increases (trade off stock
options)
Staff may transfer to
better-paid airlines
High
Internet-based distribution,
website and direct sales centres
Lowers cost-of-sale substantially, avoids
travel agency commissions
Limited/no access to
travel agency retail
networks
High
Ticketless booking systems, cash
or credit card payments only
Reduces distributions costs;
Improves revenue capture
High
Independent reservation and yield
management systems
Avoids GDS fees; and
Greater confidentiality
No access to global
markets offered by GDS
Medium
No alliances or (traditional)
interlining
Benefits on-time performance;
Full brand integrity, no dilution; and
No alliance-associated costs or
obligations
Elimination of indirect
revenue source and feeder
traffic
Medium
Financial
Maintain strong balance sheet
(tight control of capital costs,
minimal debt)
Enhances cash flow, allows capacity
growth;
Attractive to equity markets; , lower cost
of debt;
Lower exposure to market downturn
May limit capital
expenditure and
expansion plans
High
Advantageous aircraft purchase
arrangements
Reduces capital costs, pressure on cash
flow; and
Strengthens balance sheet
High
Introduce profit sharing, employee
share scheme
Provides incentives for work
improvement;
Minimises industrial disputes; and
Provides vehicle for wage increase trade-
offs
Dilutes earnings,
increases influence of
employees in
management issues
High
Source: Centre for Asia Pacific Aviation (2002)

Some aspects of Southwests business strategy were less obvious to
many of the airlines imitators. As we observed in 2002, A key to
Southwests success is its dominance on services into and out of
Dallas Love and Houston Hobby airfields, within Texas, and between
Texas and neighbouring states. Southwest serves 37 cities non-stop
from Love and Hobby, which account for 274 daily departures. In
2001, it held 73% of the intra-Texas market, 59% of California and
52% of Florida's.

The substantial profit from these operations has enabled it to
sustain losses while establishing viable new markets elsewhere. By
cross-subsidising from its highly profitable routes in this way,
Southwest is able to achieve its objective of dominating the market
involved.

It is notable that, as the competition has grown, more and more
LCCs go head to head, and as full service airlines challenge pricing
advantages, Southwest has been forced to modify its behaviour.
Most recently, this has extended to attempts to buy a bankrupt
Frontier Airlines, moves to establish international operations, and
the more extensive use of major airports, along with head to head
confrontation with major full service carriers.
33
Living the cost creed

Some or all of the ingredients outlined above are essential for a low
cost operation. But there is another one that is not optional. The
productivity edge that has so completely propelled LCCs to the
leading edge of aviation is also built on other, intangible differences
between the two types of carrier; these in many ways define the
difference even more sharply than they did in 2002. In particular,
the true low cost leadership displays is unswerving faith a
ruthless dedication to cost cutting and cost management.

This seems a simple enough equation, but it is much harder for the
typical full service airline to imitate. Old habits demonstrably die
hard in aviation; and it is difficult for established airline
management to shift entrenched attitudes and behaviour. It is a
tall order to get staff excited about reducing costs, especially when
it can reduce their own well-being. As one financial markets high-
flyer who briefly worked with a client LCC said on leaving, I got
tired of washing my own socks on staff travel. But it is that
attention to detail which is essential to a truly low cost mentality.

and getting CEOs hands dirty

An often undervalued distinguishing feature of LCCs is the hands-on
nature of many CEOs and senior managers, a tangible
demonstration of the creed.

Very few full service airline leaders:

Have regular contact with their customers;
Are in touch with day to day decisions on detail issues; or
Know and communicate effectively with their staff at all
levels.

By the time the legacy CEO arrives in position, the company may
have existed for 70 years. Even where restructuring has occurred,
there will generally be many layers of management and a massive
inertial force which dictates the way things are done. Breaking this
chain is difficult, often impossible, without first breaking up the
airline. In any case, many incoming legacy CEOs have evolved
within this mindset or in other big business, and are comfortable
with and part of their workings.

The B-S Factor

It is not a coincidence that many successful LCCs are start-ups
fashioned by often iconic entrepreneurs and investors. Of all the
icons of the low cost industry, Southwests Herb Kelleher has to be
the granddaddy; always vocal and often pungent, a leader from the
front, willing and eager to party with his staff. One competitor said
in the 1990s: That place runs on Herb Kelleher's bullshit.
3

As we observed in our 2002 report, No small part of this strategy
and probably the real key to Southwest's longevity, has been "the
B-S Factor. To avoid the corporate calcification (and therefore
increase in cost) which afflicts any airline company after a few
years, some special ingredient is essential. Rarely identified
formally, but arguably the key distinguishing factor which has
preserved the airline, based around cost integrity, niche hub
dominance and strategic excellence. There is speculation whether
the "BS Factor" can survive Herb Kellehers departure.
4

3
per Robert W. Baker, VP American Airlines

4
Herb Kelleher in fact timed his run well; the US market today is a very
different place for an LCC than it was a decade ago.
34

Only by establishing and maintaining managements closeness to
the ground can there be real awareness of the value to the model of
every cent spent - hence one prominent LCC CEO directed his staff
to collect free pens from stands at conferences they attended (and,
of course, also did it himself), saving a few cents but reinforcing a
message worth millions.

Most good LCC CEOs will be across every detail of the business,
constantly looking for efficiencies, as well as being the active
mouthpiece for the airline. This can of course create a decision
bottleneck as the company grows, one of the many issues to
confront with maturity.

Full service carri ers: a painful outlook

The Director General and CEO of IATA at the Annual General
Meeting in June 2009 painted a gloomy picture. On top of an
estimated USD10.4 billion lost by the industry in 2008 (despite a
small operating profit), Giovanni Bisignani anticipated USD80 billion
in revenue will disappear in 2009 as a result of falling demand,
collapsing yields, broken consumer confidence, and pandemic
fears.

This will lead to another USD9 billion in airline losses (a figure
which is looking more and more conservative as time passes).
While there is talk that the end or at least the end of the decline -
is in sight, Mr Bisignani himself is less optimistic. He suggests a
flattening may be the best the airlines can hope for in the
foreseeable future, and called for dramatic action by airlines,
suppliers, airports and governments to ensure the survival of the
sector.

IATA figures suggest that RPKs were flat in 2008 and the
Association forecasts a 4% reduction in international traffic in 2009
(according to its Sep-2009 forecast). Year-to-date figures for July
2009 suggest that even this may be optimistic, with RPKs down by
6.8% globally (year-on-year). Only the Middle East was still in
positive territory, with 8.2% growth. The way down was led by
Asia/Pacific (-11.3%). Big holes were also evident in North America
(-8%) and Europe (-6.9%). Capacity still lags, with ASKs down
3.8% globally, 7.9% in Asia/Pacific, -5.2% in North America, and
4.6% in Europe. Despite capacity adjustment by airlines, load
factors are falling faster.

Without underplaying the severity of the current contraction and
the crisis facing aviation globally, this prognosis omits the role of
LCCs, an omission that reflects a massive divide between the longer
established member companies of IATA and the relative newcomer
LCCs. Without exception, the latter are still not represented in the
Association. Although a handful of IATA members have their own
LCC subsidiaries (almost exclusively in Asia Pacific), none belongs
to IATA.

The divide was starkly illustrated at the IATA Kuala Lumpur 2009
AGM. Although AirAsia is the largest and most successful LCC in
southeast Asia and looks likely to become the regions biggest
airline of any kind (seat numbers) by 2014, its existence was not
even acknowledged by the Malaysian Transport Minister in his
keynote address. Nor was the airline mentioned in two days of
meetings even though it was the elephant in that particular room.
The only LCC directly represented was JetBlue, partly owned by
Lufthansa, attending as invited speaker.

35
The Seeds of Revolution

IATA membership is open to all international airlines, no matter
what their description, so the decision not to join is with the more
fiercely independent LCCs. Their only formal organisation (which
does restrict airline types, nominally at least) is the European Low
Fare Airline Association.

One reason for LCCs not participating is that the international scope
of IATA airlines has been a major factor in their association. Once
an airline flies through many different regulatory regimes, the
nature of its operation is affected a reason presumably why US
LCCs have been reluctant to spread their wings. As soon as other
regulatory bodies are involved, from safety, through economic
regulation and others such as consumer practices, complexity
abounds.

Here, cooperation becomes vastly more valuable. Lobbying
governments and generally promoting standardisation of practices
become much more accountable to the bottom line. If so, it does
suggest possible changes in attitude to associations, as long haul
low cost operations expand. But that is not imminent.

Another way of viewing this division between flag carriers and the
geographically-unlimited LCCs - could almost be the de facto
definition between what is a low cost airline and what is not. There
is after all no reason why LCCs cannot join IATA.

Troublesome Teenagers

As recently as 15 years ago, almost none of todays low cost/low
fare sector existed. 80% of the 125 currently active LCCs that we
have identified were established during that period (not counting
existing airlines that have made the transition). Some 54% have
been established in the last five years and 20% in the last two
years. By contrast, many of the IATA airlines started flying over half
a century ago. Most, outside the US, were originally government
owned and some still are.

If for no other reason, this age factor suggests that the industry
was well and truly ripe for revolution by the 1990s. That the
revolution did not occur earlier is because in most cases it was
inhibited by regulations preventing entry, although that does not
fully explain why the changing of the guard took so long in the US
domestic market, deregulated in 1978. As noted earlier, even the
beacon of Southwest Airlines was, apart from the occasional failed
attempt, mostly ignored inside the US prior to the collapse of yields
following the tech bubble burst in 2000.

At the same time, the persistence of legacy airlines alongside the
LCC revolution is also attributable, in part, to strong public support,
most often by regulatory attempts to provide cover from the
vicissitudes of the market and sometimes through direct subsidy. It
is also attributable to the continuing functional value of network
airlines, operating in a functional space which LCCs are only just
beginning to explore, not yet with obvious success.

Until a robust, low cost international, interlining network model is
developed, these dual tracks may persist. But, given the speed of
evolution of the LCC business model and the volatility of the current
market, there is every chance that these might converge sooner
rather than later. As we shall discuss below, the long haul-low cost
model now being establishing relies keenly on networking, albeit in
a very different operational form.

Mirah Bradt Graphic Design
Unlocking Partnerships for Change
Air Trafc & Navigation Services Company South Africa
www.atns.com
ATNS is responsible for Air Trafc Control in approximately
10% of the worlds airspace
ATNS offers training of licensed ATCs and Engineering Staff
at our Aviation Training Academy
37
LCCs now fly into the unknown

Outside the US, the LCCs proliferation reflected the convergence of
emerging markets, accessible capital and liberalisation. But
established LCCs today are facing a much more challenging
environment.

The rules under which they have prospered this century may have
changed. How they cope with the new reality, the reality of
conservative travellers, conservative governments, and
conservative capital, will determine whether LCCs continue to
deliver and whether they will provide a platform from which a new
round of growth will be forthcoming.

At least some of the leading LCCs are, if not prospering, certainly
faring better than their legacy ancestors at this time. AirTran, a
major US LCC, announced in June this year that it was anticipating
one of the best years in (its) history and is still expanding, while
its legacy competitors are busily contracting in order to stem losses.
The basic LCC model is one which should prosper in lean times. The
next couple of years will severely test that hypothesis. Perhaps
even more importantly, it will spotlight the varying features within
the low cost sector that will allow some to be more successful than
others.

Network sheep in wolfs clothing

Some network or full service airlines have sought to transform
themselves into LCCs, rarely with success. Others have created low
cost subsidiary services, most successful when they target
secondary routes where the parent has come under pressure or can
avoid eroding its own primary routes.

Some legacy airlines have segmented their operations under the
same brand, offering varying seating and inflight products
depending on route and customer profile. Regional operators have
also begun to emphasise point-to-point operations and promote
low, single fare, single class advantages, enabling them to replicate
their services outside their home base.

In other cases, traditional charter airlines have developed
individually ticketed low cost scheduled services to support a
diversifying leisure travel base as the cost advantages of the
charter model have been nullified by LCCs.

Consequently, it is difficult today to draw a clear boundary around
LCCs. Even if a line could be drawn, it would be permeable, as
conventional airlines simplify and streamline services and as LCCs
introduce service enhancements and operate increasingly to hub
airports and on major routes.

But the starting point is generally that LCCs target low costs and
then seek a profit margin; full service airlines typically target higher
yielding traffic and seek to restrain costs to maintain a margin. So
the point of confluence is somewhere in the spectrum where airlines
target higher yields, but maintain a brutal cost culture.

Transparency replaces opacity

Full service carriers sought to tailor fares to charge as much as
possible; this meant fare conditions, such as Saturday night
special discounts, requiring an overnight stay on a Saturday, to
prevent business travellers being able to use the reduced fare, sales
of roundtrip fares that cost less than twice the one way fare; and
business class fares priced at considerably more than the additional
cost to the airline. The arrival of new low cost entrants into the
market introduced a simplified approach; but, in any event, the
proliferation of new airlines anxious to garner market share made it
impossible to maintain artificial barriers to cheaper pricing.
38
One-way prices, especially when published on the internet, brought
a whole new transparency to an area where opacity had been a key
strategy.

While LCCs will continue to exhibit some of the characteristics of
our classical model in the table above, the best way to distinguish
them may simply lie in their relative cost of operation.

We are pretty happy with our current cost structure. On a
long-term basis where we would like our cost structure to be
is kind of between the ultra-low cost carriers and the legacy
carriers. I would say that our cost structure will tend to
remain approximately where its at and position
approximately where its at relative to our competitors,
Dave Barger, CEO, J etBlue, 22-Oct-2009.

To illustrate, just four or perhaps five of the 15 scheduled airlines
reported by the US Bureau of Transportation Statistics stand out as
low cost operators in the US: Southwest, AirTran, JetBlue and Sprit,
with Frontier managing to trim its costs to around USD150 per
passenger (this does not adjust for relative segment length).
Interestingly, nominal costs have gone up for all LCCs other than
Frontier, while they have come down for several network carriers.

In the quarter ended 30-Sep-2009, Allegiant had the lowest unit
costs of the major US carriers, followed by AirTran and JetBlue.

Select US carriers unit cost per ASM (left axis) and % change
year-on-year (right axis): 3Q2009

Source: Centre for Asia Pacific Aviation & JetBlue
NB American Airlines cost per ASMs excluding regional affiliates

Allegiant also managed to reduce its unit costs excluding fuel in the
three months to 30-Sep2009, unlike AirTran, JetBlue and
Southwest.

39
Select US carriers unit cost per ASM excluding fuel (left axis)
and % change year-on-year (right axis): 3Q2009

Source: Centre for Asia Pacific Aviation & JetBlue
NB American Airlines cost per ASMs excluding regional affiliates

While low fares, limited frills, point-to-point services, the use of
secondary airports, and limited airport dwell time may all point to a
low cost service, the survivors and drivers in the sector will be
those that can deliver on some or all of these characteristics and
keep their costs low. The former does not necessarily guarantee
the latter.

As the sector matures globally, especially in the United Kingdom
and Western Europe, LCCs have consolidated market share and
have increasingly begun to compete among themselves.
5

LCC capacity share in France, Germany, Spain & the UK. Each
with their own story to tell

Airline deregulation covers a range of controls: bilateral and
multilateral access between countries, including the availability of
airport slots at key hubs; cross-border investment and ownership;
safety and security; and, increasingly, environmental issues.

As rules regulating an industry change, new entrants are often
better placed than incumbents to take advantage of them, a factor
which has undoubtedly played a part in assisting the rapid growth
of the low cost airline sector. An absence of corporate and political
baggage has typically given these new airlines a sharp edge over
their slower moving incumbent competition the more so where
there is some semblance of protection from abuse of market power
by the existing airlines.

But liberalisation i s lumpy and not a steady path

The most obvious impact of LCCs has been the proliferation of new
routes between under-serviced centres of population and their
over-capacity airports, a point highlighted by the UK CAA study on
European travel noted earlier. Similar effects have evidenced LCC
expansion (and legacy airline responses) in North America, Asia and
the Pacific As we noted, this has delivered extensive economic
benefits to the origin and destinations involved.

5
See, for example, Pitfield D E (2008) Some insights into competition
between low-cost airlines Research in Transportation Economics,24, 5-14)
40
Economic liberalisation has been the main catalyst for low cost
entry, be it international or domestic. Successful entry has been
made easier by newcomers taking up new market opportunities
away from the shadow of existing operators and growing those
opportunities.

As they have succeeded, the pressure has grown for rationalisation
of the struggling incumbents. Here little has changed in the
regulatory environment, with commercial regulation still heavily
protective. In retrospect, this protectionism is, paradoxically
probably the single most important reason why the legacy airlines
so often find themselves today ill-equipped to compete in an
increasingly more liberal market environment. It allowed them to
become unwieldy and insufficiently bottom-line driven. Much of that
protection centres on airline ownership.

National and bilateral restrictions on ownership and control are the
leading edge of the obstacles to rationalisation through merger and
cooperation. Unravelling the complex network of regulation created
by a combination of multilateral, bilateral and national rules is a
massively difficult task.

But it is not one that is insoluble, given the will. The problem is
that, behind that leading edge are lingering and pervasive national
prejudices, driven by a mixture of brute nationalism, supported by
entrenched interests, where unions play a very significant part, not
the least pilots unions. However, the nature of the airline industry
as we shall discuss later carries many aspects of a public utility
and, as a result, does bring with it a number of nationally valuable
benefits.

Despite some progress, competition rules that still focus on national
rather than international markets continue to frustrate the
prospects for rationalisation among carriers. Even as access rules
are relaxed, competition rules can play an important part in limiting
what changes might take place. One potentially paradoxical
outcome is that this stance leaves airlines poorly positioned to cope
with the changes brought about by liberalisation in place,
hidebound by constraints on their ability to access international
equity, while it limits the opportunities for innovators and new
investment.

It might be expected that, in adverse circumstances such as
todays, rationalisation would be encouraged. In fact, if anything,
the reverse is true. It is undoubtedly difficult for management to
divert large resources towards negotiating a merger when there is
much to be done to stay in the game. This followed a brief but
passionate affair between British Airways and Qantas, which was
apparently relatively close to fruition, at airline level at least.

But even at the government level there has been little
encouragement. Airlines as diverse as Japan Airlines and Air Canada
are being heavily propped up by government support, with corollary
protectionist policies re-emerging.

Air Canada bailout buys time - but Canada Inc sells out to forces
of protectionism

Japan Airlines and the future of global aviation. Japanese
Government holds the aces

41
And, in early 2009, the Irish Cabinet disallowed Ryanairs offer to
purchase the governments 25% stake in ailing Aer Lingus which
would have given the company outright control.

Not all countries are the same. But in the US, similar protectionist
forces have been given voice by prominent opponents of a
proposed operating alliance between American Airlines and British
Airways, Iberia, with an threatened intrusion into the basis of global
alliances themselves sometimes described as poor mans merger.
If even that is objectionable, the shining example of Air France-KLM
as a successful merger model may remain a durable exception to
the rule, rather than a model which can be imitated. Even where
nationalism can be defeated, competition and anti-trust laws
challenge rationalisation. The EU Commission had previously ruled
out a Ryanair-Aer Lingus merger on competition grounds. Similarly,
competition authorities disallowed any merging of interests between
Qantas and Air New Zealand, leaving the latter, in particular,
vulnerable to competition both from LCCs and at risk from any
downturn in markets.

The International Evolution: LCCs crossing borders

However, when it comes to independent low cost airlines, attitudes
are often subtly different. Unfettered by the responsibility of
carrying the national flag, LCCs find it much easier simply to get on
with the business of carrying passengers.

Thus easyJet in Europe had little difficulty in 1998 in establishing
easyJet Switzerland by buying 40% of swiss charter carrier TEA
Basel. Switzerland remains outside, even if surrounded by, the EU
and therefore is fully international for aviation purposes.

And AirAsia has been able to set up cross-border joint ventures in
Thailand and Indonesia, which operate under the AirAsia brand,
although with 51% local ownership in those countries to conform
formally with the substantial ownership provisions of bilateral
agreements.
6

Moreover the Thai AirAsia entity has had no trouble gaining access
(to fly) to markets such as the relatively conservative China. If it
were branded as a Malaysian airline, it is unlikely that any of the
governments involved would have been prepared to look the other
way. The liberalisation has even been extended to Qantas
subsidiary, Jetstar, which is now established as a joint venture
owner in both Singapore and Vietnam something that neither of
those countries would be likely to permit if it were the parent airline
seeking to base there.

Only when coming up against the less liberal forces at play in South
Korea have these tentative steps towards rationalisation of market
access been rebuffed. An attempt by Singapore LCC, Tiger Airways,
to set up a joint venture with local interests there was actively
fought off by local vested interests. But even in North Asia things
are changing.

6
Air Asia commenced operations by subsidiary Thai AirAsia from Bangkok in
2004. AirAsia also acquired a 49% % stake in Indonesian airline Awair,
rebranded as Indonesia AirAsia in December 2005, based in Jakarta.
Subsequently, in 2007, long-haul LCC affiliate AirAsia X was established in
association with Virgin Group, Bahraini, Japanese and local Malaysian
investors. Co-based in Kuala Lumpur International Airport with AirAsia,
AirAsia X operates to Australia, the UK and China and recently announced
plans to establish a hub in the Middle East out of which it could serve North
Africa and southern Europe. At the same time, British-based Virgin Group has
been expanding its presence in the Pacific. British-based Virgin established
Virgin Blue in Australia 2000, which in turn established subsidiary Pacific Blue
in New Zealand (2003) and Polynesian Blue in partnership with the Samoan
government (2005).
42
Non-Economic Regul ati on: Safety, Security and the
Environment

While changes in border conditions and commercial settings, halting
as they may be, are the keys to reshaping aviation, this is not the
end of the story of deregulation. Safety remains the regulatory
bottom line, with security today sitting alongside it, while
environmental health is assuming a bigger role in the regulatory
mix.

Safety is at the heart of aviation regulation. The Chicago
Convention established principles largely to ensure that there would
be adequate national oversight of safety, a matter which had
dogged the industry before the Second World War.

While this makes it easy for governments to use safety concerns as
an excuse for restrictive economic regulation, safety will always be
a core element, both as a matter of public policy and as a practical
commercial business strategy: airlines with bad safety records lose
customers and are - sooner or later grounded.

The dramatic expansion of Indonesian LCCs since 1998 showed a
passenger traffic increase of some 700%, a rise which could not but
challenge safety regulatory oversight regimes. This led to inevitable
safety lapses and several bad accidents, with one major LCC, Adam
Air grounded permanently as a result, and provoked the EU
Commission to blacklist all Indonesian airlines
7

.
This is not an issue only for LCCs. In the 1990s, Korean Air was
punished by its own government over its then poor record, by
restricting its grant of new international access. And the US Federal
Aviation Administration has a safety categorisation (of regulatory
oversight procedures) which can lead to restrictions on the
countrys airline operations into the US.

Sometimes rebranding will help redress public perceptions, as with
Valujets transtion to AirTran, but only when accompanied by a
reconstitution of the companys safety structure.

(i) Safety is the best policy

For new entrant LCC operators safety has in many ways been far
more important than for the legacy airlines even where some of
the longer established carriers have unenviable records. LCCs
simply could not afford to have accidents. When the first new
entrants appeared, the model often involved older aircraft and the
incumbents were quick to point out and hint at, safety concerns
with the upstarts.

As the model evolved often involving an intervening IPO to raise
cash LCCs have generally employed new aircraft, so that the
average fleet age is now often much lower than that of their more
venerable competitors. And there are no data to suggest that the
low cost model is in any way less or more - safe than any other
8

.
The industry overall is far safer than it has ever been, partly thanks
to actions by the FAA, the EU, IATA and ICAO, with their respective
safety audit procedures, but also thanks to remarkable advances in
aircraft technology.

7
Blacklisting related to the EUs perceived inadequacy of Indonesias
regulatory oversight rather than specific safety issues with the respective
airlines
8
Although it should be noted that IATA airlines have in recent years had a
lower accident rate overall than non-IATA airlines. But this mainly reflects the
accident rates of some of the smaller, non-IATA legacy airlines, not the LCC
sector.
43
It would be wrong however to assume that safety is no longer an
issue. But, as noted, the problem is now more at government
regulatory level than with the airlines themselves (although there is
an obvious link), especially for emerging nations which are
experiencing rapid rates of aviation growth.

Much of the cause of recent international intervention, over and
above the responsibility imposed by each nations adherence to the
terms of the Chicago Convention, has as in Indonesia - been the
changes in the industry brought about by deregulation and, in
effect, by new entry by low cost airlines. In the past it was common
to have a concentrated national system, with perhaps a single,
government-owned national airline operating both domestic and
international routes. This meant it was easy to rely on the flag
carriers own high safety standards. And a stable, low growth,
industry generally fostered a government regulator which was
skilled, experienced and diligent.

With the relatively sudden increase in participants in the industry,
market fragmentation has placed strains on this equilibrium.
Incumbents unavoidably lowered safety budgets as competition
grew, industry churn meant that corporate safety memories were
diluted and skills within government itself were often lured out to
work with the new operators.

All this has occurred at the same time as government spending
priorities have refocused on domestic social needs. So, just as it
became vital to increase public expenditures on aviation
infrastructure, the reverse often occurred, leading to a shortfall not
only in skills but also, for example, in air navigation facilities and an
increasingly worrying shortage of experienced air traffic controllers.
The result has been a growing concern at ICAO level and among
large regulatory authorities. The European Commission has resorted
to publication of a blacklist of airlines not permitted to fly into EU
airspace. The US FAA vets foreign regulatory authorities and may
assesses them at varying safety levels, with the result in some
cases of prohibiting the nations airline services to the US. ICAO
itself has a less intrusive, carrot approach to supporting national
regulatory improvements; and IATA has an airline-level audit
procedure which each of its members must pass.

In effect, while national safety oversight has failed to adjust to the
new environment, the response has been a shift towards
internationalisation. A dedicated band of safety specialists across
the world including independent bodies like the International
Safety Foundation - is working to rectify the shortcomings. The
concern is real. But it is not about LCCs, it is about adapting to a
new world order, one that promises global standards and oversight
be driven out of the heartlands of commercial aviation. The
prospect is that safety regulation will become more focused on
safety and less distracted by issues of sovereignty and national
resistance to industry changes.

(ii) Security has become a whole new focus for regulation in
the current decade.

Security regulation is achieved through enhanced facilitation
operating procedures and inter-agency communication (including
airports and airlines) rather than through restrictions on flights.
Indeed, by driving more open communications and forcing more
systematic and ultimately efficient airport procedures, security
management may just increase the ease with which new entrants
can access facilitation systems.

44
After a massive jolt in global airport and airline security procedures
following September 11, 2001, passengers, airlines, airports and
governments alike have now become more accustomed to the
constraints and inconvenience not to mention the massive cost
of security provisions. There is growing standardisation of
procedures, but in some cases, over-zealous agencies or inter-
agency rivalry may act against efficiency gains. The US is a case in
point, where the Transportation Security Administrations (TSA)
intrusive and heavy-handed performance does little to help efficient
airline operations (nor, some would argue, to improve security).

Security procedures can be more harmful to LCC operations, which
are much more reliant on speedy turnaround and are more
sensitive to additional costs, and where no cost recovery is
possible. But in general, the situation is now stabilising and
becoming impact-neutral.

The new preoccupation with national security, including security
from health threats
9

, may be best dealt with by enhanced
recognition and monitoring technology rather than putting more
blocks in the way of travellers and airlines. The solution is as much
technical as procedural.

(iii) Environmental concerns are likely to have a much
greater impact on the shape of aviation as time passes.

Higher emissions standards and more stringent noise envelopes, for
example, already limit the use of ageing aircraft in many areas.
Elevated standards will impact directly on costs and services where
operational restrictions are imposed and indirectly through future
carbon taxes or the necessity to purchase emissions rights.
Hopefully, any such regulation will be harmonised across borders,
although the evidence regarding even high level international
agreement over managing CO2 emissions does not offer grounds
for optimism.

The best prospects for achieving high environmental standards
ultimately lie in a combination of improved engine technology and
operational changes. Advances in engine and airframe design and
materials, advances in eco-friendly fuel, improved air navigation
services, and even enhanced airborne and ground communication
systems all have a role to play.

The impact on LCCs of higher environmental standards will be to
put pressure on those dependent on older aircraft with their inferior
fuel consumption, noise and emission standards. Carbon taxes or
emissions trading schemes will also add to pressure on fuel costs,
one of their key cost components. However, like safety and
security regulation, environmental regulation should not unduly
penalise LCCs although it could render one route of new entry the
acquisition of ageing aircraft less attractive.

International aviation has until now been excluded from the Kyoto
Agreement, but after the Copenhagen conference in Dec-2009,
there is likely to be change. Already the EU and the UK have
introduced their own procedures and taxes, while ICAO struggles to
achieve multilateral consensus among the aviation community.

9
The H1N1, swine flu virus, has sounded a warning of what potentially can
occur once real health issues (and popular concerns) influence travel
patterns. The H1N1 virus remains a potential threat as the northern winter
approaches. Travel behaviour involving Mexico and Japan in the early phases
of the pandemic illustrate how rapidly and severely this could affect the entire
industry if some of the worst predictions are fulfilled.
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8
i
v
e

4
9
1
8
46
3.3 Innovation and Entrepreneurship: Making
a difference

A key driver of LCCs has been the influence of entrepreneurs and
investors prepared to replicate, refine, and experiment on the basic
low cost model. Today there is no single business model that will
determine the low cost sector. Instead, there is a range of
possibilities, the boundaries of which will be pushed even further as
aviation encounters its most serious post-war turbulence. Out of
this turbulent environment should emerge new ways of doing
things.

Innovation requires innovators and investors with a willingness to
take risks, the people who act on the possibilities and the people
willing to support them.

The recent history of the LCC is shaped by the contributions of
visionary individuals. Southwests Herb Kelleher was universally
credited with Southwests sterling performance. Sir Stelios Haji-
Ioannou founded easyJet when the European concept was still very
much an unknown and has since expanded into a range of other
travel-related product ventures.

Michael OLeary is both the face of Ryanair and the force behind it,
the innovator behind its evolution from a struggling full service
airline to a no frills carrier to, today, a flying sales platform. He is a
driver of the low cost discipline that has been the feature of
Ryanairs expansion and aims to take over Aer Lingus.

Ryanair SWOT Anal ysis: Addicted to growth, a great model for
bad times

AirAsias Tony Fernandes is credited with the vision to transfer and
reshape the Ryanair model for Asia, and to drive both its growth as
a super low cost carrier and the penetration of LCCs through the
regulatory maze that was formerly Asian aviation. This involved
some innovative cross border joint ventures Indonesia and
Thailand, with also a long haul, low cost airline in his stable, AirAsia
X.

In the Middle East, Adel Ali has quietly gone about making Air
Arabia a brand that is now also established, with similar cross
border relationships in Morocco and Egypt.

Likewise, in South America, the outrageous early success of Brazils
GOL was closely associated with the flair of Constantino de Oliveira
and, although it took considerable digesting, also absorbed the
longstanding and long-ailing national flag carrier, Varig.

Serial Investors

In addition to these actively expanding airlines, there are several
individuals and groups which have actively pursued the LCC cause,
with new entrants, or attempts at entry.

There can be no doubt that entrepreneurship, creativity, and an
appetite for risk will have a role to play in the further evolution of
LCCs and in aviation in general.

47
Right at the moment, the capacity for institutions to shoulder risk,
to back good entrepreneurs, and to venture beyond the tried and
all too often tired models of the past is perhaps the most critical
ingredient. In a risk-averse world, funding itself needs to be built
on new, innovative, and credible foundations.

Virgin Group

These include the Virgin Group, first involved in Brussels-based
Virgin Express, then in Australias Virgin Blue, and more recently in
Virgin America. Virgin has also sought to establish in the tightly
held Macau market and the equally difficult Indian scene. (easyJet
also made a brief attempt to enter the Indian LCC sector, but was
likewise rebuffed by the countrys restrictive ownership rules).

Virgin Groups airline investments

Source: Virgin Group

Indigo Partners

Another, highly focussed investor is the influential but low key
private equity group, Indigo Partners. Led by Bill Franke, the group
has been active in LCC startups across the world, with Tiger
Airways in Singapore, Tiger Airways Australia, Mandala in
Indonesia, Wizz Air in Europe, Spirit in the USA and most recently,
Avianova in Russia.

Indigo Partners airline investments

Note: Project X is Avianova, a Russian LCC controlled by Alfa Group and Indigo Partners through
Russian company, Luch
Source: Mandala Airlines

David Neeleman

JetBlue founder, David Neeleman, has been associated in the
founding and operation of three low cost airline start-ups, among
other aviation-related companies. His is a story worth relating in
more detail, as his influence in North America has been extensive
and appears likely to follow a similar track in South America in the
future.
48

David Neeleman

David Neeleman has been one of the more ubiquitous actors in the
LCC industry. Born in Brazil to missionary parents, where he also
later went as a missionary, Neelemans aviation career began in
1984, when he joined J une Morris, a travel agent who had started a
charter airline, Morris Air Travel. This evolved into Morris Air, a
scheduled airline operating mainly out of Salt Lake City and along
the US west coast. Morris was the first to adopt distribution systems
including home reservations agents and (electronic) ticketless travel,
a feature which Neeleman later recalled frequently when Southwests
Herb Kelleher claimed that achievement.

Morris Air operated strictly on low cost, low frills principles. Ms Morris
sold the airline to Southwest in 1993 for approximately USD100
million in Southwest stock. According to Southwest and as an
indication of its new generation operations, Morris was, said Kelleher
following the takeover, profitable as a separate entity each month it
operated, well ahead of our expectations. By all accounts, it was one
of the smoothest and most successful mergers ever.

As former President of Morris Air, Neeleman stayed on for a couple
of years working in a ferocious but still profitable - period for
Southwest. An independent and passionate personality, in many
ways both similar and totally opposite to his new boss, he was fired
by Kelleher in 1994. With a no-compete clause in place, his interest
in distribution then led him to a role as CEO of Open Skies, which
was to become the no frills reservations system used almost
exclusively by LCCs. Open Skies was sold to Hewlett-Packard in
1999 and later submerged into what became the Navitaire product,
now owned by Accenture.

While at Open Skies, he also played a consulting role in the start up
of Canadas highly successful LCC, WestJ et from 1996 onwards.

Neeleman moved on from there to start up New Yorks J FK-based
J etBlue in 1999. J etBlue was backed by two George Soros funds,
Weston Presidio and Chase Capital Partners, which provided
USD130 million in start-up funding. This was a departure from the
old model, picking up spare capacity at J FK and moving away a little
from the low frills operation to using new A320s with leather seats
and in-flight individual live TV. But it was still low cost; and it used
Open Skies.

The airline listed on New Yorks NASDAQ exchange in April 2002
after a heavily-oversubscribed float. Neeleman maintained a high
profile within and beyond the airline, pitching in to help service and
handling staff and contribute to marketing, as well as maintaining his
position as CEO. As he explained to a Stanford University audience
in 2003, he would spend three hours straight on a J etBlue flight
from New York, talking to every passenger and explaining the
operation. He then went down the back and talked to all the crew
(all employees of J etBlue were crew, no matter their role). As he
said, Its a lot of hard work, but Im passionate about J etBlue.

49
His attitude to tech issues was of high-tech, high-touch. Technology
was there to lower costs, but there is a human aspect. We are in a
service business.

Helped by Neelemans high profile and positive attitudes, J etBlue
prospered and became a serious contender for Southwests
leadership role. (In 2004, the carrier also established a toe-hold in
the Spanish LCC market, with a minority share in Vueling, since
merged with clickair).

But disastrous New York snowstorms in early 2007 left several fully-
laden J etBlue aircraft sitting marooned on the tarmac at J FK for up
to eight hours. CEO Neeleman took the rap for this incident, which
caused a massive backlash against the LCC and it was not long
before he and the board felt it was time for him to move on, replacing
him with the then-COO, Dave Barger. (Under Bargers leadership,
the airline has moved into a different sphere, with now a 19% holding
from Lufthansa and, earlier this year, dropped Open Skies, moving
back to one of the former mainline CRSs, Sabre, now more reflective
of the increasingly complex nature of the airline).

In 2008 David Neeleman moved back to his country of birth (he holds
a Brazilian passport) to establish Azul, a low cost, Brazilian domestic
airline. Supported by USD150 million provided by US and Brazilian
investors and USD10 million of his own, Azul uses Embraer-195
aircraft operating out of the capital, Brasilia, to secondary cities and
non-hub airports. Azul ordered 36 of the type in Mar-2009, with a
scheduled fleet of 40 by 2011, and 76 eventually. There are also
plans to float the company once economic conditions improve.
Meanwhile, the carrier has grabbed over 4% of the domestic market,
faster than originally projected.

Brazil's LCCs and start-ups gaining market share

Chapter 4
Distribution, sales
and social media
51
4 Distribution & sales and
social medi a

Information and communications technologies have done much to
help LCC distribution and sales systems become profoundly
different from those used by their full service antecedents. Thanks
to online distribution and the underlying IT platforms which became
available in the 1990s, low cost carriers have been able to
revolutionise the way business is done, with major cost savings,
while still allowing them to establish market presence.

As internet capabilities have expanded, the proportion of sales
effected through the web has grown.

In addition, the web has become a platform for:

Targeting niche markets previously inaccessible using
traditional media
Integrated management of reservations;
Management of reservations over multiple channels
internet, call centres, travel agents, and inter-airline sales:
Added-value sales (adding ancillary income, as outlined
below);
Aligning services with individual purchases (e.g.,
personalising seat priority, food and beverage selection,
and airport services);
Departure management (aircraft, passenger services);
Client management and marketing systems.

4.1 LCCs and Distribution

The interface between airline and passenger has rarely been as
simple as it should be. And, in the past, that suited the airlines very
well. Pricing was opaque and intermediaries abounded. Apart from
several, usually unsuccessful, attempts at direct marketing through
ubiquitous branded outlets, the full service airlines typically relied
on travel intermediaries to distribute their products. Many of these
intermediaries long-preceded the airline industry and, with their
global coverage, were vital, particularly to international sales and
were also therefore very powerful.

Although supposedly agents of the airline, and receiving often
generous commissions from it for their efforts, most agents
presented as representatives of the traveller and, of course, had
their own very powerful self-preservation instincts.

With great power in certain markets, they were able to exploit the
perishable nature of the aviation product by dividing and
conquering. This led constantly to confrontation and to a generally
uneasy relationship between airline and agent. The bottom line was
that airlines tended to spend a very large amount of money on this
distribution system, much of it often designed to buy market share
away from their competitor airlines; consumer benefits were not a
consideration.

The emergence of CRSs

As computing power grew, major US airlines had been developing
their own computer reservation systems, CRSs, since the late
1960s. Independently, the US majors developed their own. Most
resilient of these have been Amadeus, Uniteds Apollo, and
Americans Sabre.
52
But these were not at first accessible by travel agents, for
commercial sensitivity reasons, so getting real time inventory was
still a step removed.

Then American made the first move, by providing desktop online
access to travel agents and, as the providers box on the agents
desks became an essential tool, the different CRSs aggressively
marketed their own, always discrete boxes.

As these contained airline-provided software, the ability to arrange
screen displays to show that airlines product more favourably, this
offered plenty of opportunities for airline owners to skew the
market in their favour.

But eventually a combination of regulatory requirements
(competition authorities in the US and Europe found this vertical
integration led to anti-competitive behaviour) and the sheer need to
raise money, saw the CRSs progressively sold to third parties. Now
evolved into todays global distribution systems, GDSs, a handful of
companies dominates access to full service airline inventories.

And they make the airlines pay usually a per-segment charge of
several dollars - which much to the chagrin of the airlines, the GDS
often then splits with the travel agent intermediary, as the GDS is
the one that now buys market share.

LCCs looking for a new way

When LCCs arrived on the scene, several things distinguished them
from their predecessors when it came to distribution. Most
importantly, they were local, domestic-only and had better visibility
in their target market. Their fares were often also very low. And, as
part of the new transparency (and to reduce the headline price),
fares were sold as one-way offerings.

There was an immediate bristling of hairs from intermediaries,
sensing this new threat; apart from anything else, 10% commission
on a USD50 fare was hardly going to make for good business (and
as often as not the new entrants did not last long, so it was not
worth endangering relationships with their existing, better
established airline principals). For agents to demand higher base
commission did not meet with the new airlines needs either.

At first, call centres had been the main sales channel for the LCC.
These were adopted as far back as David Neelemans Morris Air
days, along with paperless tickets.

Then, as the internet has expanded into almost every corner, online
sales became the prime method. Today, leading LCC websites
receive millions of visits daily and sell over 90% of their inventory
online.

For the LCCs, removing reliance on intermediaries to sell their
product had several strong justifications:

It allowed direct contact with customers, spelling greater
marketing power;
It cut out the cost of paying commissions which did not
offer a net value;
Dealing directly with the purchasing passenger changed
the cash flow dynamics now the airline received the cash
up front, rather than having to wait weeks while
intermediaries sat on it; and
As self-standing operations, they had no need for the
frills of community systems - or their costs - to link into
other airlines services.
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54

Unsurprisingly, with any new direction, nothing is straightforward,
although the goal is to retain as much simplicity as possible. When
the Morris Air moms worked from home telephones back in the
1980s, all the revenue accountings and other back office functions
were laboriously performed manually. There is a lot more to selling
tickets than concluding a sale over the phone.

So, while online sales quickly overtook call centres as the preferred
medium, software was being developed to incorporate each phase
of the booking, payment, revenue management and accounting
back office needs.

Open Ski esto GDS

Navitaires Open Skies
10

quickly became the dominant system used
by LCCs. This had the advantage of being no-frills and suited the
stripped down needs of the low cost airlines. This saved costs and
could be easily modified to suit the carriers needs. In many ways
the inherent simplicity meant paradoxically that customer
enhancements such as self-selecting seats online (including, if
required, charging appropriately for different seats) were available
on most LCC websites well before the legacy airlines sites could
perform similar functions.
But, as airlines needs become more complex with an evolving
industry, what had been the advantage of Open Skies being self-
standing became its drawback. Consequently, it did not talk to
other airlines systems; it did not give room to airlines to evolve
towards interlining and codesharing.

4.2 Accessing corporate markets

The inaccessibility of the standalone system also creates a barrier
to communicating with corporate buyers, a large disadvantage
when targeting higher yielding traffic. This explains for example
why even Southwest Airlines has concluded arrangements with
GDSs, Sabre (2005) and Galileo (2007) for customised use of those
systems. The carrier had already established its own on-line portal,
Swabiz, for this purpose some years before, but clearly felt it
necessary to move onto the main highways as the corporate target
became more elusive. Typically for LCC methodology, Southwest
has sought to transfer the high segment costs of the systems as far
as possible, causing some discontent to corporate buyers, but this
is very much a continuing work in progress, for Southwest and
many others alike.

Codesharing needs communication

Airlines which have led the push to a metamorphosis from Open
Skies to something more interactive are therefore most interested
in some form of community behaviour. They are the ones whose
strategic expansion has been most hampered by the delays in
finding suitable solutions. The isolation of Open Skies despite
strenuous and lengthy attempts to introduce it to community
interfaces has also for example delayed Canadas WestJets
attempts to activate codesharing with SkyTeam and oneworld

10
The Open Skies company was started by David Neeleman, who sold it to
Hewlett Packard. It was designed as a niche airline product which helped the
smaller carrier avoid the higher cost of having to participate in the CRSs of
the major players. Today Navitaire is owned by Accenture.
55
international airlines serving Canada
11

. This potentially lucrative
market, where Air Canada is locked into its relationships with Star
Alliance partners, is jeopardised where effective IT platform
interface cannot be achieved.

as do international operations

Establishing a presence in overseas markets is not easy, the more
so as the distance increases. And, where an LCC wishes to be
displayed as a viable connection on an agents GDS screen, there
are few options. LCCs such as AirAsia have been relatively relaxed
about use of GDSs to attract business from distant markets, merely
adding the segment cost onto the displayed fare. Getting the lowest
fares is still a matter of buying online direct from the airlines
website; but the traveller will probably do that next time.

As a result of these various forces as the carriers seek geographic
expansion, codesharing and to attract higher corporate yields
there is an accelerating drift towards use of GDS, despite the
extreme reluctance of carriers to become victim of the high
associated costs. Undoubtedly the LCC mentality will impose itself
gradually on the nature of the product; as Open Skies adds
functionality (with New Skies for example), so the major GDSs
have been working hard to customise - simplify models which
better meet the needs of the different breed of airline. Meanwhile,
New Skies can talk to the GDSs and provide a limited cost halfway
house.

As almost all new traffic growth is occurring in the low cost sector
and, as that sector looks increasingly to introduce greater
functionality, there is clearly a massive market opportunity for
those who can develop the best customised/ stripped-down
systems. Perhaps nowhere in this industry is the rush to evolve
more intense and the financial rewards greater.

Meanwhile, in the absence of ideal systems, there is a growing
movement for low cost carriers to conclude some form of access to
a version of the various options offered by the established GDSs
or at least to access them via their existing software. For the GDSs,
the quest for a suitable lite product can be costly too, as most
have experienced, with failures involving large investments in time.

4.3 Social Media opportunities and...

Meanwhile, a related sales, distribution and communication tool is
evolving in the booming social media marketplace. Thus far, social
media in an airline B2C context are more about branding than
distribution; whether the phenomenon will evolve significantly in
this direction is too early to say.

Indeed, it is early days for social media as a B2C tool of any kind.
The scale of activity at the non-commercial level is however such
that businesses dare not avoid tapping into what may prove to be a
lucrative flow. As always, low cost airlines tend to be the innovators
in this area, but perhaps in a sign of the changed times many
full service airlines have strongly bought into these sites too.

Today Twitter, Facebook, My Space, Flickr, YouTube, as well as
online blogs, offer largely unexplored new advertising and
promotion platforms. In principle, these sites enable airlines (and

11
WestJet invested considerable time and money into developing AiRes, but
eventually without success.
56
companies in general) to instantaneously and cheaply promote their
product and brand, get the online community involved and
motivated to travel, specifically target key market segments and
develop brand loyalty to the carrier. It is also a way for carriers to
promote word-of-mouth advertising, which is the single largest
influencer when it comes to making travel decision, and, ultimately,
boost revenue levels.

But much of the activity is experimental and may be ephemeral.
It can also be dangerous, if the wrath of the masses is aroused.
United Airlines broken guitar will not quickly be forgotten.

United Breaks Guitars - YouTube

Twitter

A short messaging system, Twitter is, despite common perceptions
not simply a tool for teens and the low end market. Its user profile
is surprisingly high income, highly educated and widespread. It is
not a phenomenon to be lightly dismissed.

An example of both LCC and full service airline adopting the new
opportunities, in the US, is that both JetBlue Airways and United
Airlines have taken the Twitter phenomenon to the next level,
introducing Twitter-exclusive promotions through the social
networking site.

This strategy presents airlines with a new and innovative way to
boost load factors, and hence the carriers bottom line, at the last
minute, while rewarding their followers and boosting brand
awareness.

It also (temporarily) differentiates JetBlue and United from the
numerous other airlines, both LCCs and network carriers, who have
established Twitter accounts of late; many others are following suit.
But the majority of airlines is merely following the Twitter trend and
has little more than press release information on the Twitter pages.

The Twitter promotions, labelled twares by United and cheeps
by JetBlue, are available for the airlines Twitter followers and those
who sign up to receive the airlines' updates via the site, and are
usually available for a very limited period time, sometimes for as
little as an hour or two.

JetBlue has established a new account, "JetBlueCheeps," that have
posted deals each Monday morning since Jul-2009 covering the
following two weekends, with extra-low fares on selected routes.

According to JetBlue, by promoting the Cheeps through Twitter, we
give the already spontaneous audience of Twitter users a chance to
grab great last-minute fares.

United Airlines, meanwhile, offers twares through its main Twitter
account, with the carrier stating, "we try to surprise our customers
once or twice a week by offering them special, Twitter-only fares".

The strategy strike fast, strike low

The carrier, which started the programme in May-2009, added that
twares are all about surprising our customers with low fares for a
very, very limited time. [They] sell extremely fast because the
prices are unbeatable."
57

Both airlines have had some success with the programme, although
the extent of the benefits is still largely unknown due to their
recency. The benefits should increase as Twitter matures and the
functionality of the system improves. However, yield management
can quickly be undermined or changed irreversibly if
expectations of ultra-cheap last minute fare availability grows.

Facebook - opportunities exi st with the worlds most
used soci al network

Airlines are also embracing Facebook, the most widely used social
network by worldwide monthly active users (there are currently
some 250 million registered users). Like Twitter, numerous carriers
have Facebook profiles, but a few carriers stand out in the way they
use the site to their advantage.

One at least touches close to the heart of distribution systems:
American Airlines added a new "fare-finding" feature to its Travel
Bag application in Facebook in Jul-2009, enabling Facebook users to
find the lowest American Airlines fares using a real time search. If
users then opted to book a trip, they were taken to AA.com to
proceed with the booking.

The application also makes it easy for users to share travel
experiences, reviews, comments and travel photos with friends and
other Travel Bag users. Users are also able to personalise and plan
up to three trips at one time. Potential passenger can name the
trips, set the departure and return cities and dates, and share their
trip searches with friends in their network. Each planned trip is
stored automatically on Facebook until the user decides to delete it
or the departure date passes.

This move also provides a host of opportunities for American
Airlines to gain an insight into its customer base, with the carrier
stating it is "seeking to differentiate and segment" its passengers
and trying to learn more about them, what their habits are, why
they buy and when they buy."

Virgin America has also embraced Facebook and its ability as a tool
to engage its customers more effectively. Through its Facebook
page, passengers are able to click links to search flights and check
flight status; it also features Fan Videos, Customer reviews, a
Discussion Board, Company Information, and Information on the
Elevate Loyalty Programme. It also has links to the carriers Twitter
and YouTube Profiles.

Ai r New Zeal and ads become a YouTube success

Numerous carriers are also using the visual format of YouTube to
their advantage. Air New Zealands Jul-2009 Bare essentials of
safety from Air New Zealand and Nothing to Hide videos have also
highlighted the power of YouTube.

The Nothing to Hide TV commercial, which features eight body-
painted Air New Zealanders including CEO, Rob Fyfe, was designed
to highlight the transparency of Air New Zealand's all-inclusive
domestic airfares, with the message that, unlike competitor airlines,
what you see is what you get. It has had over 4 million views on
YouTube since it was launched in May-2009.

Air New Zealand Staff Have Nothing to Hide video YouTube
58

The safety video, which has been viewed over 5 million times since
its launch on YouTube, has body-painted cabin crew and pilots
delivering the in-flight safety briefing to customers travelling on
B737 domestic jet services. It was the third most viewed video
globally on YouTube in the week of its launch, and was the most
viewed New Zealand travel video of all time on YouTube, surpassing
the Nothing to Hide television commercial which placed in second
place.

JetBlue uses Fl ickr

Flickr, a photo sharing community, is another Social Media stream
used by carriers. JetBlue is again actively involved in this medium,
and currently has several thousand items, including photos and
videos.

Members of the JetBlue Flickr group can comment on each others
photos and can add each other as friends, with members including
customers and employees of JetBlue. The JetBlue Flickr Group also
has an active discussion board, enabling members to ask questions,
give opinions and offer suggestions to other members.

Southwest leads the blogging trend

A number of airlines are also embracing the now more traditional
blog, with Southwest probably the best example of a carrier
effectively using this format, with its Nuts about Southwest blog,
which was started two years ago and has recently been revised.

The blog is regularly updated and features discussions on a range of
topics, with CEO, Gary Kelly, having a regular featured blog. The
blog also features podcasts, the carriers latest News, polls, Video
Blogs and Flickr Group pictures, among other regular features.

The blog helped the carrier develop relatively painlessly its new
seating and baggage initiatives. The blog involves approximately 30
Southwest employees and gets above 60,000 unique visitors per
month.

The site has also played an important role in the carriers ability to
react to negative publicity events, including its Mar-2008 safety
hiccup.

Only just beginning to see the benefits and the pi tfalls

Through well developed social networking sites, airlines are able to
communicate on a more personal level with potential and existing
customers. However, as yet, the full potential of these sites has not
been developed and may in fact prove to be much overstated, or
alternatively, have the power to transform some marketing
strategies. Most probably, as the media evolves, airlines will come
to understand how to integrate its usage into wider marketing and
sales strategies.

For social media marketing approaches to be truly effective, they
need to be clearly and effectively aligned with the carriers business
strategy, rather than being seen merely as a trend or a gimmick.
Only when this is done can carriers realise the revenue potential
from these sites.

There is also scope for these sites to be used in a much more
effective manner as a customer service tool, with these platform
actually able to help counteract negative publicity (rather than
59
being a forum creating such publicity), although this has not, as
yet, been developed.

But, once airlines enter into these new, uncontrolled and
experimental areas, there needs to be a recognition that the
company:public interface becomes a whole different environment
and one over which the airline has only very limited control.
Twitter, Facebook, My Space, Flickr, YouTube, and their like will not
quickly replace the core distribution outlets.

But as convergence accelerates and as the financial opportunities
attract intellects of a wider range of companies, it is not hard to
envisage a whole new form of marketing and distribution formats
within five years.

Airlines and Social Media: Carriers turn to Twitter, Facebook,
Flickr, YouTube and online blogs CAPA

The Airline Industry & Social Media: A must-have strategic
guide for airline marketing and sales - Innovation Anal ysis
Group/TheTravelStrategist.com/Centre for Asia Pacific Aviation

Chapter 5
The spread of LCC
operations around the world
61
5 The spread of LCC
operations around the
world

5.1 The growth of the Low Cost sector since
2000

Data limitations make it difficult to establish a consistent cost and
performance base differentiating LCCs from conventional operators.
Instead, we have identified LCCs globally by drawing on various
web-based listings, our own databases, and reviewing individual
airline web sites. Dates for commencement have been based on
the start of LCC operations rather than establishment of a company
(as far as possible). In some cases this has taken place through
the restructuring of existing airlines. In most, though, it has been
through the establishment of a new entity. Dates for cessation of
operations have also been identified where airlines have failed.

On these grounds, 50 LCCs existed in some form or other before
2000. Not all were LCCs at the time but have since been
restructured or redeveloped, sometimes from shell companies, into
LCC format.
12

Fourteen of these have since closed, leaving 36
survivors.
The Expansion of LCCs, 2000-2009
Pre 2000 Airlines 50
Subsequent closures: 14
Pre 2000 Survivors 36
Post 2000 Startups 128
Subsequent Closures 38
Post 2000 Survivors 90
Total Airlines 178
Total Closures 52
Net Gain 126
Source: Various, compiled by Centre for Asia Pacific Aviation

In addition, 128 LCC start-ups since 1999 have been identified.
This figure is based on operators that commenced flying and
excludes several announced start-ups that never got off the ground.
Of those that did fly, 38 subsequently failed or were withdrawn
from service. Some of the latter were operated as subsidiaries by
network airlines. Examples include Air Canadas Zip and Tango
airlines, which operated between 2001 and 2004, Deltas Song
(2003 to 2006) and United Airlines Ted (2004 to 2008). In other
cases, mergers or take-overs have absorbed airlines, removing
their brands and removing or substantially modifying their services.

Over 70% of todays LCCs have been set up since 2000 (90
airlines). The middle of the decade was the period of greatest
activity and volatility. Over the five years to 2006 alone 86 airlines
were established (49% of all startups since 1999), but 43 closed
down (84% of all closures).

12
In the 2004 Annual Report of easyJet, Ray Webster, CEO, suggested that
were just three LCCS in Europe in 2001, compared with 47 in 2004.
62
New Low Cost Carriers, 2000-2009 (June)
-20
-15
-10
-5
0
5
10
15
20
25
2
0
0
0
2
0
0
1
2
0
0
2
2
0
0
3
2
0
0
4
2
0
0
5
2
0
0
6
2
0
0
7
2
0
0
8
2
0
0
9
A
i
r
l
i
n
e
s
-70
-60
-50
-40
-30
-20
-10
0
10
20
30
40
50
60
70
80
C
u
m
u
l
a
t
i
v
e

N
e
w

A
i
r
l
i
n
e
s
Start Ups
Closures

Note: Closures include 14 airlines in existence by 2000; excluding these, net gain 2000-2009 is 90
airlines
Source: Centre for Asia Pacific Aviation

63
5.2 Dri vers of Growth

Such a high rate of entry (and exit) is relatively rare in large,
established, capital intensive industries. It is an encouraging sign
that deregulation, albeit halting and partial, has opened the sector
up to innovation, new capital, and new ideas just when they were
needed. The development was made more remarkable against a
background of limited market entry in the previous half century.

Deregulation was a catalyst, then, a necessary condition for
overdue change.

There were other drivers of LCC entry during this key period:

the emergence of new markets as economies expanded;
a progressive technological environment;
widely available transparent internet distribution;
the necessary entrepreneurs in the right places at the right
times;
low priced fuel;
plenty of skilled human resources;
easy access to cheap debt; and
relatively cheap B737 and A320 aircraft, old and new,
notably after September 11.

But progressively, aircraft prices increased (see Section 10.2), fuel
prices rose, the cost of skilled staff (notably pilots) increased, to be
followed by the global financial meltdown (where credit dried up).
This deterioration of the ideal conditions caused the entry rush to
decelerate rapidly from 2007 onwards.

Industry deregulation

Deregulation of an industry almost inevitably lowers barriers to
entry. This has been the case even in aviation, where deregulation
has been sufficient to encourage competition and put downward
pressure on fares. The resulting introduction of new services to
new areas has facilitated growth through market expansion rather
than simply by cannibalising existing markets. Most early LCC
activity was based on new routes, emerging markets, and
underutilised airports.

The first opportunities were opened up in the US, following airline
deregulation in the late 1970s. But, surprisingly in retrospect, most
of the openings seized upon in that market were by full service
operators, entering new markets and reshaping their operating
style eg from grid systems to developing hub-based operations.
As noted earlier, it was not until this century that Southwest
Airlines became an admired and much-imitated model.

The model had however already been exported, first to New
Zealand in the early 1990s and then to Europe as open skies
arrived there from 1993 onwards.

64

Southwest to easyJet (via New Zealand)

In the early 1990s, an Air New Zealand manager in the US had
returned home, greatly impressed by the operating model of
Southwest and persuaded his senior management to establish and
make him CEO of probably the first genuine and durable LCC
outside the US, Freedom Air, a subsidiary of Air New Zealand. It was
certainly the first legacy airline wholly owned LCC operation. It
operated for some years between New Zealand regional points and
Australian gateways, before being merged back into the parent in
2008.

When the Australian government rejected Freedoms entry into the
Australian domestic market in the mid-1990s, the disenchanted
Freedom CEO left to repeat the experiment in Europe. Liberalisation
was then still a goal yet to be achieved between the two countries.
He persuaded a Greek millionaire that this was the time for an LCC
model in Europe. And so Ray Webster became CEO of easyJet. And
Stelios Haji-Ioannou became simply Stelios, today with a stable of
easy- travel products.

As the low cost concept gained ground in Europe, the newfound
EU-mandated liberal access regime quickly overcame silent
barriers imposed by often-reluctant national governments, still
anxious to protect their flag carriers (not to mention widespread
skepticism about the validity of the model). The UK and Ireland
were first to exploit the possibilities, a probable reason why Ryanair
and easyJet are today the largest short haul operators in Europe.

Some of the most spectacular recent growth is today in regions like
the Middle East and Eastern Europe. The newer EU countries to the
East have seen rapid expansion, as access restrictions were
removed and Russia itself, with rapid growth around it, permitted
expansion of airline entry. The result, with many aircraft still flying
from a bygone era, has been a little reminiscent of the Chinese
expansion of the 1990s, and a shakeout is now occurring.

Eastern European airlines in fight for survival as LCCs and
weak economy hit hard

In the Middle East, where internal liberalisation is still moving
slowly, the Gulf states have led the way, with a proliferation of
service particularly into nearby India.

65
5.3 LCC growth by region

The US domestic industry, which in 2001 accounted for over 34% of
global airline seat capacity, has reduced in 2009 to approximately
24%. This is not so surprising in itself, as the developing world
markets begin to expand; but to see the actual decline in real terms
over this period is surely shocking.

Moreover, because of the vast size of the US market, its decline
goes some way to accounting for the stabilisation in full service
operations that we see globally. Here, while full service airline seat
numbers have remained static over the eight years, low cost
airlines have more than trebled, now exceeding well over 20% of all
global seats.

LCCs vs Full Service Airlines total seats (millions): 2001 to 2009*

* First eight months of each year
Source: Centre for Asia Pacific Aviation & OAG FACTS

LCC worldwide capacity (seats) share (%): 2001 to 2009*


From a mere 7.8% in 2001, the proportion of global seats provided
by low cost airlines is now 22% an extraordinary growth story.

Unsurprisingly the growth story varies by market, depending on
size, maturity and features such as international vs domestic
operations. One thing they do have in common is that the vast bulk
of new entry and of market expansion by LCCs has occurred this
century. The full torrent of change is even more recent than the
global impact of the internet.

66

5.3.1 North Ameri ca

Late LCC uptake in the US; yi eld shock, then demand
shock

Somewhat remarkably in retrospect, the US was actually a
relatively late convert to the LCC model, at least on a large scale.
The domestic market was deregulated in 1978 and, in theory, there
was no restriction on new airline entry. Early attempts, like
PEOPLExpress and New York Air, were relegated to the ignominy of
a controversial merger in Frank Lorenzos Continental Airlines.

Throughout the 1980s and -90s, apart from a series of fleeting
entries and exits, the low cost model failed to gain traction. Much of
this was due to the resilience of the incumbents so long as yields
remained high; only a brief period after the 1
st
Gulf War saw LCCs
flourish, as legacy airlines stumbled with slackening demand. But
they recovered quickly as the economy improved.

Thus, despite global adoption of the Southwest model, albeit often
heavily modified, it was not until the milestone Chapter 11
bankruptcy of United Airlines, that the major domestic US airlines
started to recognise fully that the steeply lower unit cost profiles of
home-bred LCCs were irreversibly reshaping travel demand.

After nearly a decade of soft expansion, as economic growth
accelerated after the first Gulf War, the full service airlines had seen
no need to slash costs, so long as yields were strong. They retained
enormous market power and were often able to snuff out budding
new entry, using capacity and pricing strategies that, at best,
skirted anti-trust laws. Some toyed with their own low cost
subsidiaries, but cost cutting at the mainline carrier was usually not
much more than nominal. And, in any event, while they were
making profits it was very hard for them to convince their well-
entrenched unions that reductions were necessary.

It took the yield shock of the IT bubble bursting in early 2000, then
followed by the post-September 11 demand shock, for the unit cost
differentials with emerging new LCCs like JetBlue, Spirit and an
expanding AirTran to be recognised as indicators of an industry in
metamorphosis.

As the Government Accounting Office noted in a report in 2004, this
was a different breed of LCC:

The emergence of well-capitalized low-cost airlines has also
been a significant challenge (to the full service industry).
Although earlier new entrant airlines quickly disappeared, this
recent group is better capitalized and offers a good overall
product. Between 1998 and 2003, these low-cost airlines
increased their presence in the 5,000 largest city pair markets
(e.g., New York Boston) from 32 to 46 percent and
increased overall market share of passenger enplanements
from 23 to 33 percent.
13

13
GAO-04-837T: Testimony Before the Subcommittee on Aviation,
Committee on Transportation and Infrastructure, House of Representatives, 3
June, 2004: Despite Industry Turmoil, Low-Cost Airlines Are Growing and
Profitable; Statement of Jay Etta Z. Hecker, Director Physical Infrastructure

67
New market expansion by these lower cost operators in the
early years of the 21st century was driven by a strong
economy, cheap credit, cheap fuel, aircraft aplenty and low
entry barriers. The tech boom had also provided US
consumers with low-priced, high-speed internet access and
the innovative LCCs quickly exploited the transparency of this
distribution opportunity to the full.

Travel agents, still residually influential in full service
distribution, had never been a large part of LCC operations;
now even the call centres were dispensed with, both widening
the carriers market visibility and further reducing their costs.
And, driven both by consumer softening and the impact of the
new LCCs, major airlines cut back heavily on capacity. In the
27 months to 31-Dec-2003, The seven low-cost airlines
increased seat capacity by 26.1 percent during the same
period that legacy airlines cut capacity by 12.6 percent, but
total operating costs for low-cost airlines increased by a more
modest 9.8 percent, or a little more than $1 billion.
14

This period from 2002 to 2007 offered entry conditions as fertile
and pivotal - as they will ever be.

As the new entrants proliferated and expanded, they more
frequently bumped up head-to-head with the legacy airlines.
Competition quickly now arrived on most of the main routes the full
service operators operated, thus progressively stifling every refuge
they had previously possessed.

Then, more recently, as large LCCs themselves started to go head
to head, the climate on those routes grew fiercely hotter.

But in the meantime, one of the most remarkable market shifts has
occurred. Today, approximately 19% fewer seat are being flown in
the US than there were 9 years ago. This must surely be the only
national market which has contracted overall.

US LCCs vs Full Service Airlines total seats (millions): 2001 to
2009*


14
at p5
68
US LCC domestic capacity (seats) share (%): 2001 to 2009*


This contraction is partly testimony to an enforced discipline to
reduce capacity and goes part way to explaining the improved
profitability of the airlines during this period of strong economic
growth. As things gradually recovered following September 11, the
financial straits they had suffered made full service carriers more
circumspect about adding new capacity and, even if they had
wanted to, their balance sheets often did not permit. Load factors
improved as a result.

The domestic industrys 10-11% load factor increase for 2008 over
2001 has done wonders for the bottom line while simultaneously
reducing the industrys carbon footprint!

US carriers international and domestic passenger load factor:
2001 to 2008

Source: Centre for Asia Pacific Aviation & BTS

Canada

Canadian domestic airline deregulation began in 1979, in sympathy
with its neighbour to the south and the market has been completely
deregulated as to market entry, services and pricing (but, like the
US, with tough restrictions on foreign ownership) since 1988, when
Air Canada was privatised (although recently bailed out when it
looked as if it would re-enter bankruptcy protection).

After the collapse/acquisition of Canadian Airlines by Air Canada in
1999, the resulting near-monopoly was subsequently challenged in
the marketplace by a genuine LCC, WestJet.

Air Canada developed various strategies to combat WestJets
expansion, including low cost subsidiaries of its own, but today the
LCC occupies approximately 32% market share, after expanding
out of its western Canada base.
69
(LCC capacity share in Canada reached as high as 36.5% in 2004,
prior to the failure of Jetsgo, which served 19 destinations across
Canada, 10 destinations in the United States, and 12 scheduled
weekend-charter destinations in the Caribbean in Mar-2005 and the
decision by Canjet in Sep-2006 to cease scheduled flights, but
continue to operate as a charter airline).

Canada LCC capacity (seats) share (%): 2001 to 2009*


Mexico

LCCs are a relatively new concept in Mexico, and the movement
was almost short-lived owing to the 2008 spike in fuel prices and
the subsequent global economic recession. But, in a tighter
economy, LCC seats have surged to account for over 42% of total
domestic capacity this year.

Several airlines were grounded for lack of capital and credit, high
taxes, safety reasons, and other negative factors and that was
before the worst impact of the credit crunch was felt. The onset of
swine flu in early 2009, which originated in the country, played a
large part in the traffic reductions of around 25% in the three
months to end Jun-09.

From nine Mexican LCCs in May 2008, mostly operating into
southern and western states in the US, often underfunded, with
weak business plans, four remain today: Viva Aerobus, Volaris,
Interjet and Mexicanas subsidiary, MexicanaClick. They encounter
fierce competition with the two Mexican majors, Mexicana and
Aeromexico, along with powerful US airlines. Nonetheless, Mexico
still retains one of the highest proportions of LCC operation in the
world.

Mexico LCC capacity (seats) share (%): 2002 to 2009*


70

Mexico: Mixed fortunes for Mexicos LCCs, as market share
surges past 40%

5.3.2 Europe

Europe s LCC surge also occurs in the new century

It is mind-boggling to imagine what would have happened to
European travel and how different its society would be today if
internal air services had been liberalised back in 1978, along with
the US. For, even buried under six feet of regulatory concrete,
forms of LCCs still forced their way, mushroom-like, through to
daylight.

But it was only after the European Union liberalised internal air
services in the mid-1990s, sewing the seeds of the revolution, that
the new movement began. Yet there too it was not until these same
factors from 2000-onwards also showed the potential of the LCC
that things really took off.

In Europe there was one big difference from other markets. Despite
(or because of) the strict regulatory barriers designed to protect
flag carriers, a regulatory escape valve had permitted the
expansion of package charter operations. This concept began in
earnest in the 1960s, when summer charters (with bulk ticketing)
also started to dominate trans-Atlantic travel, at first mostly to and
from the UK.

(These differed from the common intra-European model in not
having to include any ground component; their differentiator was
that passengers typically had to have a common interest such as
students or clubs a limiter that was increasingly abused.)

The air travel components of the intra-European operations had
much in common with LCC philosophy: cheap prices, slim margins,
single class, high density seat configurations and high utilisation of
aircraft. To protect the individually ticketed flag carrier services,
these charters were however only permitted to sell package
holidays - mainly for summer stays in the Mediterranean and
there was no separately published airfare component. The
companies selling the holidays were vertically integrated, organising
each step of the air and surface transactions; for them the aircraft
were only one part of the production chain.

One point of operational difference was however that they often
operated longer sectors, of 5 hours and more, typically from the
cold north to the warm south and typically used B767 and B757
equipment when these aircraft appeared. Consequently they had
extremely low seat costs. They operated on knife-edge margins. As
one operator confided, their profit came from "duty-free sales from
the last two rows of seats". So, when the EU removed duty free
sales, the charter operations became even more precarious.

71
Quasi-LCC operators emerge

But water flows downhill. Popular demand will generally find an
outlet, especially where one or two governments were prepared to
look the other way. The UK was one. Second tier national scheduled
airlines, such as British Caledonian, were allowed to operate what
were technically package charters on non-holiday routes, to London
for example, where the ground accommodation package
nominally consisted of perhaps six beds in one room. Passengers
would often not even realise that there was a ground component at
all. The difference: these individually marketed and ticketed
charters charged less than half of the parallel fares the legacy
airlines asked on the same routes.

By the 1980s, despite the political efforts of the legacy airlines to
prevent the cancer spreading, more than half of all the air
passengers in Europe were flying on either genuine or dummy
charters. It took the EU to decide to break down the legal barriers
in 1993, by removing the power of national governments to restrict
airline access on economic grounds, forming European open skies.

A tough initiation for the LCCs: competing at both ends
of the spectrum

So, when they arrived in this new open market, the LCCs had to
compete at both ends of the spectrum, with the brutally efficient
charter operators at one end and the aggressive market power of
the legacy airlines at the other.

In this environment the LCC model truly showed its mettle. It
quickly upset the legacy and charter companies, leaving both
battered, and scurrying to become low cost and direct selling.

One thing that helped the new arrivals was that the full service
enemy was half-asleep. Here again the attitude prevailed that the
LCC catered to a different sector of the market and, based on
assumptions of the yield advantage that full service airlines
possessed, the sector would quickly hit a market share ceiling.

But European full service airlines did not comprehend the
emerging threat

Quite simply, the low cost model was not understood in Europe, at
least by many of the opinion leaders. Thus, for example, a
McKinsey & Co report released as late as mid-2003 treated the new
wave patronisingly, predicting that, from 2007 onwards, growth of
the low fare airlines would slow as they directly confronted more
traditional carriers on major routes (as secondary airport options
and passenger demand dried up), while charter airlines would
remain powerful in leisure markets. McKinsey also expected that
traditional and low fare airlines would then coexist in some form of
equilibrium, because the product offerings differ significantly.

This would, said the report, ensure that the LCCs European market
share only grew from the then 7%, to be capped at 14% by 2007.
In fact it was more than double this level by 2007 and is today
around one third of the total, still growing fast, accelerating as the
legacy airlines cut back.

72
Within Europe LCCs vs Full Service Airlines total seats
(millions): 2001 to 2009*


Armed with this thinking, full service airlines could be forgiven for
underestimating the LCC threat at that stage and this left full
service airlines unprepared. Some, like British Airways, confronted
by both easyJet and Ryanair in their backyard, did however
recognise the necessity to respond in kind, even if the
implementation of its LCC subsidiary, Go, was not successful. All
took some steps to reduce costs, but the baggage of decades,
together with a certain complacency, did not allow the urgency that
was in retrospect then needed. Again too, as long as the airlines
were profitable, their powerful unions were unwilling to accept the
pain which went with substantial cost reductions.

EU expansion aids growth

The expansion of the EUs borders in 2004 and 2007 certainly
helped in the new models expansion, both of new airlines and of
new routes, as well as the continuing rapid market share growth.
And, as cheap one way fares, transparency, internet distribution
and dynamic packaging became the norm, even the very low cost
charter airlines were also either subsumed into the type, or simply
folded.

Even as late as Aug-2005, another report by McKinsey still focused
on the yield premium that the flag carriers possessed (implying that
a higher cost base was acceptable) over airlines like Ryanair. This
was read as further evidence that they catered to different market
segments an assumption that, even if it had been correct four
years previously, was a little like assuming that the bull over the
road would not stroll across into the cow paddock. There was no
longer any regulatory fence there to prevent them.

But, unlike the US, the European LCC market has continued to
grow.

73
LCC capacity (seats) share (%) Within Europe: 2001 to 2009*


Eastern Europe

With the exception of Russia, where the domestic market is heavily
distorted by politico-commercial intervention, eastern European
countries are moving to embrace LCC operations, reciprocating the
inroads being made into their markets by the EUs low cost airlines.
Failing flag carriers have caused several to retain protective
regulatory positions, but as the flood of LCC service spreads
through, so there is a flow-on impact which is softening attitudes
towards new entry. Eastern Europe retains the biggest LCC
international LCC penetration of any region worldwide.

Hungarys Wizz Air has been one of the more aggressive of the EU
low cost operators flying eastwards. Non-EU Turkey offers the
largest potential in this region, already with a substantial domestic
LCC market share of above 20%.

LCC penetration to/from major regions (%): 2001 to 2009*


74
Southwest Pacific

In the South Pacific, Australia and New Zealand embraced domestic
deregulation more than 20 years ago, but it was not until the
beginning of this decade that the market power of the legacy
incumbents was sufficiently challenged to allow carriers like Virgin
Blue to take root. Since Qantas established its own low cost
subsidiary, Jetstar, Australia now has over 50% of its domestic
service provided by LCCs and tiny New Zealand has two LCCs
competing head to head with its own born-again legacy flag carrier.

The South Pacific island nations, one of the few regions in the world
where a genuine multilaterally agreed international open skies
regime is now in place, has witnessed an especially significant
turnaround, as heavy loss-making small island flag carriers gave
way to either joint venture LCCs or opened up to foreign operations
from the two larger countries of the region.

Southeast Asia:

Southeast Asias LCC operations began with domestically
deregulated Malaysia, where fast growing new entrant, AirAsia
quickly expanded into regional international markets.

AirAsia SWOT Anal ysis: Tough second quarter ahead, but
fundamentals solid

Singapore Airlines joint ventured with private equity to establish a
part-owned subsidiary, Tiger Airways. Thai Airways also established
Nok Air under a similar scheme. But Asias international entry
regimes (formally at least) remain restrictive and a much-touted
ASEAN multilateral liberalisation agreement is slow in being
implemented, although if it is followed through, should allow open
skies among all Southeast Asian nations by 2015. That said, its
phased implementation regime is playing an influential role in
edging the respective nations towards greater liberalism; Singapore
and Malaysia for example had this year effectively opened their
respective skies.

Indonesia, with a population of over 200 million and a vast
archipelago, joined in domestically with fervour, while remaining
protective until very recently on international access. Vietnam, also
with a booming and large domestic market has jumped high from a
standing start in the past three years.

South Asia (Indi a)

Likewise the Indian market saw unparalleled expansion of the
sector, moving from 4% LCC presence in 2004 to over 50% market
share today, as most entry requirements were removed. Between
Jul-2004 and Jul-2007, the domestic market grew by an
unprecedented 150%; here the splintering of the market has led to
inevitable consolidation which is now helping the industry work its
way back to profitability. There has been a price to pay for this
extreme shift, but the system is stabilising once again, with some
consolidation occurring.

Overall, South Asia (which India dominates) has the highest
proportion of LCC penetration of any region worldwide, at over
46%.

75
LCC penetration within major regions (%): 2001 to 2009*
0.7%
1.4%
3.9%
5.7%
7.1%
7.9%
9.9%
15.5%
21.7%
26.7%
27.4%
27.9%
30.7%
32.0%
33.6%
35.2%
36.1%
37.0%
40.2%
46.4%
0.0% 5.0% 10.0% 15.0% 20.0% 25.0% 30.0% 35.0% 40.0% 45.0% 50.0%
North Africa
Caribbean
North East Asia
Eastern Africa
Middle East
Eastern Europe (Ex Russia)
Africa
Asia/Pacific
Worldwide
Southern Africa
Central & South America
North America
South East Asia
Europe
Western Europe
Central America
European Union
Southwest Pacific
Lower South America
South Asia


5.3.3 Asi a Paci fi c

Meanwhile, outside the European Union and North America, this
phrase was repeated without fail, as low fare startups threatened to
enter local and regional markets.

In many cases, the market was in fact different: in Southeast
Asia, the Indian Subcontinent and Oceania, the problem of genuine
international operations often had to be confronted (where
genuine means overcoming the restrictions and protectionism that
go hand in glove with cross-border operations).

Perhaps more surprised at how consumers resembled their global
counterparts were the incumbent Asian full service airlines. Without
exception they believed that their renowned low seat-cost widebody
capability would counter even the improved narrow-body costs of
the new entrants. But they had not factored in the opportunities to
fly new routes, to offer frequency on existing routes and to offer
new aggressive forms of pricing. Nor that governments would
quickly start to see the political and economic benefits they could
stimulate.

LCCs have quickly risen to account for almost 16% of intra-Asian
seating capacity.

76
LCC capacity (seats) share (%) Within Asia Pacific: 2001 to 2009*


Within Asia Pacific LCCs vs Full Service Airlines total seats
(millions): 2001 to 2009*
406
413 416
456
478
504
526
538
543
4
7 9
19
30
45
71
88 100
0
100
200
300
400
500
600
700
Jan-01
to Aug-
01
Jan-02
to Aug-
02
Jan-03
to Aug-
03
Jan-04
to Aug-
04
Jan-05
to Aug-
05
Jan-06
to Aug-
06
Jan-07
to Aug-
07
Jan-08
to Aug-
08
Jan-09
to Aug-
09
Full service airlines LCCs


North Asia; a market ready to bloom

The most significant outstanding market where liberalisation is
appearing at only a miserly rate is Northeast Asia.

China, despite having a vibrant domestic market, still effectively
prohibits low cost airlines from operating domestically (with central
controls over pricing, distribution, fuel aircraft purchases and many
other operational areas).

For monthl y in-depth analysis of Chinese airline and airport
strategy, traffic, financial results and much more, The Centre
publishes The Monthly Essential China. More information is
available at:
http://www.centreforaviation.com/publications/mec/

77
South Korea has powerful incumbents, both in terms of market
control and political support and Japan, despite attempts by its
specialist regulators to support open skies among the three major
countries of the region, is subject to very high costs and dominance
by its two major airlines, with whom most service provision lies.
Fledgling LCC operations exist in each country, but their existence
is tentative.

Both Korea and Japan also have very efficient and subsidised fast
rail, which makes domestic LCC establishment difficult, and
international access regimes are still generally capacity and
frequency controlled (and often price controlled too). Any new
airline must operate domestically for a period, before being
permitted to operate internationally, giving the full service carriers
the jump in establishing their own subsidiaries.

In many ways this regions regulatory regimes mirror the global
restrictiveness and interventionism of the 1970s. Even Japan
Airlines, privatised for two decades, has recently been delivered a
JPY100 billion
15

bailout loan by the government, which has
established a committee to oversee the restructuring of the flag
carrier.
However, each of the three countries is now permitting inbound
operations by the Southeast Asian LCCs, a factor which is steadily
influencing consumer behaviour, a force which will accelerate
change in government attitudes. The triangular market between
Japan, China and South Korea is a potentially massive one; the
Centre has estimated that passenger numbers could grow rapidly to
an additional 300 million annually, were there no limits on access.
But this is more than a merely commercial equation, given the
always important international differences.

But liberalisation is coming, on the back of socio-economic issues;
Mainland Chinese and Taiwanese airlines are now able to operate
non-stop every day of the week between selected city pairs, with
capacity and designation restrictions, a move of both symbolic and
commercial importance.

Japan under a new administration and with JAL in dire condition,
may influence new moves in one way or another, hopefully towards
liberalisation. This could tip the balance relatively quickly. A
reconstruction of JAL is likely to spawn a low cost subsidiary (if it
doesnt, the airline is in even more trouble than it appears). This
will have to be matched by All Nippon Airways, its main rival; ANA
already had plans to establish one, but has placed the project on
hold temporarily.

And, with genuine LCCs emerging in Korea, together with a
renewed Japanese popular fascination with all things Korean, there
are the seeds of rapid growth as early as 2010, particularly as more
airport capacity comes on line in Tokyo and Shanghai. For each
side, the economic rewards on offer, especially at regional centres,
are potentially vast. It would not take long for China to join that
party, at least freeing up regional points to international service
from its near neighbours.

15
With much more to come
79
5.3.4 Other Emergi ng Market s

Latin Ameri ca

Similar international regulatory problems face South American LCCs
seeking to expand beyond their borders. Regulatory controls still
permeate the region, as flag carriers predominate. Only Brazil, with
the regions success story, GOL, has fully embraced LCC operations,
now with David Neelemanns Azul also gaining a 4% market
domestic market share. The major economy of Argentina to the
south is still stuck in a time warp, protecting an ageing Aerolineas
Argentinas. GOL flies to several countries, but beyond that, there
are few examples of successful low cost operations.

Latin American aviation: Can Avianca set the Synergies flowing?

Several Central American states, more influenced by North
American economic theory and direct air services, particularly
NAFTA-member, Mexico, have been more ready to relax entry
requirements. As noted above, Mexico has had a highly competitive
and fast growing industry as a result, although rationalisation is
now occurring.

Sub-Saharan Africa

In Africa, apart from the northern, Europe-facing shores,
international operations are difficult still, although LCC operations
abound in South Africa. Rekindled flag carriers like Kenya Airways
and Ethiopian Airlines offer some hope for Southern Africas aviation
development, but so far, outside South Africa, there is little LCC
activity and plenty of protectionism. By contrast, over a third of
domestic seats are on LCCs in that country, led by Comair/Kulula
and SAA subsidiary, Mango.

South African Airways and Africa's airlines - outlook bleak for
SAA

Almost without exception, the relentless tide of low cost airline
operations has swept across the world, all of it in the last few years,
catching most unawares. These other markets are dealt with region
by region in detail in Part 2 of this report, but it is useful to
compare the respective market shares here. With very limited
exceptions, there was next to no LCC market share in 2000.

80
North Africa & Middle East

Air Arabia: "Despite the extremely challenging conditions
facing the aviation sector worldwide, LCCs in the Middle
East and North Africa region, with their revived focus on
commercial sustainability, are seizing the opportunity to
grow their global market share. Importantly, this is
happening at a time of increased regional competition and
rapid deregulation of our skies. Over the past several years,
and especially since Air Arabia pioneered the regional low-
cost model in 2003, we have also seen a rapid
corporatisation of the aviation sector in the Middle East and
North Africa," Adel Ali, CEO. Source: Air Arabia, 06-Oct-09.

Historically one of the most conservative regulatory regions in the
world, the intra-Middle East markets have enormous potential, once
relaxation is permitted. The UAE, with its open skies policies, has
done much to awaken the recognition of the potential of a more
open system and largely thanks in the first instance to the India-
UAE market Air Arabia has been able to do here what AirAsia did
in the Asia Pacific region. Now, other gulf states are following suit
and other countries are moving in the same direction at differing
speeds.

Middle East Aviation Outlook 2009, published in Jan-2009 by the

Airbus and Boeing forecast LCCs as drivers of Middle East fleet
growth

North Africa, quickly being linked into the Gulf LCC expansion, is
already well serviced by European LCCs flying tourists there, but
internally there is room for liberalisation, as flag carrier protection
remains the controlling factor.

The EU is active in spreading liberalisation has established a
programme of open skies agreements with non-EU members
whose potential is significant. The so-called Euro-Mediterranean Air
Transport Agreement is part of the process of creating a wider
Common Aviation Area with the EUs Eastern and Southern
Neighbours by 2010. Negotiations began with Tunisia in Dec-2008,
and Algeria, Lebanon, Georgia, and Israel are also reportedly in
discussions. A horizontal agreement was signed with Jordan earlier
this year.

5.3.5 Country Performance

Domestic markets

The emerging markets have shown the largest increases and the
highest proportions of LCC capacity, the most extreme example
being India, where over 50% of the previously underdeveloped
market has been assumed by low cost airline operations.

81

For monthl y in-depth analysis of Indian airline and airport
publishes The Monthly Essential India. More information is
available at:
http://www.centreforaviation.com/publications/mei/

But Australia and Germany also feature high on the chart, despite
already being relatively mature markets.

Of the countries with substantial land-masses, France distinguishes
itself with a remarkably small, 8.3% LCC capacity share

Domestic LCC penetration: Major markets#: 2001 to 2009*

# Offering more than 700,000 seats in Jan-Aug-2009

International markets

Unsurprisingly, European LCCs, along with some Asia Pacific
airlines, have been most adventurous in their international
excursions. In Europes case this is partly a matter of following in
the tracks of the former charter airlines to adjacent holiday
destinations, as well as the opening up of eastern European states.

82
The US and Canadian carriers have to date been most cautious in
venturing beyond their home borders, suggesting why so many are
now eyeing the opportunities as their domestic climates become
uncomfortable. Several of the short haul city pairs in north and
central America still offer good yields, dominated by full service
airlines, suggesting the potential for growth as new entrants
penetrate them.

International LCC penetration: Major markets#: 2001 to 2009*

# Offering more than 700,000 seats in Jan-Aug-2009

Unstoppable and i rreversible

Despite the vast cultural differences and economic backgrounds,
somehow, the attraction of very low fares, new alternative routings
and frequencies, all based on a low cost mentality, and providing
airline choices has ensured that low fare airline market shares
blossomed wherever they have operated.

Even in the massive headwind in 2008 caused by a spike in fuel
prices, the juggernaut somehow storms ahead. On international
routes, its airlines are more vulnerable in many ways, having to
confront the ingrained protection that almost every long-established
full service airline receives from its governments, preventing
market access, who wink at predatory practices by incumbents and,
even today provide bailouts and loans to help some flag carriers
through the current downturn.
83
Domestically and within the EU, different problems exist, but they
are more market-related, albeit threatening to get worse;
government taxes and charges are too easily imposed and have a
disproportionate impact on lower fares, diluting the LCCs power to
stimulate demand. Air traffic control infrastructure and airspace
controls typically also have a greater cost and operational penalty
on LCCs, diluting the low cost advantage. And, as many in the
industry observe, there are simply too many competitors in the
major markets.

But, while some must fall by the way, this movement is
unstoppable and its legacy irreversible.
Chapter 6
The evolving model
85
6 The evol ving model

6.1 Hybridisation and evolution

Arguably anything that is not the original Southwest model (itself
not wholly original) is a hybrid. And, generally speaking, any
deviation from the core model is necessarily a move towards the
full service model(s) in one form or another but with a cost focus
that differs from the full service operation.

For the present purposes, several specific features and categories
may however be useful, for the purpose of assessing current
conditions and where the overall industry may be headed.

Some of the identifying features, individually or collectively, which
go to making a hybrid operation are:

Tailoring the product to a specific market to attract higher-
revenue traffic;
A dual class configuration;
Targeting connectivity and interlining; and
A multiple aircraft-type fleet.

International operation and long haul services are also variations
which can qualify as hybrids.

The perceived vulnerability of the hybrid raises questions about the
likely effectiveness of the emerging long haul LCCs in testing
economic times, when relatively high airport-related costs are hard
to avoid and when sales of premium seats are likely to be critical to
success. Tackling long-haul routes, in particular, requires the LCC
business model to be well-founded and adequately resourced.

6.1.1 Di recti ons i n hybri di sati on

Where essentially any new airline today has a concentrated focus
on cost reduction, it is almost a given that the new airline must be
low cost. However, as the hybridisation continues, certain
classifications can be identified. Whether or not each is a genuinely
low cost airline on a definitional basis is no longer important, as all
contribute to the evolutionary process.

Al l-business cl ass airl ines

These were the first low (premium) fare long haul, low cost airlines,
targeting SMEs who did not have the clout to do corporate deals,
but coveted more comfortable travel without paying five times the
economy fare. They were international primarily, with some notable
US domestic operations. All went the same way and for mostly the
same reasons.

They serviced point-to-point routes, in these cases between major
hubs across the Atlantic or continental US. The timing seemed
good, as the premium travel was strong and the major airlines were
milking it very effectively.

Thus an all-business airline of which several examples arose in
the middle of the decade is yield seeking, rather than intensively
chasing the lowest leisure category traveller for example. That said,
it is low fare in its premium category, trying to undercut the full
service airlines.

86
Mostly they didnt fail because of lack of premium traffic, they went
before that market collapsed. They were mostly underfunded for
the inevitable expensive battles with major airlines prepared to
fight passionately to preserve this their keystone market sector.
And then rising fuel prices jagged the economics of their usually
older aircraft.

But other lessons for the industrys memory bank were:

The need to provide good, competitive frequencies (time is
money, even for the small business sector and other
premium travellers);
The importance of on time departures and arrivals and of
reliability generally for this more-demanding sector; the new
entrants couldnt provide that with a small fleet of older,
more maintenance-hungry aircraft;
Having to rely on a point-to-point service between major
hubs exposes the specialist directly to the major operators;
they were then at a disadvantage because, unlike the majors,
they could not easily aggregate traffic from other points; and
The new entrant is hard pressed to tap into the large pools of
corporate flyers who were used to all the frills of FFPs and
elaborate (and often reciprocal) lounges

The New World Carri er

The phrase was coined by Brett Godfrey, CEO and co-founder of
Australias Virgin Blue. The core of The New World Carrier (NWC)
logic
16

was a willingness to trade off a small cost increase against a
much larger yield increase where necessary, as illustrated in the
diagram below. The assumption therefore is that any added costs
will be more than outweighed by entrenched yield improvements.
We asked Brett Godfrey, who is also a board member of WestJet,
how he saw the evolution from todays perspective.

I believe it was not until around the time of our New World
Carrier strategy, LCCs were considered a separate species
and it was a case of "never the twain shall meet". Now it is
almost routine to read weekly in "Peanuts" that another LCC
with an excellent short haul network has established an
interline or codeshare partnership with a long haul network
carrier.

For example Virgin Blue with Delta, GOL with American and
Jet Blue with Lufthansa. WestJet has entered into a
preferred partner distribution relationship with oneworld
carriers in Canada since only Star Alliance is represented in
that domestic market, but WestJet is also entering into a
relationship with the most traditional and conservative of all
LCCs, Southwest, rather than aligning itself exclusively with
oneworld.

Canadas WestJet, like Virgin Blue in Australia up against Qantas, is
the domestic low cost airline competitor for the only full service
airline, Air Canada. The temptation to challenge for more of the
premium traffic, as well as for domestic interline from foreign
carriers, is almost overpowering.

16
As explained by Virgin Blue CEO Brett Godfrey in The Centres Peanuts!
Weekly of 29-Nov-05
87
Connecting with foreign airlines

As Mr Godfrey notes today, long haul network carriers have no
qualms about putting their passengers on quality short haul LCCs,
and increasingly their own short haul products are starting to look
like LCCs with "buy on board" and "pay per checked bag".

For the LCC in this mix, there are many advantages; foreign
travellers can constitute 25-30% of domestic travellers, so
excluding that segment hurts. Foreign flag carriers will generally
prefer not to have to interline domestically onto their major
competitor on the international sectors into the other country (and
share a lot of their commercial secrets in the process). The flag
carrier often belongs to one or other of the global alliances too,
making tie-ups difficult. Consequently there are plenty of potential
offerings for any low cost airline in the domestic market which
offers an alternative.

So Virgin Blue for example was one of the first simple format/low
cost airlines to attempt to constitute a basic form of interlining. This
was with United Airlines, which flies to only one gateway in
Australia, Sydney. United was keen to use an alternative to Qantas
to service other gateways and for onward domestic connections, so
United and Virgin Blue developed, from the ground up, a basic
interline arrangement which did not rely on Virgin Blue having to
change its model to accommodate the link. This was not a simple
task but the result was workable and the domestic LCC did not have
to amend its offering significantly.

(Since Virgin Blues subsidiary, V Australia, now flies to the US,
head to head with United (and is looking to partner with Delta),
United now however connects to a handful of other Australian
gateways, over Auckland, using the services of Star partner, Air
New Zealand. Once in Australia, the passenger becomes unaligned
for onward domestic travel.)

For the low cost carrier, the main sets of complexity apart from
the time consuming process of negotiating with other airlines and
the airports involved - that go with a classical interline are
electronic connectivity and the physical aspects of passenger and
baggage handling. These translate to added cost, which the low
cost model eliminated in focussing on simple point to point service.
So, imitating the full service airline model would quickly undermine
cost savings, offsetting the revenue advantages.

Overcoming this challenge has been a longstanding distraction for
both WestJet and Virgin Blue for example, with WestJet recently
being forced to postpone implementation of a full interline and
codeshare with SkyTeams Air France-KLM, because the systems
were not yet in place.
17

Attracting premium traffic

Premium traffic that is business travellers, corporate accounts and
higher spending individuals may not be a reliable market segment
in todays economy, but the ability to tap into corporate accounts
and to have the product to attract small and medium enterprise
business travellers can drastically affect the airlines bottom line.

17
A more limited arrangement was however introduced on 17-Jul-2009,
initially accessing the WestJet network through Calgary and Vancouver. The
strategy was defined as being designed to increase connectivity, bring
additional travellers to its network and offer more access for its guests to new
destinations, while allowing Air France and KLM a great opportunity to
strengthen their position in Canada.

88
Virgin Blues New World Carriers planned shift up market
(Nov-2005)

Source: Virgin Blue

One downside for Virgin Blue was that the small cost increase
(combined with the greater complexity) made the carrier more
vulnerable when the new low price competition from Qantas low
cost subsidiary, Jetstar began to bite. Virgin Blue, with its different
brands Pacific Blue for international short haul operations using
its B737NGs and V Australia for its long haul services, now also
operates two other aircraft types, Embraer E-170s and E-190s, for
short haul domestic services in smaller or high frequency markets,
and the B777-300ER.

Migrating from being a simple-product LCC into a yield oriented low
cost airline is not as difficult as it is for a full service airline to
metamorphose into an LCC. But it is still not easy and does have
dangers.

6.1.2 Other vari ati ons on the basi c model

Europe: easyJet

In Europe, easyJet adopted different strategies once low cost
competition began to bite. The carrier could barely be described as
having a similar New World philosophy to Virgin Blue, but did
contain some differentiating factors that were designed to attract
higher revenue passengers and involved higher costs. These
included operations to major airports, applying higher, business-
friendly frequencies involving challenges to on-time and
turnaround performance. easyJet also was prepared to expand non-
organically, for example buying Go (originally British Airways low
cost startup) in 2002 and GB Airways in 2008, as well as
Switzerlands TEA.

The strategy appears to be at least reasonably effective in this
climate. In the third quarter of FY2009, not only did head-to-head
competitor capacity reduce by 4% year on year as full service
airlines at the main airports cut back but easyJet also increased
its revenue per seat by 10.9% (or 4.8%, allowing for the
depreciation of the British pound), with ancillary revenues up by
over a third.

(A further aberration from the basic LCC formula is that the carrier
is also, temporarily at least, operating both Airbus and Boeing
aircraft, as it transitions from all-B737 to all Airbus by the end of
2011).

89
USA: JetBlue

JetBlue in the US was the first leisure airline there to introduce
some frills, in the form of larger seat pitch, live in-seat satellite
television (as well as leather seats, which have since become more
common). Its performing effectively too, with combined ancillary
revenue at USD17.50 per passenger in the Jun-2009 quarter.

It was not a fully-fledged hybrid though until an equity stake was
sold to Lufthansa, whose goal was to achieve better access to the
US domestic market. Today Lufthansa holds 19% of JetBlues
equity, while the two carriers continue to finalise the details of a
commercial relationship.

Here the carrier is leveraging its strong position at New Yorks JFK,
an opportunist position it took on startup in 2000, when JFK was
out of favour. But, in search of optimising the potential for
interline/codeshare opportunities, JetBlue is also open to future
alliances.

CEO, Dave Barger says, would we take a look at other
opportunities? You bet. Our assets in New York, Terminal 5, I would
argue are the most lucrative air transportation market with a
number of connections coming across that gateway - perfect from
Europe, South America, Asia. He added, we want to continue to
be able to be real receptive to that on behalf of our shareholders
and also be respectful to our largest investors [like Lufthansa), as
well."

6.1.3 The Future? Goi ng i nt ernati onal , goi ng l ong
haul

The archetype of the LCC model, based as it is on simplicity and
cost reduction, has tended to shun international operations until
very recently.

It has previously been mainly in Asia and the Middle East that
international operations were popular. There, domestic
opportunities were more limited and, with almost no new entry on
international routes in a decade (at least in Asia) the international
gravitational pull was stronger.

But today, as a continuum of the low cost sectors growing interest
in securing relationships with foreign airlines, so as to feed their
existing domestic networks, the attraction also of expanding in their
own right becomes more obvious.
There are two movements here that are significant in the evolution
of the low cost model:

(a) The short haul/regional international service, typically
B737/A320; and
(b) Long haul-low cost service, typically at present with
A330/A340 aircraft although the B787-9 and the A350
will probably eventually become aircraft of choice for this
role.

a) Extending short haul across borders

The first of these, short haul regional, is a reasonably natural
extension of domestic low cost operation, most commonly so far, to
holiday destinations in the sun.

US and Canadian low cost airlines are doing it, with the Caribbean
and Mexico common destinations, in the tracks of the longer
standing charter operations which operated from larger cities. A
modification now: more and smaller North American gateways are
being served.
90
Canada-US transborder services, still very much underdone, are
also gradually being opened up; a recent restraint placed by
Southwests pilots union on cross-border codeshares by the airline
(with WestJet) is just one example of the various complexities
which have slowed the growth of these otherwise natural
extensions of domestic low cost services. For many years regulatory
controls limited access, but these are much more relaxed today.

Europes low priced, north-south charters have long been
international, although the vast bulk of the new point-to-point low
cost airline operations has been within and between European
Union countries (ie effectively domestic for most purposes) and
continues to be so.

Latin America, with often-conservative aviation policies, has seen
only limited growth in low cost airline entry and the leading South
American exponent, GOL, operates extensively within its home
state, Brazil, but also across the continent, thanks partly to its
acquisition of the failed flag carrier, Varig. GOL also now has a
codeshare with American Airlines, giving mutual access to a wide
range of markets. The Mexican LCC market has been extremely
active; where international LCC operations occur, they have mostly
to the west coast of neighbouring California or into Texas, but have
been hard pressed by a combination of US and Mexican flag carrier
operations. Volaris has a planned codeshare and perhaps more
with Southwest that would link the respective national networks.

In southeast Asia, cross-border operations were common almost
from the beginning. As noted elsewhere, the scarcity of direct
connections between regional points (caused by restrictive access
regulatory regimes) allowed LCCs to provide a welcome escape
valve. Several governments tacitly accepted cross-border
establishment, which has helped to expand the low cost carriers to
expand and establish bases across the region.

Similarly, the Middle East LCCs are predominantly international, due
to a combination of ultra-conservative internal regulation and the
shortage of linkages by conventional carriers. Links with India, as
that country has rapidly liberalised in the past three years, are an
important part of those operations (alongside rapid full service
carrier expansion).

For monthl y in-depth anal ysis of Middle East airline and airport
publishes The Monthly Essential India. More information is
available at:
http://www.centreforaviation.com/publications/meme/

Increasingly these links are extending into the north African states,
with AirArabia establishing a cross-border joint venture airline in
Morocco, to allow it to tap the European market. North Africa
represents one of the largest growth markets for European LCCs
and some local airlines are being spawned. Moroccos open skies
policy with the EU (since 2006) makes it a very attractive site. TUI
for example has a 40% joint venture in locally established
Jet4you.com and Royal Air Maroc established LCC subsidiary Atlas
Blue to maintain its role in domestic and international markets. A
similar EU agreement with Tunisia is expected to take effect in
2010.
18

18
Part of the EUs process of creating a wider Common Aviation Area with its
Eastern and Southern Neighbours by 2010. Lebanon and Algeria are also

91
In the south Pacific, Australian and New Zealand international low
cost operations to island nations have for some years serviced both
tourist needs and those of the local remittance expatriates
(islanders living and working in the larger neighbours). Virgin Blue
has a cross-border joint venture operation, named Polynesian Blue,
with Samoan interests. And LCC operations on the large market
between Australia-New Zealand are threatening to occupy the
majority of capacity in the short term.

As can be seen from the tables below, North American LCCs have
been laggards in expanding into international markets. This is
perhaps because of the large size of the American market itself, but
it does smack of lack of imagination, given the myriad opportunities
offshore, as opposed to the increasingly claustrophobic competitive
environment at home. This can be expected to change quickly, now
that the first inroads have been made. But there are complications
and added risks in international services; currency risk and swine
flu are but two of these. But the upside can be significant.

(b) Long haul-low cost: a revolution, or a re-evolution?

We are only now discovering the tremendous potential that
long-haul trunk routes brings to the core short-haul regional
business in terms of passenger feed, brand extension and
operating scale. Purist LCCs that are steadfastly staying
only in the narrowbody space will be competitively
disadvantaged, as will legacy carriers that are not investing
in next-generation long-haul aircraft with their game-
changing superior economics. Azran Osman-Rani, CEO,
AirAsia X, August 2009.

One of the more controversial low cost airline-related issues in
recent years has been the debate over whether the typically short
haul low cost airline formula can be extended into long haul
operations. Most experts had rejected it as a possibility, citing the
need to capture a mix of yield, to combine traffic flows over hubs
and, not the least, the vulnerability to attack from larger
incumbents. Also, full service competitors also earned large
amounts from freight carriage, a feature which consequently now
tends to be included in the low cost model.

Far from doubting the validity of the long haul business plan,
AirAsia Xs CEO has the temerity to suggest that in fact it is the
short haul model which is most at risk if it does not connect to
distant markets with a low cost long haul operation. This is a bold
approach and flies in the face of much conventional wisdom; it does
perhaps go some way to explaining Ryanairs apparent
preoccupation with connecting to the North American market, the
graveyard of so many airlines.

But it may be that AirAsia X, and its complementary short haul
partner, AirAsia, is seeing the real way ahead. This apparently
ironic outcome as it comes closer to mimicking the classical full
service, network airline does however have some key
distinguishing characteristics.

targeted, but not Egypt, which offers liberal access already.

92
The weaknesses

One apparent weakness that doubters seize upon is that the model
is only a diluted version of the typical short haul operation. The two
areas where LCCs gained the largest margin of cost savings were in
seating density and aircraft utilisation. But these do not confer the
same level of differentiation when it comes to long haul operations:

(1) Some additional seating density can be gained on a long
haul low cost airline although the seat cost compared
with e.g. larger long-haul B747s or A380s of competing
network airlines can be unfavourable in this respect; and
(2) Utilisation margins were thought to be much more limited,
where the incumbents might already be achieving 13 or 14
hours daily. But the AirAsia X operation for example
achieves another 4 hours or more simply by not having the
same daily timetable arguing that, unlike the network
airlines (and like the charter airlines before them), the
leisure profile of its customers did not require aircraft to sit
on the ground between services, waiting for the optimum
business travel hours.

The doubters of this new offering seemed to be gaining the high
ground when Hong Kongs Oasis failed, along with a handful of
trans-Atlantic mainly all-business operators.

Airline failures 2008/2009: Where and Why? The CAPA list

Oasis: was alone in the desert

But there are good reasons why those failed. In Oasis case it had
much to do with the local competition and the ease with which it
could be picked off, especially in an Asian market where effective
competition laws were notably absent. But the main commercial
reason, which also applied to Oasis, was that the airline was unable
to combine and distribute several sources of traffic. It had no
network feed, up against one of the most powerful network airlines
in the world, Cathay Pacific, as well as a number of other major
airlines on the key Kong Kong London route. Even though it had
responded to popular demand for cheaper fares, it was simply too
easy a target for competitors with greater capacity available to
match selectively.
19

For, like traditional full service network airlines, hubs are powerful
traffic generators, especially where a connecting long haul sector is
involved.

There are few routes where large volumes of point-to-point traffic
can generate daily frequency or more, without coming head to head
with full service hub airlines. In those circumstances, a lack of
feeder traffic is like fighting with both hands behind the back.

19
Oasis also had a high debt burden associated with outright purchase of its
four second-hand B747-400s and encountered escalating oil prices soon after
start up. It lacked the critical mass in services and demand that may have
helped it over this particular hump, and was caught out with primary airport
costs (Hong Kong, Vancouver, and Gatwick).
93
LCCs going international - or planning it

From being the exception until a couple of years ago, moving into
international operation is today almost becoming a reflex for LCCs,
utilising the effective range and fuel efficiency of new generation
single aisle aircraft to explore new, sometimes less crowded
options.

North America
Airline Route areas Current/proposed Own aircraft or
codeshare
JetBlue Caribbean/LatAm Current Own aircraft
Europe Current Codeshare (LH)
Southwest Canada Proposed Codeshare (M3)
(Caribbean/Mexico
from 2011)
Proposed Codeshare (Volaris)
Allegiant Canada (charter) Current Own aircraft
Mexico (charter) Current Own aircraft
Spirit Caribbean/LatAm Current Own aircraft
WestJet Caribbean Current Own aircraft
US Current Both (WN)
AirTran Caribbean/Mexico Current Own aircraft
Virgin America Canada (Toronto) Proposed Own aircraft
Frontier Caribbean/Mexico Current Own aircraft
Central/South America
codeshare
Volaris US - California Current Own aircraft
US - multiple Proposed Codeshare (WN)
GOL Latin America Current Own aircraft
US Current Codeshare (AA)
Viva Aerobus US (Austin ) Current suspended in
May-09
Own aircraft
Europe (to/from routes outside the EU)
codeshare
Air Berlin USA, Eastern
Europe, North
Africa, South Africa,
Middle East,
Caribbean
Current Own aircraft
Click4Sky North Africa,
Eastern Europe
easyJet North Africa,
Eastern Europem
Middle East
94
Germanwings Russia, Eastern
Europe
Norwegian Middle East, Eastern
Europe
Ryanair North Africa Current Own aircraft
Ryanair (affiliate) transAtlantic Proposed Own aircraft
Jet2.com Middle East Current Own aircraft
TUI/Jet4you.com
(JV)
Morocco-France Current Own aircraft
Vueling North Africa Current Own aircraft
Wizz Air Russia, Eastern
Europe
Asia Pacific
codeshare
Virgin/Pacific
Blue/V Australia
South Pacific Current Own aircraft
US Current Own aircraft
S Africa Proposed Own aircraft
Asia Pacific
(Thailand initially)
Proposed Own aircraft
Jetstar Asia, South Pacific Current Own aircraft
Jetstar Asia
(Singapore)
SE Asia, India Current Own aircraft
Jetstar Pacific
(Vietnam)
SE Asia Current Own aircraft
Tiger Airways SE
Asia/China/India
Australia Current Own aircraft
AirAsia (Malaysia,
Thailand,
Indonesia)
SE
Asia/China/India
AirAsia X Australia, China,
Middle East,
Europe, North Asia
India, USA Planned Own aircraft
Cebu Pacific SE
Asia/China/North
Asia
Jeju Air North Asia Current Own aircraft
Jin Air North Asia,
Southeast Asia
Air Busan North Asia Proposed Own aircraft
Spring Air North Asia Proposed Own aircraft
Viva Macau Australia, North
Asia, Southeast Asia
India/Middle East
codeshare
Air India Express Middle East,
Southeast Asia
SpiceJet Middle East,
Southeast Asia
AirArabia Middle East,
Southern Europe,
India, North and
West Africa
95
AirArabia Egypt Middle East,
Southern Europe,
North Africa
Jazeera Middle East,
Southern Europe,
India
flydubai Middle East/North
and West Africa
Southern and
Eastern Europe,
India
nas Middle East Current Own aircraft
North and West
Africa, Europe
Sama Middle East Current Own aircraft
North and West
Africa, Europe
Africa
codeshare
AirArabia Maroc Europe, Middle
East, North Africa
TUI/Jet4you.com
(JV)
Morocco-France Current Own aircraft
96
6.2 Ancillary revenues: a growth future

It is estimated that airlines worldwide generated USD10.25 billion in
ancillary revenues in 2008, up from just USD2.29 billion in 2006.
20

There was a time when ancillary revenues involved only selling
hotel rooms, rental cars and travel insurance. These were lucrative
sources of free, non-ticket revenue, largely leveraging the value of
the airlines website. But as LCCs progressively adopted the full
logic of their low cost, unbundled product, the scope grew
enormously. Passengers could be unbundled too.

These sources of revenue are derived from:

1. Individually selling the unbundled portions of the travel
product over and above the privilege of stepping through
the door of the aircraft; and
2. Selling other non-ticket, usually travel-related, products
and services.

6.2.1 Charges for Servi ces: Up-Sel l i ng or
Downgradi ng?

Charging for services that previously defined the full service airline
has gathered momentum since 2005. The message, though, is
clearly two-sided with both sides playing into the hands of low
cost carriers. The LCCs, operating from a no-frills, low cost
platform are simply charging for added value services. They are
leaving the choice - to fly cheap, to fly light - with the customer.

However, when legacy airlines follow suit, as many US airlines have
done, they are imposing charges that did not previously exist for
established services. This looks suspiciously like mere revenue
boosting at the expense of the customer. More importantly it
reduces points of difference between legacy and low cost carriers,
potentially undermining customer loyalty by placing the former
clearly in a commodity rather than service market.

For LCCs, paring back fares and costs to the bare minimum
meant that it was a short step to introduce charges for add-on
services. The easy starting point was the introduction of snacks and
drinks, with charges pitched at the loose change travellers might
have on them. Every add-on was to become a revenue source, as
opposed to a cost centre. Additional in-cabin choices have followed,
with fee-based in-flight entertainment systems and preferential
seating or boarding arrangements introduced.

JetBlue has even initiated take-home pillow and blanket sales within
the cabin, a move incidentally often seen as positive because it
provides new rather than recycled pillows.

The charging regime has been extended to facilitation. Charging a
small booking fee for online and a larger one for phone-in ticket
sales is widely accepted, as are charges for excess baggage.

Baggage fees

US airlines alone will generate USD2 billion in baggage charges in
2009. The US airline industry collected USD670 million in baggage
fees in 2Q2009, up 18.2% from first quarter levels, and a massive
275.7% year-on-year increase, according to Bureau of
Transportation Statistics (BTS).

20
The Guide to Ancillary Revenue and a la Carte Pricing, IdeaWorks
Company.com, 2009
97
US airlines baggage fee revenue collection: 1Q2005 to 2Q2009
(USD, 000)

Source: Centre for Asia Pacific Aviation and Bureau of Transportation Statistics

In the past six and 12 months, the carriers have collected a
combined USD1.2 billion and USD2.1 billion, respectively, in
baggage charges. These revenues sources are increasingly
important as passenger revenue declines (in the quarter, revenue
from seat sales declined a precipitous 24% year-on-year to
USD22.6 billion), due to the global economic crisis.

US airlines passenger transport revenues: 1Q2006 to 2Q2009
(USD, 000)


American collected USD118.4 million in baggage charges in
2Q2009, more than any other airline, although Delta was only
USD86,000 behind.

US airlines baggage fee revenue collection: 2Q2008 to 2Q2009 (USD, 000)
2Q2009
rank Airline 2Q2008 3Q2008 4Q2008 Q2009 2Q2009
Year-on-
year
change
1 American 37,101 94,075 113,856 108,117 118,442 219.2
2 Delta 42,861 47,489 60,542 102,838 118,356 176.1
3 US Airways 17,917 67,928 93,759 94,227 104,138 481.2
4 United 19,721 42,283 58,771 59,102 67,412 241.8
5 Northwest 15,685 32,695 63,578 59,787 67,186 328.3
6 Continental 16,361 21,180 49,287 55,616 63,157 286.0
7 AirTran 6,099 7,867 12,749 30,881 40,535 564.6
8 Spirit n/a n/a n/a n/a 16,178 n/a
9 Frontier 1,245 2,928 10,018 12,456 13,463 981.4
10 JetBlue 7,275 12,119 11,504 12,603 12,353 69.8
Industry 178,214 350,061 498,568 566,328 669,572 275.7
98
The LCCs, AirTran, Spirit, Frontier and JetBlue ranked seventh to
tenth by revenue collected, respectively, behind the six majors,
although this has more to do with their size than their baggage fee
policies.

As a proportion of total passenger revenue, however, baggage
revenues were much more significant for Spirit Airlines (9%),
AirTran Airways (6.7%) and Frontier (4.9%) than the network
carriers.

US airlines baggage fees as a percentage of passenger transport
revenues: 1Q2006 to 2Q2009 (USD, 000)


Baggage fees a goldmine for US carriers

Other ancillary sources

Other facilitation services have been subject to new and more than
trivial charges. Changing tickets (a surprisingly large revenue
source) and second or third (or more) bag charges stand out. Even
checking in a first bag incurs a charge from many US airlines today,
leaving only strictly controlled carry-on bags within the base fare.

Charges generally vary with the number and lengths of segments,
service standard (snack box or meal; aisle row or exit row seat, or
merely any seat allocation), and by domestic and international
flight. The prices of discretionary facilitation services also tend to be
lower if fulfilled via the web rather than through a call centre or at
the airport.

Some charges do reflect genuine added value opportunities. As
travel becomes cheaper and more frequent, services such as pet
carriage or care for unaccompanied minors (previously cost centres)
are genuine revenue generators extending customer choice and
ability to customise travel.

6.2.2 Managi ng Costs or Chasi ng Revenue?

Unbundling cost centres on the air service production chain means
that ancillary charges sit comfortably and logically - within the
LCC business model. Revenue (and margins) can be matched to
the cost of service supplied. This reinforces the cost control
necessary to limit fares and enables fine tuning of prices according
to demand and supply.

99
Ancillary charges largely do away with the need to differentiate
service by class of cabin or traveller. They help to preserve the one-
class LCC configuration, eliminating a range of service overheads,
and maintain the integrity of booking services. The true low cost
consumer is not discouraged from travel, while service levels can be
lifted for those with the inclination to pay for them. One
consequence is to increase the appeal of LCCs to business
travellers, as they can tailor services to their needs.

At a time when passenger resistance to higher fares was at its
highest in early 2009, full service and network airlines in the US
were simply too impressed by the ease with which their no-frills
competitors generated a new revenue source to avoid imitating
them. With increasing enthusiasm they have followed the LCCs by
unbundling services for charging purposes. It is not clear whether
this practice leads to operational efficiency and transparency gains -
which lifts the airlines cost competitiveness relative to LCCs - or
simply generates additional revenue at a time when fares are under
pressure.

If this is the case, the introduction of charging may itself actually
increase service overheads at the same time as eliminating a major
point of difference with LCCs. If so, the timing, as many LCCs
evolve into codesharing and generally confront the legacy model on
more fronts, could not be worse.

On the upside, unbundling may help legacy airlines differentiate
between economy and premium classes, and promote business
fares among those willing to pay for a seamless, full service
offering. Marketing doctrine suggests that reducing service levels
for the base product promotes the premium product, although it is
unclear if this strategy holds when times are tough, and toughest
on discretionary spending.

Increasing differences between the basic and premium product may
actually erode loyalty among economy class passengers rather than
boost revenue gains from premium class travellers. It is perhaps
significant (and even a suggestion that some markets may be
different) that European, Asian and Middle Eastern full service
airlines have not followed the US example, even for domestic
travel within the EU.

6.2.3 What the consumer pays

As more airlines unbundle services, the choices before consumers
multiply. Boston-based SmarterTravel.com monitors airline fees in
the United States. In May 2009 the charges for services provided
by five LCCs and ten network carriers reveal:

Changing reservations and excess baggage incur the
highest charges. These are, in effect, penalties on
customers who increase transaction costs through their
own decisions (although the fees charged can greatly
exceed the costs incurred);
Value-added services attract high charges, with carriage of
pets and unaccompanied minors, for example, placing
additional responsibilities on the airline;
Services that might be expected to be free in a full-service
model attract more modest charges, including seat
allocation (with different pricing steps), first bag handling,
and providing refreshments;
Where imposed by full service airlines charges tend to be
higher than those charged by LCCs. In the case of the
high fee items changing reservations and carrying
baggage outside allowances - the differences are
substantial.

100
Surprisingly, perhaps, the fees charged favour low cost carriers.
This is pronounced with respect to penalty charges ticket changes
and additional baggage two areas which might have been
expected to be most disadvantageous to LCCs.

This difference is further illustrated by simulating two single
segment trips (0). In the first the only charges are for booking and
a single item of baggage, which also incurs an over-weight penalty.
In the case of Southwest there is no booking fee or charge for the
first item of baggage, so that fees relate simply to overweight
luggage (USD25 between 51lb and 71lb). In contrast, while a
USD25 booking fee and USD15 fee for the first bag checked appear
minor, the USD125 fee incurred on bags weighing over 50lbs (the
benchmark across most airlines) is not.

Average Ancillary Service Charges, US Airlines, May 2009
$0 $20 $40 $60 $80 $100 $120 $140
1st Checked Bag
2nd Checked Bag
Additonal Bag
Overweight Charge
Oversized Bag
Ticket Change
Booking Fee
Unaccompanied
Minors
Pet in Cabin
Seat Selection
Snack
Alcohol
LCCs Network

Note: Online bookings and arrnagements only, one-way, single sector;
Source: Centre for Asia Pacific Aviation & SMartTravel.com

A more extreme but not unrealistic case was also considered,
involving changing the travel date, checking in two bags, one
overweight, and purchasing a snack and drink. Charges rapidly
escalate and the differences among airlines increase. The
additional fees for Southwest would be USD33 for overweight
baggage and refreshments.

The changed ticket would be held as a credit for up to 12 months
without charge. At the other end of the scale, Uniteds total
charges would amount to USD349, with the second bag incurring a
check-in charge of USD125 and a changed ticket USD150.
21

21
Note: these charges can change rapidly, so while correct at the time
stated, can be expected to vary
101
Comparative Ancillary Fees by Airline, Two Single Segment Trips
$0 $50 $100 $150 $200 $250 $300 $350
Southwest
Virgin America
Airtran
Jetblue
Spirit
Hawaiian
Alaska
Continental
American
Midwest
US Airways
Frontier
Northwest
Delta
United
2 bags; 1 o'weight; booking fee plus ticket change; snack + 1 drink
Booking Fee, Overweight Bag,
Note: Based on single, domestic segment, one way flight, lowest charge (where charges vary)
internet-based transactions

Source: Centre for Asia Pacific Aviation & SMartTravel.com

6.2.4 A si mpl e equati on: ANCILLARIES = PROFIT

Several airlines publish the share of revenue generated by ancillary
sales. In the cases of Ryanair and easyJet, ancillary revenue has
recently been the difference between profit and loss. In the case of
Ryanair in 2008, for example, post-tax profit, before exceptional
write-offs, was EUR480.9 million; ancillary revenues amounted to
EUR488.1 million. At both Ryanair and easyJet, ancillary revenue
growth has been strong even as passenger numbers have
fluctuated and later in the period, declined.

The growth of ancillary revenue, easyJet, 2003-2009
0.00
5.00
10.00
15.00
20.00
25.00
30.00
35.00
40.00
2003 2004 2005 2006 2007 2008
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
12.0%
14.0%
16.0%
Pax Rev/Pax Ancillary Rev/Pax Ancillary share

Source: Centre for Asia Pacific Aviation & Annual Reports

In fact, Allegiant Airways in the US leads the way. Allegiant,
adhering closely to the stripped back LCC model, reported USD34 in
ancillary service revenue per passenger in the March 2009 quarter.
This was 31% of total revenue of USD108 per passenger, up from
25% a year earlier.

102
Southwest stands apart in largely eschewing ancillary charges, a
differentiating fact that features in its promotions. Given
deteriorating financial performance it is questionable how much
longer it can afford to do so. Net operating revenue (excluding
freight) per passenger was down to USD5.10 (nominal) in 2008
(and USD8.90 in 2007), well down on the high of USD14.90
achieved in 2000. Other revenues contributed 3% to the total and
freight 1.3% in 2008, a year in which the net margin, including
freight and other revenue, was down to 1.6% and the return on
total assets was only 1.1%. This compares with 9.4% and 8.8%,
respectively, in 2000 and 9.8% and 9.2% in 2001.

Southwest Airlines passenger numbers and income performance:
1999-2008
0.0
10.0
20.0
30.0
40.0
50.0
60.0
70.0
80.0
90.0
100.0
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
P
a
s
s
e
n
g
e
r
s

(
M
i
l
l
i
o
n
)
0.0
2.0
4.0
6.0
8.0
10.0
12.0
14.0
16.0

$

O
p
e
r
a
t
i
u
n
g

I
n
c
o
m
e

P
e
r

P
a
s
s
e
n
g
e
r

Source: Annual Reports

6.2.5 The prospect s for anci l l ary revenue

Ancillary charges have helped LCCs to maintain the low fares that
have been instrumental in expanding the aviation market. More
than that, they broaden the appeal of the LCC, adding value,
increasing revenue, and reinforcing margins. The move to charging
for ancillary services thus strengthens the competitive advantage as
well as the commercial viability of LCCs. This is particularly so if
legacy airlines cannot match their pricing, as is the case in the
United States.

An alternative response by network carriers may be to more clearly
differentiate on-board service levels. A number of airlines have
moved to create a premium economy class. In doing so, they are
reinforcing the positioning of economy class as a low cost
equivalent, while recovering costs traditionally bundled into full
economy services by way of a higher fare. This responds well to
the times: premium passengers are trading down, while lower price
business travellers may find the price differential from
economy/coach much more acceptable than the business class
premium). While simplifying the choice for the customer and less
likely to undermine loyalty, this may be no more than a halfway
house, maintaining some of the overheads and operating costs
associated with different classes of cabin.

Onboard and facilitation fees have expanded rapidly. Further
progress will occur. In particular, as airlines increase on-board
services for fees, they are likely to move to cashless sales, using
credit cards and EFTPOS. This will simplify and streamline
purchasing transactions especially if multiple purchases are
consolidated. This should, in turn, increase the range, price, and
value of on-board services purchased without a commensurate
increase in overheads.

103
There is no doubt that ancillary revenues will play an increasing role
in defining and expanding the LCC model. This could undermine
those legacy airlines that seek to emulate it without paying
sufficient attention to the impact on their product differentiation,
market loyalty, and costs.

6.2.6 On-l i ne Sal es

Given the mass appeal of LCCs and their pioneering use of the web
for sales, it has been logical for them to sell travel-related services
online. Hence, airport parking and airport to hotel or city transfers
may be pre-booked and paid for on an airline website. More,
significant for revenue growth, travel related services - hotel
bookings, travel insurance, car rentals, concert and theatre tickets,
and even full holiday packages - are increasingly sharing web site
space with air ticket sales.

Multiple income arrangements

Revenue arrangements for these programmes might include
placement and exposure fees, commissions on sales, or payment
per hit. Exclusivity via partnership deals comes at a price. Ryanair
through its partnering arrangement with Hertz receives payment on
a per passenger basis regardless of rental sales made. The rationale
for this seems obvious:, Ryanair.com ranked at 1,090 busiest
website in the world at the beginning of July 2009, compared with
Hertz.com at 5,531 and Hertz.co.uk at 182,667
22
. Incidentally, the
equivalent rankings for Aer Lingus and British Airways were 2,472
and 6,578 respectively.
23

Airlines have busy sites, especially in
Europe.

6.2.7 Beyond t ravel product s

Online sales need not stop with travel products. Ryanair markets a
branded MasterCard (a model basically pioneered by the legacy
airlines) and car insurance from its site, as well as offering an
online retail catalogue. However, a scan of websites suggests that
LCCs outside Europe and North America have been slow to take up
the added revenue opportunities other than associated travel
offerings (hotels and cars), while North America tends to lag behind
Europe in the range of offerings.

AirAsia is an exception, promoting medical services, insurance,
travel accessories and gifts, as well as the usual travel services.
Nok Air, in Thailand, sought to create partnerships with retailers,
promoting itself in Bangalore as the Shoppers Airline, offering
discounts on branded goods as well as discount vouchers for in-
store use within Bangkok (but this was not enough alone to
underwrite a city pair market that was not ready).

Indeed, the future of ancillary, web-based sales is likely to reflect
the growth generally of web-based retailing (e-tailing). This is
gathering momentum. According to Forrester Research e-tailing
accounted for 7% of mall US sales in 2007, and is projected to
continue growing at double digit rates even in the face of recession
and falling sales in bricks and mortar retailing. As high traffic sites
for consumers with discretionary income and a record of secure and

22
According to Alexa.com a publisher of comparative hits for web sites
23
Ranking is determined on the basis of number of visitors and page views
over a three month rolling period. Not surprisingly, the list is headed by
search engines (Google and Yahoo) and Facebook
104
effective transactions, LCC websites can play a significant role in
this development.
How far aircraft themselves go towards being flying shops remains
to be seen. Many in the industry are optimistic that a range of
consumer products can be sold from on-board, on-line catalogues.
The flying market may be targeted towards consumers with cash
and time to spare, but it must compete for their on-board attention
with a raft of entertainment opportunities, and for their dollar with
a rapidly diversifying mix of retail opportunities and experiences. It
may well be that the new move by a number of airlines to offer WiFi
services on board may help promote that opportunity. What does
seem certain, though, is that the most successful LCC websites will
themselves grow in their capacity to market travel-related products
and services as part of the new wave of e-tailing.

6.2.8 The Lei sure Li ne

LCCs are oriented towards the discretionary dollar and therefore
leisure markets for VFR and holiday travel. Many services have
focused on linking holiday destinations with centres of population.
In this, they have parallels with the longstanding holiday charter
airlines, not just in the markets and destinations they might target,
but also in their low cost base and in favouring operations out of
secondary airports. Full holiday packages, not just individual
components, are increasingly finding their way onto LCC sites.

US LCC Allegiants web site is a leader in this respect. Following the
lead of main retail sites, rather than simply fulfilling a ticket order
once a destination and time of travel are registered in the course of
selecting a flight, it automatically makes offers for ancillary services
covering local accommodation, activities and concerts, and rental
vehicle options at the destination prior to checkout. In effect, a
simple booking for a ticket can quickly and easily convert into the
purchase of a full holiday package without the need to individually
select elements from a series of independent menus.

Evolution to travel and lei sure operator: Al legiant Airlines

Allegiant Airlines offers a unique and tailored LCC operation. Many
specialist airlines cater primarily to the leisure market, but Allegiant
has honed the niche to the full.

It is in effect more a travel operation than an airline, bearing many
similarities to the classic European charter model with its vertical
integration. But in this case it is bottom-up (from the air component
up to the marketing and sales), rather than top-down (from the
packaging and marketing company down to the airline).
The availability of new technology and IT-savvy consumers, allowing
dynamic packaging, takes the place of the corporate marketing
structure. Basically, the travellers do all that for themselves,
replacing the corporate structure.

The website aggressively promotes a host of non-air products, so
that it is sometimes hard to find the seat booking area.

Again mimicking the charter-type demand model, the carrier
operates on leisure routes almost exclusively, catering to travel by
couples, who are assumed to have accommodation, entertainment
105
and similar leisure needs; It sees no need to fly high frequency or
even year round.

This pure leisure profile means that Allegiant has been able to
expand beneath the radar of most of its competitors, serving smaller
ports (and, of course, Las Vegas). With its aggressive approach to
online sales, this profile enhances the carriers ability to sell hotels
and car rentals; its default setting for the number of ticket bookings is
thus for 2 pax rather than the usual 1. Every step of the booking
process confronts the buyer with vacation offers: the airfare portion is
very much a secondary transaction. This small route focus means
the scope for expansion remains powerful.

Allegiant differs most from the conventional modern LCC in that,
although high density configuration is a feature, it operates older, fuel
thirsty aircraft, planning to continue to add MD-80 aircraft to its fleet
at attractive prices without the need for external financing, as it
opportunistically acquires aircraft, engines and parts. Allegiant has
previously stated that it can purchase and refurbish its MD-80 aircraft
for as little as USD4 million. The carrier recently bought six aircraft
from Finnair, apparently to use for parts, and could be a potential
customer for American Airlines large MD-80 fleet that will be
progressively be retired.

While the aircraft are less fuel-efficient than newer types, Allegiant is
able to purchase them outright for one-tenth the cost of a new B737
aircraft, and because of the low cost of ownership, operate a much
lower utilisation (seven hours per day versus 13 hours per day at
J etBlue), which helps keep costs lower.

Long haul LCC, AirAsia X may be going a step further, with talk of
creating a reason to travel: purchase of tickets to a pop concert,
for example, may include the necessary air travel, transfers and
accommodation.

On the other side of the coin, enhanced and flexible ticketing
capacity has encouraged a number of charter operators to establish
scheduled air services. Unsurprisingly, major package holiday
operators have followed suit as they have respond to increased
competition from leisure focused airlines.

6.2.9 Cargo carri age

A standard practice for full service airlines, the carriage of cargo on
LCCs has been generally eschewed, due to the need for quick
turnaround and keep it simple operating strategy. Accordingly, it
is far from core for LCCs. But, given its potential to generate small
but significant revenue streams, more and more airlines find ways
of loading some freight with only minimal added complexity.

This is particularly the case with longer haul single-aisle aircraft
service, such as in Asia, where alternatives are not readily
available. Cargo carriage is also now becoming de rigeur for the
long haul low cost operations of Viva Macau, AirAsia X and Jetstar.
Here, with their lower cost bases, competitive freight rates are
made possible.

However, at best, cargo carriage as an ancillary option is a potential
opportunity rather than a reality for most short haul operations.

106
6.2.10 Frequent Flyer Programmes

The airline loyalty programme concept commenced in the 1980s
has come a long way. Today, for the more advanced models such
as those of ACEs Aeroplan, or of Qantas FFP the activity is a
massive money-spinner in its own right. With only a few exceptions,
most LCCs have avoided anything but the most basic types; and
even full service airlines have fallen well short of the successful
models that are now apparent.

Discussion of ancillary revenues rarely picks up the value of FFPs as
a non-ticket income source, but it is only necessary to look at the
value that Qantas FFP has delivered its Group bottom line in 2009,
to appreciate just how important, financially and strategically this
product can be.

The full-fledged FFP involves for example, the straightforward sale
of points to third parties, branded credit cards (with multiple bank
and retail identification), arrangements with major retailers, a full
catalogue of redemption products other than air travel, a buy any
seat (as opposed to classic limited availability) programme which
allows the airline to charge exorbitant prices for on demand point-
priced sales; the continuing upside is also in the charges that are
then imposed on redemption sales. And, inevitably, there is a
constant deterioration in the value of accumulated points.

The impact of this income projected the Australian flag carrier to
the top global airline for this source of ancillary revenue, when
measured in terms of revenue per passenger (this avoids
distortions related to average yields, when percentages of gross
revenue are used so the lower yield profiles of LCCs give a higher
ancillary proportion).

Frequent flyer programme revenues per passenger: 2008
Airline programme
Annual revenue per
passenger
Qantas Frequent Flyer USD15.82
Alaska Airlines Mileage Programme USD10.14
United Airlines Mileage Plus USD10.00
TAM Fidelidade USD8.17
Frontier Early Returns USD3.70
Iberia Plus USD1.21
Finnair Plus USD1.13
Source: The Guide to Ancillary Revenue and a la Carte Pricing, IdeaWorks Company.com, 2009

Ancillary revenues to jump to over 12% of worldwide airline
revenues this year and next

Chapter 7
How the legacy airlines
have responded
108
7 How the legacy airlines
have responded

The established, full service airlines have been faced with a
combination of potentially crippling circumstances over the past
decade, the growth of LCCs being just one of them. International
markets upon which full service airlines typically relied, often with
protective entry barriers to others - have suffered repeated shocks
by way of financial reversals, pandemics, high fuel prices, and
terrorism scares, as well as by liberalisation.

Faced with these challenges, established airlines have become
victims of their past success, struggling with a combination of
several of the following:

Entrenched management and labour practices;
Substantial debt commitments as a result of both growth
and volatility;
Ageing facilities in their base airports;
An often extensive network of high cost stations;
Uneconomic routes, including routes sustained as feeders;
Complex and costly marketing arrangements and
distribution channels; and
Dated information technology and systems.

Under such circumstances, it is difficult to differentiate the survival
strategies adopted by ageing corporations from responses to price-
driven competition from LCCs.

There is also some debate over how far LCC growth is attributable
to market expansion from lower cost travel and new markets, and
how far to increasing market share at the cost of established
carriers. If their expansion has come from market growth, then the
weakness of network airlines can be put down to a failure on their
part to engage with new market realities and to manage the impact
of repeated shocks by adapting the underlying business model.

Either way, there can be no doubt that LCCs have demonstrated an
alternative to their networked rivals as well as to their customers.
In doing so they have put pressure on airfares and at the very least
obliged and sometimes enabled incumbent airlines to review
their cost and operating structures.

109
7.1 Reduce fares: low fare-high cost , a
dangerous formula

The most obvious - and perhaps least sustainable reaction to
LCCs was for full service carriers to stretch their yield models to
breaking point by placing loss leader fares in the market place. The
result was generally predictable more losses. Ultimately, more
than matching LCC fares on legacy airlines without restructuring
could only be used in isolation and as a short-term anti-competitive
measure. Otherwise, a large share of low yield seats in traditional
economy cabins simply places pressure on the premium end of the
aircraft. Profitability depends increasingly on high business class
occupancy at high fares. In good financial times this may be
sustainable. When the economy falters, however, so does a price
driven, defensive strategy.

Low cost ai rl i ne subsi di ari es: a growth market

A second response has been for full service airlines to create a
subsidiary in order to compete with low cost operators on their own
turf and terms. Apart from the ephemeral Continental Lite, Air New
Zealands subsidiary, Freedom, was a pioneer along these lines,
operating between New Zealand and Australia and, later, into the
Pacific islands. It was established in 1995 and operated out of
secondary cities, successfully driving out independent start-up Kiwi
Airlines. Freedom Air was recently discontinued, as Air New Zealand
moved to an alternative strategy of streamlining its economy
service in response to continued challenges in both the domestic
market and trans-Tasman routes.

Many others have suffered this fate or worse. The strategy of
responding with start-up subsidiaries has had only limited success.
Embedding a low cost culture within a legacy environment poses its
own set of challenges, especially where services and systems are
shared. A constant threat is that the subsidiary cannibalises the
principals mainline traffic. This concern then ricochets around the
strategic sphere of the operation.

Examples include Song, Tango, Ted and Zip in north America: in
Europe, SAS Snowflake, BAs Go and KLMs Buzz were failures. The
following chart summarises the failed attempts.

Failed low cost airline subsidiaries of full service airlines
Name Owner Launch date Termination Comments
North America
Air Canada
Tango
Air Canada 2001 2004 Folded back into Air Canada
Continental Lite
Continental
Airways
1993 1995 Dropped as too expensive
Delta Express Delta Air Lines 1996 2003 Replaced by Song
MetroJet US Airways 1998 2001 Abandoned after September 11
Song Delta Air Lines 2003 2006
Folded back into mainline
operations
Ted United Airlines 2004 2009
High fuel prices led United in Jun-
2004 to discontinue separate Ted
operation. Folded back into
mainline operations
Zip Air Canada 2002 2004
Folded back into Air Canada as a
fare option
Europe
Basiq Air
Air France/KLM
via Transavia
2000 2005
Merged with Transavia, still
operates some services under Basiq
Air branding
Buzz KLM 2000 2003 Taken over by Ryanair
110
Go British Airways 1998 2002
Sold to private equity then on-sold
to easyJet
Snowflake SAS 2002 2004
Ceased separate operations in 2004
when SAS decided to offer a "no-
frills" Snowflake service in a
section of the economy class cabin
on its existing short-haul routes
from Copenhagen.
Virgin Express Virgin Group 1996 2007
Merged with SN Brussels Airlines
to form Brussels Airlines
Asia Pacific
Impulse Qantas Acquired 2001 2004 Absorbed to form Jetstar
Freedom Air Air New Zealand 1995 2008
Absorbed into the parent, due to
minimal brand and cost advantages

While not a long list, it includes the great majority of subsidiaries
that were started up. Finding out why the subsidiary success rate is
so poor is probably not so hard, typically involving failure to identify
the appropriate role for the airline and allowing too much overlap
between managements of the parent and daughter. Where
establishment is largely left up to an internal team in the parent,
this tends towards disaster, as there is neither the necessary
understanding of the low cost model, nor sufficient freedom of
action - eg in routes and prices - for the LCC to operate effectively.

But when the equation is struck, there can be remarkably valuable
synergies, as seen below in the case of Qantas/Jetstar.

In other cases, the mistakes can offer valuable pointers for others.

LCC Subsidi ary Case Studies

1. Deltas Song Air, the womens subsidiary. They re (not)
playing our Song 15-Apr-2003 to 30-Apr-2006

Song was one of those airlines that the industry needs every now
and again, so it can learn what works and what doesnt. There have
been many full service airline low cost subsidiaries that fall into this
category. One of the recurring reasons as airlines didnt learn from
each others mistakes was that to respond to the low cost airline
threat, you had to risk cannibalising your own service by competing
on the same routes as the competition.

Laden with psycho-babble and marketing hype though it was, Song
was actually a quality airline that really tried to make a difference
but found that all those fancy bits did not make a profitable airline.
Nor, more importantly, did it help its parent respond to the low cost
airline threat.

Delta had tried in the 1990s to compete on leisure routes, with Delta
Express, set up in 1996. It at least survived longer than Song, only
disappearing in Nov-2003. Now Delta had decided to try a new
focus, one of quality, perhaps inspired partly by J etBlues arrival. All
other subsidiaries had hurt their parents, or simply failed for other
reasons. But, although Songs product received almost universal
praise, it neither made money, nor provided the solution for Delta in
competing in the 21
st
century US domestic market.
111
For, even if all the market research, clever branding and healthy
inflight experiences had been well conceived, the concept missed the
plot, largely because Delta lost sight of why it was being set up. It
was targeted largely at women, because the market research found
that women conduct about 90% of online research into travel and
leisure (including professional assistants, a diminishing breed), and
make about 75% of the travel decisions.

But it didnt put the commercial logic together with the market forces.
To avoid shooting the mainline airlines business in the foot, its
routes were almost exclusively confined to leisure markets. That was
great, but it didnt help Delta much on routes where it was under
heaviest attack from the LCCs.

So, when singing the requiem for Song, the carefully crafted, upbeat
message put out in Oct-2006 by Delta CEO, J erry Grinstein,
announced that Song was to mergeinto Delta, creating a new and
unique long-haul domestic Song service that will set a new standard
in transcontinental travel. In other words, it simply hadnt filled that
gap. He continued, Songs route networkhas been limited to high-
density leisure markets.

Now, Delta with Song was going to redeploy the B757s with a two
class configuration. Recognising that the subsidiary idea was a no-
go, now came the massive backflip: By merging the brands, we will
also benefit from a more simplified operation, reduced overhead
costs, and more focused marketing resources.

Apart from the misdirected strategy, the airline had also had a
number of no-go areas. For a start, all of the airlines flight crew
came from the mainline carrier. Flight attendants were fitted out in
trendy designer Kate Spades outfits. Then there was a massive
preoccupation with marketing. Building on the recently-launched
J etBlues leather seats and live TV, the marketing team looked for a
greater emotional context. This was to be through an optimistic,
can-do, up-tempo, up-beat, attitude." It hired New Yorks
Meatpacking district bartenders to create a signature Song cocktail,
then opened a song store. Not much in there on the subject of being
brutal about costs.

But Delta was anyway in big trouble by then. It had meanwhile, in
J an-2005, introduced its highly controversial across-the-board
massively discounted SimpliFares, a desperate cash-raising
measure that unhappily coincided with a substantial rise in fuel
prices.

Delta filed for Chapter 11 bankruptcy protection on 14-Sep-2005.

Today the largest airline in the world, Delta
decided that bankruptcy, combined with
buying Northwest, was a better survival
strategy than struggling with subsidiaries.


112
2. Singapore Airlines: three ai rline brands: full service,
regional budget airline subsidiary and a JV LCC

Tiger Airways: the Singapore Airlines Joint Venture LCC
subsidiary model

Like most other full service airlines in the Asia Pacific region,
Singapore Airlines was slow to catch on to the potential of LCC
development in the region. With a very low cost base and widebody
aircraft operating the main routes (giving it the opportunity to offer
large numbers of heavily discounted seats), it felt it could
discourage new entry by low fare airlines.

Only with the prompting of private equity was the carrier moved to
establish Tiger Airways, a 49%-owned low cost subsidiary, whose
other 51% is held by a combination of Indigo Partners (24%; see
Serial Investor section), the Ryan familys Irelandia Investments
(16%) and Dahlia Investments, a subsidiary of Temasek Holdings
Pte, the Singapore governments investment arm (11%).
24

Silk Air: the longstanding regional budget brand

However Singapore Airlines also already had a longstanding wholly
owned budget regional airline subsidiary, Silk Air. This A320
operator was formerly a charter-type operation and now flies to
Asia's most exotic locations, offering flights to 30 fascinating
destinations, each offering a unique 'unwinding experience' through
its natural and man made wonders, local cultures and customs.
25

That is, it is primarily a leisure airline, each aircraft configured with
a handful of business class seats. Its business model is underpinned
by interlining arrangements with its parent and other partners.

Tiger distinctly separate from the main airline

In fact Singapore Airlines does not list Tiger among its subsidiaries
on its website, or even provide a link to Tigers site, perhaps fearful
of corrupting SIAs high profile brand. Unlike, for example the
Qantas/Jetstar model, both the mainline carrier and Silk Air
compete head to head with Tiger Airways on numerous routes.
Thus Tiger apparently does not form any part of a coherent strategy
for the group, so that in effect Singapore Airlines participation is
effectively primarily financial and little else.

It does however give the full service airline an extra option for the
future, as well as providing a buffer against foreign LCC intrusions
notably Jetstar at its Singapore base. Tiger Airways Australia also
causes a considerable nuisance to key rival Qantas in that airlines
domestic market, as Tiger expands with each new aircraft arrival.
As a Ryanair-type, aggressively low fare operation, Tigers unit cost
base is reducing as it gains critical mass and, as the third carrier in
that market, has a disproportionately large downward impact on
pricing.

Thus far the investment has not been lucrative for SIA, reporting
for the year to 31-Mar-2009 that The Groups cumulative share of
losses at the balance sheet date was USD45.2 million (2008:
USD31.3 million)
26

.

24
Since 2007, the holdings are through the special purpose Tiger Aviation
Group, which similarly owns Tiger Airways Australia
25
Singapore Airlines website
26
Singapore Airlines Annual Report 2008/09
113
7.2 LCC Subsidiaries by region

Numerous subsidiaries do continue to operate, some more
successfully than others. The preeminence of the subsidiary model
is in Asia Pacific, reflecting the great market power of the flag
carriers in their home markets and, perhaps, the difficulty of
establishing an independent low cost airline in international
markets.

7.2.1 North Ameri ca

Tellingly, no US full service carrier today operates with a low cost
subsidiary.

7.2.2 Europe

The Lufthansa model: Subsidiaries by acquisition and
separate operation

A further LCC subsidiary relationships strategy is that of
Lufthansa, with JetBlue and a number of other European based
airline investments and subsidiaries, including wholly owned LCCs,
Germanwings and bmibaby (through its ownership of the parent
bmi), and a 50% share of charter and scheduled operator,
SunExpress in a joint venture with Turkish Airlines.

The JetBlue relationship is however a wholly different strategic play
from the usual LCC subsidiary, where Lufthansa implicitly
recognises the incremental network potential of JetBlue in the US
and adjacent markets.

Lufthansa is the most acquisitive of full service airlines, buying
several of its European neighbouring flag carriers. But investing in
an LCC in order to use it seamlessly to access a market the size of
the US (and beyond) is a big step. In preferring a relationship with
an LCC albeit high profile and high quality over an American full
service airline, Lufthansa made a benchmark statement, crossing
the boundary between the two models.

A signal of the evolution of the relative stature and direction of the
US airline market, the fact that a major brand like Lufthansa would
conclude such an arrangement with an LCC is a considerable
breakthrough in genetic evolution.

Iberia timid start, now integral part

Another European flag with a low cost subsidiary is Iberia. The
carrier established Barcelona-based LCC subsidiary clickair in 2006,
with a minority share (20%, but effective control) and a mere three
aircraft in order to respond to growing competition in the budget
market. As that market became increasingly congested, with
Spanair and Vueling aggressively expanding, a merger was
brokered with Vueling in mid-2009.

The combined airline, now under the Vueling brand, is 46% owned
by Iberia and is increasingly being used as a substitute for Iberia on
domestic routes, as the division of responsibilities evolves.

114
SAS charter airline becomes LCC, becomes unfortunate
experience

Scandinavian flag, SAS, also invested heavily in the low fare end of
the market. Subsidiary Spanair was established as long ago as
1986, as a Barcelona-based joint venture charter operation with
leading Spanish travel house, Marsans, evolving progressively into
a something closer to an LCC operation. As SAS finances
deteriorated in the second half of this decade, SAS looked to sell
out and eventually sold for EUR1 in January-2009, retaining only a
small minority shareholding.

SAS and LCCs: Denmarks international LCC capacity share in
decline, domestic share stabilises

British Ai rways - Go (went!)

But probably the unhappiest major airline subsidiarys existence
was BAs Go, an early experiment which did not manage a complete
separation from its parent and busily cannibalised the British
carriers market, also losing money in its own right. Showing
foresight that the low cost model was a thing of the future, the
wholly owned, Stansted-based Go had been established in 1997,
but continuing disagreement about strategy including a shift to
purely leisure destination operations in 1999 eventually saw the
airline sold in a private equity/management buyout. It was on-sold
to easyJet a year later for UKP374 million, nearly twice the original
sale price. (Coincidentally, British Airways also later attempted
unsuccessfully to buy a share in an Indian LCC of the same name).

7.2.3 Asi a Paci fi c

India

The unique Indian market has also spawned a number of LCC
subsidiary relationships. But in this case the strategic underpinnings
were abbreviated and, other than reducing competition, clear
strategies are yet to emerge.

A flood of new capacity entered the market as LCC fever overtook
the country after 2003. The resulting fragmented market drove a
number of consolidation moves, leading to full service airlines either
establishing LCC subsidiaries (as Air India did with international,
and soon-to-be domestic, operation, LCC Air India Express) or
merging/taking over LCCs (Kingfisher, which acquired the original
LCC, Deccan; and, Jet Airways which also subsequently established
its own LCC brands).

North Asia

The market power of the incumbent full service airlines, along with
the intrinsic protectionism which has characterised these countries,
seems likely to ensure that it will be subsidiaries which dominate
the LCC marketplace, once they appear on the scene.

Once the JAL reconstruction is under way, it appears that all four of
the major Japanese (JAL/ANA) and Korean (Korean Air/Asiana) will
have their own LCC subsidiaries probably within a short period of
time. Korean already has Jin Air in operation.

115
China still does not practically permit LCC operations by Chinese
airlines, (although it does admit foreign airlines to operate inbound
international services). There the only current airline which
describes itself as an LCC and operates according to low cost airline
principles is Spring Airlines. Hong Kongs Cathay Pacific Airways
does not have a low cost subsidiary.

Southeast Asia

Other than Singapore Airlines, noted above, Thai Airways holds a
39% share in LCC subsidiary, Nok Air, which operates domestically
and internationally, initially using Thai Airways B737 aircraft and
more recently leasing aircraft in its own right. Garuda Indonesia has
a tiny domestic LCC subsidiary, Citilink, initially established to fend
off competition, but shackled by the need to avoid cannibalising its
parent. Since the grounding of Adam Air, the LCC threat has
diminished somewhat, allowing Garuda to downgrade Citilinks
activity.

LCC Subsidi ary Case Studies

3: Qantas successful LCC subsidiary: A single-airline
group convergence of airl ine models

Is Qantas Group the most effective airline model in the
world?

Qantas Group operates arguably the most successful organically
developed dual brand airline model in the world. Its J etstar low cost
subsidiary has effectively insulated it from domestic LCC
competition, while allowing it to complement the full service airline on
marginal international routes and provide a platform for expansion
within Asia.

But Qantas itself is an airline with little future as an international full
service airline at the end of the line in a world where it is helpless to
compete with the market and pricing power of efficient Middle East
and Asian intermediate airlines able to pick the eyes out of its
European and Asian services.

Meanwhile, its only really lucrative international routes, to the US and
to South Africa, are being eroded by the entry of a competing and
lower cost national airline, V Australia, on both of those routes and
additionally by the worlds largest airline, Delta, on the US route.
And, with 65% domestic share and only one way to go from there -
its largely mature home market offers little for the future.

Thanks to its dual brand however, Qantas Group has a few special
features up its sleeve, which other airlines would do well to examine.
It combines the features of both sides of the full service/low cost
equation and blends them into what is seemingly an impenetrable
competitive force.

116
Fortuitously having avoided privatisation in the debt-fuelled days of
2007 a private equity bid which would have split up and capitalised
on the various segments of the airline as well as loading the Group
with debt at probably the worst time in history it is instead now an
integrated, segmented group with enormous internal synergies.

Domestic domination is a helpful start but was not a
given

It does admittedly have a unique advantage, in jointly owning two
thirds of the Australian domestic market. That is, by passenger
numbers. Measured in terms of domestic revenue share it is
probably closer to 75-80%. Accurate numbers would only be known
by management, but Qantas continuing near stranglehold on
corporate and government travel in Australia, as well as its
dominance of regional operations, allow it to generate a massive
premium over the competition.

This differential derives largely from the Groups operational
presence, but also from its inevitable influence in the distribution
chain, where its market power can only be guessed at; in a recent
attempted class action against the carrier, no travel agent was willing
to put its name to an affidavit alleging any improper or other pressure
exerted by Qantas in this area. It is an indication of the pain which
this downturn is causing (even though Australia is less affected than
almost any country) that even with this advantage, the mainline
carrier is still unprofitable.

But there is a lot more to Qantas Groups success that is not a
product of history, rather of sound strategy and which is therefore
capable of being imitated by others.

Strategi c leadership: domestic and international l ow cost
subsidiaries

J ust the fact that Qantas was able against contemporary industry
wisdom to establish a highly successful and complementary low
cost subsidiary, J etstar, has been its prime strategic move in this
decade. This enabled it first of all to reverse the threatening inroads
being made by low cost domestic competition (notably Virgin Blue)
from 2000 onwards, then later to invade Southeast Asia with an
international joint venture subsidiary, J etstar Asia, based in
Singapore. A subsequent investment in Vietnam (and a near-miss in
Indonesia) further entrenches the Asian future.

The original J etstar airline was created to head off the threat of
domestic competition, the latter to exploit future Asian expansion
opportunities not available in its home market.

The Australia-based J etstar Airways is also progressively taking over
Qantas unprofitable international long haul routes, with a growing
fleet of A330s complementing its A320 family aircraft which now
operate domestically in New Zealand as well as on medium haul
routes in the South Pacific. It operates primarily tourist routes and
now occupies Australian flag carrier status in Tokyo for example,
after Qantas withdrew.

J etstar had been scheduled to be the first recipient of the host of
B787s ordered by Qantas Group. The delay in delivery of the aircraft
has set back expansion plans, perhaps not an unwelcome
occurrence as the world economy has slowed, although it has
reduced the airlines first mover opportunities, as long haul low cost
airlines like AirAsia X intrude into its space.
117
When the B787-9s eventually appear, J etstar plans to expand to a
range of European, Asian - and perhaps US routes,
complementing and, where necessary, replacing its older brother.

The LCC is a strong contributor to the bottom line; in the financial
year to 30-J un-2009, J etstar was attributed a profit of AUD137 million
in a difficult market, while the full service airline was bleeding heavily.

And synergies are exploited

Although in most ways independent and free to establish its own
forward plans, J etstar is able to benefit for example from the
purchasing power of its parent, delivering healthy savings. It also
codeshares and interlines with the full service airline and with the
Groups Asian subsidiaries, along with participating in the massively
powerful Qantas Frequent Flyer Programme.

The third leg: a l ifesaving Frequent Fl yer Programme to
die for

Then there is a third leg to this creature a frequent flyer
programme, modelled on the successful (in one way) Air Canada
Aeroplan plan.

In fact, were it not for the Qantas FFP, the mainline carrier would be
in dire straits today. Despite aggressive cost cutting over the past
few years, it is still an unwieldy, premium traffic-reliant full service
airline, currently losing anything between AUD1-2 million a day. But
the airline provides a visible branding core for the Programme, now
expanding rapidly with various major retail deals.

The FFP reported a profit before tax of AUD384 million in FY2008/09
but the amount it really generates is more a matter for accounting
than for determining an independent bottom line. It could easily be
three times that amount. That is not to suggest any corporate
misbehaviour, but when the Group has complete ability to determine
airline-FFP pricing arrangements (eg how much the airline
charges the FFP for any particular seat) and, on top of that to add
hefty airline charges to any frequent flyer points redemption, the
once-loyalty programme is now the Groups golden egg.

It is no secret that redemption seat bookings often earn Qantas
considerably more than do online ticket purchases, especially in the
premium sector.
27

When accounted as ancillary revenue, this makes
Qantas one of the highest generators of non-ticket sales revenue
(see the Ancillary Revenue section).

27
At the time of the proposed private buyout of Qantas, the prospect of
selling off the FFP was dismissed by Grant Samuels Independent Report, filed
as part of Qantas Targets Statement required by Australias Corporations
Act: the program itself would have to be restructured and turned into a firm
seat program rather than Qantas current marginal seat basis. It is not
certain this change is viable and, in any event, it would take a considerable
period of time to achieve. (p 62). In Jul-2008, Qantas announced the
creation of its any seat awards and talk of a hiving off escalated. Then the
world changed. The FFP has since been made a fixed segment of the Group.
118
And how well the pieces fit together!

If any illustration of the linked value to Qantas of J etstar and the FFP
is necessary, the contrast between Qantas Groups model and the
dying contortions of Air Canada is as close to perfect as possible. Air
Canadas disintegration union opponents called it asset stripping -
has spawned a highly profitable loyalty programme, Aeroplan, as
well as regional carrier, J azz and a profitable MRO, Aveos.

Qantas instead remains intact, able for the time being to feed off the
wealth of its FFP and to distribute routes appropriately between its
different airline models.

Air Canada the airline, is meanwhile only able to survive following a
hastily cobbled together bailout this year, having previously emerged
from bankruptcy protection only three years earlier.

While the private equity proponents were putting together their bid for
Qantas in 2007, there was considerable talk in Qantas of the
companys inability to generate investor understanding of the
respective values of the Groups assets. The argument went that,
with so many streams of business, the real value of the Group was
hidden, depressing its share price and restricting the airlines ability
to raise capital. Following the ACE/Air Canada model was the ideal
private equity play. But the shareholders narrowly rejected the bid.

United it stands, divided Qantas doesnt survive

For the time being, the FFP is comfortably supporting Qantas the
airline as it goes through its darkest hours. And the Group is able to
continue to cover cash outgoings, as J etstar continues to expand
and cover for Qantas. It is able also to respond to aggressive moves
by the locally based variant of Singapores Tiger Airways, as J etstar
contests it in Australia and allocates new capacity at Tigers home
base.

The relevance of J etstar to Qantas is that, without it (and the FFP),
the full service airline would at best be in deep trouble today, and
probably seeking a government bailout. The three-pronged vehicle
however is able to maintain stability, despite difficult conditions. And,
whatever the future outlook, it is sufficiently adjustable to deal as well
as any airline with what might come along.

This helps Qantas avoid the reality of whether it has value in a
separate investment. The full service arm is still a valuable part of the
triumvirate, even if it is losing desperately as an airline in its own
right. It provides a focus for the profitable FFP and a foundation for
J etstar.

What that says for the future viability of the full
service model in its own right is hardly
comforting, but thanks to its dual brand/low
cost airline subsidiary strategy, the Qantas
Group operation does collectively offer a
viable and resilient combination.


www.centreforaviation.com/routes
Introducing the new
CAPA Routes database
New routes
Routes updated daily online
Suspended routes
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7.3 Reposition: reduce costs and maintain
yield differential

A third strategy has to be to streamline mainline services, to take on
the LCCs at their own game. Again, this strategy has met only mixed
success, especially if the streamlining does not change fundamentals
by way of service and organisational structures. Sufficiently reducing
costs, with entrenched unions and workpractices has been shown to
be near-impossible at best.

Can full service airlines survive intact?

Perhaps the biggest question raised by the spread of low cost
airlines, domestically and internationally, is whether the traditional
full service airline model can survive. They almost certainly cannot
in their traditional forms or at least, not many of them can. That
begs the question then of whether the remainder can, in their
different ways, undergo a transformation into a more durable
model.

The barriers to full service airlines transitioning to a low cost model,
or even establishing subsidiary LCCs, lie in large part in the
difficulty of changing existing structures and practices. Ironically,
perhaps, such changes may be more likely in the face of the current
downturn. The survivors may emerge looking more like LCCs than
full service airlines, and consequently compete much more
effectively with the newcomers.

Chapter 11 in the US, and bankruptcy, bailouts, or mergers in
Europe may be the catalysts for jettisoning restrictive labour
agreements, sidelining crippling pension commitments, streamlining
marketing arrangements, updating equipment and realigning
services. The legacy airlines that survive may be the ones that can
best jettison their legacies

Several full service carriers have, usually under full frontal attack
from one or more powerful LCCs, attempted to transform
themselves into a much lower cost airline, capable of competing
with their still-lower cost competitors, but still able to cling on to a
higher yield margin. Several have come close to achieving this goal.
They include Aer Lingus, Air New Zealand and Malaysia Airlines and
Philippine Airlines. In the US, several have, with the aid of Chapter
11 bankruptcy protection, had substantial makeovers; Continental
and US Airways probably came closest to creating a survivable low
cost competitive format.

The makeovers survived, and even prospered in the high yield/high
fuel cost first nine months of 2008, but all are finding the going
extremely tough in the tough economic climate of 2009, unable to
maintain yield premiums, as passengers trade down.

121

Full service carri er restructuring

1. Aer Lingus attempted restructure from full service to
low cost

Aer Lingus was established in 1937 as Irelands national flag carrier.
The government floated the Dublin-based airline in 2006. As Ryanair
expanded aggressively into its space, stealing market share on Aer
Lingus key short thaul routes, it eventually became apparent that a
total makeover in style and management was necessary. Under CEO
Willie Walsh, Aer Lingus became a very different, new generation
FSC-turned-low-cost carrier.

Aer Lingus left the oneworld alliance in 2007 to establish a low-cost
business model based on 41 Airbus aircraft and operating high-end
low-cost, single class economy services to Europe and the United
Kingdom, and a two-class service to the United States. The process
was painful and at first appeared to be bearing fruit. A dispute
between the government shareholder on one hand and Walsh and
his management team (over equity rewards for the turnaround team)
saw them depart and the subsequent difficult periods have seen Aer
Lingus share price slide in imitation of its fortunes.

Aer Lingus share price growth: Jan-2007 to Oct-2009

Source: Centre for Asia Pacific Aviation & Yahoo! Finance

Low cost rival, Ryanair, has acquired 29.8% of the airlines shares,
although it recently failed to acquire the governments remaining
25.4% share that would have given it control.

The commensurate restructuring of the unionised airlines operations
has been some time coming, and has yet to deliver the required
savings. A fuel cost-fired loss of EUR107.8 million in 2008 compared
with a profit of EUR105.3 million in 2007. Passenger numbers and
RPKs were up (by 7.5% and 9.9% respectively) but capacity
increased more rapidly (with ASKs up 13.9%) and average load
factor fell (from 75.4% to 72.8%. Passenger revenue grew by just
2.5%, short haul fares down 6.4% and long haul fares up 2.6% on
the back of fuel surcharges.

122
Extraordinary costs of EUR140.9 million in 2008, related mainly to
staffing changes, were incurred in 2008 have yet to deliver the
increased productivity required to deliver sustainable profit.

Substantial productivity gains are still required. In 2008 the average
staff cost for Aer Lingus was reported as EUR82,000 compared with
Ryanairs EUR50,000. Aer Lingus last year handled 2,600
passengers per staff member, compared with Ryanairs 9,700. Even
allowing for different commercial practices, the substantial
productivity differential highlights the difficulties faced by legacy
airlines in emulating the low cost model.

2. Air New Zealand s turnaround

Probably the most successful of conversions from legacy airline to a
full service low cost format has been Air New Zealand (although
more recently, Malaysia Airlines has also achieved major cost
reductions).

Air New Zealand had little choice. After an ill-advised takeover of a
much bigger airline, Australias Ansett Airlines, the privatised airline
was forced into administration three days after September 11, 2001
when Ansett collapsed although there was little connection
between the two events; Ansett was a classic old style legacy airline
which was overwhelmed by the entry of Virgin Blue.

The New Zealand government picked up the pieces and
renationalised the flag carrier; today it remains in public ownership,
except for a 10% of equity which is widely distributed. The reason: to
secure international links and domestic competition.

The price of the NZD800 million bailout rescue was a massive
revamp of the carriers operations. Air New Zealand was already
familiar with low cost services; as noted earlier, it was the first to
establish a low cost subsidiary, Freedom Air, eventually folded back
into the parent last year. The logic was essentially that the headline
carrier could perform all the low cost functions needed, suggesting
that management at least believed that the conversion to low cost full
service was largely achieved.

40% of management staff were cut within months, but the central
recovery platform was to become a hybrid, with low cost, low frills
service on domestic operations and an edgy long haul model,
retaining three categories but removing first class, replacing it with
upgraded business class, along with premium economy and
standard economy. A rapid move to adopt cost saving IT solutions
also reduced costs significantly not hard off a base where almost
no sales were online, but still dramatic.

Domestic was where the airlines main revenue came from and the
2002 Domestic Express low frills, cut price operation therefore
risked alienating loyal supporters. But fortunately the opposition
(from Qantas) was still half hearted; the two carriers were by now
actively seeking a merger a wholly rational outcome for a country
with a population of a little over four million and, according to Air New
Zealands CEO, there was no Plan B; the smaller carrier had no
chance of survival without folding into Qantas. However the
competition authorities felt otherwise and rejected the plan.

123
The remodelling has been brave and surprisingly durable in fact. But
the recent invasion of the carriers domestic market by both Virgin
(Pacific) Blue and J etstar is shredding yields on the only three main
domestic trunk routes and all major city pair routes to Australia. Now,
the cornerstone regional markets that Air New Zealand has
dominated with ATRs is about to be assailed by Pacific Blues
Embraer regional jets.

Air New Zealand has demonstrated
remarkable resilience, helped by its small size
and focussed management, but it does look
as if it will soon be forced to succumb to the
remorseless power of size. And, perhaps,
logic. But then again it has defied doubters
(including its former CEO) for years now


Chapter 8
The airport responses
125
8 Airport responses

In the short time since the first edition of The Centres Low Cost
Airports & Terminals report was published in Feb-2008, the air
transport business has undergone a change of depth of which it has
never seen before.

The airports and terminals referred to in the original edition were
conceived and instigated largely during a period of comparative
economic boom and when the driving factor was the voluntary
choice of air passengers to sacrifice comfort for price both in the air
and on the ground, the consequential infrastructural changes at
airports being forced upon their operators by influential and
determined LCCs, for which Ryanair has become the flag carrier.

8.1 A radical change in thinking by airports

Low cost airlines have by now long been significant drivers of
airport development. They are central to the expansion of many
secondary, provincial or regional airports, which offer them the
advantage of relatively simple and low cost infrastructure. In many
such cases they may simply be exploiting under-developed markets
for aviation in the vicinity. In some cases they may merely be
exploiting, looking for somewhere to park an aircraft for a short
time each day and keep some revenue coming in, courtesy of vague
promises to inexperienced airport operators of the obscure wider
economic benefits they will reap by permitting the airlines to use
the airport facilities at little or no charge.

The enormous delivery schedule of new equipment from Seattle and
Toulouse to the LCCs both now and during the next few years
suggests that an ever more desperate search for new routes on
which to fly these aircraft will continue and grow. No LCC will cancel
aircraft orders until it absolutely has to, for to do so would signal to
an increasingly savvy client base that the game (infinite
expansion) is up.

Innovation in airline marketing

It is perhaps remarkable how few airports have exploited the power
they have to facilitate LCC growth, thereby expanding their market.
There is a relatively straightforward opportunity to assist in LCC-
LCC connectivity, both physically and electronically.

There are standout exceptions. Cologne Bonn Airport has
substantial experience in developing a successful low cost carrier
concept. Since Germanwings, headquartered at the airport,
commenced its operation seven years ago, the former regional
airport increased its passenger volume from 5.4 million passengers
in 2002 to 10.5 million passengers in 2007, dipping slightly to
10.35 million in 2008.

Cologne/Bonn has been able to maintain its position in the ranking
of the major German passenger airports and is still number six,
ahead of Stuttgart, which has since fallen below the 10-million
passenger mark threshold, thanks largely to its innovative approach
to airline marketing.

Cologne/Bonn is one of the few airports globally that is arranging
de-facto connectivity for its airline clients, via its Cologne Bonn
Connect interactive service, that effectively creates low cost mini
hubs. The web-based B2C transfer platform simplifies connecting
flights between different carriers with a real-time booking engine.

126
Cologne Bonn Connect

Source: Cologne Bonn Airport website

Traditional hub airports cater for LCCs, but ri sk yi eld
dilution

To the extent that they capture market share from network airlines,
though, LCCs may also divert passengers away from traditional
large airport hubs, undermining their growth. Consequently, major
airports have been obliged to consider how they might cater for
LCCs without undermining their core business.

Just as with full service airlines, the success of LCCs has obliged
hub airports to focus increasingly on cost containment, streamlined
facilitation, and competitive charges. And, like the incumbent
airlines competitive response of lowering low fares, this raises the
risk of yield dilution for major airports.

Reducing charges to LCCs may mean that any marginal gain in
revenues from additional business is less than the increase in direct
and indirect costs. In terms of indirect costs, while airport
overheads may not change much, capacity that might otherwise
have been committed to higher yielding business is absorbed. This
places downward pressure on airport productivity. It also brings
forward the need for expansion and associated capital, which
impacts on future costs. The issue, then, is for airports to revise
their own cost structures to offset any reduction in yields associated
with increasing dependence on LCCs, and to step up their own
productivity.

127
A further indirect cost is the likely contamination of the existing
business model, with pressure from existing airlines for equivalent
treatment by way of discounted charges. While LCCs may make
less demand on airport services, they are still absorbing capacity
that would otherwise be available to the network carriers, which are
unlikely to appreciate the difference.

A perfect of example of new thinking in relation to this conundrum
may be found at Manchester, UK, where, in Aug-09, the airport
management took the unusual, some might say suicidal, stance of
refusing an offer by Ryanair to increase its 10-city network by 28
flights a week in return for zero passenger charges. The current
charge is GBP3 (USD5) per passenger.

An offer it could refuse

The management described it as an offer it could refuse, and did.
As a result, Ryanair cancelled or transferred nine of the ten
services, leaving only Dublin, a market it cannot ignore because of
the high proportion of Irish nationals living in the city-region, who
would flock to Aer Lingus, which Ryanair wishes to take control of.

Manchester is not a low cost airport per se. Neighbouring Liverpool
(which is a case study in the Low Cost Airports and Terminals
report) is; also Blackpool and Doncaster-Sheffield airports and
increasingly Leeds Bradford Airport, where incumbent LCC Jet2.com
criticised the airports approved and much-needed expansion plans,
stating it would probably increase airport charges as a result. All
are within 50 miles (80 km) of Manchester, which continues to set
out its stall as the alternative international gateway to Britain that
avoids London (as Munich is to Frankfurt for example) even if that
can barely be justified momentarily. But it has successively lowered
its charges over a period of years to the degree that they bear no
relation to those of the London airports. Using that yardstick alone,
it has become an LCA.

For the reasons mentioned above, plus the fact that it believed that
too many of Ryanairs routes were unsustainable, the MAN
management refused to, as they put it, trash the market. It would
not prostitute itself to Ryanair, which retorted that the flights
should be retained and offered as a loss leader as if the airport
were a discount retail factory outlet.

Interestingly, the reaction of consumers came down firmly on the
side of the airport management. In a poll in Crains, the local
business newspaper, 95% of respondents supported the airports
position, even though it meant the loss of flights to airports such as
Girona, Frankfurt Hahn and Bremen, which are not likely to filled by
other airlines. This must give Ryanair, the global leader in its field
(cost cutting), some pause for thought. It is possible, if unlikely just
yet, that other airports will look seriously at the decisions taken by
MAN and wonder how much longer they too will continue to
prostitute themselves, language that has never previously been
heard in this context. If they decided to come off the game, so to
speak, the low cost model could begin to unravel.

In the first edition of Low Cost Airports & Terminals it was posited
that identifying the precise features and determinants of an LCAT
was as difficult as identifying those of an LCC. The example above
suggests that the definition of a LCAT now is any facility where
direct charges are not implemented.

It is also interesting this development should come at a time when
there is an economic theory, one that has been around for a while
in other industries but which is seeping into the wider transport
business, which claims that the optimisation and maximisation of
successful routes should be the objective, rather than limitless
support of new and speculative ones. (See also the promotional
funding paragraph below).
128
Avoid contamination build an LCT

One of the decisions MAN could have taken, over a decade ago, but
failed to do so because it had just inaugurated massive excess
capacity in Terminal 2 that it needed to justify through use, would
have been to develop a separate low cost terminal. A maintenance
hangar (a popular choice for LCT conversion) was available but
remained as a hangar.

It is a tried and proven way for major airports to avoid such
contamination between legacy and budget airlines by developing
separate low cost terminals designed to meet the needs of LCCs.
The original 2008 Low Cost Airports & Terminals report documented
the growing number of airports, especially in Europe, adopting this
tactic, either through conversion of existing facilities (e.g. Marseille,
Geneva, Warsaw, and latterly Brussels airports), or through
construction of new terminals (notably in Asia Pacific, e.g.
Singapore, Kuala Lumpur).

Promotional funding gets in the way of profits

Another impact arises from the tendency for LCCs to seek or be
offered promotional funding from airports or local governments to
encourage the provision of services. While this helps maintain
airport revenues, it is also an effective increase in the cost of sale
and will reduce returns unless the benefits of additional traffic
exceed what may have been achieved anyway. In any case, the
use of such subsidies does not guarantee the ongoing presence of
an airline. It needs to be recognised at the outset that lowering the
cost of entry to a particular market by lowering charges or
subsidising market development reduces airline risk, facilitating exit
if sought-after returns are not realised.

Another consequence of such funding is that it may incur the wrath
of the ultimate regulatory body. In the case of Europe, this is the
Competition Directorate of the European Commission, which
permits limited route development support funding at small (under
5 million ppa) publicly owned airports as long as they are shown to
be capable of supporting inward investment and are for intra-
European routes only. However, there are currently many cases
under investigation where the DG Comp has had then referred to
the courts, often by legacy airlines, on suspicion that the airlines
and airports have strayed outside the guidelines. It is a grey area
and one that the EC will undoubtedly clean up before long.

The challenge for airports attracting LCCs is how to convert
increased passenger flows into revenues, especially if required to
offset lower landing and handling receipts or recover such incentive
marketing payments. Given streamlined processing and rapid
turnaround times, travellers may spend less time in terminals.
Given the broad market base LCCs have brought to air travel, they
may also attract more travellers with limited discretionary income,
reducing average retail sale per passenger. The one ray of hope for
LCATs is that in the current economic climate it is the more
upmarket goods - watches, jewellery, leather goods etc - that
passengers appear to be eschewing - the ones found in legacy
airports - rather than the staple fare of items like confectionery and
tobacco where sales have held up better.

More flexible master planning needed

The academic Richard de Neufville proposed (2007) the introduction
of flexible design strategies to deal with these changes, moving
away from the rigidity of master planning and building options into
airport design. This approach should hold more appeal to private
compared with government owners, enabling them to match
development expenditure to the way the traffic demand unfolds.

129
While they may offer lower service levels, especially through the
use of common holding areas, low cost terminals should lift
productivity through higher utilisation. This calls for mixed
technology, with high tech processing procedures such as self
service check-in and streamlined baggage handling, for example,
contrasting with low tech solutions elsewhere. Typically in existing
LCATs, air bridges are not used, allowing both doors to be used by
passengers in most cases, and enabling aircraft to power in and
out.

This does not mean that low cost terminals should not add value:
indeed the focus is more upon revenue generation than about
service levels. Paid lounges, internet kiosks, convenience good
retailing, duty free shopping, and land transport services all need to
be provided, although the scope and scale of customer choice
offered need not approach that of full service airports.

More efficient airports are now part of the mix, shrinking
the difference between the operating models

Cost is certainly only one part of the equation. Another is efficiency.
With a combination of new varieties of airline (legacy, low cost, low
cost business and any amount of grey hybrid versions in between)
and of the sheer traffic growth up to the point where the economic
recession set in (Sep-08), the pressure is on airports and air traffic
management to increase aircraft turn-around times and lower dwell
time to meet the expectations and growth impact of LCCs. While it
may be difficult to retrofit a legacy airport (a phrase that is
becoming fashionable to describe those few large airports that have
entirely resisted LCCs), IT and communications advances may
contribute to streamlining, effectively increasing capacity.
Advances in check-in and facilitation, baggage handling, gate
management, and aircraft movement call for seamless
communications among airlines, airport operations, border and
security agencies, and air traffic management.

Innovations such as ticketless boarding and self-check in (including
baggage check-in) play to the productivity imperative of the LCC,
while offering gains to all operators which can be expected to
reduce the difference between LCCs and network airlines.

On the other hand technology always needs to be kept in
perspective. Alicantes El Altet Airport for example, where EUR500
million from Spains Ministry of Public Works has paid for its
expansion, which includes a huge new Terminal 2 scheduled to
open in 2010, is concerned that LCCs will not utilise the new
terminal's check-in desks, as the carriers turn to online check-in.
The terminal will cover 333,500 sq m and have the capacity to
handle 20 million passengers per annum on its own.

In 2008, the airport handled 9.6 million passengers through the
existing Terminal 1, making it the sixth busiest airport by passenger
numbers in Spain. Of this total, easyJet handled 1.6 million
passengers, followed by Ryanair (1.4 million) and Air Berlin
(752,000) for a combined 39% of total passengers. In total, LCCs
currently comprise up to 70% of total airport traffic. Whether AENA,
the countrys airport operator, likes it or not, this is an LCT and just
as Manchester made the mistake (which it could scarcely have
anticipated) of building a second terminal with features that LCCs
neither wanted nor needed, Alicante may also have lumbered itself
with another T2 that is rooted in another era.

130
Facilitating interlining

One of the key challenges in continuing to accommodate LCCs in
the future will be the capacity of airports to facilitate interlining.
This may be best achieved in purpose-built terminals, whether on
hub airports or at airports committed to LCCs rather that in their
more complex, full service counterparts. Common holding areas
and streamlined facilitation should let passengers move between
airlines, gates and services without excessive demands on support
facilities. This may challenge bag handling systems and security
among other things, especially at international terminals. Purpose
built terminals favouring simplicity and few suppliers are likely to
provide the solution. Indeed, progressive airports may implement
the handling, IT, and lounge facilities required to promote LCC
interlining as part of their own development strategies.

Self service transit

One prospect for airports, which will favour LCCs, though, is the
introduction of self-service transit facilities, enabling travellers to
transfer efficiently between LCC point-to-point operators. One
version of this model is being developed by Cologne-Bonn airport in
Germany, for example, through which it effectively facilitates
interlining, in this case between the German carriers Germanwings
and TUIfly, also easyJet and Wizz Air. This includes a flight search
web-site which incorporates in one place the schedules of all
airlines operating from the airport. The payoff from creating what
is effectively a low cost hub airport has come in the form of
substantially increased traffic.

That model will undoubtedly be replicated as LCCs take on more
characteristics of legacy airlines having established and even sated
their market share potential amongst those passengers whose
decisions are determined solely by price considerations.

AirAsia X, the Kuala Lumpur-based long haul LCC, for example, has
already discovered that up to 30% of its passengers arriving at
London Stansted Airport take an onward flight on one of the short-
haul LCCs based there, often (though not always) on the same day,
on separate tickets booked and paid for through separate Internet
reservations. How much easier it would be if they could combine
such journeys in one reservation, or, at the least, utilise a website
such as then one at Cologne-Bonn, provided for by BAA. EasyJet
already distributes its seat reservations via Global Distribution
Systems in order to satisfy the demands of the business
community.

Then there is the potential for interlining between long haul legacy
airlines and short haul LCCs. Air New Zealand was reported to have
been searching for a new European gateway airport in 2007; one
where it might deliver passengers from its Auckland and Los
Angeles services into a network of European LCC operations but not
dominated by one carrier. If British Airways is unable to climb out
of the hole it got itself into, one possibility is that it might be broken
back up into a long haul division (like the old BOAC), with the short
haul division (the old BEA) sold off to, say, easyJet, which has
shown it can make a profit in this segment. In such a case BOAC
would then seek the same synergetic relationship with easyJet, a
totally different beast, as Air New Zealand was searching for.

A less expansive series of trials is scheduled to get under way in
North America in 2009 or 2010 by which the innovative Southwest
Airlines, which has temporarily shelved its international flight
ambitions, will begin to code share with Canadas WestJet and
Mexicos Volaris, with Chicagos Midway Airport to be employed
extensively in the former case.

131
The irony is that Chicago, home to the worlds second largest hub
airport, may also become home to a low cost hub. Southwest has
always been pioneering and as early as the 1990s had a codeshare
at Baltimore-Washington airport, one of its main focus cities, with
Icelandair, which operated a transatlantic service into there from
Reykjavik, itself fed by flights from Scandinavia and other northern
European countries. Icelandair is not an LCC as such but its sixth
freedom transatlantic services operate as budget flights as a
business segment in their own right, as they have done for 50
years. Anything is possible once airlines are sympathetic to their
synergies rather than highlighting their differences.

Is the Chicago Midway pri vatisation deal dead or merel y in
suspended animation?

Annals of history

Over a very short period of time, LCAT development has slowed not
only in line with the stagnation in the growth of LCCs, with LCC
failures like SkyEurope or the lack of any variety of fresh start-up
airline but also in line with the decrease in airport privatisation
activity.

A second variable will be the influence of the short-to-medium haul
charters. Could they make a comeback and, if so, what would it
mean for LCATs? In Europe, and especially the UK, where the low
cost movement first planted its flag in the mid-1990s, charter
services have been in almost perpetual decline, except for bastions
like Germany, and more recently Turkey, as a direct result of the
budget airline 'do-it-yourself online' (foreign independent travel)
philosophy. And in the UK those airports that supported them -
notably London Gatwick and Manchester - have suffered as a result.

There are signs of a resurgence of the package vacation charters.
Firstly, because consumers are starting to get wise to the free or
cheap budget airline ticket that is supplemented by too many extras
like baggage charges, being forced to book online then being
charged for it, high prices for onboard food and beverage,
passenger taxes and charges, and so on.

By contrast once you paid for your all-in holiday through the travel
agent, that was it, except for occasional surcharges if, say, the
price of oil rocketed or there was a sizeable adverse Foreign
Exchange rate shift.

Travel agents back in fashion

Some innovative budget airlines, the afore-mentioned Jet2.com
being one of them, are putting together packages to all their
destinations and finding that they are selling at least as well as
'seat-only' offers. No-one would have dared to try that until
recently. And they started selling them through the travel trade as
well, thus earning the support of that distribution medium, which
was previously treated dismissively by the airlines. Even British
Airways has started to follow suit, after a fashion. Of course they
are all challenging for their share of a shrinking market right now,
in what has been labelled 'Staycation' year (holidaying in your own
country), but if the economy improves that should start to change
next year.

132
The moral is that no product or service has an infinite life cycle and
'things have a habit of coming around' as the saying goes. One
airport referred to earlier, Doncaster-Sheffield (UK), purpose built
as an LCA and opened in 2005, has already started to shift its
emphasis to the charter market.

Another way of looking at it though is this. While Southwest is
predominant in terms of passenger volume in the US, Ryanair
grows remorselessly in Europe (and could even merge to mutual
benefit with Wizz Air), AirAsia and AirAsia X expand rapidly in Asia
and Air Arabia becomes the worlds most profitable airline - all of
them very cost conscious LCCs and all of them profitable - might it
be that these huge LCCs are numbered amongst the survivors in
the ultimate airline shakeout, along with the giant merged legacy
carriers like Air France-KLM, Delta-Northwest, Lufthansa and its
multinational siblings and British Airways with whatever airline will
marry it?

But if they do, what will then become of the low cost philosophy
and the airports that chose to support it?

Low Cost Airports & Terminals Report 2009, published by the

Global low cost terminal wrap: New projects start, others face
major hurdles

Chapter 9
Financial performance
134
9 Financial performance

9.1 LCCs as Investments

A vital part of the future for LCCs is the investment communitys
willingness to place risk funds into new businesses. Often the
entrepreneurs will gain the rewards for their early labours and the
relatively high risk venture capital they have put in. But after that
the stock performances are pretty much like, well other airlines
highly volatile. Good for traders, but not always for investors.

The starting point is that very few airlines of any kind - are in fact
good investments. The nature of the industry is such that few if
any have delivered reasonable returns to investors over extended
periods.

However, new airlines predominantly LCCs have generated
considerable returns for their original investors once the companies
are floated. And post-float dividends in many cases have been
generous, often more so than their full service colleagues during
the good times.

9.2 Investing in LCCs is risky business

A brief analysis of the share price movements of select LCCs which
have conducted IPOs reveals a less than starry story for LCC our
investors: buying into LCC public offerings does not usually reap
good returns, with only Allegiant, easyJet, Air Arabia and Norwegian
Air Shuttle share prices showing above water since their initial
listing (with easyJet and Air Arabia only back in positive territory
thanks to the big global equity rally since Mar-2009).

Rather, most listed LCCs have seen the value of their shares slump
anywhere from 40% to up to 90%. But this should be seen against
the times in which they have lived, with an economy bubbling along
at the time of their float, but now severely depressed. It should also
be measured against the performance of full service airlines, to
provide a more valid reference point during this period.

Selected LCC price movements (% change): First day close vs
26-Oct-2009

*IPO price based on offer price of AED1/share
135
(SkyEurope sought bankruptcy protection shortly after this)

While investing in LCCs may not have paid dividends in terms of
capital appreciation, some carriers have shown strength over short
periods of times and most have been popular for a period after the
IPO stage.

For example, JetBlue was considered one of the most successful
IPOs in the first half of 2002, and the majority of LCC IPOs have
been significantly oversubscribed. And, in 2008, Lufthansa acquired
a minority, 19% share in the carrier.

These comparisons do not take account of dividends that may have
been paid during the period since the airlines floats, nor do they
factor in any dilutions that may have occurred as a result of capital
raisings or other changes to the companys capital base.

Details of LCCs conducting IPOs
Airline
IPO
date
First Trade
Price (local
currency)
Additional information
AirAsia
22-Nov-
2004
1.4
Set a price of MYR1.51/share for
institutional investors and MYR1.40 for
retail investors, although this was
reduced to MYR1.25 and MYR1.16 per
share, respectively.
The shares opened at MYR1.45 in Kuala
Lumpur, for a market capitalisation of
approximately USD860 million.
Air Arabia
18-Mar-
2007 to
27-Mar-
2007
1 Offer price of AED1/share
Air Berlin
11-May-
2006
11.25
Issue price of EUR12, after an initial
target of EUR11.50-14.50. Listed on the
Frankfurt Stock Exchange
AirTran
15-Aug-
2001
16.12 Listed on the NASDAQ
Allegiant
08-Dec-
2006
25.1 Priced at USD18/share.
easyJet
22-Nov-
2000
341.16
Offer price of GBP3.10/share, following
an indicative pricing range of GBP2.80-
3.40 (revised from GBP2.50-3.50). Listed
on the London Stock Exchange
GOL
24-Jun-
2004
18.22
Proposed offer price of USD15-17, with
an actual offer price of USD17. The first
day open was at USD18.80.
Jazeera
12-Jun-
2004
485
IPO occurred 15 months prior to the
carriers launch and raised KWED10
million (USD35 million) in start up
capital. The shares, listed on the Kuwait
Stock Exchanged, had an issue price of
KWD 0.100
JetBlue
12-Apr-
2002
44.2
USD27 offer price, jumping USD18 on
the first day, making it one of the most
successful IPOs in 2002.
Norwegian
18-Dec-
2004
33.5
Listed on the Oslo Stock Exchange. The
carrier, in its IPO Prospectus, had a
target price of NOK27-33/share.
Ryanair
29-Mar-
1997
3.21
Floated on the Dublin and NASDAQ
(New York) Stock Exchanges. The
shares were more than 20 times over
subscribed and the share price surged
from a flotation price of EUR11 to close
at EUR25.50 on their first day of trading
(prices converted by the carrier). All of
Ryanair's employees received shares as
part of the flotation process and at the
close of the first days trading, Ryanair's
employees had over EUR100 million
worth of shares.
136
SkyEurope
27-Sep-
2005
6.2
Went public on the Vienna and Warsaw
stock exchanges with an IPO price of
EUR6, for a market valuation of
EUR120 million. In the following weeks,
share price decreased to EUR5/share.
Southwest
02-Jan-
1980
21.75 -
Virgin
Blue
08-Dec-
2003
2.43
Initial target of AUD1.80-2.25, before
being set at AUD2.25/share. The shares
debuted on the first day of trading on
the Sydney Stock Exchange at AUD2.40.
Vueling
01-Dec-
2006
32.99
Target price of EUR24-32. First day
trading peak of EUR34.90. Listed 6.37
million shares on the Spanish Stock
Exchange, representing a 43% stake of
the carrier.
WestJet
13-Jul-
1999
12.5
Traded on the Toronto Stock Exchange,
with an opening price of CAD2.96/share
Source: Centre for Asia Pacific Aviation & airline reports

Drasti c short term price fl uctuations

For traders, there are potentially large profits to be made however.
A review of LCC share price movements between 01-Mar-2009 (just
before the bottoming of the market) and 26-Oct-2009 shows that
investment in LCC shares can produce some substantial results in
the short term.
As the overall market has climbed since Mar-2009, most LCC stocks
have well outperformed, but not all. For example, Norwegians
shares have jumped 423% over the period, followed by GOL
(+205%) and Vueling (+159%). However, on the other end of the
spectrum, Jazeera, and WestJet have seen their share prices drop
31% and 6%, respectively.

Selected LCC share price movements (% change): 01-Mar-2009 to
26-Oct-2009


Chapter 10
Challenges to the
low cost model
138
10 Challenges to the low
cost model

10.1 Fuel prices and airline performance

In its October 2009 Review, the US Air Transport Association Office
of Economics identified a net loss of USD2.6 billion by US
commercial airlines in the first six months. This comes on top of a
decade of poor performance, with only 2005 and 2006 profitable in
the aggregate since 2000. Indeed, a comparison of quarterly
revenue and costs per ASM suggests that there has only been one
profitable quarter over the past ten years for the industry in
aggregate and that the gap between income and expenditure has
been growing. At best, the sector cannot service its capital
requirements; at worst, it has been accumulating substantial
losses. In fact, the sector has only made an aggregate operating
profit in nine quarters since 1971. That is, for 94% of the past 38
years, the US airline industry has lost money.

Quarterly Operating Costs and Revenues, US Commercial
Passenger Services: 2000 to 1Q09
6.0
8.0
10.0
12.0
14.0
16.0
18.0
1
Q
0
0
4
Q
0
0
3
Q
0
1
2
Q
0
2
1
Q
0
3
4
Q
0
3
3
Q
0
4
2
Q
0
5
1
Q
0
6
4
Q
0
6
3
Q
0
7
2
Q
0
8
1
Q
0
9
Unit Cost Passenger Revenue
(Cents per ASM)

Source: Centre for Asia Pacific Aviation & Air Traffic Association

Fuel is the main villain

A significant part of the problem is the role played by fuel in the
sectors deteriorating performance. That suggests recovery will
require a massive change in circumstances. When the cost of fuel
was first isolated in the index in 2001, it comprised around 15% of
total costs. It grew steadily through the decade to reach 35% of all
costs in the third quarter of 2008, easing slightly since then.

Over the same period labour costs have declined from over one
third of operating costs (peaking at 38% in 2002) to 26% in the
first quarter of 2009. Over the ten years to the first quarter of
2009, fuel costs increased by nearly 300%, while labour costs
increased by less than 110%. While containing labour costs remains
an imperative for LCCs - and for the airlines generally the real
challenge now comes from the upward pressure on fuel costs.

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140
Fuel Costs as Share of Quarterly Operating Costs, 2000-1Q09
0.0
2.0
4.0
6.0
8.0
10.0
12.0
14.0
16.0
18.0
1
Q
0
0
4
Q
0
0
3
Q
0
1
2
Q
0
2
1
Q
0
3
4
Q
0
3
3
Q
0
4
2
Q
0
5
1
Q
0
6
4
Q
0
6
3
Q
0
7
2
Q
0
8
1
Q
0
9
0.0%
5.0%
10.0%
15.0%
20.0%
25.0%
30.0%
35.0%
40.0%
Ex-Fuel Fuel Fuel %
(Cents per ASM)

Source: Centre for Asia Pacific Aviation & Air Traffic Association

10.1.1 Fuel pri ces a changed ri sk profi l e

The ascendency of the low cost model has changed the risk profile
of the airline industry. By driving down the costs of ownership and
operations and developing greater flexibility in aircraft deployment
and scheduling, LCCs have lowered their exposure to the vagaries
of the market. This more than anything has seen them endure if
not thrive during the current global recession.

Translating a low cost base into consistently low fares places LCCs
in a strong position to deal with the new market reality: that
shorthaul flying is basically a commodity. The purpose of travel
may be conducting business, catching up with family, or
recreational pursuits, but price has overwhelmingly become the
driver for many. The market will remain large, but will be
moderated by a reduction in discretionary spending. The
imperative of getting there is replacing the joy of flying.

There will continue to be demand for premium seats, particularly on
long haul routes, but the reality is that future passenger and
revenue growth will be continue to be more sensitive to price than
has been the case in the past. This threatens to slow down the rate
of growth and increase the volatility of the market and of airline
performance.

10.1.2 Avoi di ng the cost trap

Under these circumstances, risk no longer revolves around a
slowdown in income growth or changing traveller tastes. It is the
risk that costs will rise ahead of incomes.

Avoiding the trap of creeping costs calls for vigilance on several
fronts:

One-way supply arrangements (including labour) through
contracts that do not allow for de-escalation effectively
locks companies into a slowly rising cost base. There
comes a point where this may not be matched by
productivity gains. This is especially the case for LCCs
given that the starting point for most is very lean in the
first place. Performance-based remuneration is a logical
response, long-term supply contracts and fuel hedging
others. Todays benchmarks need to project cost stability
rather than controlled increases, and relate to the total
operation and not just individual components of it;
141
Horizontal market growth, through geographic expansion,
puts pressure on costs by imposing additional overheads,
especially through the multiplication of bases and stations
and development of extended routes. It makes additional
demands on capital and raises the likelihood that new
services may operate through higher cost points (including
main airports). Replicating operations in new markets, the
classic Southwest model, and perhaps where necessary to
comply with regulatory requirements, setting up quasi-
independent operations or buying into complementary low
cost operations, rather than seeking simply to expand the
original airline, may all be preferred options. Avoiding this
trap means being wary of investing in operations that
create new inflated base-line cost expectations, even
where the apparent operational impact is to reduce unit
(ASK) costs by improved utilisation;
Vertical market growth based on catering for additional,
generally higher yield market segments, including business
and other premium travellers. The trap is that lower
seating densities and cabin reconfiguration reduce the
efficiency of capital, while different service expectations
increase costs per ASM. While in a buoyant market these
additional costs may be offset by marginal gains in
revenue, service differentiation may also reduce flexibility
of schedules and operations, reducing the capacity to
respond quickly to market downturns. The key in this case
appears to be integration of service enhancements into
existing operations through differentiation and cost
recovery through a service charge model.

10.1.3 The ri si ng and ri si ng pri ce of fuel

The following review of the cost structure of a number of LCC shows
that the new parsimonious approach to costs and tighter margins
only highlights the new fuel-price driven risk equation.
Unfortunately, we have entered an unprecedented period of
volatility in the price of aviation fuel, volatility that is, even more
unfortunately, apparently an indicator of long-term fuel price
increases.

Aviation growth over the 1980s and 1990s was sustained by a
stable oil price regime. In fact, according to the United States
Energy Information Administration, the price of a gallon of avgas in
Feb-1999 was 27% lower in nominal dollars than 15 years earlier.
This, however, was at the nadir of the Asian financial meltdown,
and the beginning of a decade of extreme volatility. (The original
long run data used in the first figure below has been smoothed by
taking 5 month centred moving averages prior to calculating the
index. This reduces short term fluctuations and may more
realistically affect the pricing shifts facing airlines).

In just over seven years (to Jul-2006), the price jumped 330%
(from a 12 month average of refinery retail price of USD0.88/gal. to
USD3.06/gal., excluding taxes). The subsequent dip, though sharp,
was short-lived, with prices reaching new highs within two years.
By mid 2008 the price had peaked at over USD3.80/gal, approach
USD4.00 in June. It is unsurprising that many airlines suffered
substantial losses during 2008, as high fuel prices compounded
demand decline.

142
Movement in US Aviation Fuel Prices: 2004-2009
0
50
100
150
200
250
300
350
400
450
Ju
n
-2
0
0
4
A
u
g
-2
0
0
4
O
c
t-2
0
0
4
D
e
c
-2
0
0
4
F
e
b
-2
0
0
5
A
p
r
-2
0
0
5
Ju
n
-2
0
0
5
A
u
g
-2
0
0
5
O
c
t-2
0
0
5
D
e
c
-2
0
0
5
F
e
b
-2
0
0
6
A
p
r
-2
0
0
6
Ju
n
-2
0
0
6
A
u
g
-2
0
0
6
O
c
t-2
0
0
6
D
e
c
-2
0
0
6
F
e
b
-2
0
0
7
A
p
r
-2
0
0
7
Ju
n
-2
0
0
7
A
u
g
-2
0
0
7
O
c
t-2
0
0
7
D
e
c
-2
0
0
7
F
e
b
-2
0
0
8
A
p
r
-2
0
0
8
Ju
n
-2
0
0
8
A
u
g
-2
0
0
8
O
c
t-2
0
0
8
D
e
c
-2
0
0
8
F
e
b
-2
0
0
9
A
p
r
-2
0
0
9
Ju
n
-2
0
0
9
C
e
n
t
s
P
e
r
G
a
llo
n

Source: US Bureau of Energy Information Administration

Movement in US Aviation Fuel Prices (5 month moving average):
1984-2009
0
500
1,000
1,500
2,000
2,500
3,000
3,500
Ju
n
-1
9
8
4
Ja
n
-1
9
8
5
A
u
g
-1
9
8
5
M
a
r
-1
9
8
6
O
c
t-1
9
8
6
M
a
y
-1
9
8
7
D
e
c
-1
9
8
7
Ju
l-1
9
8
8
F
e
b
-1
9
8
9
S
e
p
-1
9
8
9
A
p
r
-1
9
9
0
N
o
v
-1
9
9
0
Ju
n
-1
9
9
1
Ja
n
-1
9
9
2
A
u
g
-1
9
9
2
M
a
r
-1
9
9
3
O
c
t-1
9
9
3
M
a
y
-1
9
9
4
D
e
c
-1
9
9
4
Ju
l-1
9
9
5
F
e
b
-1
9
9
6
S
e
p
-1
9
9
6
A
p
r
-1
9
9
7
N
o
v
-1
9
9
7
Ju
n
-1
9
9
8
Ja
n
-1
9
9
9
A
u
g
-1
9
9
9
M
a
r
-2
0
0
0
O
c
t-2
0
0
0
M
a
y
-2
0
0
1
D
e
c
-2
0
0
1
Ju
l-2
0
0
2
F
e
b
-2
0
0
3
S
e
p
-2
0
0
3
A
p
r
-2
0
0
4
N
o
v
-2
0
0
4
Ju
n
-2
0
0
5
Ja
n
-2
0
0
6
A
u
g
-2
0
0
6
M
a
r
-2
0
0
7
O
c
t-2
0
0
7
M
a
y
-2
0
0
8
D
e
c
-2
0
0
8
In
d
e
x
, J
u
n
e
1
9
8
4
=
1
0
0
0

Notes: Monthly figures represent 5 month moving averages to smooth monthly fluctuations.
Source: US Bureau of Energy Information Administration

10.1.4 Vari ed ai rl i ne exposure t o fuel pri ces

US airlines

We have considered this impact for a range of US carriers that
publish fuel costs in their annual reports.

Fuel hedging policies will impact on the prices paid by individual
airlines. We have not accounted for this here, where the interest is
with the vulnerability of cost structures to medium- and long-term
shifts in prices. There is no doubt that hedging can smooth risk and
even generate significant benefits when a bold call is made;
Southwest Airlines had a remarkable advantage over its
competitors for many months as a result of a long term hedging
scheme its management had put in place. But many carriers,
Southwest among them, were less fortunate last year when
unprotected hedges were marked to market as fuel prices
suddenly slumped in late 2008. Hedging is not a simple risk
reduction tool and many low cost carriers choose to avoid the high
cost of full hedging insurance.

But, significantly, fuel is the principal single operating expense in
LCCs, a substantially greater share than direct employment costs.
Consequently, relatively small movements in the cost of fuel can
have a heavily disproportionate impact on a carriers bottom line.

143
In the case of AirTran, for example, a 6% reduction in fuel costs
would have been more effective than a 15% reduction in labour
costs in turning around its 2007 performance. Conversely, JetBlue
and Southwest, both of which performed relatively well were, on
the face of it, vulnerable to 8% and 12% increases in fuel prices
respectively, which would have wiped out their operating margins.

The latter point is theoretical to the extent that 2008 prices may be
seen as exceptional, with the subsequent decline restoring some
respectability to 2009 performances. However, exposure to fuel
prices is also highlighted by the more favourable 2007 data. Long-
term increases in fuel prices 30% ahead of the 2007 figure (with a
monthly average of USD282.00 before tax) would undermine the
profitability of most LCCs.

The Impact of Fuel Prices on Selected US Low Cost Carriers
AirTran Allegiant Jet Blue Southwest
2008 2007 2008 2007 2008 2007 2008 2007
Operating Costs % Pax Revenue 103% 94% 89% 88% 97% 94% 96% 92%
Fuel % Operating Costs 46% 37% 51% 48% 41% 35% 35% 30%
Employment % Operating Costs 18% 21% 16% 18% 21% 24% 32% 35%
Operating cost Margin ($000) -72,010 144,160 55,848 44,060 109,000 169,000 449,000 791,000
Change in Fuel Cost Required to
Break Even
-6% 18% 24% 29% 8% 18% 12% 29%
Change in Employment Cost to
Break Even
-15% 32% 78% 79% 16% 26% 13% 25%
Source: Company Reports

Non-US airlines

A review of results for other, non-US, LCCs that provide sufficient
cost data indicate similar high levels of exposure to fuel prices, with
substantial increases in the share of costs attributable in 2008, and
with fuel accounting for at least one quarter of operating costs even
in 2007 and, in some cases, substantially more.

The impact of the 2008 increase was particularly pronounced for
the two airlines reporting March year results, Ryanair and
Transavia, which reflect the full brunt of the price spike.

Fuel Prices as a Share of Operating Costs, Selected non-US Airlines

Operating Costs %
Revenue Fuel % Operating Costs
2008 2007 2008 2007
Europe
Air Berlin 69% 74% 37% 32%
easyJet (GB) 89% 89% 34% 26%
Ryanair * 95% 80% 45% 36%
Sky Europe 117% 103% 34% 26%
TransAvia * 73% 96% 42% 26%
Vueling 107% 120% 32% 24%
Other
Nok Air 79% 74% 41% 32%
Virgin Blue 94% 85% 27% 26%
Air Arabia 86% n.a. 49% n.a.
Jazeera 88% 82% 53% 46%
Note: Various reporting periods; * denotes results for March years 2008 and 2009
Source: Company Reports

It is important to note that direct comparisons are difficult given
different accounting and reporting conventions and different
financial years. In some instances, one-off or extraordinary
provisions have been deducted from the costs which, generally,
incorporate staff, fuel, depreciation, maintenance and other
operating costs.

144
However, the consistent direction of the data does suggest that the
higher the share of costs attributable to fuel, the greater the
operating margin is. This understandably reflects the fact that
driving down the other components of cost employment,
distribution, airport charges, ownership charges and the like,
increases the apparent exposure of the airline to shifts in fuel
prices. Provided the operating margin is sufficient, however, this
may well be the mark of the successful LCC. It raises the key
question, though, of how durable the model is in the face of rising
fuel prices.

10.2 The Outlook

The prospect is for substantial fuel price rises in the short term.
The EIA is currently forecasting a 20% gain in the 2009-10 year
28

,
which would restore prices to those experienced over the June 2008
year, although somewhat less than the highs experienced between
March and September.
More disturbing is the fact that this price gain is anticipated over a
period of relatively subdued growth and at best a slow recovery in
trade and travel in the industrialised economies.

Improving economic prospects beyond 2010, though, raise the
prospect of continuing price increases, although still within the
context of short term volatility. If, as some pundits are saying,
growth in demand from the developing economies, especially the
BRIC economies, is compounded by recovery in the developed
economies, pressure on fuel prices could become intense in the
next two to three years, with the potential to wipe out the current
low cost carrier advantage.

The close relationship between crude prices and aviation fuel
prices
29

means that any price escalation in the former will be
transmitted directly into the latter. Coupled with the deteriorating
economics of oil extraction from inferior deposits and the prospect
of production constraints associated with peak oil, prices over the
next ten years could plausibly climb by much the same rate as they
have over the past ten years (230%). The actual outcome may be
much lower than this, but the current consensus leans towards an
acceptance that there is still a substantial upside in oil prices.
World spot oil prices reached USD147 per barrel in Jul-2008,
according to the EIA, before falling sharply. However, as the
worlds economy recovers, oil prices are assumed to rebound and
rise in real terms through 2030. The price of light sweet crude oil in
the United States could rise, for example, by 80% from USD61 per
barrel in 2009 to USD110 per barrel in 2015 and by 130% to
USD130 per barrel in 2030. Even this may be optimistic without
substantial changes in energy generation and oil consumption
patterns. The rise is likely to be marked, in any case, by significant
short-term volatility, all of which will continue to put pressure on
the thin margins of LCCs.

Here lies the major challenge for aviation. Even as it appears to
emerge from the worst straits of the recent recession its new cost
base is under threat of serious disruption from escalating fuel
prices. In recession, the low cost model works best; when fuel
prices escalate, it is the most fragile.

28
EIA (2009) Annual Energy Outlook, Energy Information Administration,
Department of Energy, Washington DC
29
Historically, the long run relationship is that aviation fuel prices are around
3.1 times the price of crude oil
145
At the same time, high fuel prices are even more likely to
undermine the viability of the surviving legacy carriers, which will
be faced with institutionalising their own fuel surcharges. In a
resource constrained world, one in which air travel will be
increasingly price sensitive, the low cost model seems bound to
prevail.

Perhaps the real challenge for airlines operating the new economic
model in the face of the threat and opportunity posed by rising fuel
prices is to ensure that they do not fall into the trap of a
continuously rising cost base through other facets of their
operations. More than ever, fuel price increases will call for
continuing innovation is service definition and delivery.

10.3 Aircraft

Another major input for LCCs is the cost of acquiring aircraft, by
way of direct purchases, or leases. A reduction in aircraft costs after
9/11 helped LCCs start-up and expand rapidly between 2002-2005.

10.3.1 Narrowbody devel opment

In large measure, the LCC is a product of the continuing
development of the single aisle, twin jet, with LCC fleets dominated
internationally by B737 and A320 aircraft. These have become the
workhorses for the LCC business model, favouring short direct
routes (usually under four hours, although this range is now
expanding as NG types are more broadly introduced and LCCs are
forced to look for new markets), efficient aircraft handing, and
relatively low entry capital requirements. A number of low cost
airlines have lobbied hard with the two main manufacturers for a
design more tailored to their model, but there is currently nothing
on the horizon.

Can Airbus and Boeing be seriousl y challenged in the 100-200-
seat single-aisle market segment?

Will Boeing and Airbus re-engine their narrowbodies?

Initially, older second hand aircraft were favoured as the means of
achieving low cost entry, but, as new aircraft became cheaper in
the middle of this decade and financiers were prepared to commit
to capital expenditure, newer equipment was favoured. And, as fuel
prices increased, the economic balance moved steeply in favour of
fuel efficient aircraft. Many existing LCCs responded by upgrading
their fleets while newer entrants favour new rather than second
hand aircraft.

Continuing increases in the real cost of aviation fuel will swing the
balance against those that continue to rely on low cost, second-
hand aircraft. Meanwhile, Allegiant offers a major (and highly
successful) model which balances capital cost (of now more
expensive aircraft) against the higher operating costs. (See
Allegiant case study).

The International Working Group on Aircraft Design (2007),
representing the major aircraft manufacturers, recently revised
expectations for aircraft development. It noted continuing growth
in payload capability for all size categories. It suggested that the
146
future could well see the coexistence of very high capacity aircraft
and modules of smaller capacities for long range and very long
range operations. The former will extend large scale hub-based
operations and the latter will extend long-range point-to-point
services, enhancing the prospect for long-haul LCC services.

Other important developments favouring the LCC model are
continuing gains in fuel efficiency, capacity and refuelling rates, all
contributing to enhanced aircraft utilisation and favouring quick
turnaround. Reduced take off field length requirements, reduced
emissions and quieter engines favour operations out of secondary
airports. These directions all favour the sorts of point-to-point, high
aircraft utilisation options favoured by LCCs.

The impact of driving new aircraft development down this path may
be to reduce the differential between LCC and network airline
operations if significant efficiencies in handling and operations by all
airlines can be achieved through their aircraft replacement
programmes.

10.3.2 Ai rcraft val ues: September-11 and Great
Recessi on downturns, and the Outl ook

This section is courtesy of

B737 and A320 values declined rather gradually through the
dotcom bubble bursting, followed by an accelerated drop after the
events of 9/11. The values cycle reached its bottom in 2003,
September 2003 to be precise.

We had a three-year ride to the bottom in the early 1990s but a
more prolonged five-year fall from 1998 to 2003. Furthermore, the
last downturn was to a large extent isolated to the aviation industry
and driven by fear of flying rather than serious underlying economic
problems, (demonstrated by the fact that the decline from 1998 to
2000 was much more gradual).

New aircraft values (build year) for B737-800 vs A320-200 (USD
millions): 2001 to 2009
$32
$34
$36
$38
$40
$42
$44
$46
2001 2002 2003 2004 2005 2006 2007 2008 2009
B737-800 A320-200

Assumed Specifications: A320-200: MTOW: 162040lb, Engines: CFM56-5A1 / -5B6/P.
B737-800: MTOW: 155500lb, Engines: CFM56-7B24
Source: Centre for Asia Pacific Aviation & Ascend Online

The same cannot be said for the current downturn, which is
definitely driven by economic and financial problems.

The current downturn, in what we have seen so far, has already
caused damage to values in just one year (July 2008 to July 2009)
147
which is comparable to what took five years in the last downturn. A
10 year old A320 has already seen a 26% drop in value in the last
year (same as 1998-2003), while the younger examples have done
slightly better 12% drop for a brand new A320 and 18% drop for
a five year old example. However, considering what happened
during the last downturn, this could only be an indication that there
is room for further decreases, and a bottom that could perhaps be
reached by 2010 or later?

A 10 year old 737-300 meanwhile fell by 34% between its peak in
2007 and today. The smaller drop compared to the 54% in the post
9/11 era is perhaps an indication that as an out-of-production type,
values for 737 Classics never recovered to the levels that they were
at in the 1990s, despite strong demand in the 2004-2007 period.
So what do all these numbers say? In simple terms, newer, in-
production aircraft tend to see lower declines in value from peak to
trough than older technology. They also show that the drop in the
current recession has been steeper and has happened over a much
shorter period of time.

However, if history is anything to go by, it also shows that the value
declines that we have seen over the last year do not show the full
story and that there is still potential for them to fall further towards
the end of the year and into 2010.

In other words, we could go from peak to trough quicker than any
previous recession, but with a depth of magnitude at least as bad
as that seen following 9/11. And when we do reach the bottom of
the ocean floor, perhaps in 2010, dont expect to resurface too
quickly. In fact, hold your breath because we may have to stay
down there with all the exotic fish for a little longer than usual.

10.3.3 One si ze doesn t fi t al l

One of the key issues in aircraft development is that of size. All size
categories are achieving higher densities and payloads. The new
very large aircraft, exemplified by the Airbus A380, capable of
carrying over 800 passengers in leisure configurations, can achieve
significant efficiencies operating between hubs, so total gains will be
constrained only by the requirement for passenger consolidation to
sustain high volume trunk aircraft for hub-to-hub and major hub
and spoke services.

Two points of interest: the A380 reaches near-optimum efficiency at
around three hour stage lengths; and Reunion charter operator Air
Austral has signed an MoU with Airbus for an single class, 840-seat
version.
30

Smaller aircraft capable of servicing dispersed markets through
point-to-point operations may not achieve the same efficiencies,
but may nevertheless enhance travel productivity by facilitating
direct travel. If it matches up to specifications, the B787-9 for
example should however achieve near-similar efficiencies to the
A380, when each is operating in high density configuration.

The growth of the global aircraft fleet is meanwhile likely to
continue around extending the capacity of single aisle jets
(including smaller regional jets) to respond to growth potential on
secondary routes across a spectrum to aircraft with the potential to
carry large numbers over long distances between hub airports.

30
Scheduled for delivery in late 2013/early 2014 the aircraft is to be
operated by its low cost subsidiary, Outre Mer (overseas) 380
148
10.3.4 The envi ronmental chal l enge dri vi ng effi ci ency
gai ns

Environmental issues have become a major influence on design and
are likely to continue to drive aircraft technology.

The worldwide aviation industry
31

has committed to three
sequential targets:
Improving average annual fuel efficiency by 1.5% to 2020;
Stabilising emissions with carbon-neutral growth from
2020;
An aspirational goal to cut net emissions in half by 2050,
compared to 2005.
Airbus (2008) suggests that the challenge is to optimise the balance
between noise, emissions and environmental impact throughout the
aircraft life cycle. Reductions in CO2 will be achieved from
improvements to airframes (20 to 25%), engines (15 to 20%), and
operations, including air traffic management (5 to 10%).

Environmental and resource management issues flow over into the
management of the aviation supply chain generally, driving the
imperative for productivity gains that has been behind the LCC
revolution. Increasing oil prices, and the promise of more to come,
have promoted a focus on fuel efficiency among manufacturers as
well as operators, promoting innovation and specialisation. This
drive has in turn encouraged alliances among suppliers and
manufacturers across the aviation development and manufacturing
chains. In manufacturing, outsourcing logistical capacity has
become more important, although still clustered around a small
number of key aerospace manufacturers.

One area of continuous innovation is the capacity to automate and
in so doing refine functions. Computerised controls, for example,
enable aircraft to fly without continual pilot involvement. They may
also contribute to the capacity for more active self-management in
navigation and more efficient use of air space, reducing congestion
and the associated costs.

31
ICAO High Level Meeting on Aviation and Climate Change, Oct-2009
Chapter 11
The new economic
environment
150
11 The new economic
environment

The long-term driver of demand for air travel is GDP growth. It
may be mediated on some routes by exchange rate movements and
buffeted by short-term shocks. Particular services may be grown
through marketing or destination development. Trade agreements
might see a boost in visitor flows among individual nations and new
low cost services might generate a boost by realising latent
demand, but the bigger picture is driven by long-term income
growth, especially in the household sector.

In a circular relationship, aviation is also seen as a driver of growth.
How far nations or regions participate in international commerce,
what benefits they might gain from flows of people, goods and
services, is seen to depend in some measure on their aviation
services (Oxford Economics, 2009). LCCs have had a key role to
play in this relationship, being central to the rapid expansion of
aviation in a number of emerging economies.

It is impossible, then, to consider the future of LCCs and their role
within both aviation and economic development without considering
the economic outlook today, and where they might fit within the
wider picture.

11.1 Economic outlook

Following the 1997-98 Asian financial crisis GDP growth rates have
favoured the newly industrialising countries of Asia, the Middle East
and, more recently, Africa. The IMF expects these divergent growth
rates to be sustained in the medium term. While the growth of
emerging economies is off a low base, it signals a quite different
aviation dynamic compared with advanced economies.

World GDP Growth, 1992-2011

Source: International Monetary Fund, World Economic Outlook Database, October 2008

The IMF predicts a 1.9% global contraction in 2009, the deepest
recession since World War II. The recession, precipitated by a loss
of in the value of securitized mortgages in the United States in July
2007, is distinctive for its reach and severity. According to the IMF,
per capita GDP is falling in three quarters of the worlds nations.

151
The IMF forecasts recovery beyond 2009 but expects it to be
sluggish and highly uncertain, weighted on the downside. In
projecting recovery, the IMF is assuming that macro-economic
settings will continue to keep interest rates close to zero and that
government spending programmes will prove effective in
stimulating demand.

The challenge of restoring confidence and demand

The challenge lies in stimulating growth as the financial meltdown
manifests itself in cautious lending policies. As interest rates are
driven down by a mix of policy initiatives and a diminished taste for
credit, traditional margins for risk are reduced. Lenders and
consumers alike become conservative.

This is evident in diminished consumer spending and confidence.
By October 2008 consumer confidence worldwide was at its lowest
level in several years according to the Nielsen Global Consumer
Confidence Index, the definitive gauge of consumer sentiment
around economic and social concerns. This was backed up by a
survey of 23 countries by Melbourne based Marshall Place
Associates (www.marshallplace.com.au), and is reflected in the
subsequent contraction in global air travel, among other things.

The IMF advocates further easing of monetary policy to prop up
short-term demand and avoid deflation. Emerging economies are
also urged to ease monetary conditions. However, to the extent
that lower private debt and increased savings may be a
requirement of the structural changes necessary for long term
recovery, and given that these things are consistent with more
cautious consumers, looser monetary policy may have only a
limited impact on weakening demand for discretionary goods like air
travel.

Will the recovery l ed by emerging nations?

Over recent years the imbalance between income and spending has
been worse in developed than developing nations. This difference is
growing. According to IMF statistics, emerging and developing
countries accounted for around 38% of global GDP and 41% of
global savings in 1999. By 2009 these shares had increased to
47% of GDP and an impressive 60% of global savings. When it
comes, recovery is likely to highlight this long term shift in
economic circumstances in favour of developing nations.

Global GDP and Savings in Emerging and Developing
Economies
30.0%
35.0%
40.0%
45.0%
50.0%
55.0%
60.0%
65.0%
1
9
9
0
1
9
9
1
1
9
9
2
1
9
9
3
1
9
9
4
1
9
9
5
1
9
9
6
1
9
9
7
1
9
9
8
1
9
9
9
2
0
0
0
2
0
0
1
2
0
0
2
2
0
0
3
2
0
0
4
2
0
0
5
2
0
0
6
2
0
0
7
2
0
0
8
2
0
0
9
Share Global Savings Share Global GDP

Source: International Monetary Fund, World Economic Outlook Database, October 2008
152
11.2 Impact on aviation

Changing behaviour in developed markets

Ageing and affluent populations in western nations have developed
a new hunger for travel as communications have become almost
seamless, candidate destinations have multiplied, and discretionary
incomes have (until recently) grown steadily. Long distance leisure
travel has become a habit for many people, rather than a once in a
lifetime experience. Regular domestic air travel has become
affordable and convenient.

The onboard experience has lost its novelty as a result. Once, the
holiday experience started on embarkation. Today, it is more likely
to begin on disembarking. Air transport has been restored to its
rightful place a means to an end.

Under these circumstances price and efficiency get greater
weighting than on-board frills in travel purchases. Because they
focus on efficiency, direct travel, and containing costs, LCCs have
exploited travel affluence and played an important role in
maintaining growth in otherwise mature markets, boosting air
travel in North American, Western European, and Australasian
markets where they have played a key role in driving down travel
costs. For example, in the ten years to 2008 the cost of travel in
the United States fell from 30% of holiday costs in 1998 to 18% in
2008, and from 20% to 17% in Europe
32

.
Further, in these mature markets, the opening of new routes by
LCCs has boosted the convenience of access for secondary origin
markets and emerging resort destinations alike, promoting higher
growth than would otherwise have occurred on traditional hub and
spoke or network services.

Boosting aspirations and expectations in developing
markets

The second favourable economic marker has been the progress of
emerging economies. This has rapidly expanded a middle class
with aspirations shaped in part by the consumption patterns of their
counterparts in developed nations. Growth in South East Asia,
China, India, the Middle East, Eastern Europe and latterly Africa and
South America has reached record highs over the past decade.
Given that average incomes, while growing, still remain relatively
low in most parts of these regions, LCCs have tapped into a latent
pool of demand and enabled their citizens to take to the skies
earlier than would have been the case under a more traditional
business model.

Different drivers can mediate economically-driven growth in
different markets
33

. In Asia the rapid growth of LCCs is attributed
to the pace and timing of deregulation within countries and
liberalisation among them. Similarly, Indias growth has been
promoted by deregulation, not just in aviation but throughout the
economy. The eastern European countries have benefited from
economic integration, and growing links with the European
Community. South East Asia has experienced massive internal
aviation growth penetrating many secondary regions, cities and
new resort destinations, to complement a legacy of inter-
continental travel through a few key hubs.

32
Boeing Report 2008, p 7
33
Airbus Report, 2008,
153
In effect, the LCC has been both an agent and a beneficiary of the
liberalisation of emerging economies and their increasing regional
integration.

Will recession reverse the momentum?

Under the pressure of recession governments may naturally lean
towards increasing protection. However, despite some examples of
this occurring, the nexus between economic development and the
spread of aviation services suggests that this will be self-defeating.
Certainly the knee-jerk responses of the past have not been
witnessed. Instead, international collaboration, aligning and
integrating border controls across nations, and adopting new
technologies may be the best ways to meet the relevant objectives
without swamping the sector in regulatory encumbrances.

If nothing else, the last ten years demonstrate that the genie is out
of the bottle. The prospect is for further deregulation. Although a
resurgence in protectionism is always a possibility in the face of a
downturn, the magnitude of the global recession is reducing options
for governments seeking to prop up ailing legacy airlines or national
carriers.

A prime example of the contrast is in the Asia Pacific region where
ten years ago the Asian Financial Crisis severely crimped air travel
as airlines cut back on service. Today, with a thriving LCC market,
although legacy airlines are reducing service, the LCCs continue to
expand, with consumers being delivered remarkably low fares in
volume.

Under these circumstances, necessity will be the mother of
innovation in aviation, and deregulation the midwife. Further
commercial liberalisation, perhaps a more light handed approach to
competition (where it affects decisions on much needed
rationalisation), and enhanced procedures for managing safety,
security, and the environmental impacts of aviation should lead
LCCs to play an even greater role in the sector.

Where to now in a turgid economy?

The difficult economic outlook introduces a new element, coming
after several years of expansion. The impact of the global recession
on the consumer undermines a key driver of demand, although it
will probably hit legacy airlines harder. And, though they may not
be as directly affected by the loss of integrity of many of the Wests
financial institutions, the credit failures of the developed nations are
placing downward pressure on the export economies of the
developing world. As the contraction of global trade persists, the
market growth underlying the success of LCCs in developing nations
will also be checked.

The short to medium-term, perhaps up to five years, may well be a
period in which LCCs extend their hold over markets which are
bound to be more price sensitive in their travel purchases than has
been the case in the recent past. Beyond that the LCC, or some
variant of it, may well provide the platform to drive resurgence.

Oil Pri ces a Long-term Contingency

Another, more further significant barrier is likely to be the recovery
in oil prices. While the oil price was one of the early casualties of
global recession, it has shown signs of increasing as a result of
supply issues and speculation rather than demand growth.

154
A reduction in exploration and resource development as a result of
dual pressures on oil company margins and capital expenditure
could mean significant supply constraints and price hikes even
when exploration and development companies gear up again.

Any slow-down in investment in new reserves also defers the day
when difficult-to-recover, high cost resources have to be developed.
This is related to a long-term supply issue: the inevitability of
reaching peak oil production and moving to a long-term decline.
Three uncertainties impact on this eventuality. The first is when
(not if) peak oil will fully manifest itself. The second is how far
consumption can be husbanded in aviation (and elsewhere) through
enhanced engine technology. The third is whether an alternative
energy sector will be geared up in time to ease the inevitable
pressure on prices that will occur.

From an aviation perspective, Airbus (2008, p5) makes the point
that in just the last 40 years, technological advances have reduced
fuel consumption and CO
2
emissions by 70%, noise by 75% and
unburned hydrocarbons by 90%, while increasing the number of
people moved per take-off or landing slot and setting
unprecedented levels of comfort.

This reflects a long-term capacity to do more with less. Yet, while
there may be meritorious gains at the margin, high fuel prices (and
the cost of managing emissions) will play a significant and
potentially formative role in aviation for the foreseeable future.

Despite the best intentions of energy companies, airframe and
engine manufacturers, and the airlines, aviation sits on a knife
edge. There is an entrenched investment in fossil fuel technology,
embodied in a global fleet of around 20,000 jet aircraft valued at
USD3,200bn (Boeing, 2008). Boeing projects 29,400 new aircraft
deliveries from 2007 to 2027. Some 43% of these are expected to
replace existing aircraft, resulting in a significant gain in average
fuel efficiency within the fleet.

However, fleet expansion is expected to exceed replacement, with a
total net gain of 47%, reaching a total of 35,800 aircraft. While
engine and airframe efficiencies mean that the increase in energy
demand will not be proportional to the number of additional sectors
or seats flown, it will nevertheless be significant and is bound to
exceed savings arising from replacements. And a fleet that in
twenty years time comprises 80% aircraft less than 20 years old
will maintain a long-term commitment to current technology,
regardless of how refined that technology is becoming.
34

In the shorter term, oil prices are likely to increase if for no other
reason than governments new-found propensity to finance
economic recovery by lifting long-term deficits, a move many
commentators see as inflationary. The prospect of a slow-growth,
high inflation environment will drive up the price of minerals and
commodities, including oil. Recovery, when it does come, will bring
its own demand pressures.

Despite recent volatility, our prognosis is for a long-term real
increases in oil prices, driven initially by loose monetary policy and
sustained beyond there by the reality of resource economics.
Under these circumstances, an expectation for oil reaching and
holding USD100 a barrel may be an appropriate basis for airlines
planning to survive the recession. This poses a particular challenge
for those LCCs committed to less fuel efficient, aging aircraft.

34
Airbus 2006-2026 projections yield similar results, with 78% of a projected
fleet of 37,800 aircraft under 20 years old, 40% (11,900) being replacements
and 60% (17,700) meeting new demand.
155
Restructuring out of recession?

On the positive side of the ledger, recessions create opportunities to
change some fundamentals. They traditionally undermine the
strength of labour and may shake out entrenched management
attitudes along with low productivity work practices. While this
creates its own hardships and issues, it may also provide the seed
bed out of which new, innovative enterprises are born and thrive.

There is also the prospect that for sound enterprises that the cost of
capital is reduced. In some cases, this will be through equity
raising to reduce debt. In others it will be through rescheduling and
renegotiating debt. Recession may also provide the opportunity to
take aboard losses and accelerate the retirement of ageing aircraft.
Cost cutting opportunities may prove easier to implement, such as
closure of bases, offering the possibility of airlines improving
balance sheets despite the traffic downturn.

The cost of new aircraft is also reduced as some airlines modify
schedules and seek enhanced payment terms for delivery, while
others, like Ryanair, Virgin Blue and others initiate orders on
favourable terms.

Recession has a habit of consolidating industries, shaking out the
weaker players and driving together some of the shaky ones,
thereby increasing sector-wide productivity and creating something
of a platform for investment in recovery.

The difference in aviation may lie in the prospect for the
proliferation of LCCs and more new entrants to configure the
recovery, as much as the reshaping of the formerly dominant and
entrenched airlines.

However, as history has shown, flag carrier exit is extraordinarily
uncommon. The rare failures of Swissair and Sabena are the
exceptions that prove this rule. Even Alitalia and Varig were given
massive government momentum in their attempts to avoid
complete obliteration. Numerous flag airlines, including Japan
Airlines, Air Canada and Air India are today being bailed out with
non-commercial loans and other support.

Low cost long-haul airline progress hampered by widebody
prices and availability

Virgin Blue looks to cash in on discounted aircraft

Chapter 12
The Outlook:
Great expectations
157
12 The Outlook:
Great Expectations

In this chapter we draw together the views of low cost
airline CEOs from each region, together with those of
industry experts, Professor Michael E. Levine, Dr Julius
Maldutis, Professor Nawal Taneja and investor, Bill Franke of
Indigo Partners.

We asked three open-ended questions:

1. How do you see the LCC (and the overall airline) model
evolving over the next three years?
2. What do you see as the greatest threat/challenge/
opportunity in the future of your airline?
3. Any other comments?

The chapter attempts to draw together the various threads,
linking at the same time the views of airlines from each
region. And, despite the varying levels of LCC development
and the domestic/international differences, a perhaps
surprising level of similarity of outlook emerges.

12.1 The Outlook for LCCs - and the Airline
Industry

Learning from hands-on experience is a vital part of preparing for
what is to come, so, in addition to our own opinions, we believed
the views of experienced industry leaders on future directions to be
a vital part of any examination of where the industry is headed.

Just as there is a wide divergence of airline models, so there is
considerable difference among airline leaders and experts about
what features are preferable - and about which are best placed to
survive and prosper.

There are however likely to be many right answers in a future
diverse market place, where the hand of economic regulation is
much less evident. Equally, many will be wrong. Such is the nature
of markets in a changed world. But, as this story unfolds, several
clear threads do start to emerge. They are not always intuitive, at
least in classic LCC thinking.

A future where winners win and losers lose?

The mere prospect of diversity contrasts starkly with experience in
the airline industry of the past few decades. One of our experts
illustrated this by quoting from two airline executives: The current
regulatory system does not allow winners to win and losers to lose.
And, the exit barriers in the global airline industry are higher than
the entry barriers.
35

With the advent of an array of new entrant airlines, each sharing a
lower cost discipline, but all independent of flag carriage, the
status quo is no longer. For the airline industry, the world has
changed and will continue to do so. Ideally this will lead to a
financially healthier and more transparent environment. Constraints
will always exist, but a system where rewards follow intelligent
innovation and sound management has become a more realistic
goal.

35
Per Professor Nawal Taneja
158
Schumpeter vs the ai rlines

It was, according to Joseph Schumpeter
36

, entrepreneurial
innovation that generates gales of creative destruction as
innovations cause ageing inventories, ideas, technologies, skills,
and equipment to become obsolete. He proposed that it is not how
capitalism administers existing structures, ... [but] how it creates
and destroys them. This creative destruction, leads to continuous
progress, thereby improving standards of living for everyone and,
by implication, securing the survival of a company, which goes
through that process.

Much of the airline industry, especially the
flag carriers, is longstanding and even
geriatric. Many airlines still carry much of the
baggage from their decades of existence. Of
a relatively small industry, there are at least
10 major airlines that have existed for over
80 years, still in more or less the same form.

In most cases LCCs are not yet old enough to suffer corporate
sclerosis, but this will occur progressively as airlines age and
merge, or as they become more entrenched with unions.

Creative destruction is becoming increasingly a force to be sought
out. Many full service airlines have dabbled at the edges of such a
massive reinvention, but, in the absence of a tsunami of change,
the inertial forces are such that total rather than creative
destruction becomes more likely. This, despite the recidivism of
many governments even today. There can hardly be a future in
bailing out dinosaurs.

But in some ways we may be in the midst of that tsunami of
change. The industry (or much of it) is suffering like never before.
And the worst is probably yet to come. Having suffered the abrupt
slump of the past 12 months, even if the slide has ended, prospects
are that the industry will bump along the bottom for as much as
another year. Applying the philosophy that this recession is too
good to miss, the opportunity for real adaptation by the weaker
legacy airlines will never be greater.

Moving towards a New Normal

Professor Nawal Taneja sees this as the likely move to a New
Normal: Composition, performance, and relative importance of
economies, particularly of the US, will most likely see radically
changes. Although the airline business has always been more
exposed (than many other businesses) to the economic cycles, the
current crisis is likely to have more severe impacts, such as
considerably less financial leverage in the system. Moreover, even
when the economies begin to show signs of a modest recovery, oil
prices (that have a disproportional leverage on airlines) could go up
again.

He sees a post-crisis world which is likely to be fundamentally
different. Traditional airlines have obviously been trying, as best
as they can, to deal with the current crisis, using their current
business models and within the inherent constraints relating to the
airline industry. However, airline leadership in the future will need
to deal with a new normal, that will be include the expansion of
truly powerful low cost carriers (in regional and intercontinental
markets) as well as people purchase behavior to trade down.

36
Professor Joseph Alois Schumpeter (1883-1950), Capitalism, Socialism
and Democracy, 1942
159

while airlines get bigger and older

But the search for a new normal will consequently be a dynamic
one for all carriers, as legacy airlines increasingly respond to the
low cost operators. And this challenge comes in two main forms:
dealing with a larger sized operation and managing the results of
ageing.

As the CEO of relatively young (long haul-low cost) AirAsia X, Azran
Osman-Rani noted, For AirAsia, the threats and challenges will
primarily come from reaching a bigger size. From a tiny bankrupt
shell in 2001, AirAsia will challenge to be the largest airline in Asia
(by capacity) by 2013.

Our operating model and management style will have to evolve
accordingly. Growth breeds complexity. Survival and continued
success will hinge on our ability to change and adapt. Creatively
destroy anything that holds back growth without emotional
attachment and organisational resistance, and reinvent ourselves
while keeping the core AirAsia brand and consumer proposition
alive and fresh. We have to be smarter at deploying and managing
a much bigger sized aircraft fleet. We need to completely remodel
the way we manage airport terminal operations, and we have to
look at acquiring new customers especially ones that are less
price-sensitive and place more importance on the service
experience.

And, for example, the granddaddy of all of the LCC models,
Southwest Airlines, employs pilots who now enjoy relatively
luxurious conditions. The carriers pilots union recently imposed
significant restrictions on cross-border/international cooperation by
the airline and, along with their counterparts in Frontier Airlines,
were largely responsible for preventing a takeover of the bankrupt
Frontier.

Jim Parker, of Raymond James, told us he believed this to be one of
the biggest problems ahead for the sector: Labor costs are
expected to be the most challenging issue for LCC's in the US as
pilots demand to be paid the same rates as Southwest - whose
pilots are the highest paid in the industry.

Southwests recent attempted takeover of Frontier is itself a sign of
the way the airline has changed tack as it became the biggest
domestic carrier in the US.

Evolving or preserving the LCC model?

This all sets the scene for a continuing and increasingly chaotic
process of adjustment, not just for legacy carriers, but right across
the industry, with each airline having to confront its own issues,
peculiar to its region and home market. And, it is not surprising
therefore that there are clear divisions between CEOs and experts
on where the dry ground lies.

With this in mind, the first question we asked our CEOs, investors
and experts was how they saw the LCC (and the overall airline)
model evolving over the next three years.

This delivered a marked difference of opinion between those who
see the low cost model(s) as an unforgiving constant, up against
the proponents of adaptation into evolving environments. On
balance however, the numbers are heavily with those who see
evolution as inevitable and often desirable.

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161
The real LCCs and the others

The divide essentially follows the lines of a difference in philosophy
which we identified in the body of this report: (1) the pure low
cost model which is a tiny minority of low cost airlines operating
today; and (2) those which come off a low cost base but are
modifying their model to embrace frills of one or more kinds.

As observed previously, the number of airlines which wholly
complies with the classic low cost airline profile independent,
short haul, domestic, single aircraft type, aggressive cost control,
very low fares and no connectivity, includes Ryanair, the Indigo
Partners stable (Spirit, Tiger
37
, Mandala, Wizz Air and, most
recently, Avianova), AirAsia
38
, Air Arabia
39
, Allegiant, and Indias
Indigo, GoAir and SpiceJet
40

. There will be other claimants; these
are the (nearly) uncontroversial ones. The Philippines Cebu Pacific
is also cutting edge for example, but operates two aircraft types.

(1) In support of preservi ng the basic model

Bill Franke, of Indigo Partners, investors in several low cost airlines
from Asia to Europe and the US, sits squarely in the former group:
A lot of airlines claim they fly the LCC model. Most, in fact, do not.
I think it is important that the true LCC stay the course and works
to gain market share until it hits market equilibrium with legacy and
other full service carriers. By staying the course I do not mean
letting increments of full service creep into the model: interlining;
longer haul flying; bigger aircraft; on-board amenities; lounges and
so forth have killed a number of low cost airlines who now have to
rely on shifting service, experimentation with the product and other
efforts to improve their top lines, having lost their cost advantage.

At Ryanair, there is little argument. The biggest airline in Europe is
of one mind with Mr Franke (one reason we have suggested a
friendly future between Ryanair and Wizz Air, one of Indigo
Partners investments).

Ryanair meets Wizz Air: does a merger make sense?

For Michael Cawley, Deputy CEO and COO of Ryanair, there is no
question of where the airline is and always will be. The lowest
cost airline in the market.

So long as that is the case, Ryanair remains untouchable. Ryanairs
competitive advantage in the European market is massive and
growing. Mr Cawley believes that, right across Europe the potential
remains enormous - once you drop the fares. In the US, with a
population half the size of Europe, their passenger market is vastly
bigger. This is indeed a telling statistic: in 2008, intra-European
passenger numbers were 356 million; 741 million US domestic
passengers were uplifted during the same year
41

37
Technically, Tiger Airways is minority owned by Singapore Airlines, but
effectively operates independently
.
38
AirAsia operates internationally in Asia and, through its part owned AirAsia
X, also long haul. But it is the lowest cost airline in the world, so can hardly
be omitted on these technicalities
39
Air Arabia does not technically tick all the boxes, but also qualifies due to
its ultra-low cost base
40
Spicejet allows limited on-line interlining of bags on certain sectors
41
Association of European Airlines and US Bureau of Transportation
respectively
162
It is hard to argue with the fact of Ryanairs successful formula and
the carriers juggernaut-like expansion. In fact it is almost
intimidating to see the profile that Ryanair has taken, seeing almost
boundless expansion provided the airline maintains a brutal
control on costs.

This is where Ryanairs vociferous attacks on high government
taxes on aviation in the UK and Ireland make a lot of sense, as
fares reduce and those taxes constitute a growing part of a
disincentive to travel.

David Cush, CEO of Virgin America, sounds a broadly similar note
on staying low cost: More than ever, the low cost provider will
win. The differences on the revenue side between the legacy
carriers and the low cost carriers are diminishing. Clearly, cost is
king in this world.

But in Virgin Americas case there is a twist: LCCs are upgrading
their distribution capabilities, including participation levels in GDSs,
travel agency sales, and corporate contracts, and corporate buyers
are increasingly abandoning contract buying for transactional
buyingbasically, buying the least expensive ticket in each
transaction rather than bundling purchasing with a single airline in
an attempt to maximize total savings.

One inference that can be drawn from this and from the recent
behaviour of Southwest Airlines - is that opportunities for low cost
expansion in the US market have actually hit a wall, as it becomes
saturated with the low cost competition from other low cost airlines,
as well as low prices from the higher cost full service airlines. This
appears pretty clearly not to be the case in Europe or elsewhere
for that matter.

Adel Ali, CEO of a startlingly successful LCC based in the Emirate of
Sharjah in the UAE, Air Arabia, is somewhat more cost-driven and
probably fits squarely into the basic model category (even though
the airline does operate some atypical very long hauls). To extend
its reach, Air Arabia once attempted a takeover of an airline on the
Indian subcontinent which operated briefly but didnt work out
and has recently established cross-border joint ventures in Morocco
and Egypt. Each were adaptations to get around international
regulatory constraints. They are variations on the basics, but do not
influence the low cost obsession.

Indeed, Tony Fernandes, mercurial CEO of the AirAsia Group in
Malaysia, argues that the establishment of cross border low cost
subsidiaries, even if they involve more complexity, gives the airline
more options for choosing lower cost alternatives, as different
markets have varying cost bases. This means that we can position
our activities like aircraft maintenance, crew training and
recruitment generally in the markets where the quality is high but
the costs are lower.

Adel Ali believes that the low cost travel market segment is set to
grow in the Middle East. Air Arabia introduced this model to the
region five years ago and since then air travel has shifted to
something better. Customers now have the choice to select what is
best for them and the travel trend is moving towards value for
money air travel. This is not as obvious a development as
elsewhere. The force of belief that the wealthy Middle East would
not support no-frills, low cost products was nearly overpowering.
Until a couple of years ago, Dubai Airport for example would not
admit LCCs. But the model persists and flourishes sufficiently
effectively that it eventually pushed Emirates Airlines parent to
establish its own Dubai-based low cost subsidiary, flydubai.

163
And the worlds lowest cost airline, AirAsia X (with a non-fuel
CASK
42

of US 1.5 cents, or 2.5 cents with fuel) understandably sees
cost as dramatically the highest priority. Says Azran, Airlines have
to keep examining the entire operating model and value chain and
keep finding new ways to take cost out. Nothing should be left
unchecked. Even a successful premium carrier like Singapore
Airlines thrives because they are the lowest unit cost operator in
their category. Yields will keep shrinking in real terms, and
comparative lower costs will be absolutely essential to survive.
And he adds one thing that a much longer-established airline like
Ryanair is now pretty well able to assume in most of its markets:
Size of fleet, breadth and depth of route network, market share on
individual city-pair routes, and extent of brand reach, will become
even more critical going forward. But here the differences start to
emerge: Models will keep evolving as LCCs acquire more scale and
grab a bigger share of overall commercial aviation. There is
another underlying vision here. Of perhaps something that looks
like a full service operation stripped of costs and the more complex
activities that involves.

In support of hybridising; evolving away from the basic
model

Increasingly the weight of opinion (and activity) is towards the
evolution of the LCC model, as local conditions and the global
market dictate. Inevitably this implies progressive convergence
operationally with the full service carriers, including such features
as international operation, long haul service and growing
connectivity. Last years fuel price surge and now the global
economic downturn have greatly accelerated this process.

After all, the rest of the world is changing, argues this faction, so
we either must adapt to survive, or anyway should refocus in order
to take advantage of opportunities that arise. Southwest, the
reference point, adopts codesharing and partnerships, attempts to
buy Frontier - that would have had it operating two aircraft types,
temporarily at least - and generally moves towards operating bases
at major airports, so change is in the air.

Michael E. Levine ties these disparate threads together, in the
process emphasing the different state of development of regional
markets: The "classic" LCC model of simplified procedures, point-
to-point service, and intense resource use is by its nature growth-
limited, because the number of airport-pair markets that will
support frequent point-to-point service is limited. An LCC must
operate in very dense markets alongside network airlines, draw
surface-transport "feed" through very low fares, or operate
infrequently with infrastructure supplied by others at low cost.

In North America, continues Levine, the
largest LCCs, Southwest, AirTran (nee
ValuJet), and WestJet, are evolving into
network airlines, with feed provided from
other flights on their networks (even
interlining!) and procedures and schedules
modified to support this.

42
CASK cost per available seat kilometre. Azran candidly offers too that his
revenue per ASK is currently 2.7cents. A thin margin, but, unlike the full
service airlines, above the cost of provision.
164
In other parts of the world, the model is not yet mature enough to
have reached this constraint, but this will happen. Ryanair has
gone in the other direction, with relatively low frequency in many of
its markets, fares low enough to attract surface "feed" and very
limited ground infrastructure, so that the costs of low station
density are carried by others, principally airports.

In any event, says AirAsia Xs Azran, I dont think theres ever
been a single LCC model. There are many variants because
individual airlines have to adapt to their unique market
circumstances. What works for Ryanair in Europe or Southwest in
America, may not be 100% translatable into a successful model in
China or Australia. A lot depends on whether an LCC is a first-
mover or a follower in its market, whether its primary competition
are premium carriers or other LCCs, and the consumer preferences
and income levels in its market. (Nonetheless, adherence to strict
cost controls allows AirAsia and Air Arabia to maintain arguably the
lowest unit costs in the world.)

And formulator of the New World Carrier, Brett Godfrey, CEO of
Virgin Blue, has no doubts about the direction of the industry:
We see increasing convergence of business models between LCCs
and network carriers, and the leading indicator of this is that a lot
of LCCs are getting into strategic partnerships with network
carriers. I believe it was not until around the time of our New
World Carrier strategy, LCCs were considered a separate species
and it was a case of "never the twain shall meet". Now it is almost
routine to read weekly in "Peanuts!"
43

that another LCC with an
excellent short haul network has established an interline or
codeshare partnership with a long haul network carrier.
For example, he says, Virgin Blue with Delta, GOL with American
and JetBlue with Lufthansa. WestJet has entered into a preferred
partner distribution relationship with oneworld carriers in Canada
since only Star Alliance is represented in that domestic market, but
WestJet is also entering into a relationship with the most traditional
and conservative of all LCCs, Southwest, rather than aligning itself
exclusively with oneworld.

But, to reinforce the position that Virgin Blue is adapting to its own
market conditions, he adds: That is not to say that we think the
more "pure" LCC models such as Ryanair or AirAsia cannot be
maintained - we see them continuing to prosper in their chosen
markets. But what does have no future is the notion that there is
only one cookie cutter LCC or network carrier model. Plainly,
different models work best in different markets and with different
competitive dynamics.

Kevin Steele, CEO of Saudi Arabias Sama, sees the move towards
more hybrid LCCs accelerating, via three methods: (a) low cost
solutions evolving for some of the legacy airlines blockages to
entry like GDS, interlining, ICH, FFS etc; (b) the need for more
flexibility in the pure LCC model; and (c) legacy airlines themselves
hurting more than LCCs, so either looking to set up/hive off their
own LCC, or work with LCCs more (Dohop with Emirates Airline,
along with Hahn Air for instance). The Middle East is again a
different and very new market for new entrant short haul airlines
and is quickly spawning new variations on the basic model.

43
Peanuts! Weekly is published by the Centre for Asia Pacific Aviation,
covering global LCC developments, strategy and analysis
165
In Japan, the reasons for evolving the model are quite different,
reflecting in turn the very specific conditions of that market, long
dominated by major full service airlines, All Nippon Airways and
Japan Airlines. According to Yasuyushi Motu, former CEO and now
adviser to the President of Starflyer, Under the downtrend
economy we face, the LCC is likely to have a tough time since its
business model depends on newly generated demand and high load
factors which are now no longer easy to achieve. Expressing a
common theme, the LCC or small airline has to grow (it is not
allowed to stop) since it lives with a very small margin of profit,
which is shrinking because of unavoidable 'age costs' such as
maintenance and labor costs.

This drives his conclusion, at least for Japan, that I think the LCC is
required to re-engineer its business model by 'downsizing',
changing its revenue management' strategy and entering into
'alliances' - including international operations. But, in this
environment, another niche model such as small aircraft (point to
point), low fare business class, and low priced charter may
become popular and competitive. Even though there may be failed
precedents for one or two of these niche models, elsewhere, that
doesnt necessarily mean that they wont work in north Asia.

The long haul low cost airline

The long haul-low cost airline is one specific varietal that has often
been dismissed as a viable operation. Does the long haul model
have a future? We asked this question in the body of the report. For
a long time it looked as if the underlying logic of short haul low cost
operation would not translate; higher seating density and aircraft
utilisation leverage simply was not available. And the failure of
Hong Kongs Oasis, for one, suggested that the doubters might be
right.

But in the Asia Pacific region, at least three very different
airlines are doing just that: Qantas subsidiary, Jetstar, AirAsia, in
the form of subsidiary AirAsia X, and Viva Macau, the longest
surviving long haul low cost operator, feeding Asias Las Vegas.

Jetstar, with its A330 fleet, is progressively expanding
internationally, flying predominantly to tourism destinations, but
also substituting for its full service parent on routes where a lower
cost base is essential to profitability. Thus, for example, Jetstar
recently commenced service to Tokyo Narita, replacing Qantas.

There are big plans for Jetstar too; most of the 100+ B787s
ordered by Qantas Group were destined for the low cost operation
and it will eventually be the first in the group to fly the B787-9
type, when they arrive. Jetstar codeshares and interlines with
Qantas internationally and domestically, shares lounges, frequent
flyer programme and a range of purchasing activities.

AirAsiaX appears to be developing a format that not only makes
long haul-low cost possible, but allows its CEO to suggest that,
startlingly, it may be the long term survival ingredient for LCCs:
One key competitive differentiator for AirAsia will be its long-haul
affiliate, AirAsia X. We are only now discovering the tremendous
potential that long-haul trunk routes brings to the core short-haul
regional business in terms of passenger feed, brand extension
and operating scale. Purist LCCs that are steadfastly staying only
in the narrowbody space will be competitively disadvantaged, as
will legacy carriers that are not investing in next-generation long-
haul aircraft with their game-changing superior economics.

166
This may be visionary, it may be a prescription only for successful
expansion in Asias largely international markets but, whatever, it
is a strategy from the cutting edge of low cost airline thinking, as
AirAsia X is on the brink of expanding from its Kuala Lumpur base
into another hub in the UAE, as well as heading eastwards into
the US West Coast, to complement its Australian and Chinese
points. Like the London Stansted service established last year, this
will serve an airport which has multiple low cost operators:
Oakland.

Viva Macau (not to be confused with Air Macau, whose monopoly of
unused bilateral rights inhibits Viva Macaus China expansion),
which commenced long haul operations in 2005, is still small, now
with three B767s, but is in the black and starting to consolidate. As
the longest surviving long-haul LCC, its inbound tourist model is
specific to its home base, recently concluding a joint marketing
arrangement with the local tourism board.

In Europe, Air Berlin has evolved in (and from) many directions,
effectively blurring the distinction with full service operation, but
with a very low cost bias; it operates long haul, it offers full
connectivity, but it maintains a low cost profile. It could be seen as
an example of an airline that has metamorphosed into a long haul
low cost operator too. With its mixed fleet, it operates not only a
dense network in Europe, but also flies to points in Asia, Africa,
North America and the Caribbean.

An amalgam of airlines (including LTU, former British Airways low
cost subsidiary dba, and minority shares in NIKI and Belair), Air
Berlin is quickly responsive to needs to trim long haul service as
quickly as it starts them up. But, based in a country whose flag
carrier is one of the most powerful in the world and which has
dominated German aviation for decades, Air Berlin clearly sees
Lufthansa as a major target. If a proposed strategic partnership and
cross-shareholding agreement with TUI Travel is approved this
autumn, it will become a seriously competitive force. Meanwhile, its
strategy is generating ever-improving yields at a time when full
service airlines are suffering the opposite fate.

Australias Jetstar has no doubts that the long haul path is the way
to go. It already operates a fleet of A330-300 aircraft, with more on
order and, says CEO Bruce Buchanan, Future long-haul expansion
to Europe from Australia via an Asian hub - for Jetstar does
present a great opportunity, and with the decision to lease an
additional four-five A330 aircraft in lieu of the arrival of the
Dreamliner B787s, this remains a possibility in the next two three
years. Meanwhile, Jetstar has already established a range of
long-haul services from Australia.

With Asian growth markets firmly in view, Buchanan says also,
Over the next three years, I believe we will see the Jetstar brand
in particular to continue to strengthen and grow across Asia and the
Asia Pacific region. Our focus has been and will continue to be
AsiaAcross the Asia Pacific region as more people grasp low fares
air travel as a convenient and affordable way to travel within their
own countries and across the region opportunities will emerge.
Jetstar here is talking a strategy somewhat like that of AirAsia,
where a set of short-haul hubs is complemented by long haul
operations, implying a two-aircraft type fleet.

Coming from another direction, JetBlues strategy is to access
longhaul markets through codeshare at this stage at least,
exploiting its relationship with part owner Lufthansa, although it
also has wider aspirations in the Americas (see below). This vision
does not necessarily rely on operating long haul aircraft, with the
immediate frame relying on codeshare. But JetBlue has shown it
has no qualms about moving away from a single-aircraft type
model adopting two aircraft types, with its complementary fleet of
Embraer-190 regional jets.
167
Another large low cost airline whose name has been associated with
the concept of long haul operations is Ryanair. CEO, Michael
OLeary has made clear he wishes to embark on a long haul service,
at least across the Atlantic, although, he says, this will have to wait
until lease costs come down; Ryanair has also made strenuous
efforts to acquire control of Irish flag carrier, Aer Lingus.

However, COO Michael Cawley stresses that the long haul strategy
is not part of the airlines DNA: Michael OLearys long haul project
is entirely independent of Ryanair. Short haul traffic is where the
value is. And buying Aer Lingus is not about long haul either, it is to
drive (Aer Lingus)s cost down substantially. They cant make it on
their own, they just dont have the efficiency, and we see that we
can do it for them. Why Aer Lingus? because we know them
better than we know the other airlines.

Thus, while the long haul low cost model may for the time being be
a particularly Asian phenomenon, the seeds are there for imitation
more widely, either directly or through partnering. Once these
operations are seen to be viable, others will inevitably try to go
there. As Vuelings Alex Cruz says, More people will try long haul
low cost just because Tony (Fernandes) and Azran (Osman-Rani)
are doing it and it seems it is working.

But, regardless of whether the short haul airline itself expands into
long haul markets, it many LCCs are committing to enter
international markets one way or another.

The dangers? Being stuck in the middl e.
Tweenies are vulnerabl e?

Higher cost and lower premium is a potentially dangerous place to
be. Moving up market can endanger the cost priority very quickly.

Bill Franke is an unequivocal unbeliever: We have watched with
interest as a number of carriers that were quite successful in their
early days have given it up as they approach 5+ years of operation.
Some hormonal change occurs in the brain of the management and
their boards of directors and they lose discipline and commitment to
their model that created their success. In todays difficult economic
times, that loss of focus on costs has decimated several carriers,
now stuck with a model somewhere between low cost and full
service. Tweenies are not where one wants to make a bet.

The Virgin Blue evolution is however the most far-reaching of any
LCC, to the extent that it is now, on many counts, very much a full
service carrier, but and here is the key it is doing the same job
but at a much lower cost. The carrier now operates B737NGs as its
core fleet still, but it also flies new B777s longhaul and Embraer-
170s and -190s on smaller regional routes.

Godfrey insists this is where the carrier needs to be, as, in
general the hybrid model is the middle ground from which the vast
bulk of the market, whether business or leisure, can be addressed.
No-one accuses Toyota or Honda of being "stuck" between BMW
and Hyundai, he says. We have a view on what the airline of the
future will look like and fully intend leading the charge to get there.
What is plainly clear to us however is that this airline of the future
must focus on the vast and rising middle market masses.

Right or wrong, it does seem that the weight of opinion is moving to
Godfreys side. The underlying issue is how to respond to the
pressures of a commoditised, crowded marketplace. Seeking yield
and wider operating options have a magnetic attraction at this
stage.

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If nothing else, regional market variations make this likely,
according to Vueling CEO, Alex Cruz, More competition in each
region will force regional low cost airlines to evolve from a product
perspective, with only a very few exceptions such as Ryanair and
AirAsia. The untouchable areas will be touched but LCC-style:
providing for business passengers and developing products for
them, providing connections, etc. But, the ever present danger
This is likely to drive costs upwards small amounts. Ensuring they
are only small amounts is the hard bit.

Jetstar already sits firmly in this middle ground and is alert to this
caution. Says CEO, Bruce Buchanan, The concept of a one size fits
all LCC model has quickly vanished. In particular, low fare airlines
wanting to move from the periphery and into the mainstream of
any market must be able to adapt as required to both the customer
demands and the key fundamentals of that market. That said,
maintaining the lowest cost is critical to success. Without
sustainably lowering costs over time many carriers, as IATA
continues to point out, will simply no longer be around, or are not
able maintain a sustainable operation over the medium to longer
term.

And in the Gulf, Samas CEO Kevin Steele sees the hybridisation
process accelerating: via three methods; first of all, low cost
solutions evolving for some of the legacy airlines blockages to
entry like GDS and interlining; secondly, the need for more
flexibility in pure LCC model itself; and thirdly, as legacy airlines
themselves hurt more than LCCs, so either look to set up or hive off
their own LCC, or work more closely with LCCs.

The other side of the coin: FSC problems the worst
place of all: the middle ground, but with higher costs and
lower fares

I think this ancillary revenue effort by legacy carriers will
only push more passengers to the LCC model where you
get what you pay for, no pretenses about it, Bill Franke,
Indigo Partners.

But, without doubt no place to be is high cost, with declining yields.
This has to be the worst of all worlds. It is hardly a secret that
many full service airlines are consequently in disarray, talking of
fundamental reappraisal of their basic model. In many ways this
would be a good thing.

Nawal Taneja believes it will not just be good, but may be
inevitable, as conditions change: Consumer behavior, particularly
relating to purchases, will change dramatically as a result of
numerous forcesThe continuous decline since mid-2008 in
premium demand in international markets served by major full-
service airlines is a profound change in that the major premium
market is not likely to recover fully. The reasons appear to be, (a)
that most businesses are controlling their travel budgets and, (b)
that many individual travelers who pay for their own tickets do not
consider the premium class, price-service options to be valuable.
These trends are similar to those observed in the premium segment
of the hospitality industry.

Bill Franke also believes legacy carriers are staring down the barrel:
Meanwhile, the U.S and European legacy guys, faced with costs
they cannot recover from their passengers - particularly in these
difficult economic times - are resorting to the more obvious of the
ancillary revenue tactics of their LCC competitors. Baggage fees,
fees for blankets, loss of food service and the like are good
examples. This has done little for passengers attitudes toward
these carriers: it is one thing if you pay very low fares and have the
on-board choices to make.
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This crisis of identity goes right to the heart of the airlines
branding. Franke continues, It is another thing if you are paying a
legacys high fares and think you are getting something for it only
to face a charge for a blanket. I think this ancillary revenue effort
by legacy carriers will only push more passengers to the LCC model
where you get what you pay for, no pretenses about it. If you fly
SQ, you know with certainty what you will get for that higher fare.
If you fly Tiger, you also know what you wont get for that very low
fare. The guys in between are the ones in trouble.

Consolidation inevitable, but not common just yet

Consolidation will occur between so called low cost and
low fare airlines. Many airlines with higher costs are finding
they cant simply be low fare, Michael Cawley, COO,
Ryanair

As observed at the beginning of this chapter, market exit has not
been a feature of the airline industry to date, although the record
for independent airlines more closely resembles a free market.
Regulation has distorted the process of natural selection, just as it
has made other forms of rationalisation, like merger and
acquisition, difficult. Consolidation has been made harder where
flag names carried along with them the nationalism of
independence. In Europe, Lufthansa is bucking this tradition, as it
buys neighbouring foreign (EU) airlines, while maintaining their
brand names.

But otherwise examples are few: KLM, with Kenya Airways and
Virgin in Nigeria, recently unwound, among a handful. Air France-
KLM is more an exception than a model at this stage. Lufthansas
acquisition of neighbouring airlines, along with its investment in
carriers like germanwings (100%) and JetBlue (19%) does provide
some precedent, as do the various serial investor combinations;
however these are mostly far removed from genuine corporate
consolidation. An attempt last year to combine British Airways and
Qantas was stillborn. The political and legal impediments to such
relationships are immense. Strong forces in the US even oppose the
use of alliances to enhance marketing and operational viability.

However, especially in Europe, there are precedents for mergers
involving LCCs as well as for their exiting the market. The current
difficult economic conditions, following hard on a year of excessive
fuel costs, are creating conditions where the attractions of merger
become greater, or even overpowering. Some of the more marginal
models, which may have survived in more benign times, have gone
to the wall.

Airline failures 2008/2009: Where and Why? The CAPA list

Ryanairs Michael Cawley describes a simple equation to define the
targets in this process: Consolidation will occur between so called
low cost and low fare airlines. Many airlines with higher costs are
finding they cant simply be low fare. As he observes, the vast
majority of LCCs is losing money. At some stage they have to
change and consolidation (or market exit) is a way. In the
increasingly cutthroat European market, Cawley notes that No
other airline in Europe has made money two years in a row, apart
from Ryanair and easyJet.

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This phenomenon of low fare/low cost differentiation is of course
not just limited to independent LCCs. The full service airlines which,
while bearing higher costs, have previously been able to cross-
subsidise low fares with higher yielding traffic, are now examining
their options. The reality that the current low yield market is not
going to go away for a considerable time is forcing a realisation that
stopgap solutions will not suffice. The likelihood of their entering
this consolidation marketplace increases daily.

But for Ryanair at least, consolidation is not on the cards, says
Cawley: There is nothing in it for us to consolidate; why would we
try to integrate something that is so fundamentally different from
us? They all have weaker models, theyre less efficient, have poorer
distribution models, pay more for their aircraft and airport charges -
and simply dont fit. (That said, one European airline that does
operate with a similar style is Wizz Air, one of the Indigo Partners
stable; and Ryanair seems to be waltzing operationally with Wizz,
as their respective markets barely overlap, but intersect largely in
complementary ways. But Cawley says Ryanair doesnt want to be
in Hungary, owing to its high charges.)

Ryanairs expansion has been mostly organic, although it did buy
KLMs low fare subsidiary, Buzz (along with its Stansted slots), in
2003, and retains a so-far unproductive minority shareholding in
Aer Lingus. The Irish flag carrier is the only airline where Ryanair
would look to integrate and indeed has tried actively to
consummate the relationship: We know them better than anyone
else; they cant make it on their own. And the convergence would
be instant and appreciable, Cawley believes.

Vuelings Alex Cruz agrees with the industry consolidation
diagnosis, as established airlines assert themselves, more
consolidation is likely to take place as the big LCCs continue to gain
market share, squeezing the others.

airbaltics CCO Tero Taskila, takes a longer view too, as the industry
evolves through the next few years, suggesting that the growing
similarity of full service and LCC models makes intermarriage more
feasible: The industry will see consolidation and the new
generation of hybrid airlines. LCCs get closer to mainline carriers
(airbaltics network model for example) and mainline carriers
getting closer to LCCs (such as Finnair, BA removing free food).
Once the consolidation (or capacity reduction) has reached its
pinnacle, there will be carriers who will start offering niche again
(full business class etc. a la Silver Wings) but currently such models
are not sustainable.

Latvia: Small LCC market share in Latvia is in decline a
portent for the future or a localised anomal y?

And Southwest CEO Gary Kelly adds another twist, seeing
consolidation (particularly of others) as an opportunity to expand:
The very nature of the changing landscape of the airline industry
provides constant opportunity, including consolidation and reduced
capacity that allows Southwest to target new markets

So, while the prospect of consolidation is apparently not
controversial, examples remain relatively scarce, even domestically.
As Brett Godfrey of Virgin Blue observes, in the context of higher
fuel prices adding stress to LCCs, this will put more pressure on
airlines with ageing fleets and poorer profitability. For many of
these, being acquired may be their salvation, but in general airline
consolidation and liberalisation of markets across borders in
particular is still occurring very slowly compared to other
industries.
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12.2 The main threats and opportunities for
LCCs

Perhaps typically for this innovative and creative sector, most
airline CEOs frequently see threats and opportunities as being part
of the same challenge. Even such external threats as high fuel
prices are often talked of as being a helpful prompt to improve
efficiencies. Part of this can be put down to good marketing talk,
but the continuing belief in the rightness of the particular model
which each airline espouses shines through with the fervour of
missionaries. As a consequence, it was often hard to distinguish
between when the various CEOs were describing a threat or an
opportunity. If this appears to cause contradictions in the following
account, then it reflects accurately the inputs.

And, in passing it is worth noting that the very fact that so many
CEOs were willing directly, not through intermediaries to
express their views on a range of issues is perhaps at the heart of
why the LCC environment is so vibrant and innovative. These
airlines are led from the top, by individuals wholly committed to
continual improvement. In most cases they are preoccupied with
the future, largely unencumbered by the baggage of the past. But
the key ingredient is almost invariably a passionate commitment.

12.2.1 The Threats

There are numerous globally applicable external challenges to the
low cost model, such as high fuel costs, government regulation
preventing or restraining entry in one way or another, and
protectionism generally.

However, regional differences also emerge when airlines and key
observers analyse the concerns that may lie ahead.

At a global level, Professor Levine sees generic and industry
concerns: The greatest challenges will come from the intersection
of airline growth ambitions and low market-size growth due to a
slow recovery from the global recession and from pressures on
costs. Low discretionary income and high savings rates will reduce
leisure-travel spending and the adaptations necessary to capture
more business demand to replace it will increase costs.

And, on specific airline industry complexity, he says, These
pressures will be increased if fuel costs continue to rise and if
environmental charges become widespread. As LCCs mature, they
will also come under labor cost pressures as seniority increases and
attempts are made to unionize growing labor forces.

Julius Maldutis main concern is over the liquidity of the industry
generally and, necessarily, for the US, capacity overload. For Dr
Maldutis, finances are a major threat: Will we see many Chapter
11 filings because of deteriorating liquidity in years to come? But,
for him, the critical issue over the next three years is what will the
airlines do about capacity in 2010 and beyond?, speculating
whether further cuts are likely. This may be hard; as noted in the
main text of this report, domestic US airline capacity in 4Q2009 will
already be down by almost 20% against the level of the same time
nine years previously. Such declines spell remarkable change. If Dr
Maldutis is right, the cuts may be even deeper, unless economic
growth returns quickly.

Regional differences in outlook are most marked in Japan, for
example, where a very high cost environment (e.g. with limited
outsourcing possibilities, mostly provided by the competing full
service airlines) means a quite different outlook it is mostly beset
by problems, although change may be afoot under a new
government.
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The countrys aviation system is still dominated by the Tokyo
market and its airports and, for the countrys highest profile LCC,
Starflyer, the biggest problem for Japanese aviation is landing slot
restrictions generated by the air traffic controllers union. Unless
there is a drastic increase of slots in the Tokyo area (Haneda,
Narita), this will make it difficult for Starflyer to expand as quickly
as planned, says Yasuyushi Motu.

There is another problem too: the chronic condition of the countrys
number one flag carrier, Japan Airlines. Says Motu, Another critical
issue for the Japanese industry is JAL. As far as stakeholders seek
solutions under the current JAL management to keep the carrier
alive, it is highly unlikely that JAL can develop its own revival plan.
Though the government is intervening to support JAL, a
drastic remedy including strategic bankruptcy may well
be considered. Meanwhile, the importance of JAL, both as a
national icon and as an employer, continues to tilt the overall
government attitude to its airline industry.

Environmental i ssues did not rank expressl y as a threat

Interestingly, few of the airline heads places environmental costs
and charges as a major threat, at this stage. Only Korean Airs
newly formed subsidiary, Jin Air, raised the issue as a key, both as
a threat and as an opportunity: Jin Air believes that environmental
issues will be important even for LCCs with their low cost
structure...We will use this theme for our marketing to build up our
unique brand of premier LCC, focusing on safety first and social
responsibility for the future. Jin Airs Campaign Slogan (is) Save
the Air, with an environmentally focussed management structure.

The carrier plans actively to engage its passengers in CO2 emission
reduction, offering love the environment coupons, where
baggage-free travel will generate 1000 points that will provide a
1000 won discount against future ticket purchases. an
interesting contrast with most current baggage charging strategies.
The carrier will also sell Save the air T-shirts drawn by famous
stars, with profits to be donated to environmental support
groups, and rentals from onboard games equipment, Sony
PSPwill be donated to UNEP to save the environment. Although
arguably self-serving, the attraction of this campaign is its goal of
engaging passengers fully in the exercise.

Otherwise, perhaps the need to respond to environmental
challenges is taken as a given, but Professor Levine expressly
ranked it as a high level issue. Once the Copenhagen Conference is
over and the dust starts to settle and as the implications of the
European Unions unilateral action begin to gain wider
understanding this will change. Emission caps and a trading
system (or more than one) and environmental taxes will quickly
become part of every airlines furniture.

Meanwhile, there are plenty of other things to exercise the airlines
minds.

Fuel Prices Enemy #1?

Although it would be an economic contradiction, the
greatest threat to any airline at present is that the recession
drags on and fuel prices shoot up concurrently, Brett
Godfrey, CEO, Virgin Blue

After a grueling year last year, when fuel prices went far beyond
levels anyone expected, a number of LCCs are today prepared to
confess frankly that they had been doubting their future. So it is no
173
surprise that fuel features large on the list of threats to the
respective airlines. And, despite fears, there can be no certainty
that continued slow economic conditions will prevent fuel prices
from rising. The US ATA for example has been vociferous in its
belief that prices are inflated by money market speculation, not by
fundamentals, a view that has many supporters.

For Virgin America, the biggest challenge for our airline and most
LCCs is fuel volatility. Most of us do not have the balance sheets
that can withstand large losses for a long period of time, says
David Cush. The ability of the legacy carriers to withstand that has
diminished, but has not disappeared. In general, LCCs are much
better at enduring the combination of a soft revenue environment
and low fuel prices than a strong revenue environment and high
fuel prices. If a strong economic recovery means much higher fuel
prices, we would rather do without.

This latter sentiment was echoed by his Australian counterpart at
Virgin Blue, Brett Godfrey: Although it would be an economic
contradiction, the greatest threat to any airline at present is that
the recession drags on and fuel prices shoot up concurrently,
although we don't expect fuel to pick up anything like that spike
just before the Global Financial Crisis. But it will increase steadily
over time and put more pressure on airlines with ageing fleets and
poorer profitability.

Already, for uncertain reasons, oil prices have hovered around
USD70, despite severe recessionary pressures, so Godfreys
economic contradiction may be a real possibility.

Bill Franke too ranks fuel prices as enemy #1: Probably the biggest
issues for both LCC and legacy carriers over the next three years, a
time of liquidity issues for all, will be (i) jet fuel (and how to
manage it in an inflationary environment) and (ii) how airlines can
finance their aircraft orders in financial markets that are in disarray.

Higher costs, particularly fuel costs, will stress both legacy and
LCC carriers who have limited capacity to hedge. If we see a
sustained period of economic malaise coupled with high fuel,
several large legacy carriers will face restructuring. LCCs, even
successful LCCs, will have to reduce growth as they redirect capital
to support their operations.

Fuel prices rank high as a risk among the Middle East LCCs too, but
in context up against the array of factors that contribute to make
the airline industry such fun. Adel Ali, of Air Arabia: Whether
economies, political instability, fluctuating oil prices, natural
disasters and many other factors, it all impacts global aviation.
Airlines have to face those challenges and surpass it, its part of
what this business is all about. And Samas Steelethe greatest
threat is the same as others fuel prices, swine flu, worldwide
recession and so on. The greatest challenge is to grow significantly
but profitably.

Inevitably, fuel prices are critical to the shape of the industry. For
the lower cost carriers, fuel constitutes a higher proportion of costs
and LCCs are consequently more sensitive to substantial input price
increases. As jet fuel prices went through USD170 a barrel last year
and rising, many LCCs were becoming seriously compromised. Peak
oil promises to threaten the basic model again, as economies
recover.

Even at todays depressed levels of economic activity, oil prices are
hovering around USD70, partly on speculation, partly due to
production and refining issues. Once prices rise above these levels,
there is a steep reduction in the value proposition of LCCs vs full
service airlines.

In the short to medium term, there is likely to be a crunch period,
a revenue vacuum, where the world emerges from recession and a
174
short term surge in demand forces fuel prices to peak, yet
consumer demand for travel still lags. This asynchronous scenario
a highly likely one will be painful for LCC and full service airlines
alike.

Then, as activity returns, oil prices threaten to climb progressively
higher, until they reach a new plateau of economic activity. At that
time, for any carrier whose model is based on maintaining low
costs, the disproportionate impact of this external pressure
becomes overpowering when fuel prices rise towards the upper
range of USD100-200 per barrel.

In these circumstances, even the lowest cost model cannot survive
unless substantial yield increases are possible. However, for the
lower end of the leisure market, fare increases quickly deter
demand, eroding the value of the ultra-low cost model.

If the fuel price inflation is accompanied by strong demand as it
was for a time in 2008 that demand can help support airlines with
a higher yield and service profile. But even these carriers will be
stressed and will favour reducing capacity to maintain upward
pressure on fares.

During 2009, US network airlines have been thrown a life raft as
they accessed the add-on ancillary revenue source. This offered a
one-off step change, generating billions of dollars a year. But, even
with further increases in the levels of baggage, seating, and other
charges, future non-ticket revenue improvements will be only
marginal. There will be no easy refuge there.

This USD100+ fuel price scenario, which must be assumed to be set
at somewhere between likely and very possible over the next
two years, would therefore arguably favour those airlines which
have chosen to navigate a path somewhere between lowest cost
and highest yield. An airline which has the ability to generate yields
across an interconnected system of domestic and internationals
services, but with a low cost base, has a risk-basket which would
look to prepare it best for these
cost/revenue conditions.

Financing in disturbed financial markets

Weve been through SARS, bird flu, tsunami, you name it.
The only swine now are bankers, Tony Fernandes, CEO.
Source: Bloomberg, 19-J un-2009.

Bill Franke listed financing as one of his two main headaches:
new fuel efficient aircraft, with lower initial maintenance costs,
will be out of reach except for the most solvent of airlines as
financial markets for new aircraft have in large part dried up or, if
available (ECAs or a few lessor aircraft), require a substantial
airline equity contribution or involve high monthly lease costs.

This is an underlying (and usually understated) concern for all
airlines at present. One indicator is the disparity noted in this report
in the relationship between lease costs for A330s (currently very
much in demand, as the B787 replacement of choice) and their
purchase prices. At the same time as purchase prices are sliding
despite high demand lease prices are skyrocketing. Few airlines
have the balance sheet to allow them to use more traditional
methods of financing. As that process pervades the industry, so
aircraft move from being (owned) assets on the balance sheet to
(leased) liabilities on the current account, increasing each
companys fragility.

175
Aircraft prices must inevitably suffer continued downward pressure
as a conspiracy of reduced demand and tight credit markets cool
buyer eagerness. There is also the unknown of several large leasing
companies asset positions in the face of credit limits; liquidating
large inventories would create real stresses, further diluting values.
But that is little more than academic for airlines, if credit is not
available. And, for those which do list aircraft on their balance
sheets, decreased values may come home to roost.

Government charges and taxes

Despite the undoubted immense social and economic benefits
delivered by the aviation industry, low cost and full service alike,
governments typically have underperformed in supporting
expansion. In the worst cases, this takes the form of ugly grabs for
revenue from the milk-cow, in others simply in underfunding of
infrastructure or counterproductive nationalism in airspace. Airports
too in many cases come in for criticism especially from low margin
LCCs.

In Europe, no airline has been more vocal about airport charges
and government taxes than Ryanair. But that is not to say that
most other airlines disagree. The impact of taxes and high charges
generally has a greater impact on Ryanairs lower fare structure,
where the British and Irish massive taxation represents 25-30%
of fares, according to Michael Cawley. The absence of taxes in, for
example, Spain, Italy and Germany, increases the attraction of
moving operations from the higher to lower cost economies. This is
a feature likely to play out over coming years, when some bases
simply become uncompetitive as fares are driven down.

Worldwide Airport Charges Review: May-October 2009

Raymond James Jim Parker was quoted previously on the threat
posed by high salaries in the US. Outside the US he believes, In
Europe, the largest issue is likely to be government passenger tax
increases and aircraft user fees including emissions.

Bill Franke observes the tax issue from the other side, as an
opportunity that, for example, Ryanair is chasing; namely
eventually to convince airports and governments to remove or
reduce them, as they become aware of the wider economic
advantages of expanded air service. As Ryanair has proven, other
opportunities for LCCs over the next three years include airport
fees, maintenance costs and aircraft acquisition, all of which should
be in focus as LCCs move to reduce costs and gain market share
through lower fares.

Jetstar sees government taxes along with unnecessary regulatory
impediments - as suppressants of Australia-New Zealand travel too.
The respective tourism industries would be major beneficiaries of
more cost effective travel between the two countries. Reforms
such as a significant reduction in the Passenger Movement Charge
(currently AUD47), moves to a single point of clearance, and having
both countries support a reciprocal arrangement for once only
customer processing for Customs and Immigration, plus the
possibility of conducting Trans Tasman flights out of Australian and
New Zealand domestic terminals, will deliver greater passenger
volumes on this route, says Bruce Buchanan diplomatically.

And in the US, the antiquated airways system is still a major
impediment to cost reduction, as well as emission reduction efforts.
For Southwests Gary Kelly, one of the greatest challenges for the
176
airline is the inefficiencies in our air traffic control system and the
carrier is striving to achieve more efficient flying by deploying
Required Navigational Performance, the cornerstone of the FAA's
NextGen Air Traffic Control system, leading to improved OTP and a
reduction in fuel burn and carbon emissions.

For European carriers the problem of multiple airways jurisdictions
is such an obvious and, for the time being intractable one, that
none even mentioned it but Europes patchwork of air traffic
control regions remains everything that the most Machiavellian
mind could devise to undermine efficiencies. This has major cost
implications for airlines in flight time and in delays and will also
in future cause the airlines to be penalised under emission
reduction systems.

For Indias airlines, the taxation regime defies belief. The scale of
taxation of aviation turbine fuel (ATF) in that country makes it
surprising that a domestic airline can even contemplate profitability.
First of all, oil importing remains a state monopoly, so any profit of
the monopoly retailers is already a de facto tax. Then the Central
government imposes a customs duty of 10% and an excise duty of
8%
44

(as this is taxed on the gross retail price, it already
constitutes a tax on a tax); not to be outdone, each of the 27 states
also milks this holy cow at sales tax levels ranging from 4% to
over 30% for each departure.
Cascading taxes at Delhi, Mumbai and Bangalore for example are
20%, 25% and 28% respectively. As these are accumulated on top
of the other taxes, the pyramid towers to levels which mean that,
with oil prices around USD80 a barrel, fuel represents 40% of total
airline costs. In 2008, this proportion was enough to drive most
global airlines to the brink of bankruptcy; but for India, this is
situation normal. Simply the administrative price of accounting each
of these taxes would be enough to run a small airline. There can be
no more effective way of capping airline growth.

So when SpiceJets Sanjay Aggarwal quietly notes If the Indian
government is successful in lowering the taxes on ATF and there is
an improvement in airport cost and infrastructure, the industry
could get healthier sooner rather than later, there is a history of
suffering that would have destroyed lesser industries.

For Kulula/Comairs CEO, Gidon Novak, reduction of ridiculous
airport charges by state owned (airport operator) ACSA would go a
long way to helping viability. Tony Fernandes practical approach is
that there is a joint venture approach needed if growth is to occur:
we hope that airports begin to see that the full value of LCCs will
not happen without them reducing charges to generate a much
bigger volume. Ryanairs Cawley has no doubts about the
simplicity of the equation; taxes kill growth: There is a huge
constituency out there. The more we drive fares down, the bigger
the market gets.

Threats in transitioning to the new world

Inevitably, given the concerns of many observers, the process of
moving away from the safer haven of brutal low cost into a more
yield-searching mode can be risky. Virgin Blue, seeing the benefits
of synergies between our long and short haul operations, seeks to
address this challenge by over-delivering on reliability, network
growth and perhaps some more product development. Now,
hopefully at the bottom of the economic cycle, and with a
successful capital raising under our belt, we are negotiating for a
large aircraft order to underpin the rebound and future growth.

44
Now called Cenvat Tax
177
Timing is everything. Complacency can be deadl y

Ryanairs simple answer to what is the carriers main threat says a
lot about the airline. Apart from the continuing campaign against
ugly government grabs which merely tax the industry, the only
threat to Ryanair is believing our own bullshit, says Michael
Cawley. That is, listening too hard to the airlines own chest
thumping about being the most durable low cost model in town;
we said we were the lowest cost when we floated back in 1997;
today our costs are half of that. If we lose our own paranoia (about
cost reduction) we will be dead and buried. Its all about lowering
costs. External threats? There is no other! This is an airline that
clearly sees itself as master of its own destiny.

Dave Barger also pinpointed the constant striving as the key issue
for his airline: As JetBlue closes in on its ten-year anniversary, one
of the greatest threats and challenges to the firm is complacency.
And AirAsias Tony Fernandes frets, I spend every waking moment
and a few sleeping hours, worrying about where we can save
costs.

The genuine low cost model is a restless beast, constantly
threatened by the challenges of its external environment, but
always seeking a better way to attack the core.

12.2.2 Opportuni ti es

Almost by definition, opportunities imply introducing some form of
differentiation, at least temporarily. In an industry whose product is
constantly challenged to avoid being a mere commodity, it is
difficult to maintain a difference for long, be it technically,
operationally or for example in in-flight services. Imitation comes
quickly. But some carriers stand out, at least holding on to a special
position for many years; again, Southwest has been one of these.

So, when we talk of opportunities in the future, airlines will
automatically look to how they can leverage their own special
features to gain an edge. And, unlike threats, opportunities take on
a more varied and regional appearance, as differing market
conditions intervene.

Going international: increasingl y the focus for many

For most Asia Pacific LCCs, the concept of going international is
both a daily challenge and an opportunity. With regulation the only
real inhibitor to unlocking massive growth in the region,
international operations (that is, where bilateral air services
agreements regulate behaviour) have become second nature at
least aspirationally.

But the international lure is not limited to Asia Pacific, with north
American airlines seemingly increasingly keen to escape the
limitations of a congested domestic market, which has until now
been the staple diet. European airlines, more familiar with cross-
border services, are constantly nudging destinations outside the 27
states of the EU domestic market, including countries where the
EU has established open skies arrangements, such as in north
Africa.

In Asia, Japans Starflyer for example, sees a major opportunity in
an opening up of international access: Starflyer will start new
routes, not only domestic (Haneda - Fukuoka), but also
international routes to east Asia, says Starflyers Motu. He expects
that new schemes of business collaboration to share the risk and
revenue for international operations may bring Starflyer another
development, looking towards codeshares and similar ways of
expanding the marketing reach.
178
For a carrier like AirAsia, which grows within an international
framework, the opportunities are, thankfully, numerous, says CEO
Azran; One key competitive differentiator for AirAsia will be its
long-haul affiliate, AirAsia X. We are only now discovering the
tremendous potential that long-haul trunk routes brings to the core
short-haul regional business in terms of passenger feed, brand
extension and operating scale. Purist LCCs that are steadfastly
staying only in the narrowbody space will be competitively
disadvantaged, as will legacy carriers that are not investing in next-
generation long-haul aircraft with their game-changing superior
economics. AirAsia already has cross-border joint venture
companies based in Thailand Thai AirAsia and Indonesia
Indonesia AirAsia, although the colloquial branding tends to be
simply AirAsia.

Jetstar, already mentioned in the context of low cost long-haul
operations, sees Asian expansion as its future. Bruce Buchanan
notes, Asia is the worlds fastest growing aviation market, and
inside two decades will be the worlds largest. The investment in
our Pan Asian strategy through direct services from Australia and
strategic Qantas Group investments in both Singaporean and
Vietnamese based carriers, present unquestioned opportunities.

The multi-front approach of Jetstars long and short haul operations
would also allow these operations to link in with the Asian hub
which Jetstar is planning for its A330 operations, mentioned above.
Jetstar also interlines with full service parent, Qantas, in Singapore.

Singapores Tiger Airways has meanwhile already established a
base in Australia, using that countrys liberal access provisions,
45

and links its Australian and Singapore based operations over
Australias Perth Airport; Tiger suspended previous links over
northern port, Darwin, citing excessive charges. But, unlike its
head-to head competitor, Tiger maintains a simple model based on
Europe's successful Ryanair, which uses its very low cost base to
offer competitively low fares on a consistent basis. Connectivity for
it is the standard self-help approach, which enables it to maintain
the low cost base.
Of the US carriers, JetBlue sees international service as a major
prospect as its second decade beckons. CEO Dave Barger sees the
carriers platform of a decade of operations as just the starting
point for expansion into the Americas: Since the airline industry
deregulated in 1978 in the United States, there have been very few
new entrants that have earned the ability to operate in the second
decade. This threat or challenge, though, provides an opportunity
for our airline to focus on continuing to build our brand across The
Americas and the global landscape with strategic partners such as
Lufthansa.

With publicly announced plans to codeshare with Canadas WestJet
and Mexicos Volaris, Southwest is clearly well committed at least to
some limited future international operations, real or virtual. Gary
Kelly remains more focused on domestic opportunities, although
targeting new markets will undoubtedly need to include cross-
border linkages of some form, as competitors push the boundaries.
WestJet already operates Caribbean services in addition to its
primarily domestic routes, as do several US carriers.

45
Australia permits up to 100% foreign ownership of domestic airlines,
provided they are locally incorporated and controlled. Tiger operates as Tiger
Airways Australia and bases a dedicated fleet in Australia. Virgin Blue was
originally predominantly foreign owned, but its shareholdings are now
dominated by Australian nationals. New Zealand has a similarly liberal access
regime.
179
In addition to its Southwest codeshare agreement, WestJet has also
announced arrangements with SkyTeam and oneworld Alliance
carriers to link into their international networks, competing with and
taking advantage of Air Canadas exclusively Star Alliance
relationships. A stumbling block to more integrated relationships is
the problems the carrier is having in upgrading from its standalone
distribution system into one which can communicate effectively with
the community based GDSs of the network airlines.

As noted above, European carriers are variously involved in
international non-EU operations, a relatively natural extension of
their already highly international scope. easyJet was a first in
Europe to establish a cross-border joint venture with non-EU
Switzerland, in order to permit the carrier to establish a base there.
Neighbouring non-EU states however raise difficulties which make
operations non-viable. Ryanairs Cowley nominates Turkey for
example as a major untapped market. Turkey is a potential EU
member, but movement is slow. Meanwhile, bilateral capacity
restrictions rule out serious low cost operations.

In the Middle East, almost by definition the bulk of LCC operations
is also international; only some limited Saudi Arabian and Egyptian
services are domestic. Otherwise generally protective and
restrictive policies apply in states in the region. Consequently it is
the UAE, with its open skies policy, which both supports and
receives the bulk of LCC operations. Many of these involve nearby
India, whose low cost carriers are still subject to Indian restrictions
against international operations; only state owned Air Indias wholly
owned subsidiary, Air India Express, reciprocates.

But the UAE has spawned one of the most successful LCCs in the
world in Air Arabia. The Sharjah based carrier has expanded beyond
its home base with cross-border subsidiaries in Morocco and, more
recently, Egypt. Why do we do it? asks CEO Adel Ali rhetorically.
With the name Air Arabia we need to be pan-Arab. He explains his
geographic expansion strategy in the following terms: Market size?
UAE being at one end and Morocco the other, Egypt comes in the
middle. Egypt comes with no LCC base there, a large inbound
tourist market from west and east, a large domestic market with a
population over 80 million, over 15 secondary airports, a large
Egyptian community outside Egypt So far, almost a no-brainer.

And there is more: It will link Morocco - and Egypt will link in most
European points; plus Egypt links to Gulf in number of point direct
and via the Levant

The permutations just pile one on another, especially in a region
where lingering access restrictions limit the opportunities for other
competitors quickly to respond. The first mover rewards in
international expansion can be significant. But Ali stresses that it is
vital to pick the right partners. Getting it wrong can be very
costly. In Egypt, for example, Air Arabias local majority partner is
Travco Group, a leading tourism and hospitality group in the region.

Staying at home: the domestic focus

But for some, the rewards of staying close to home are both more
attractive and less risky. Ryanairs Cawley for example has no
interest in long haul. In stressing that talk of a long haul operation
is a separate initiative of CEO OLeary, Michael Cawley says short
haul is where the growth is especially in Europe, in contrast to
the well-exploited US market. We are still flying a fraction of what
they are in the US. In Europe we have longer holidays, lots of
displaced ethnic groups travelling back and forth and numerous
capital cities as destinations. Reeling off a list of European cities,
he says there are still a large number of major and smaller cities
where there is no Ryanair. These are very ripe markets, which low
fares can unlock.
180
For similar reasons, Chinas almost solitary LCC, Spring Airlines,
sees the simplest opportunity lying before it, in the unexploited
domestic market. Spring President, Wang Zhenghua says, Spring
Airlines will benefit from the fast development of the Chinese
economy. Chinas GDP is expected to increase at 8% annually and
the civil aviation industry will be increasing at 14% every year.
Therefore, we are forecasting Spring Airlines will develop at 40%
year on year. With that sort of expansion prospects, who needs
international operations at this stage?

In South Africa, LCC Mango, which shares the same parents as
SAA, is permitted no international aspirations by its parent at this
stage, but sees that its high quality of service allows it to respond
effectively to business demand, a market it has not yet tapped.
Says CEO Nico Buizedenhuit, Given the shift in consumer purchase
patterns and the increasing importance of value, Mango is in the
position where it is well equipped to meet the requirements of the
price-sensitive business traveller, especially considering the fact
that the Company outperforms both its domestic full service and
low cost competitors.

Indias SpiceJet, similarly confined domestically, in this case
pursuant to Indian legislation until it has existed for five years,
looks to excel in its own patch as a means of survival. The
opportunity is that with the advantage of having the newest
airplanes, motivated workforce, and a focus on service, SpiceJet
can offer a value proposition to its customers that the competitors
will find difficult to match, says CEO Sanjay Aggarwal.

Ancillary Revenues

Ancillaries are maxing out, Michael Cawley, COO Ryanair

We see ancillary revenue as the biggest LCC step change
over the last three years and I would expect that trend to
continue, Bill Franke, Indigo Partners.

LCCs must figure out how to keep extending their brand
into new revenue-generating opportunities. Margins from
the sale of seats will inevitably keep shrinking. LCCs must
therefore compensate this loss with new revenue sources,
Azran Osman-Rani, CEO, AirAsia X.

As with many other topics, variations in outlook vary widely on
where ancillary revenues are headed, depending on region, state of
development of the airlines concerned, local economies and, for
example average stage lengths flown.

Ancillary revenues have rapidly become the main focus of LCCs and
full service airlines alike, as passenger yields decline. The low cost
airlines began the move, as an equitable fee for service, once the
basic operation was unbundled from such costs as baggage
handling, changing reservations and in-flight food and beverage
service. As these evolved from being roughly revenue neutral to
being major centres of income, the full service airlines, notably in
the US, have come to feed at the same trough, driven from their
usual pastures as passenger demand dried up.

Bill Franke of Indigo Partners says: We see ancillary revenue as
the biggest LCC step change over the last three years and I would
expect that trend to continue. I am sure there is a point at which
the a mall in the sky concept runs its course, but that wont
happen as long as the passenger wants a low fare and is willing to
pay for whatever else he/she wants.

181
Ryanair is less sanguine about the future of ancillary revenues.
Ancillaries are maxing out, says Cawley. We are already deriving
up to about 22% of revenue and this is getting close to the natural
limit. From here on, ancillary revenue will only grow in line with
traffic. Anyway, other opportunities for sales are not core: Were
not retailers. Were not into selling life assurance.

Long haul international ancillaries perhaps remain an untapped
resource though. AirAsia Xs Azran thinks it will be essential to
explore the opportunities there: LCCs must figure out how to keep
extending their brand into new revenue-generating opportunities.
Margins from the sale of seats will inevitably keep shrinking. LCCs
must therefore compensate this loss with new revenue sources
from ones that are related to the passengers travel experience, to
opportunities that are completely unrelated to flyingwinning ideas
will differ by market, but LCCs must keep evolving and creating new
revenue sources particularly ideas that reinforce the LCCs brand
as a leading consumer goods/lifestyle brand for its targeted
customer demographic.

As long haul low cost operations expand, coinciding with consumer-
useful technology advances such as in-flight internet access and
interactivity, this will surely become a potentially fertile source of
revenue. Holding passengers confined in a small place in an aircraft
for several hours must inevitably spawn opportunities to deliver
products of mutual value, well outside those currently traded.

After all, every commercial flight touches two airports, each of
which is happily generating large amounts of revenue from every
passenger. The retail spend of travellers at airports around the
world dramatically exceeds the profits (and the losses!) of the
entire airline industry.

There is a further largely unexploited opportunity. As the Qantas
Group model, with its enormously successful FFP
46

becomes more
widely understood, it is hard to believe that a cost-neutral loyalty
programme, spinning off the notoriety of many LCC websites, will
not become a standard feature of revenue strategies. Describing
revenue from this source as ancillary catapults Qantas to number
one globally as a generator of non-ticket income.
There is a lot more to ancillary revenue raising than the mundane
collection of baggage taxes. Now that the full service airlines have
begun to turn their mind to these other sources of income, the pool
of ingenuity is greatly widened. There is much innovation still to be
witnessed.

To grow or not to grow?

There is constant pressure for an airline company to grow.
Sometimes-excessive growth is embarked upon, simply, it seems,
to please the stock analysts. But the global economic slowdown has
forced many airlines to rethink their expansion plans. With the
largest overhanging list of orders in history, this has caused some
grief, especially for the full service airlines whose premium markets
have withered. Luckily for many, the delays in A380 and B787
production has offered some respite, but single aisle aircraft are still
rolling off the production lines at near record levels.

So, while full service airlines have been cutting back on capacity
around 10% net reduction across the world this year LCCs have
taken different approaches, depending for example on whether they
have large order books, where they are positioned in their
particular market and what their options are for sustainable

46
See Qantas successful LCC subsidiary: A one-airline convergence of
airline models in this report

182
expansion.
The industry has never witnessed capacity reductions on current
levels right across the world and we can expect many surprises
once the market turns. Airlines will simply not be prepared for this
life after near-death, and there is no road map. Jim Parker of
Raymond James believes there is likely to be a slow rebuilding of
capacity in the new economic cycle ahead and then slower and less
risky growth as the new economic cycle moves forward in the
growth phase.

That assumes airline managements (and investors) will learn the
lessons of the new order and act appropriately. If that sort of
discipline self imposed or otherwise occurs in the US, it is
unlikely to be the case in emerging markets, where much of the
future growth will be. Implied in that scenario is an even more rapid
shift in the global aviation balance than previously projected.

Not everyone is contracting:
Selected LCC passenger growth rates: Jan-Sep 2009
Factor year-on-year
North America Allegiant RPM +28.9%
Southwest RPM +0.1%
WestJet RPM -0.3%
JetBlue RPM -2.8%
AirTran RPM -4.5%
Frontier RPM -14.5%
Europe Vueling
47
PAX +23.0%
Norwegian PAX +15.0%
Ryanair PAX +13.0%
easyJet PAX +1.7%
airberlin PAX -5.1%
Blue1 PAX -10.4%
Asia Pacific SpiceJet PAX +52.2%
AirAsia
48
PAX +24.0%
Jetstar
49
PAX +10.8%
Virgin Blue2 PAX +3.9%
Source: Centre for Asia Pacific Aviation & company reports

For a few, the slowdown offers an ideal strategic opportunity to
grab market share, while others are feeling the heat. Because its
has the lowest fares, says Michael Cawley, Ryanair is going to
grow this year at a faster rate (in seat numbers) than any airline
has ever grown in the world. Even if tempered, Ryanairs
expansion in real terms is equivalent to adding decent sized airline
each year. This at a time when its main competitor, easyJet has
undergone considerable wrangling at board level about whether it
should be growing at all, to decide eventually that modest growth is
appropriate.

AirAsias Tony Fernandes says that, downturn or no downturn, Our
strategy remains consistent - that we want to continue to connect
the dots between all the 65 destinations we have opened, noting
that the fast growth market of India will be a key for us. The
carrier is growing at over 20% this year.

47
Includes the consolidation with clickair
48
Apr-Jun 2009
49
Jan-Aug 2009

183
In the US and Canada, most LCCs have scaled back their expansion
plans. For Dave Barger, sustainable traffic growth is the key for
JetBlue: the contrarian business model is the right model for the
future it is possible to balance the needs of crewmembers,
customers and shareholders over the long-term. To this end,
JetBlue is focused on earning the respect of all three constituencies
by charting a path of sustainable profitable growth we learned
how to grow too fast in the past; now its time to put that lesson to
use!

Southwest too, in the face of a sequence of unheard of quarterly
losses, is scaling back. But it is not all bad news for US airlines.
AirTran projects its best year ever, according to CEO, Bob
Fornaro, although it too is taking a very cautious stance on
expansion. As illustrated elsewhere in this report, investors are
apparently convinced by AirTrans bullish outlook and its current
stock performance, well above the airline sector.

However, Allegiant, with its unique model, is surging ahead, albeit
off a much smaller base. At near-30% growth, its expansion rate is
exceptional in the devastated US market.

And scaling back or finding new markets may be the way in
Japans high cost market, says Starflyers Motu. The management
dilemma is confronting: In such a down-trending economy, the
LCC is likely to have a tough time, since its business model depends
on newly generated demand and high load factors, which are no
longer easy to achieve. An LCC... has to grow (it is not allowed to
stop) since it lives with a very small profit margin, which is
shrinking because of unavoidable 'age cost' such as maintenance
cost and labor. In these circumstances, I think the LCC is required
to re-engineer its business model by 'down sizing', 'different
revenue management' and 'alliances' including international
operations. He hints that the solution for Starflyer is a new
business collaboration to share the risk and revenue for
international operations - which may bring Starflyer another
development.

Partnering to expand market access

This potential solution is echoed globally.

The international constraints of regulation deeply colour an airlines
strategy when it operates beyond national borders. For Saudi-based
Samas CEO, Kevin Steele, the greatest opportunity is to work with
other airlines, both LCCs and legacy carriers, to jointly tap the
extremely high potential markets to/from Saudi Arabia.. And, apart
from the market access that cooperation brings, a small carrier can
expand its shadow considerably in this way, as here, where he
says, demand continues to outstrip supply. In some cases where
the market is still regulated (as, for example the Saudi international
market is), there is an additional advantage: entry for others is
restricted.

This value of partnering is more than an option, to extrapolate on a
point Mangos Nico Buizedenhuit makes: Given the increasingly
homogeneous nature of short-haul air travel supply, price (and, by
implication, seat production cost) and reach (including marketing
and distribution) becomes of paramount importance. In this
commoditised market, getting the brand right is critical, but for
smaller airlines, widening the marketing shadow needs partners.

This goes a long way to explaining why north American low cost
airlines are now embarking on similar tracks - although
international partnering has not generally been a strategy of first
choice, as long as remaining within domestic walls made life a lot
easier. But now a crowded home market which no longer offers
easy growth prospects, obliges outbound exploration.
184
WestJet, with its Southwest and oneworld and SkyTeam partners,
JetBlue with Lufthansa, Southwest with Volaris as well as WestJet,
each see this as an inevitable course.

Julius Maldutis envisages the possibility of many mergers using the
Southwest model. And, as the practice spreads, the LCCs encroach
progressively further into the previously sacrosanct territory of the
network airlines.

Chinas solitary LCC, Spring Airlines, elevates the need for inter-LCC
cooperation to a collective strategic one: Theres no alliance for
LCCs so far; all existing alliances are for full services carriers. It is
also not popular for LCCs to codeshare with other airlines/LCCs, so
mostly the LCC is forced to work alone. We would like to see more
international cooperation among LCCs, on a strategic level or
operational level. This is true apart from the European Low Fares
Association, there is not even a forum for LCCs to link
multilaterally.

To return to Japanese LCC, Starflyers Yasushi Muto; his outlook is
similar: LCCs and other new airlines may be required to build a
strategic alliance for the next development stage. Clearly, in
looking to expand through partnership, in Starflyers case the
prospect of linking with the bigger legacy airlines does not appeal.

But partnering is not for everyone, as Michael Cawley has pointed
out. Polluting your own model is a risk that follows with each level
of cooperation. Then Ryanair is of sufficient scale now that it can
dominate in its own right.

Positioning as the Quality Product

It is often surprising for observers how much emphasis LCCs place
on reliability. This could be a reaction to the difficulties that some of
the early companies experienced, with older aircraft and limited
funding. So often their detractors were able to point to unreliability
and poor performance. But the transformation has been made
possible for the modern day operator, with new aircraft, simple
turnaround procedures and their accent on efficiency (=cost). As
this has occurred and many older legacy airlines are often forced to
operate ageing fleets at congested hubs, LCCs have made a virtue
of what used to be a significant criticism of them.

They are not always on time of course and the thinness of backup
resources can mean more than the usual heartache for travellers
when things do go wrong. But the statistics do tend to favour LCCs
in many markets on head to head on-time reliability.

Added to this, as the legacy airlines products increasingly suffer
reduced frills, quality becomes the preserve of the low cost airlines.
Virgin Americas David Cush notes, In the US market, the LCCs are
seen as the best quality carriers. Higher quality and lower price is a
winning combination.

This is a big feature and makes for
opportunities: As the total corporate travel
pie shrinks and as LCCs take a bigger slice of
what remains, this will put increasing
pressure on legacy carriers, giving LCCs even
more opportunities, Cush says.

185
This aspect of de-commoditising the product was a part of the Song
Airlines strategy (which proved very popular, but unprofitable as a
Delta subsidiary) and has been most successfully developed by
JetBlue. As CEO Dave Barger observes, the LCC model can also be
viewed as one that offers truly good value from both a pricing and
product point-of-view new aircraft, assigned seats, cabin comfort
and inflight entertainment can in fact be enjoyed at low fares. But,
he stresses, the product is not just of mechanical, hardware
superiority, but of its people, a feature which Southwest also
applied from day one and, against the odds, has largely managed
to retain for over three decades.

The quality trade-off made by US airlines as they scramble for
ancillary revenues has not helped.

Bill Franke accordingly points the blame for this squarely at the
legacy airlines: Baggage fees, fees for blankets, loss of food
service and the like are good examples. This has done little for
passengers attitudes toward these carriers: it is one thing if you
pay very low fares and have the on-board choices to make. It is
another thing if you are paying a legacys high fares and think you
are getting something for it only to face a charge for a blanket.

This self-inflicted brand destruction has not been mirrored in other
regions, so the equation has not shifted as far elsewhere in the
world in favour of LCCs yet.

It is ironic perhaps that LCCs are now able to adopt the higher
ground albeit at the same time as that ground is levelling off.
Gary Kelly also ascribes a lot of the credit for this to the legacy
carriers: The current economic volatility has turned even the
legacy airliners into discount carriers. We are currently seeing the
continued convergence of LCC and Legacy carriers toward a single
model of service. Carriers are now differentiating themselves
through the product and services they now offer: Wi-Fi, In-Flight
entertainment, Bags Fly Free, etc.

The growing consensus is that the low cost new entrants are setting
the bar for performance and consumer satisfaction. In India, for
example, where domestic service standards are already high,
SpiceJet CEOs Sanjay Aggarwal believes that, economy class
service in the next three years would be same whether you fly the
LCC or the FSC. However, an LCC such as SpiceJet, with a
significant cost advantage over others, will be able to effectively
compete and succeed.

In South Africa too, Nico Bezuidenhout, CEO of Mango:
Interestingly enough, the LCC model can also be viewed as one
that offers truly good value from both a pricing and product point-
of-view new aircraft, assigned seats, cabin comfort and inflight
entertainment can in fact be enjoyed at low fares. This is where
the convergence of models is most apparent; he continues, The
increased consumer value-focus affects full service and low cost
carriers in differing degrees: LCCs are adding more frills in an
attempt to better meet the perceived requirements of the new
potential target market whilst full service carriers are removing
some frills or introducing al carte pricing in an attempt to reduce
cost, offer better value and retain custom.

For bmibaby, the quality formula is key to a successful outlook. CEO
Nigel Turners two-model split will need to materialise. So, for the
LCC, a broad form of differentiation does offer potential, which also
gives the option to compete at the low price end of the market:
Opportunities arise for bmibaby with the awareness that you can
have a quality low cost carrier and that customers will recognise
and chose this differentiated type of low cost airline.

186
Internationally, quality leadership can be a lot more complex, not
the least because this is familiar territory for the major network
airlines, whose high quality product is tailored for international
routes. Their ability also to combine through bilateral and
multilateral alliances and partnerships to expand their reach makes
them highly competitive.

And internationally, while an LCCs technical and operational quality
may be strong, AirAsiaXs CEO observes, customer service must in
the end be the differentiator: It will be progressively more difficult
to find truly unique sources of differentiation on cost and scale
alone. As markets get crowded and direct competition intensifies,
even the lowest-cost LCC must start to use customer service as a
competitive differentiator. This will be a challenge because
customers inevitably have different preferences in different
markets.

For high a cost legacy airline this promises an uncomfortable future.

And the winners are

LCC is not a magic formula whose incantation means
inevitable airline success, Professor Michael E. Levine.

Winning LCCs will be the ones that identify the most important
service attributes and become excellent at delivering the service at
each customer touchpoint, compared to their competition, says
Azran. We believe that successful airlines are those capable of
adapting to enforced changes and adopting it to move forward.
Every challenge offers an opportunity after all, concludes Adel Ali
from Air Arabia.

But the winners will have to work for it. The future is not all rosy.

In Professor Levines objective and restrained outlook, LCC" is not
a magic formula whose incantation means inevitable airline success.
In a competitive market, all airlines are under pressure to produce
whatever product they produce at the lowest possible cost. This
pressure will continue to increase over the next few years.

If "LCC" means high-frequency, intense resource use, low-amenity,
point-to-point service, the market for that product is limited by
route density and overall demand levels. If it means trying to have
lower costs than competitors through labor cost advantages, these
advantages tend to erode over time as seniority grows and the size
of the labor force encourages unionisation efforts. Starting and
maintaining an LCC will not be a "no-brainer". Each LCC will need a
strategy that identifies lasting competitive advantages that are
difficult to duplicate.

Chapter 13
Conclusions:
The world has changed
188
13 Conclusion: The world
has changed and so
has the low cost carrier

The global low cost airline movement, which gained momentum in
the 1990s and became a serious force in the first few years of the
new century, has undergone a fundamental change of direction in
the past two years.

It is beyond dispute that low cost methodology has transformed the
aviation sector; for evidence it is not necessary to look beyond the
fact that there has been no growth in seat capacity in the full
service sector of the market for the past eight years. The expansion
has been accounted for by LCCs (even while low fares offered by
the full service airlines increased massively too).

A new plateau is reached

But it is now equally clear that a new plateau has been reached in
the evolution of low cost operations and strategy. There are several
reasons, with regional variations in the relative importance of each.

During four years of ideally fertile breeding conditions for new
entrants - cheap fuel, cheap aircraft, easy credit and strong
consumer demand the low cost market grew significantly. And so
did the intensity of competition for the short haul, low price
passenger.

Then, following a serious fuel cost shock in 2008, when jet fuel
prices threatened to reach USD200, a credit and demand crisis
replaced fuel concerns, accompanied by the flow-through of the
previous three years of unprecedentedly voracious aircraft ordering.
The sorcerers apprentice had turned on the fleet expansion tap,
pushing capacity growth where prudence would not have dictated.
All of these took their toll on any airline model which lacked
resilience.

The proliferation of low fare entrants not always as low cost, or as
well conceived as they should be meant that the level of head to
head competition among them became ferocious, where previously
it had often been possible to avoid direct confrontation.

When the competitive intensity reaches a certain level, the larger
and purer low cost models come into their own, even (or
particularly) in a period of economic decline.

Of these there is today a very limited number, among the 130 or so
LCCs we have loosely identified:

Europe: Ryanair and Wizz Air;
US: Allegiant and Spirit Airlines;
Asia Pacific: AirAsia, Cebu Pacific Air, Mandala Airlines and
Tiger Airways;
India: GoAir, Indigo and SpiceJet; and
The Middle East: Air Arabia.

It is even necessary to qualify several of these for variations from
the original Southwest model - and Southwest itself has in any
event long since ceased to conform to its own model.

189
And so to diversification, hybridisationand
convergence?

The other airlines seek new solutions. Competition and external
cost pressures are driving diversity, away from the basic low
cost/low fare concepts, as carriers seek higher yields to improve
revenues.

And temptation too is a motivator for hybridisation, even where
necessity does not dictate. Leveraging from the base of a low cost
model, the attraction of higher yielding corporate business and
international connectivity can be very powerful. These imply added
frills, such as lounges, loyalty programmes, GDS links, physical
connectivity over hubs and interlining.

Each of these can be unbundled and made
into revenue centres, but they make the
product more complex and do intrinsically
involve adding capital and running costs.
Generating adequate levels of compensating
revenue is never a given.

These moves impliedly also accelerate convergence of the full
service and low cost models - although, as we have observed in this
report, the process is more painful, if not impossible for legacy
airlines.

However, one group model which appears increasingly robust is
that of Qantas, which appears to combine the strengths of each of
the full service and low cost models without attracting all of the
negatives. The trio of full service airline, low cost subsidiary and
lucrative loyalty programme has synergies that are far reaching
and, as yet, un-imitated. Lufthansa is arguably developing a similar
collective, but through acquisition, rather than organically.

The main beneficiary has been the consumer

If there is one epitaph that the LCC movement deserves it is that
the main beneficiary has been the consumer. Low fares have
transformed the way people travel and, more fundamentally, even
the way they use their leisure time. In turn, economic development
has been the winner, most valuably in regional corners where
aviation had previously been excluded, or at best strangled by high
fares.

but there i s a witch at the wedding

Sadly, the only actors not to come to the party are governments.
With few exceptions, despite the enormous public benefits in
stimulating regional development, most governments carelessly
disregard the importance of each ponderous addition of a few
dollars here and a few pounds there in taxes. Rather than abating,
this ugly grab for cash is growing. Its effect is to starve the
downstream multiplier benefits of employment, economic growth
and, in human terms, of providing new opportunities for emerging
middle classes.

The Outlook: Centripetal forces towards a new global
model

In most of the more likely scenarios, yield will become increasingly
attractive as a refuge for all but the lowest cost operators.

190
High fuel prices the main threat are the most likely catalyst of
change in the short term. With the unlikely levels already
experienced despite the global financial crisis, speculative activity is
tipped to push prices even higher as the economy improves. Surges
in price can be highly destabilising and one of the few risk
management options that most low cost operators have to guard
against this is to search for higher yields.

This and other uncontrollable externalities both in cost and
demand will relentlessly force most low cost airlines towards
reconstituting the network model, domestically and internationally.

But the new network version will differ in two main ways:

It will use unbundled pricing methodology; and
Low cost mentality will pervade all phases of the operation.

Perhaps the most marked example of this evolution is found in the
AirAsia/AirAsia X short haul-long haul combination. It is early days
to pronounce this a format which can be imitated everywhere, but it
does have characteristics that point the way to building an
international network system. Virgin Blue is following a more
conventional, but still expansive, full service approach in its New
World Airline model.

Other, more tentative steps are being undertaken by carriers such
as JetBlue, partnering and codesharing with Lufthansa, Southwest
and others codesharing with foreign LCCs and going international.
There is a common theme in much of this evolution, so a pattern
develops.

In turn this drives suppliers such as GDSs and IT providers to
explore new lower cost, stripped-down initiatives. Airports and
airways systems feel the pressure to drive costs down and
cooperate progressively in innovating all of which supports the
need to find more environmentally friendly ways of maintaining the
global tourism and travel industry.

All of these centripetal forces offer probably an even greater threat
to the full service flag carriers than has the short haul movement.
The possibility to deliver a networked high quality long haul service
at low cost much easier to achieve when extrapolating from a low
cost local base than by contracting from an existing full service
global model represents a serious challenge for the legacy
carriers.

That will be the fiercest battlefront for the next decade, as input
costs rise and yields recover.

For weekl y in-depth anal ysis of LCC strategy, financial results
and much more, The Centre publishes Peanuts! Weekly. It is
read by numerous airline CEOs and their suppliers and
partners. More information is available
at: http://www.centreforaviation.com/publications/peanuts/

For dail y updates of global LCC developments as they happen,
we recommend signing up to Peanuts! Daily (NB: FREE
subscriptions are available until 31-Mar-2010). Sign-up today
at: http://www.centreforaviation.com/publications/peadail y/
Part Two:
Regional perspectives
192
14 Globalisation of LCCs

Part Two of this report considers the development and performance
of LCCs by region. It first sets the context by considering recent
traffic growth within and between regions. It then reviews the
global distribution of LCCs and changing airline capacity over the
past decade. The character, role and performance of LCCs
collectively and individually are then considered on a region by
region basis.

Apart from information from airline websites and reports, two key
sources are used. The first is data on global traffic trends (RPKs)
published by Boeing. The second is shares of seat capacity offered
by LCCs compared with FSCs. This has been provided by OAG and
is based on that companys differentiation of LCCs from FSCs, which
includes slightly fewer airlines than our own classification. The
difference between sources should be borne in mind. RPKs
incorporate length of haul; capacity relates to seats. Jointly,
however, they offer insights into how different markets have grown
over the past decade, and the relative role played by LCCs in them.

Boeing estimates annual traffic in terms of RPKs within regions
(internal) and between regions (international). For the current
analysis, RPKs generated on international routes are split between
origin and destination. This avoids double counting while enabling
us to analyse relativity between regional and inter-regional traffic.
It does, however, overweight internal traffic in comparisons within
regions, although this is less of an issue when comparing rates of
change.

The same caveat applies to Part Two as to Part One: the speed of
change in aviation, especially the LCC sector, and pressure on
airlines to respond rapidly to market volatility mean that data
gathered mainly in June and July 2009 quickly becomes dated.
However, while events are changing some of the data, this is
unlikely to have impacted the bigger picture which is the focus of
the report. The challenge has been is to use the detail to build the
bigger picture of the role of LCCs in each region and to use that to
get a fix on where they might carry the sector regionally and
globally in the future.

14.1 Traffic Growth

On the basis of RPKs, North America accounted for 33% of all traffic
in 2007, down from 38% eight years earlier.
1

This is the most
mature of the regional markets, with growth of only 16% compared
with 33% globally. The only region to record lower growth was
Northeast Asia (Korea, Japan, Taiwan) at 8%. By contrast, Europe
enjoyed a reasonably healthy 31% gain to maintain a 27% share of
the world market. In fact, Europe accounted for 26% of global
growth compared with North Americas 18%.
China experienced the fastest growth, with a 129% gain from 2000
to 2007. With just 4% of traffic in 2000, China accounted for 17%
of growth to reach a 7% share in 2007. Southeast Asia accounted
for 9% of global growth to also reach a 9%share of the worlds total
traffic. Asia as a whole accounted for 31% of global aviation
growth.

1
Comparison of the underlying estimates of traffic and market shares align
broadly with the ICAO figures on RPKs reported for 2007 and 200-8 by the
German Aerospace Centre (2009)
193
North America remains the region most dependent on internal
traffic, becoming more so over the decade. Internal traffic
accounted for 70% of North American RPKs, up from 58% at the
beginning of the decade. Chinas aviation market is also heavily
dependent on internal traffic, domestic RPKs increasing from 54%
to 64% of the total. In Russia and Central Asia, internal traffic
makes up 61% of the total.

Global Aviation Traffic Growth by Region, Billions of RPKs: 2007
0
200
400
600
800
1,000
1,200
1,400
1,600
N
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A
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0%
20%
40%
60%
80%
100%
120%
140%
Regional International Growth
Billion RPK 2007 % Growth Rate 2000 - 2007

Note:International RPKs are split between origin and destination region
Source:Boeing (2008)

Typically, aviation develops in an emerging region or nation on the
basis of international traffic in the first instance. Only when the
regional market has the requisite levels of commerce, income, and
infrastructure do local services take off. It may be a sign of
maturing markets and the impact of LCCs in such markets that
Africa, Oceania, Southeast and Southwest Asia saw their internal
markets begin to expand ahead of international markets during the
decade.

Regional Shares of Aviation Traffic
0% 10% 20% 30% 40% 50% 60% 70% 80%
North America
Central America
South America
Europe
Russia & Central Asia
Africa
Middle East
Northeast Asia
China
Southeast Asia
Southwest Asia
Oceania
2007
2000
% RPK Within

Note: International RPKs divided evenly between origin and destination region
Source: Boeing (2008)

194
At the other end of the scale, Central America (20% internal) and
the Middle East (24% internal) are most dependent on inter-
regional traffic, reflecting the geopolitical realities of relatively small
regions and the early stage of aviation development in them.

195
14.2 The Role of LCCs

The distribution of low cost carriers indicates that the strong
performance of aviation in Europe and Asia between 2000 and 2007
compared with North America can be attributed to the development
of LCCs. In Europe, the ingredients, a large and largely affluent
market, are similar to North America. However, it has also been a
decade of economic growth among newer members of the European
Community, increasing economic integration, and of progressive
liberalisation in aviation.

Western Europeans more rapid market growth in particular is
reflected in the proliferation of low cost airlines, a net gain of 15
compared with North Americas zero. A more liberal market in fact
saw some 49 new European LCCs established, but it also saw 34
closures through the period, 25 from among the start-ups.

Longer established airlines (already in existence in 2000) make up
a significant share of North American and European LCCs, although
a number did close over the decade. The result was a substantially
greater average age of airline than in the other regions.

In Southeast and Southwest Asia LCC start-ups appear to have
accelerated aviation development, where there have been fewer
closures (to date). Hence, in Asia 39 LCCs have commenced
operations since 1999 but only three have closed down.

LCC Start-ups and Closures, 2000-2009
Pre-2000 Airlines Post 1999 Airlines 2009 LCCs

No.
Closed Started Closed Gain No. Share Av. Yrs
North America 11 4 11 7 0 11 9% 13.3
South America 1 0 8 2 6 7 6% 4.7
Europe 26 9 49 25 15 41 33% 16.4
Africa 0 0 9 1 8 8 7% 5
Middle East 0 0 6 0 6 6 5% 2.8
Asia 9 0 39 3 36 45 37% 6.5
Oceania 1 1 5 0 4 5 4% 5.3
TOTAL 48 14 127 38 75 123 100% 10
Note: Regions aggregated in comparison with Boeing- RPK dat.. Mexico is included in North America
Source: CAPA and Various (see Appendix)

Turning to the OAG data on scheduled seat capacity for the months
of June 2001 and 2009 reveals the impact of this start-up activity
and the growth of LCCs generally. The shares of internal seat
capacity accounted for by LCCs in the Southwest Pacific Region
(mainly Australia and New Zealand) and Southeast Asia grew from
less than 4% to 38% and 32% respectively. In the case of Europe,
the LCC market share grew from 5% to 34%, whereas in the United
States the growth was from 17% to just 28%. From no LCCs in
Africa, South Asia and the Middle East, in 2001, today they account
for nearly 10% of market share on internal routes. North Asia
stands out as the laggard.

The progress has not been as spectacular for external flight
capacity. The South West Pacific is an exception, with LCCs
reinforcing its role as a combined destination and strong outbound
region with relatively short flight times to Southeast Asia.

196
The relatively large LCC shares of external traffic for Eastern and
Western Europe are influenced by the growing integration of the
two regions: to all intents and purposes these could be treated as
internal figures. The African external figures reflect the growth of
LCC operations between North Africa, the Middle East and Europe.

LCC Market Shares by Region, 2001 and 2009
0%
5%
10%
15%
20%
25%
30%
35%
40%
North
America
South &
Central
America
Western
Europe
Eastern
Europe
Middle East Africa North Asia Southeast
Asia
South Asia Sth West
Pacific
L
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2
0
0
1

2
0
0
9

LCC Market Shares by Region, 2001 and 2009
0%
5%
10%
15%
20%
25%
30%
35%
North America South & Central
America
Western
Europe
Eastern Europe Middle East Africa North Asia Southeast Asia South Asia Sth West Pacific
L
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2
0
0
1
2
0
0
9

Source: OAG

Capacity figures confirm the inroads that LCCs have made in the
past decade, over short to medium haul routes in particular. This
gain in market share looks set to continue.

The fundamental issue this question raises, though, is no longer
about further gains in internal market share, which seem assured,
but whether LCCs will achieve similar growth over longer, inter-
regional routes. The evidence for the Southwest Pacific and the
growth beginning to be seen out of Eastern Europe, South Asia and
South and Central America suggests that this is a distinct
possibility. It is a possibility explored further in region-by-region
reviews in the following sections.
North America
Central and South America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
North
America
198
15 North America

15.1 Market Performance

The domestic market dominates North American aviation, but grew
by only 19% between 2000 and 2007. International growth was
more sluggish, at 9%. International growth was restrained by a
slight decline in trans-Atlantic traffic, a soft Northeast Asian market,
and static traffic to Oceania (the Pacific and Australasia).
Countering these weak performances were strong growth to
emerging markets, including the Middle East, Africa, China and
South East Asia. However, these are minor markets and, for the
moment, make a limited contribution to aggregate activity.

Growth of the North American Aviation Market: 2000-2007
0
200
400
600
800
1,000
1,200
N
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A
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-20%
0%
20%
40%
60%
80%
100%
Billion RPK 2007
% Change, 2000-2007

Source Boeing (2008)

By 2009, 28% of all internal North American capacity was offered
by LCCs, up from 17% in 2001. This reflected a 35% gain among
LCCs combined with a 27% decline in FSC capacity. The rate of
growth of LCC capacity was much faster for external flights, but the
LCC market share remained just 5% in 2009. Overall, however, a
40% gain in LCC capacity (6.4m seats more in June 2009 compared
with June 2001) was not enough to offset a contraction of over 20m
seats in FSCs.

LCC and FSC capacity growth, North America: Jun-2001- Jun-
2009
0.0
10.0
20.0
30.0
40.0
50.0
60.0
70.0
80.0
90.0
100.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network

Source: Centre for Asia Pacific Aviation & OAG
199
15.2 The Airlines

There have been a small number of start-ups in Canada, with most
short-lived. Several were established by the major carriers in
response to the challenge from independent LCCs. These included
Air Canada subsidiaries Zip (2002-2004) and Tango Airways (2001-
2004).

A similar pattern is evident in the US, where US Airways established
Metrojet in 1998 and closed it three years later; Delta established
Song Air in 2003 and discontinued it in 2006; and Ted Airlines was
set up by United in 2004 and closed down in 2008.

Low Cost Carriers, North America
Airline Base Commenced
Canada
Sunwing Quebec 2005
WestJet Calgary 1996
United States
Virgin America California 2007
Sun Country Airlines Minneapolis 2004
USA 3000 Airways Philadelphia 2001
JetBlue Airlines New York 1999
Allegiant Air Nevada 1997
Frontier Airlines Denver 1994
AirTran Airways Orlando 1993
Spirit Airlines Miami 1980
Southwest Airlines Dallas 1967

In any case, start-ups are only a limited feature of the US sector.
Most existing US LCCs are derivatives of conventional airlines
established before 2000 (including USA3000, which was relaunched
in 2001). The longest-standing and dominant member of the United
States LCC club is trail-blazing Southwest Airline, which has become
the archetype for the sector and a model for many start-ups
elsewhere.

LCC Domestic Traffic, North America, 2008
0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
20%
0
10
20
30
40
50
60
S
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B
i
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i
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s
R
P
M
Low Cost Carriers Full Service Airlines

Source: US Bureau of Transportation Statistics
200
15.2.1 WestJet , Canada

WestJet was established as an LCC out of Calgary in 1996. By 1997
it was serving nine western Canadian centres. The company was
floated in 1999. In 2000 it extended its services into eastern
Canada, with Hamilton as its initial eastern base, changed to
Toronto in 2004. West Jet also added several US destinations to its
schedule that year, expanding as far as Honolulu in 2005 and the
Caribbean in 2006.

By 2009 WestJet had a 36% share of the Canadian domestic
market. This should be boosted by recent agreements with KLM
and Air France for travel to and from Europe and by plans to
implement a codeshare agreement with Southwest Airlines,
allowing for expanded travel within the United States.

WestJet operates reportedly the youngest fleet in North America,
offering seat back entertainment with pay per view movies and free
to air television, web-based check-in, and in-flight snack purchase.
It operates 79 B737NG aircraft to around 66 destinations (30
domestic, 17 in the US, and 19 international) and has 7,500
employees. It has maintained its growth and profitability
throughout 2008 and into 2009.

WestJet Fleet Type In Service Order Total
Boeing
737 (NG) 79 35 114
Total
79 35 114
Source: Centre for Asia Pacific Aviation & Ascend, April 2009

WestJet Profile: News, Analysis, Fleets, Routes & more:
http://www.centreforaviation.com/profiles/airlines/westjet

15.2.2 Sunwi ng Ai rl i nes, Canada

Firmly positioned as a leisure carrier, Sunwing Airlines is a
subsidiary of Sunwing Vacations. It commenced domestic and
international operations in 2005 using B737-800s. Today it
operates a fleet of seven aircraft to five USA leisure destinations
and 30 in Mexico and the Caribbean out of 30 Canadian centres.
Web based bookings promote scheduled packages while, in
keeping with the holiday positioning, frills complimentary drinks
and movies are promoted as part of the flight experience.

Sunwing Fleet Type In Service Total
Boeing
737 (NG) 12 12
Total
12 12

15.2.3 Southwest Ai rl i nes

Southwest was established in Texas in 1967, although legal
challenges by the incumbents kept it from flying until 1970. Under
the leadership of Herb Kelleher it refined the embryonic discount
airline model which it has adhered to with only modest modification.
201
The Southwest model is characterised by a single aircraft type,
high aircraft utilisation, short haul point-to-point services, single
class, no-frills services, and internet-based booking. Today,
Southwest is the worlds largest airline by passengers carried and
the sixth largest in the US by revenue. It operates around 3,500
flights a day.

Southwest Airlines SWOT: Fourth net loss in past five quarters;
difficulties to continue

The airline has long been profitable, although that record came
under pressure after September 11, and again with oil prices in
2007 and the current recession.

Southwest Airlines Passengers and Operating Profits: 1999-2008
50.0
55.0
60.0
65.0
70.0
75.0
80.0
85.0
90.0
95.0
1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
0.0
2.0
4.0
6.0
8.0
10.0
12.0
14.0
16.0
$ Operatiung Income Per Passenger PAX million

Source: Southwest Airlines Annual Report 2008

After reporting the airlines third consecutive quarterly loss in the
first quarter of 2009 (US$91m) from rapidly weakening demand,
CEO Gary Kelly warned that Southwest would have to consider all
available means to restore our profitability, or else we'll be
bankrupt like so many other airlines have been.

Southwest has to confront the consequences of its success how to
sustain growth and continue to meet shareholder expectations? For
LCCs two means are multiplying the number of routes flown and
expanding the market beyond the budget traveller.

Given that Southwest already has a large market share, growth
based on more of the same will be difficult. It means taking on
longer routes and operating out of major airports, both actions that
reduce the LCC advantage. It also eventually means venturing into
international markets, increasing operating costs and overheads.

Catering for business travellers is another way of expanding market
penetration and lifting yield. But it also impacts on standards and
expectations, and calls for additional schedules and services.
Again, the risk is two-fold, increasing overheads and reducing the
distinction between LCCs and network carriers. This narrowing of
the gap is critical in the US environment where several legacy
carriers have had the opportunity to restructure operations and
lowering costs, under the protection of Chapter 11.
202

Southwest
Fleet Type
In
Service Order Storage Total
Boeing
737 (CFMI) 208 2 210

737 (NG) 331 100 431
Total
539 100 2 641

Southwest Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/southwest-
airlines

15.2.4 Ai rTran, USA

Air Tran was established at Hartsfield-Jackson Atlanta International
Airport in 1993, but is headquartered today in Orlando, Florida, its
secondary hub. With the reverse takeover of ValuJet (founded in
1992) in 1997 it began moving away from the Southwest low cost
model, offering pre-booked seats, introducing business class and, in
2008, offering frequent flyer rewards.

ValuJet had made an early commitment to the MD95, and today
AirTran is the worlds largest operator of the aircraft (now the
B717) with a fleet of 86, complemented by 50 B737 aircraft.
AirTran provides over 700 daily flights to 57 destinations,
predominantly in the eastern USA and the Midwest.

AirTran SWOT Anal ysis: Third consecutive quarter of
profitability in 3Q2009

AirTran joins the masses and announces liquidity boosting
measures

The airline operates as a low-fare airline designed for business
travellers with a mix of low fares and affordable business class.
It recently introduced complimentary XM Satellite radio services
and expects to introduce WiFi services in the near future. It
reported a return to profitably in 2009 after a loss in 2008.

AirTran offers ancillary travel-related sales off its website, hotels,
vehicle rental, holiday packages, cruises and gift certificates. It
reported over 30% annual growth in ancillary revenues between
2005 and 2009, from $77m to more than $300m (estimated).

AirTran Fleet Type In Service Order Total
Boeing
717 86 86

737 (NG) 50 55 105
Total
136 55 191

203

AirTran Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/airtran-
airways

15.2.5 Spi ri t Ai rl i nes, USA

Spirit was established in 1980 as a Detroit-based charter operator
and did not offer scheduled services until 1990. During the next
five years Spirit expanded rapidly, increasing services from Detroit
and Boston to destinations like Atlanta, Los Angeles and Florida. It
relocated to Miramar, Florida in 1999, introducing coast-to-coast
services, and services to the Caribbean and Latin America.

Spirit has embraced the unbundling of costs and introduced
ancillary charges covering larger seats, check-in baggage, and
onboard snacks and drinks. It offers a range of deals and ancillary
sales (event tickets, golf tee times and tours, travel insurance,
hotels, car rental and holiday packages). Spirit is also promoting
on-aircraft advertising.

Spirit operates a fleet of 26 A319s and two A321s, with more A320s
on order. The airline employs 2,300 people and operates over 200
flights a day to 43 destinations. It has adhered closely and
effectively to an ultra low cost business model and has expanded its
network to include destinations in the Caribbean and Central
America to diversify its network and revenue base.

Spirit Airlines Type In Service Order Total
Airbus
A319 26 17 43

A320 20 20

A321 2 2
Total
28 37 65

Spirit Profile: News, Anal ysi s, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/spirit-airlines

15.2.6 JetBl ue, USA

Former Southwest employee David Neeleman founded JetBlue as an
LCC in 2002, operating from New Yorks John F Kennedy Airport,
with substantial funding from JP Morgan, among others. The airline
differs from the Southwest model by offering a high level of in-flight
service, including satellite TV programming to every seat. It has
resisted service charges.

Profitability through the middle of the decade saw solid expansion,
including international services to the Caribbean and Central
America. Rising fuel costs checked this growth after 2005 and the
rate of aircraft acquisition has slowed in recent years.

204
JetBlue SWOT Anal ysis: Third consecutive quarter of
profitability in 3Q2009

In 2008 Lufthansa purchased a strategic stake in JetBlue (now
19%), establishing a marketing partnership enabling travellers to
book off the others website and which may lead to closer linking of
systems now including codesharing. JetBlue also has a marketing
partnership with Cape Air, a regional airline operating in the
northeastern and mid Atlantic states, Florida Keys and the
Caribbean.

JetBlue has pushed the boundaries of the LCC model, introducing
loyalty points and pursuing higher yielding travellers, lifting charges
for ticket changes, additional baggage, and the like, and introducing
value-added onboard services. These include the capacity to
purchase additional leg room and carry out "ecofriendly" pillow and
blanket packages.

JetBlue Airways currently flies to 59 destinations in 12 countries,
with international services to the Caribbean and Central America. It
has moved from the single aircraft principle, introducing Embraer
190s to replace A320s on lower volume routes. While it has plans
to lift its fleet of 150 to 280 aircraft by the end of 2015, the rate of
acquisition slowed with the onset of recession.

Jet Blue Type In Service Order Total
Airbus
A320 110 55 165
Embraer
190 38 63 101
Total
148 118 266

JetBlue Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jetblue-
airways

15.2.7 Al l egi ant Ai rl i nes, USA

Allegiant was established in 1997 and the low cost model refined in
2001. It has adhered strictly to the model ever since. This
involves:

One class, one-way, point-to-point fares;
Emphasis on leisure travellers flying to vacation
destinations, Las Vegas, Los Angeles, Orlando, Fort
Lauderdale, Tampa Bay, South Florida, and Phoenix;
Flights from small town airports or secondary airports with
limited or no service from mainline carriers (with
competition on only 2 of its 134 routes in May 2009);
Web and airport based ticket sales only, with web sales
over 87% of the total in 2008 and 2009;
Low airport costs based on hourly counter rentals among
other things;
Low fleet costs based on 41 MD aircraft (average age
18+ years) which can be purchased and refurbished for as
little as US$4m (Los Angeles Times 13 May 2009);
Consequently, lower aircraft utilisation requirements and
low operating costs (34 employees/aircraft) which enables
quick responses to changed market conditions;
A willingness to switch services and reduce capacity with
fluctuating demand.
205
The airline has maintained strong performance. By adhering to the
core LCC model Allegiant was able to report for the 2008 financial
year:

No international exposure
No premium travel exposure;
No pension issues;
No fuel hedge overhang;
Minimal debt, minimal capital expenditure;
Best profits, balance sheet, liquidity (Management
Presentation, February 2009).

Allegiant SWOT: Nearl y triples net profit in 3Q2009, cautiousl y
optimistic that better times ahead

A comparison of costs and revenue between the March quarters
2009 and 2008 reveals some interesting shifts. In 1Q2009
Allegiant reported a record operating margin of 31%, up from just
11% in 1Q2008, despite a softer fare environment. The gain was
attributed to cost cutting in the previous year, to offset peak fuel
prices, and the fall in fuel costs since. This saw a 27% reduction in
operating costs per passenger.

Other shifts for scheduled services highlight the growing importance
of lifting load factors and ancillary revenue to offset lower fares.
Passenger numbers rose by 12.1% and RPMs by 9.8%, reflected in
a 2% reduction in average stage length. More importantly, capacity
growth (ASM) was limited to just 4.9%. This resulted in the load
factor increasing by four percentage points to nearly 88%.

Although average fares declined by 14.3%, ancillary revenue grew
by 33% to over $34 per head, or 31% of total passenger revenue.
As a result was revenue per passenger declined by just 3.1%.

Shifts in fuel prices have played a large part in improved
profitability. At an average cost of $2.88/gallon in the first quarter
of 2008, fuel was 53% of Allegiants operating expenses in 2008,
and the operating margin was around $0.126 per ASM. A year
later, the average price almost halved so that fuel fell to 34% of
costs and the margin rose to $0.349/ASM. Consequently, the fall of
$0.276 in fuel prices accounted for all of the gain in margins
($0.223).

Allegiant Airlines Type In Service Storage Total
Boeing (McDonnell-Douglas)
MD-80 40 4 44
Total
40 4 44

Allegiant Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/allegiant-air

206
15.2.8 Fronti er Ai rl i nes, USA

Frontier Airlines commenced operations in 1994 based at Denver
International Airport, and today has a fleet of 51 single cabin Airbus
aircraft. Frontier works closely with sister company Lynx Aviation,
which has a fleet of ten Bombardier Q400 aircraft. It operates to
over 50 destinations in the United States, Mexico and Costa Rica.
Frontier also markets in conjunction with AirTran.

In early 2008 Frontier and Lynx owner, Frontier Airlines Holdings
Inc., petitioned for reorganisation under Chapter 11 of the U.S.
Bankruptcy Code. This was because of liquidity difficulties
attributed to the companys principal credit card processor
extending the holdback period on customer receipts.

Frontier has subsequently cut capacity, reduced costs, and
maintained profitability. The reorganisation has been expensive,
though, with costs of $212m reported to the Department of
Transportation in June 2009. Consequently, Republic Airways
Holdings has agreed to purchase Frontier Airlines Holdings.
Republic already owns Chautauqua Airlines, Republic Airlines, and
Shuttle America.

Frontier Airlines emerges from bankruptcy under Republic
Airways wing. Can the good times last?

Despite the fact that Frontier has substantially reduced its capacity
and costs, it remains vulnerable to fuel price increases. In 2007,
fuel accounted for 32% of operating costs. In the year ending
March 2009 it accounted for 43%. This was in part attributed to a
fall in other operating costs (8%) over two years, but mainly
reflects a 42% increase in average fuel costs. While the fuel
market is currently depressed, a relatively small increase in prices
from their 2009 level could eliminate the operating margin if
compensating action is not taken.

Given the relatively new Frontier fleet, further operational
efficiencies may be hard to achieve to offset future pressure on fuel
prices. Non-fuel costs per ASM fell by nearly 8% from 2007 to
2009, despite a 9.5% increase in RPM, suggesting significant
productivity gains have already been achieved. Further fleet and
route rationalisation should assist, and presumably the takeover by
Republic could facilitate this. Opportunities for ancillary income
may also need to be exploited more aggressively.

Frontier
Airlines Type
In
Service Order Storage Total
Airbus
A318 11
11

A319 38
38

A320 2 8 1
11
Total
51 8 1
60

Frontier Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/frontier-
airlines

207
15.2.9 USA 3000, USA

USA 3000 Airlines began operations out of Philadelphia in late 2001
as a sister company to Apple Vacations, a 32-year old charter
holiday operator specialising in Mexico and the Caribbean. The
airline began scheduled services in 2002 when it also expanded into
Florida. It also operates out of Chicagos OHare airport.

In 2007 USA 3000 suffered under pressure from high oil prices, and
suspended services from Detroit and Milwaukee in early 2009 as a
result of poor demand.

The airline flies 11 new A320 aircraft with 168 single-class seats. It
promotes its complimentary entertainment, refreshments, first
checked bag free, and roomier seating as points of differentiation
from the competition.

USA 3000 Type In Service Total
Airbus A320 11 11
Total 11 11

15.2.10 Vi rgi n Ameri ca, USA

After a three year battle to gain regulatory approval, Virgin America
commenced operations in 2007 as a low cost trans-continental
airline from San Francisco. Its initial application for certification by
the Department of Transportation had been knocked back following
opposition from incumbent airlines. Approval was only forthcoming
after the airline had restructured to meet the DOT-mandated
business specification, aimed at maintaining the statutory 25%
overseas ownership limit and reducing Virgin Groups influence on
the airline.

Although still part owned by Virgin and licensed to use the Virgin
brand, 75% of initial equity in Virgin America was held by Black
Canyon Capital of Los Angeles and Cyrus Capital Partners of New
York. The American owners were required to appoint two thirds of
the board and the DOT also pushed for a US national as CEO.

As the equity partners have recently exercised their right to exit the
company, the ownership question is again hanging over the airline.
The uncertainty over status that this has generated has not been
helped by the credit crisis of the past year and diminished investor
appetite for risk. However, Virgin has recently announced that it
expects to confirm one or more new, US-based investors by the end
of 2009.

Virgin Americas 2Q2009 losses continue to narrow, but cash
burn continues

Virgin America operates independently of the other Virgin airlines
although recently established an interline agreement with
Australias Virgin Blue covering the latters Pacific services.

The airline has brought an innovative package to the difficult
business of longer-haul, low cost flights. It offers a three class
service, First, Main Cabin Select, and Main Cabin. Main Cabin
Select reflects the service enhancement variant of the LCC, based
on seating in exit rows and in front of bulkheads with
complimentary food, beverage and entertainment within the main
cabin. Main Cabin offers free television but other entertainment and
catering attract charges.

208
Apart from regulatory impediments, Virgin America has had to
confront high fuel prices and soft market conditions in its start up
phase. It made solid progress even in the face of the downturn,
though. Revenues jumped 91% ($53m to $101m) between June
quarters 2008 and 2009, well ahead of a 69% increase in ASM.
Consequently, the load factor was up from 61% to 73%. The
operating loss came down to $36m compared $51m a year earlier.

This improvement has no doubt been helped by the recent fall in
fuel costs, reported to be down to around 20% of the total
compared with 55% a year earlier. Nevertheless, the company has
slowed its planned expansion, with its fleet of 28 A319 and A320
aircraft likely to see only six additions in 2009 and 2010.

Virgin America Type
In
Service Order Total
Airbus
A319 10
10

A320 18 5
23
Total
28 5
33

Virgin America Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/virgin-america

209
15.3 Outlook

The US aviation industry has struggled for some time now. The
most recent comparative data published by the US Department of
Transportation for airline performance is unfortunately for 2006.
Based on a five year average, the only airlines that maintained
profitability up to and including 2006 were LCCs. The subsequent
deterioration in their profitability in the face of higher fuel prices
(2008) and slowing demand (2009) is therefore a matter of serious
concern for the industry as a whole.

North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
Central and
South America
211
16 Central and South
America


The Central and South American markets jointly account for just
7% of the worlds traffic (RPKs) according to the Boeing database.

Only around 20% of Central American traffic is within the region.
The main destination is North America, reflecting close and growing
economic and population links between Mexico and the United
States. A relatively strong European trade reflects a combination of
inbound leisure tourism and, to a lesser extent, outbound VFR
travel.

Growth of the Central American Market, 2000-2007
0
20
40
60
80
100
120
140
Central America Europe North America South America
0%
20%
40%
60%
80%
100%
120%
Billion RPK, 2007
% Change, 2000-2007

Source: Centre for Asia Pacific Aviation & Boeing

The South American market has a similar orientation, although
internal travel accounts for around one third of traffic. The
relatively undeveloped flow between Central and South America is
the fastest growing segment in each case, suggesting that regional
growth will be the key driver of these markets in the immediate
future.

Growth of the South American Market, 2000-2007
0
10
20
30
40
50
60
70
80
90
South America Central America Europe North America
0%
20%
40%
60%
80%
100%
120%
Billion RPK, 2007
% Change, 2000-2007

212
While the Boeing traffic data suggested that there was significant
growth in the Central and South American markets between 2000
and 2007, (55% and 47% respectively), the OAG capacity data
shows a more static picture. Capacity fell until 2003 and has
climbed since then. LCCs jumped from 6% in 2005 to 23% in
2009, and account for the regions entire capacity growth, adding
4.6m seats while the FSCs dropped 1.5m.

LCC and FSC Capacity Growth, Central & South America, Jun
2001- Jun 2009
0.0
5.0
10.0
15.0
20.0
25.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network

S Source: Centre for Asia Pacific Aviation & OAG

213
16.2 The Airlines

The significant LCCs are currently based in Mexico in Central
America and Brazil in South America.

Low Cost Carriers, Mexico and Brazil
Mexico
Viva Aerobus Monterrey 2006
Volaris Toluca 2006
Avolar Tijuana 2005
Interjet Toluca 2005
Click Mexicana Mexico City 1975
Brazil
Azul Brazilian Barueri 2008
WebJet Linhas Rio de Janeiro 2005
Gol Transportes Sao Paulo 2000

16.2.1 Vi va Aerobus, Mexi co

VivaAerobus was established in 2006 as a strategic alliance
between the Mexican bus operator, IAMSA, and RyanMex, an
investment fund operated by Irelands Ryan family. VivaAerobus
operates to over 20 domestic Mexican destinations. The business
model aims at making air travel affordable to the average Mexican,
over 90% of whom have never flown and who are considered highly
price sensitive. VivaAerobus operates primarily B737-300 aircraft
although is considering larger models in its fleet expansion plans.

Viva Aerobus Type In Service Total
Boeing 737 (CFMI) 7 7
Total 7 7

16.2.2 Avol ar, Mexi co

Tijuana-based Avolar commenced service in 2005 with a single
B737-500 aircraft. Today the airline operates to 17 domestic
destinations with a fleet of eight B737s.

Mixed fortunes for Mexicos LCCs, as market share
surges past 40%

16.2.3 Vol ari s, Mexi co

Volaris commenced operations in 2006 from Toluca International
Airport, 50km outside Mexico City. It operates over 95 daily
services to 23 cities, with an average distance of 863 miles using
predominantly A319s. In November 2008 it established a code
share agreement with Southwest Airlines and in early 2009 received
permission to provide services to Los Angeles and Oakland as well
as the 16 domestic points it serves.

214
Volaris Type In Service Order Total
Airbus
A319 19 18 37

A320 2 2
Total
21 18 39

16.2.4 Interj et, Mexi co

InterJet is also based in Toluca and commenced operations in 2005
with a fleet of seven second-hand A320s. Today it operates a fleet
of 13 A320s, configured with 150 seats. The airline has plans to
launch a regional airline in 2009/10.

16.2.5 Mexi cana Cl i ck, Mexi co

MexicanaClick, formerly Aerocaribe, started operating as a low-cost
airline from Mexico City in 1975. It was bought by Mexicana in
1990, and on-sold to hotel chain Grupo Posadas in 2005. It has
evolved into a regional operator, serving domestic routes between
more than 25 Mexican cities with a fleet of F100 aircraft.

Mexicana
Click Type In Service Total
Boeing
717 1 1
Fokker
100 25 25
Total
26 26

16.2.6 Gol Ai rl i nes, Brazi l

Gol Airlines was founded by Brazilian coach travel company, Grupo
urea, and commenced operating in 2001 with a low cost, low fare
business model based on new, fuel efficient B737-700 and 800
aircraft, with high aircraft utilisation, and limited on-board services.
It offers around 800 daily flights to 49 destinations in Brazil and ten
major destinations in South America.

Gol
Transporte
s Areos Type In Service Order Total
Boeing
737 (CFMI) 9 9

737 (NG) 79 91 170
Total
88 91 179

GOL posted its second consecutive quarter of profitability in
2Q2009, the carriers traditionally weakest quarter, as the LCC
benefited from a significantly reduced cost base, combined with
yield and unit revenue improvements. This combination helped the
carrier report a net profit of USD191 million, an impressive
turnaround from a loss of USD90 million in the previous
corresponding period.

The carrier is continuing its growth agenda but at much more
conservative rates than previously.

215

GOL strengthens cash position with new shares issue

In Mar-2007, GOL acquired the operating assets of ex-flagship
airline Varig, subsequently renamed VRG, in an agreement valued
at approximately USD320 million. But it was not until 30-Sep-0008
that GOL finally completed the takeover of Varig on 30-Sep-08,
merging its GTA and VRG subsidiaries into one airline, following
lengthy regulatory delays. In the interim 18 months, GOLs
operations were severely disrupted, as management grappled with
Varigs loss-making operation. Group yields and load factors were
dramatically lowered.

GOL still has lingering issues from its Varig takeover belly ache,
namely its load factor, which was still down 4.5 ppts in the June
quarter at a low 60.1%. But this represents more an opportunity for
GOL than the massive headache it once was. The airline has a more
robust fleet plan and the improving economy should help utilisation
rates in the coming months.

At the end of Jun-2009, GOL had six B767 aircraft remaining from
Varigs intercontinental network which were out of commission due
to their incompatibility with the carriers current business plan and
whose return is currently being negotiated. Based on this, the
carrier closed the quarter with an operational fleet of 110 aircraft
and a total fleet of 124 aircraft.

Also during the quarter, GOL concluded an agreement with Boeing
deferring the delivery of 20 B737NG aircraft from between 2010
and 2012 to between 2010 and 2014. The carrier, however, is
continuing with its plan to replace B737-300 and B767-300 aircraft
with B737-800 and B737-700 equipment for operations on short
and medium haul sectors.

GOL is expected to save an estimated USD180 million through the
merger. GOL recently distributed VRGs third series of secured non-
convertible debentures in the amount of USD198 million. The
debentures were distributed in Brazil only. The issue is a part of the
LCCs restructure of its cash position, aimed at achieving cash and
cash equivalents of USD414 million by the end of 2009.

The integration of GTA and VRGs operations has enabled GOL to
work on optimising revenues and costs and the consolidated
companys operational, financial and ancillary revenue capabilities.
The reorganisation also simplifies the corporate structure of GOLs
subsidiaries, maximising administrative efficiencies, optimising
revenues and reducing financial and operational costs, while
providing greater operational flexibility and improved service
offerings.

GOL has almost completed the process of sweeping a big broom
through its structure and operations since its takeover of the
troubled former flag carrier Varig. On 30-Sep-08, its GTA and VRG
subsidiaries were merged into one airline, with a new integrated
route network launched on 19-Oct-08, eliminating route duplication
and making better use of its valuable slots at So Paulo Congonhas
Airport. It also allowed GOL to introduce direct flights between
previously unconnected cities.

Varig as a premium, business passenger-focused airline serving
domestic, short and long-haul markets, had a much higher cost
structure, which pushed GOLs group unit costs per ASK right to the
top end of its LCC peer group.

216

GOL Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/gol

16.2.7 Webj et, Brazi l

Webjet Linhas Areas is a small low-cost carrier based in Rio de
Janeiro. It commenced flying in 2005 and after two changes of
ownership belongs today to Brazilian tourism company, CVC. It
serves some 14 domestic destinations using B737-300 aircraft.

Webjet Type In Service Total
Boeing
737 (CFMI) 11 11
Total
11 11

16.2.8 Azul Brazi l i a, Brazi l

Newcomer LCC Azul Brazilia was established by former JetBlue CEO,
David Neeleman with four Embraer 190 and 195 aircraft serving
five destinations. Operations commenced in December 2008 and
the airline is aiming for 3% of the domestic market by the end of
2009, a target it is well on the way to achieving, with an average
70% load factor in April 2009 and 2.2% market share.

Brazil's LCCs and start-ups gaining market share

Brazil leading Latin American traffic recovery

The carrier expects to post full year profit in 2010 and plans an
initial public offering once sustainable profits are achieved. In the
meantime, Azul is building up its destinations and fleet, with plans
to acquire an additional 32 aircraft by 2011.

Azul Brazilia Type In Service
Order
Total
Embraer
190 4 5 9
Embraer
195 4 27 31
Total
8 32 40

Jointly, Gol and now Azul are driving the aviation industry in Brazil.
From just 1% of seat capacity in 2001 LCCs now account for 45%,
52% in the domestic market and 12% in the international market.
Over the period, network airline seats have fallen from 6.9m to
4.8m in total.

217
LCC and FSC Capacity Growth, Brazil Jun 2001- Jun 2009
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


Azul Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/azul

218
16.3 Outlook

Central and South America have been characterised in the past by
three sources of traffic: limited domestic and internal flights,
especially within South America; VFR based travel between Mexico
and the United States and between South America and Europe; and
inbound leisure travel. The time may now be ripe for LCCs to put
flesh on this skeletal structure, especially through increasing the
density of internal networks. Indeed, regional growth is likely to
make up for any short-term downturn out of the United States.

In 2009 the estimated population of Latin America and the
Caribbean was, according to the US Census Bureau, 585.6m
people. The expected increment over the 21 years to 2030 is
134.2m. This compares with projected growth of 66m in the United
States (to a total of 373m in 2030).

Some 31% of the Latin American gain is expected from Brazil which
should grow from a current population of 199m to 240m. At the
same time, Mexico should grow from 111m to 135m, and account
for 18% of the regions growth.

The rapid population growth in the region points to a strong future
for LCCs, especially if it is accompanied by moderate growth in
incomes. Already GOL has demonstrated what can be achieved in
the burgeoning Brazilian economy. It and the Mexican and other
Brazilian LCCs look well poised to drive that growth. It is highly
likely that they will be joined by others over the coming five to ten
years.

North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
Europe
220
17 Europe


Western and Eastern Europe are treated separately in this section,
although the reality is that the division is both arbitrary and
becoming less meaningful. Economic integration is a key to the
future of Europe generally, and likely to be a driving force in the
future of its aviation.

This is reflected in traffic data in which the two are combined.
European traffic as a whole grew by 43% in the internal market
between 2000 and 2007. This compares with just 20% growth in
international traffic, suppressed by a static North Atlantic market.
Nevertheless, North America still accounts for 47% of the
international total and 24% of all European passenger traffic.

RPKs flown between Europe and Southeast and Northeast Asia
expanded only modestly, by 12% and 7% respectively. In contrast,
traffic with China and Southwest Asia has grown strongly (off lower
base figures), and there has been moderate growth between
Europe and the Middle East and South America.

Traffic Growth by Destination, All of Europe 2000-2007
0
100
200
300
400
500
600
700
E
u
r
o
p
e
N
o
r
t
h

A
m
e
r
i
c
a
A
f
r
i
c
a
S
o
u
t
h
e
a
s
t

A
s
i
a
M
i
d
d
l
e

E
a
s
t
C
e
n
t
r
a
l

A
m
e
r
i
c
a
S
o
u
t
h

A
m
e
r
i
c
a
C
h
i
n
a
N
o
r
t
h
e
a
s
t
A
s
i
a
S
o
u
t
h
w
e
s
t

A
s
i
a
-20%
0%
20%
40%
60%
80%
100%
120%
Billion RPK, 2007
% Change, 2000-2007


The main driver of growth was an eight-fold expansion of LCC seat
capacity within-Europe. By contrast, FSC capacity was 3% lower in
2009 than in 2001. By 2009 LCCs accounted for 32% of capacity
flying within Europe.

LCCs were less significant in travel to and from Europe. The first
inter-continental LCC services were established in 2005. By 2009
they had only risen to 3% of the total. Overall LCCs accounted for
25% of all European capacity aviation capacity by 2009 (in terms of
seats flown)

The balance of this discussion deals with Eastern and Western
Europe separately.
221
LCC and FSC Capacity Growth, Europe Jun-2001 to Jun 2009
0
10
20
30
40
50
60
70
80
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


Western European LCCs are diverse and widely distributed.
According to OAG data, they account for 34% of internal capacity,
contributing 17.8m more seats in June 2009 than in June 2001.
During this period FSCs experienced a reduction of 5m in capacity.
By 2009 LCCs accounted for 34% of internal and 12% of external
capacity.

LCC and FSC Capacity Growth, Within Western Europe Jun 2001
to Jun 2009
0
5
10
15
20
25
30
35
40
45
50
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


While two airlines (Ryanair and easyJet) still dominate LCC
capacity, there have been a number of newcomers over the past
nine years, and several LCCs have been established through
transformation of established airlines, including charter operators.

Low Cost Carriers, Western Europe
Iceland
Iceland Express Reykjavk 2003
Norway
Norwegian Oslo 2002
Germany
222
TUIfly Dortmund 2007
Germanwings Colgne/Bonn 1997
Air Berlin Berlin 1978
Condor Frankfurt 1955
Austria
Niki Vienna 2003
Switzerland
easyJet Switzerland Geneva 1988
Italy
Flyonair Pescara 2006
Air Italy Naples 2005
Blu-express Rome 2005
MyAir Venice 2004
Windjet Catania 2003
Meridiana Olbia 1963
Spain
Vueling Barcelona 2004
Clickair Barcelona 2006
Netherlands
Transavia Amsterdam 1965
Martinair Amsterdam 1958
UK/Ireland
bmibaby Midlands 2002
easyJet Luton 1995
Flybe Exeter 1979
flyglobespan Edinburgh 1979
Jet2.com Leeds 1978
Monarch Luton 1968
ThomsonFly Coventry 1962
Ryanair Dublin 1985

17.1.1 Comparati ve Performance of European LCCs

There are other significant contrasts among LCCs, revealed by the
most recent annual statistics for the eleven members of the
European Low Fares Airline Association. (ELFAA). In 2008 Ryanair
and easyJet jointly accounted for over 70% of the Associations
passenger movement. Both recorded solid growth (18% and 17%
respectively) between 2005 and 2008. Only Norwegian and Wizz
Air grew faster (40% and 34%), while the smaller airlines struggled
to grow. The implication is that critical mass may well be just that
critical in a difficult growth environment.
223
Performance of Selected European LCCs, 2008
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Source: European Low Fare Airlines Association

Comparative productivity has been measured in two ways. The
number of passengers per aircraft reflects a combination of aircraft
model, seating configuration, utilisation and load factor. Different
fleet composition leads to structural differences that limit the
comparisons that can be made among airlines. Nevertheless, the
comparison confirms the benefits of single model fleets in short to
medium-haul aviation generally.

For example, Ryanair operates Boeing 737-800s virtually
exclusively (169 in December 2008), clickair had 24 Airbus A320s,
Sky Europe 14 B737-700s, and Wizz Air 20 A320s. These were four
of the five best performers on this measure of utilisation.

Measures of Productivity, Selected European LCCs 2008
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Source: European Low Fare Airlines Association

easyJet also recorded a high level of aircraft productivity on the
basis of a slightly more mixed fleet comprising 143 Airbus aircraft
(mainly A319s) and 27 B737-700s. Norwegian also performed
moderately well, with a fleet of thirty 737-300s, seven 737-800s
and four MD80s. Transavia had a B737 fleet but recorded lower
utilisation.

The rest were smaller airlines with a mix of often smaller aircraft.
Myair.com, for example, was operating five A320s and four
Bombadier CRJ900s in December 2008, and Flybe had a fleet of
Embraers and Bombardiers.
224
Fleet differences also affect our second measure of productivity,
annual passengers handled for every permanent employee (as at
December 2008). Again, clickair and Ryanair stand out, ahead of
easyJet, Wizz Air and Sky Europe.

The figures confirm the ongoing importance of a single aircraft type.
While Ryanair and easyJet dominate the market, the results for
clickair, Wizz Air and, to a lesser extent, Sky Europe and
Norwegian, suggest that high productivity is not just a matter of
scale.

Fleet mix helps explain low scores for Flybe and Sverigefly.
Jet2.com and transavia.com have much more limited productivity,
despite both operating exclusive Boeing fleets, although in the case
of Jet2.com this includes a mix of models, including nine B757s.

The wider significance of LCCs in the region is evident in a
comparison of some of recent passenger data. Ryanair, for
example, uplifted more passengers than both Lufthansa and Air
France in the six months to April 2009. easyJet carried
substantially more than British Airways. While this does not fully
reflect total traffic or movements because their longer routes
ensure that the major carriers achieve the highest RPKs it still
seems likely that the growth of aviation in Europe will continue to
be shaped by the development of LCCs for the foreseeable future.

Passengers Carried - Market Shares, Western European Airlines
Passengers, Six Months to April 2009
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Low Cost Carriers Full ServiceAirlines

225
17.2 Western Europe The Airlines

17.2.1 Icel and Express, Icel and

Iceland Express, owned by a local investment company,
commenced operations from Reykjavk in 2003. It focuses on
inbound markets and today operates to seven winter and 17
summer destinations in Europe. It operates two B737-700 aircraft
leased from London-based Astraeus Airlines.

Iceland
Express Type In Service Total
Boeing
737 (NG) 2 2
Total
2 2

17.2.2 Norwegi an Ai r Shuttl e, Norway and Sweden

Norwegian Air Shuttle (Norwegian) was established by Busy Bee
employees in 1993 to take over its regional airline business
in Western Norway. Based in Oslo, the airline rebranded as
Norwegian and commenced domestic LCC services using Boeing
737-300 aircraft. Norwegian listed as a public company in 2004.

The airline has aimed at routes that appear under-serviced or over-
priced. It pursues flexibility, offering higher yielding business travel
on peak hours and more price sensitive leisure travel off the peak.
It substitutes alpine for Mediterranean destinations in the winter,
and additional leisure for business routes in mid-summer.

Norwegian took over Swedish-based Finnair subsidiary and LCC Fly
Nordic in 2007, rebranding it as Norwegian.se. In early 2008
Norwegian announced its first destination outside Europe, a non-
stop service to Dubai from Oslo and Stockholm. It has been
expanding aggressively in the latter part of the decade, lifting
passenger numbers by 32% in 2008 alone.

Norwegian Air Shuttle SWOT: LCC reports industry-leading
operating margin in 3Q2009

Norwegian carried 7.5m passengers in 2008, just half on domestic
flights. It sustained solid growth in the domestic market, with
numbers up 34% between 2007 and 2008. Growth was a more
modest 18% in the international market. In 2008 the Swedish
operation contributed 1.6m passengers.

By late 2008 Norwegian operated 28 B737 and 12 B737-800
aircraft to 87 destinations, with around 1,500 staff.

Performance has slipped under difficult market conditions. Fuel
costs rose by 78% in 2007 to reach 31% of operating costs.
Employment costs rose by 48% and aircraft leasing by 43%. With
a 33% in rise in ASKs, total operating costs rose by 40% in a year,
compared with a 35% gain in revenue, resulting in a 37% fall in the
operating margin.
226

Norwegian Air Shuttle Type In Service Order Total
Boeing
737 (CFMI) 29

29

737 (NG) 12
44
56
Total
41
44
85

Norwegian Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/norwegian-air-
shuttle

17.2.3 TUIfl y, Germany

TUIfly was formed in 2007 from the merger of charter airline
Hapagfly (established in 1972) and low cost carrier Hapag-Lloyd
Express (established in 2002) under a single brand. TUIfly is now
the third-largest airline in Germany, with some 47 B737 aircraft and
a workforce of 2,400. Around 60% of flights are sold directly, 30%
as part of a holiday package, and 10% via agencies.

TUI Travel increases underlying operating profit in third quarter
of 2009

In a departure from the core LCC model, seats are pre-assigned.
Catering differs between shorter trips, mainly within Western
Europe where snacks are purchased, and longer trips to southern
Europe and North Africa on which they are complimentary. TUIfly
also offers frequent flyer miles and a premium fare aimed at
business travellers. This provides ticket changes free of charge up
to 30 minutes prior to departure, preferential seat reservation, a
snack voucher, and an additional 10kg of baggage.

In March 2009 parent company TUI Travel PLC announced that it
would take a strategic 20% stake in Air Berlin and that Air Berlin
would in turn take a 20% stake in TUIfly. Air Berlin will also wet-
lease 17 aircraft from TUIfly and take over all of TUIflys city
connections, while TUIfly will focus on serving the charter market.

TUIfly Type In Service Order Storage Total
Boeing
787
11
11

737 (CFMI) 3

3

737 (NG) 42
30 1
73
Total
45
41 1
87

Tuifl y Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/tuifl y

227
17.2.4 Germanwi ngs, Germany

Germanwings was established as a low-cost airline in Cologne in
1997. Today it has a fleet of 28 A319 aircraft operating from
Cologne, Stuttgart, Berlin, Hamburg and Dortmund. The company
was sold to Lufthansa early in 2009 with traffic and financial data
consolidated with the parents results.

Germanwings having most profitable year ever, new links with
bmibaby

Germanwings is continuing to expand. It operates a distinctive low
cost network model, offering passengers the capacity to book bags
through connecting flights via the internet. It serves 65 destinations
in 25 countries, as well as ten domestic destinations with a staff of
1,030, and carried around 8 million passengers in 2008.

GermanWings Type In Service Order Total
Airbus
A319 26 4 30
Total
26 4 30

Germanwings Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/germanwings

17.2.5 Ai r Berl i n, Germany

Founded in 1978 Air Berlin was originally incorporated in the United
States. It traded as Air Berlin USA until German reunification in
1990, after which German investors acquired a majority holding
and the airline was re-registered in Germany.

In 2004 Air Berlin entered into an agreement for cooperation with
Austrian airline Niki, in which it took a 24% stake in a low fare
alliance. It was floated on the Frankfurt Stock Exchange in 2006
and subsequently purchased Munich-based domestic LCC dba,
which was dissolved in 2008. Air Berlin then purchased long-haul
charter operator LTU International, which was merged fully into its
operations in 2009. It also took a 49% shareholding in Swiss
leisure airline Belair.

Air Berlin unit revenues reach highest levels in 18 months in
Sep-2009

In 2009 Air Berlin entered into a strategic relationship with TUI
Travel, with each taking a 20% share in the other. It has also
entered into cooperation agreements with S7 (Moscow) and Hainan
Airlines (Beijing).

228
Today Air Berlin offers extensive semi-low-cost services to holiday
destinations in the Mediterranean, the Canary Islands and North
Africa, as well as to major cities in Europe, from 21 German
airports. The airline provides complimentary in-flight snacks and
drinks. Meals can be pre-purchased up to 48 hours before
departure on flights over 90 minutes and are free on flights over
four hours. Air Berlin also provides newspapers, assigned seating,
and a frequent flyer programme.

At the end of 2008, the airline had a mixed fleet of 125 aircraft
(Airbus and Boeing) in keeping with its diverse services. It carried
28.5m passengers, up just over 1% on 2007, to 126 destinations.
By reducing ASKs by close to 5% (to 56.48bn) it managed to
sustain a load factor of 78% and revenue growth of 34%. It had
8,311 employees at the end of the year.

Air Berlin Type In Service Order Storage Total
Airbus
A319 18

18

A320 28
25 1
54

A321 6

6
Boeing
757 2

2

767 1

1

787
28
28

737 (CFMI)
3
3

737 (NG) 52
76 1
129
Total
107
129 5
241

Air Berlin Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/air-berlin

17.2.6 Condor, Germany

Condor was founded in 1955 as a holiday charter operator. It was
taken over by Lufthansa in 1959 and by the 1970s was as a leading
international holiday airline operating early B747 as well as B707
and B727 aircraft. In 1989 it partnered with Turkish Airlines to
establish Sun Express. It also moved to individual seat sales in a
break from its traditional charter business.

In 1997 Lufthansa entered into partnership with C&N Touristic AG,
renamed Thomas Cook AG after the take-over by the UK-based tour
group. The intention was to create an integrated tourism airline.
In 2002 the airline began offering discount fares on short- and
medium-haul destinations, and on long-haul flights to America, the
Caribbean, Africa and Asia.

In 2008 Thomas Cook bought out Lufthansas remaining share.
Condor introduced a new Premium Economy Class with additional
leg room and enhanced in-flight catering. Seats, meals, baggage
allowances and pet transport can all be booked online.

Today Condor is based at Frankfurt with a second hub at Munich
and flies to and from ten German destinations, a further 21
elsewhere in Europe, 23 in North America and 17 in Africa and Asia.
It has a fleet of twelve A320s, 13 B757s and nine B767s.

229
17.2.7 Ni ki , Aust ri a

Niki was established in 2003 operating from Vienna using Airbus
aircraft. The following year Air Berlin purchased a 24% share
creating an LCC alliance.

Austrias LCC capacity share continues to grow, as NIKI steps
up

Today Niki has a fleet of two A321, two A319 and six A320 aircraft.
It carried 12.1m passengers in 2008 and has 350 employees. At the
end of 2008 it was planning for 30% growth in passengers, another
three aircraft and 150 more employees, following a 23% gain in
passengers in that year and a doubling of profit.

The airline operates to five Austrian centres, 27 in Europe and five
in Egypt. As a leisure-oriented airline it operates a number of
seasonal services. It provides for pre-booked meals and seats, and
offers a frequent flyer programme.

Niki Type In Service Order Total
Airbus
A319 2

2

A320 5
11
16

A321 2

2
Embraer
190
5
5
Total
9
16
25

Niki Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/niki

17.2.8 easyJet Swi tzerl and

easyJet Switzerland SA operates scheduled services under an
easyJet franchise from Geneva, its main base, and Basel. The
airline was established with the purchase of 40% of charter
operator TEA Basle (established in 1988) by easyJet plc in 1998.
Today ownership is split between easyJet plc (49%) and private
investors (51%). The airline began operating franchise services
under the easyJet brand in 1999.

easyJet Switzerland SA has been consolidated as a subsidiary in the
easyJet plc accounts since then, as the private investors shares
have no entitlement to dividends. easyJet plc also has an option
through to 2014 to acquire the investors shares.

The airline operates twelve A319 aircraft out of Switzerland to 33
European destinations. It had 480 employees at December 2008.

230
17.2.9 Fl yOnAi r, It al y

FlyOnAir was established in Pescara in 2006 with a focus on low
cost travel within Italy and to other European destinations. In June
2009 the FlyonAir website listed some 23 routes, although some of
these are seasonal. The airline is continuing to expand services. It
uses wet-leased aircraft and focuses on marketing low cost,
convenient leisure travel. It has a strong marketing focus with the
website offering event, boat charters, coach charters and rental
cars.

17.2.10 Ai r It al y

Air Italy SpA is a privately owned airline that commenced
operations from Turin in 2005. It focuses on scheduled holiday
operations, working closely with tour operators. The airline was
profitable from its first year of operations and today has around 400
employees, 320 in Italy.

It also operates two subsidiaries, Air Italy Polska and Air Italy Egypt
(2007). Air Italy Egypt, formerly Euromediterranean Airlines is 75%
owned by Air Italy SpA and links European cities with Egyptian
resort destinations. Air Italy Polska is the leading Polish charter
airline serving both European and longer haul leisure destinations
with its fleet of Boeing 757-200 ER aircraft.

Air Italy Type In Service Total
Boeing
757 2
2

767 1
1

737 (CFMI) 4
4

737 (NG) 1
1
Total
8
8

Ital y: Ryanair looks to Ital y for growth, Alitalia to transform Air
One into an LCC

17.2.11 Bl u-express.com, Ital y

Blu-express.com was established in 2005 to operate from Romes
Fiumicino airport as the low cost arm of privately-owned Blue
Panorama Airlines S.p.A.. Blue Panaorama operates charter as well
as scheduled flights.

Blu-express serves business and leisure markets, and works with
travel agencies to tap into that segment of the budget market
which does not use the internet. It promotes itself as true LCC with
high punctuality and reliability standards.

The airline is able to adhere to the LCC model as service
differentiation is offered by the choice between Blu-express and
parent Blue Panorama. It follows the model by offering the most
competitive rates for its chosen services, promoting online sales,
not assigning seats in advance, maintaining a 25 minute turn-round
time, and charging for snacks and beverages. It operates two
B737-300 and two B737-400 aircraft, and can extend this through
access to the Blue Panorama fleet.

231
Blu-express Type In Service Total
Boeing
737 (CFMI) 2 2
Total
2 2

17.2.12 Wi ndj et, Ital y

Wind Jet S.p.A. is a privately owned airline established in 2003
following the closure of Air Sicilia based in Catania, Sicily. It offers
national and international low cost, no frills flights. It operates two
A319 and ten A320 aircraft to 28 destinations. It markets a full
range of travel services from its website.

Windjet Type In Service Total
Airbus
A319 5 5

A320 9 9
Total
14 14

17.2.13 Eurofl y, It al y

Eurofly was established in 1989 by Alitalia to develop the leisure
market, operating both scheduled and charter services. It is based
in Milan and was listed in 2005, when it introduced direct flights to
New York.

The progressive acquisition of Eurofly by Meridiana Group (which
now holds over 60% of the stock) has helped to stabilise the
company after several difficult years. The purchase is seen as
reinforcing its growth strategy enabling it to bring new aircraft into
its fleet. Currently Eurofly has a fleet of eight A320 and four A330
aircraft.

Eurofly offers medium-haul services to destinations in Egypt,
Greece, Spain and Israel. Long haul services include holiday
destinations like the Maldives, Sri Lanka and the Dominican
Republic. The airline offers summer services from New York to Italy,
marketed in part through a US based web site. Its fleet comprises
eight A320 aircraft.

Eurofly experimented with an All Business class product, which it
discontinued in 2008.

Despite difficult market conditions, and a 38% increase in fuel costs
in 2008, a EUR25.9 million loss in 2006 was reduced to EUR16.m7
in 2008.

Operating profit (before interest, depreciation and amortisation and
provision for liabilities) increased by 16% to 36m, based mainly on
a 14.3% gain in passenger revenue compare with a 40% increase
in costs. If non-passenger revenues (mainly from wet leasing
aircraft) are omitted, the operating profit is 7% of revenue,
including a surcharge to cover the oil price increase, slightly up on
6.8% in 2007. The indications are that medium haul services are
performing better than long haul, the former achieving 28% growth
in 2008 and the latter only 3.3%.

232
17.2.14 Meri di ana, It al y

Meridiana is a privately owned airline based in Olbia, Italy. It was
established in 1963 as a tourist airline to provide taxi and charter
operations to Sardinia. It soon commenced local and then
international scheduled services and has recently focused on
developing international services. Currently it operates to 16
Italian and 25 other European destinations. It operates a code
sharing agreement with Eurofly.

While promoting low fare services, Meridiana has cemented its
place in the LCC market with its acquisition of a majority of Eurofly.
It operates a fleet of four Airbus A319 and 18 MD-82 aircraft.

17.2.15 Vuel i ng (Cl i ckai r), Spai n

Private airline Vueling commenced operations at Barcelona in 2004.
It was listed in 2006, resulting in a much-needed boost in capital.

The Vueling fleet comprises 19 A320 aircraft. In 2008 it carried
5.9m passengers, down 5% on 2008, although this was more than
offset by increased fares which led to a 22% gain. Restructuring
also saw an increase in ASKs and a slight gain in productivity (up 1
percentage point to 74%). A 42% increase in fuel expenses was
partially offset by savings in handling, leasing costs, and fixed
costs, which nevertheless drove direct costs up by 18%. (Fuel
accounted for 46% of direct costs in 2008). The operating loss of
30.8m was a substantial improvement on 71.8m in 2007.

In July 2008 Vueling announced its intention to merge with fellow
Spanish LCC Clickair. The new entity emerged in the second part of
2009, with 45% of ownership in the hands of Clickair majority
shareholder, Iberia. The merged entity operates 35 A320s, serving
forty destinations over ninety routes.

Vueling Airlines Type In Service Total
Airbus
A320 18 18
Total
18 18

Merger partner, clickair was established in 2006 by five
shareholders, including Iberia Airlines and tourist group Iberostar.
It operates out of Barcelonas El Prat airport.

clickair operated over 120 daily services to 50 destinations in Spain,
the British Isles, Continental Europe and Northern Africa using a
fleet of 24 180 A320-200s.

Clickair Type In Service Order Storage Total
Airbus
A320 22 2
1
25
Total
22 2
1
25

Vueling Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/vueling

233
17.2.16 Transavi a.com, Netherl ands, Denmark

Transavia.com was founded in 1965 as a private charter operator.
In 1991, it was taken over by KLM. It was rebranded as a low cost
carrier in 2004. Today the airline operates as an independent
subsidiary of the Air-France-KLM Group offering chartered
scheduled services to a range of leisure destinations, primarily in
Europe and North Africa.

Transavia.com operates a fleet of 10 B737-700 and 19 B737-800.
Bookings are made via the internet or the transavia call centre (the
latter for a charge). Meals are available for purchase onboard.
While the web site is reported as recording the highest web sales in
the Netherlands, this is dominated by ticket sales. Ancillary and
related travel sales account for around 6% of revenue in 2009.

The airline flew 22 scheduled services in summer 2008, although
individual seats can also be purchased on charter services. The
airline also flew to 73 charter destinations. With the bankruptcy of
Danish airline Sterling in late 2008, transavia.com ran a number of
charter flights from Billund Airport and subsequently commenced
scheduled services from Copenhagen. It recently established a
subsidiary, Transavia Denmark ApS, to support its operations there.

In the year ending March 2009, Transavia.com carried 5.5m
passengers, up just 1.5% on the previous year and well under the
solid 6.6% growth averaged over the preceding three years. Sales
via agents (business to business) continue to perform ahead of
direct sales, accounting for 63% of revenue and up by 19% in value
in 2009 to underpin revenue growth of almost 12%.

ASKs continued to grow faster than passengers (7.6%) and this,
together with a 39% increase in fuel costs and 11% gain in
employment costs saw operating expenses increase by over 16%
and operating income fall from 28m to 15m from 2008 to 2009.

Transavia.com Type In Service Order Total
Boeing
737 (NG) 26 8 34
Total
26 8 34

17.2.17 Marti nai r, Netherl ands

Martinair was established in 1958 as a charter operator, developing
as a short- and long-haul and cargo operator. It was taken over by
KLM in 2007, with KLM securing all its shares at the end of 2008. It
dropped its short-haul operations after the KLM take-over but still
operates scheduled passenger and cargo services to over 50
destinations . KLM has this year announced that it is considering
incorporating Martinair and Transavia into the KLM brand, with
Martinair offering a light, or low cost, intercontinental service.
Its passenger fleet comprises six B767-300ER aircraft.

Martinair Type In Service Storage Total
Boeing
747 3 1
4

767 6
6
(McDonnell-
Douglas)
MD-11 7
7
Total
16 1
17

234
17.2.18 Transavi a, France

Transavia France was established in 2007 as a joint venture
between Air France (60%) and transavia.com (40%). It shares
branding with transavia.com and offers a similar model of low cost
scheduled and charter leisure services to southern Europe and
North Africa. It operates four Boeing 737-800s out of Paris-Orly
Sud, offering 67 weekly flights to a dozen destinations, linking Paris
to Morocco, Tunisia, Italy, Spain and Greece.

17.2.19 bmi baby, Uni t ed Ki ngdom

bmibaby was established as a low cost subsidiary by British
Midlands Airways (BMI) in 2002. It has a fleet of 18 B737 aircraft
flying to around 30 holiday destinations in nine European countries,
particularly France, Italy, Spain and Portugal.

Lufthansa's bmi sale raises unique opportunities and
complexities. Who are the 12 potential bidders?

bmibaby provides a basic, low fare, no frills service but in addition
to on-board sales of food and beverages offers ticket flexibility,
lounge access on a pay basis, and access to BMI frequent flyer
miles.

bmibaby Type In Service Storage Total
Boeing
737 (CFMI) 17 2 19
Total
17 2 19

bmibaby Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/bmibaby

17.2.20 easyJet, Uni t ed Ki ngdom

easyJet was launched by Sir Stelios Haji-Ioannou in 1995 from
Londons Luton airport. The airline initially leased B737-200 aircraft
and contracted services to offer low cost fares within the United
Kingdom. In 1996 it purchased its first aircraft and established its
first international service. It introduced the company website in
1997 and began taking online bookings in 1998.

In 1998 the airline placed its first order for new aircraft and at the
same time purchased 40% of Swiss charter-operator, TEA Basel,
thereby establishing its first European base. This initiated a decade
of strong growth outside the UK as well as within it.

Today the easyJet fleet comprises approximately 170 aircraft,
dominated by 86 owned A320s and 45 under lease. It still operates
24 B737-700 and 11 aircraft from the GB Airways fleet, which it is
progressively replacing with A320s. It has kept ownership costs
down through the relationship it has established with Airbus.
Through its replacement programme easyJet has brought average
fleet age down to 3.5 years.

235
Through the early part of the current decade easyJet expanded
operations rapidly through the EU. After 2006 it began to expand
beyond there, into southern Europe and North Africa. Today it has
19 bases throughout Europe, operating into 26 countries. By 2007
non-UK residents accounted for more than half the airlines
passengers.

In 2007 easyJet purchased Gatwick-based GB Airways, which
operated across Southern Europe and North Africa. The GB
operations and fleet have been absorbed fully into the easyJet
livery over the past two years.

EasyJet has continued to innovate. In 2007, for example, Microsoft
and easyJet launched an easyJet desk top gadget for customers to
personalise flight information and booking services. In the same
year, easyJet introduced the first internet check-in service, now
commonplaces in full service as well as low cost airlines.

In 2008 easyJet carried 43m passengers, making it Europes fourth
biggest airline by passenger share. Like Ryanair, easyJet has a
strong balance sheet (with share market capitalisation of over
1bn), but it has not been able to weather the oil price spike as
well. While revenue increased by 31% in 2008, on the back of 17%
growth in seats flown, costs grew by 40%, with a 66% increase in
fuel costs accounting for the bulk of the increase. The result was a
68% drop in pre-tax profit from 191m to 123m.

The latest year has seen further deterioration. Comparison of the
six months to March 2009 with the same six months in 2008
indicates a 16% increase in revenue, over 50% attributable to
increased ancillary income. However, this was undermined by a
22% increase in operating costs, or 24% when the costs of
ownership are taken into account. The result is a first half loss of
130m compared with 48m for the same period in 2008.

While marketing costs and commissions have been cut, other non-
fuel costs continued to increase ahead of operational growth and
revenue over the six months. ASKs increased less than 6%, sectors
flown scarcely changed, and block hours increased by just 2.1%.
Yet ground handling and navigation charges were up almost 20%
and airport charges 27%. The equivalent shifts for the financial
year to March 2008 were even more dramatic, 36%, 38% and 30%
respectively.

In contrast, over the year to March 2009, the equivalent costs for
Ryanair were a 12% gain for airport and handling charges and 11%
for route charges despite a 16% increase in passengers flown. The
question arises as to whether a strategy that leans more towards
main airports and a greater service level has exposed easyJet to
more savage cost increases or, more to the point, a lower
willingness to date for suppliers to recognise the downturn in their
charges.

easyJet Type In Service Order Storage Total
Airbus
A319 126 64
190

A320 8 23
31

A321 4 1
1 6
Boeing
737 (NG) 22
2 24
Total
160 88
3 251

easyJet Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/easyjet
236
17.2.21 Fl ybe, Uni ted Ki ngdom

Flybe is a listed company based at Exeter Airport. It had its roots
in privately operated regional airline, Jersey European Airlines,
founded in 1979. JEA underwent several ownership changes, being
rebranded British European in 2000 and Flybe in 2002, when it
repositioned as an LCC. In 2007 it completed acquisition of British
Airways low cost subsidiary, BA Connect. BA retains a 16%
ownership interest in Flybe. In 2008 the airline also signed a
franchise agreement with Scottish-based Loganair to operate under
the Flybe brand.

Flybe has focused on regional airports and short-haul, high
frequency routes. This has enabled it to target the VFR and second
home owner segments of the leisure market, and to cater for the
regional business market, benefiting from direct flights among
regional centres. A focus on the business segment has meant that
while adopting most of the operational principles of LCCs, Flybe also
offers lounges and frequent flyer points.

In its report for the year ending March 2008 Flybe outlined the
successful integration of BA Connect and summarised its operations
as covering 36 UK airports and 30 other European airports, and 190
routes across 13 countries. It carried 7.5m passengers on 77
aircraft, generating revenue of 536m.

Between 2002 and 2008 the airline reported 24% annual compound
growth in passenger numbers, 25% per annum in revenue,
including ancillary revenue growth at 63% per year. Ancillary
revenue now accounts for 10% of turnover. These outcomes were
achieved without recourse to shareholders funds since January
2002.

CAA statistics indicate that in April 2009 the Flybe brand, including
franchise operator Loganair, carried 26% of UK domestic
passengers compared with Easyjets 23%.

The airline has maintained its progress in the face of recession. In
summer 2009 Flybe operated 187 routes, increased capacity by 8%
year-on-year and introduced a number of new services. It currently
has 52 Bombadier Q400 aircraft and 14 Embraer 195s, with a
commitment to an additional eight Q400s and eE195s by the end of
2009.

Flybe Type In Service Order Storage Total
BAE Systems
(HS)
146
4 4
Bombardier
Dash 8 52 10
62
Embraer
195 14
14

ERJ-145 2
4 6
Total
68 10
8 86

Fl ybe Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/fl ybe

237
17.2.22 Fl ygl obespan, Uni ted ki ngdom

Flyglobespan was established in Edinburgh in 2002 as a low frills
airline subsidiary of long-standing tour and travel agent The
Globespan Group. The airline now operates from Edinburgh,
Aberdeen and Glasgow, Manchester, Dublin and Belfast to 23
destinations, including Europe, North Africa, and North America. Its
fleet comprises three B767-300s and one B 757-200 for long haul
routes and ten B737 aircraft.

After a difficult year in 2007, when it lost 13m, Flyglobespan
reported a 1.2 million profit for the 12 months ended October
2008. This is despite a 21% decline in passenger numbers over
2008 according to CAA statistics, from just over 2m to 1.6m,
following strong growth through the middle of the decade. The
return to profit reflected a reduction in capacity and a stronger
focus on European destinations after difficulties in the transatlantic
market. Flyglobespan also leased excess aircraft (and some staff) to
southern hemisphere operators through the northern winter.

Flyglobespan Type In Service Order Storage Total
Boeing
757
1 1

767 3
3

787 2
2

737 (CFMI)
1 1

737 (NG) 6
6
Total
9 2
2 13

Fl yglobespan Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/fl yglobespan

17.2.23 Jet2.com, Uni ted Ki ngdom

Jet2.com is a Leeds-based subsidiary of publicly listed aviation
service company, Dart Group PLC. It commenced operations in
1978 as freight operator Channel Express (Air Services). The
airline commenced passenger charter services in 2001 and was
rebranded Jet2.com in 2006.

Jet2.com operates as true LCC, with scheduled services to around
45 destinations from six UK bases, while it also continues to offer
charter services. The company underwent extensive expansion in
2008 leading to reduced load factors and yields. Revenue increased
by 29% but costs grew by 36%. Operating revenue was 308.8m
which, after expenses yielded only 300,000 compared with 13m
operating income in 2007.

In 2008 the airline carried 4m passengers. Revenue was based on
a net ticket yield of 46.95 and retail revenue of 9.10 per
passenger, with around 16% of passenger revenue from ancillary
sales and charges.

Jet2.com operates a fleet of 22 B737-300s and 9 B757-200 aircraft.

Jet2.com Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jet2com
238
17.2.24 Monarch, Uni ted Ki ngdom

British LCC Monarch Airlines is based at Luton and is owned by
public unquoted company Monarch Holdings PLC, which is also
involved in tourism and aircraft engineering. The airline was
established in 1968, with the aim of catering for the holiday
industry using jet aircraft. Scheduled services commenced in 1985
to the Malaga, Menorca and Tenerife, with online booking
introduced in 2001. By 2007 90% of bookings were made online
and in 2004 full service cabins were phased out in favour of the no
frills option.

Monarch states aviation industry in the midst of a perfect
storm ; fares to increase again

Monarch Airlines still works closely with tourism operators,
providing low-cost scheduled services from bases at Londons
Gatwick and Luton, and Manchester and Birmingham airports.

In 2007, Monarch carried 3.7 million scheduled passengers and has
reported steady increases in the first four months of the subsequent
year, although this will be checked by the suspension of services to
Cancun (Mexico) in May as a result of the outbreak of virus H1N1
(swine flu).

Monarch currently operates a fleet of 32 aircraft (five A320s, 13
A321s, seven B757s, two A330-200s, one B767s and four A300-
600s) and has an order for six B787s to be delivered between 2010
and 2013.

Monarch Type In Service Order Total
Airbus
A300 4
4

A320 5
5

A321 16
16

A330 2
2
Boeing
757 3
3

787 6
6
Total
30 6
36

Monarch Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/monarch-
airlines

17.2.25 Thomson , Uni ted Ki ngdom

Thomson Airways was created through the merging of Thomsonfly
(previously Britannia Airways) and First Choice Airways (also owned
by a travel company) under the newly created TUI travel PLC in
2007. At that time Thomsonfly was the worlds largest charter
operator. It also provided scheduled services from 2004 on from
several UK bases to twenty European destinations.

239
TUI Travel is the worlds largest holiday company made up of some
of Europes major travel brands. TUI Travel controls some 150
aircraft flying to around 180 countries.

Thomson Airways operates from 23 UK airports operating an all
Boeing fleet, including nine B737-300, four B737-500, four B737-
800, 18 B757-200, and four B767-200 and eight B767-300ER
aircraft.

17.2.26 Ryanai r, Irel and

Ryanair was established as a single-aircraft family business in
Waterview, southeast Ireland, in 1985. It launched services from
Dublin to London in 1986, initiating a fare war with incumbents BA
and Aer Lingus. After three years of rapid growth and intense
competition, losses forced the Ryan family to recapitalise and
effectively re-launch the company in 1992, using Southwest Airlines
as the model. It subsequently transferred London operations from
Luton to the new Stansted Airport and rationalised routes during
the early 1990s. This meant cutting back regional routes and
increasing frequencies on more heavily trafficked routes.

The airline undertook continuous route expansion after 1993, which
included developing low cost routes within the UK, and experienced
strong passenger growth as a result. In 1997 the company floated
on the Dublin and New York stock exchanges.

In 2000 the airline launched Ryanair.com, and immediately built a
strong web-based business with rapid uptake of online ticket sales
and on-marketing of rental cars, hotels and travel insurance.

Today Ryanair operates around 200 B737-800 aircraft. In the year
ending March 2009 it flew 58.5m passengers, 253% up on five
years earlier (2004). This makes Ryanair Europes largest airline by
passengers carried and the worlds largest by international
passengers carried. It was also the largest airline by market
capitalisation at the beginning of May - 5.3bn compared with
Lufthansas 4.5bn, Air Frances 3.4bn and BAs 2.0bn.

Scheduled fare revenue grew in direct proportion to passenger
growth from 2004 to 2005, but ancillary revenue grew by 400%,
accounting for 20% of the total.

Despite a difficult year in 2008, Ryanair experienced 15% traffic
growth as it introduced 223 new routes and saw its service
bolstered by newly cost-conscious, recession-hit travellers.
Additional traffic and 23% growth in ancillary revenue saw total
revenue expand by 8%, despite an 8% drop in the average fare. At
the same time oil prices jumped by 59% over the previous year, to
reach 45% of operating expenses.

The result was a sharp but not unexpected fall in revenue to 144m
operating margin and 105m profit after other income and
expenses and provision for tax. This compares with 548m and
481m respectively in 2008.

Despite this contraction, Ryanair has proven the viability of the LCC
formula even in difficult times and in the face of sharp oil price
rises. The challenge now is to sustain this as demand continues to
fall globally and in the face of a possible resurgence in oil prices.
Given the disciplined LCC model applied over the years and the
trimming in non-fuel expenses reported in 2009, there may not be
a lot of room to left for cost management.

240
The answer may therefore lie in the capacity of the airline to
rationalise and adjust routes and capacity rapidly, and in its ability
to continue to extract ancillary revenues from increasingly price
sensitive clients. There is a question over the ability of the very
large low cost carrier that Ryanair has now become to show the
same flexibility as its smaller counterparts or that it has in the past.
A strong balance sheet may be its most important asset in rising to
this challenge, followed by the likelihood that the sector will
continue to shake down and competition from FSCs in particular to
ease as European customers continue to favour low cost operators.

Ryanair Type In Service Order Storage Total
Boeing
737 (NG) 178 134 3
315
Total
178 134 3
315

Ryanair Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/ryanair

241

17.3 Outlook

The LCC model is well entrenched and has become the dominant
force in aviation within Western Europe. It has been a relatively
small step for a leisure focused airline industry to adapt the charter
model to low cost scheduled services as one means of driving this
transition and, in a number of instances, to develop a mix of
charter and scheduled offerings. The holiday market and seasonal
destinations remain a large part of a relative healthy regional
market, and provide the opportunity for entry by new players and
adaptation by old.

Consequently, while America is the home of the LCC model,
innovation has come thick and fast in the less heavily regulated
European environment. Many airlines today feature a wide range of
service offerings on their web sites. There has been willing and
rapid uptake of web-based selling of tickets and services; and
widespread innovation with respect to IT and check in. The LCCs in
Europe have been able to effectively exploit under-utilised
secondary airports, in part a reflection of under-serviced, relatively
high density populations and in part adherence to the focus on
containing costs tat underpins the model.

There has also been a preparedness, though, to compromise the
pure LCC model and work out of hubs. Equally, as the sector has
become more crowded and competitive internally, there has been a
willingness to partner through code sharing, equity arrangements,
co-branding, and the like, and to invest in subsidiaries or joint
ventures across borders. In most instances such partnerships (or,
in some instance, mergers) have offered easy paths to creating a
more expansive service among the middle tier European LCCs.
Given the size and dynamics of the sector, such arrangements tend
to intensify competition rather than reduce it.

The result has been the rapid emergence of a dynamic and diverse
LCC sector marked by the variations to the basic LCC business
model. Hybrids are a matter of course, with a variety of low cost
options pursuing different market niches and points of
differentiation. The willingness of airlines to switch schedules
around seasonally or to cope with different traffic types is
distinctive, perhaps a legacy of charter activity, and a mark of
flexibility, especially among some of the newer, smaller operators.

As demand softens and resource constraints tighten, dynamism and
diversity should continue, providing a sound base for ongoing
structural change within the sector. Flexibility will be important;
the capacity to maintain loadings by a willingness to adjust;
schedules at short notice and to manage the process without
alienating customers.

Some of the companies may have, however, gone down paths that
are beginning to limit their flexibility, locked into multiple stations,
airport lounges, and multi-class configurations, for example. An
increasing reliance on main airports to maintain growth or up-
selling seats and services to lift yield may run into market
resistance, perhaps capping margins, especially if the recession
leads a prolonged contraction or slow growth of discretionary
income.

It is not clear, then, just who the winners might be if the recession
is prolonged, but several principles might be offered:

The need to be flexible and free to rationalise services;
The need to keep the pressure on suppliers and, if
necessary, on regulatory conditions that enable suppliers,
especially airports, to levy charges that do not reflect the
new economic realities. Airport, handling, and navigation
242
charges need to be brought into line with the tighter
margins airlines are grappling with;
The need to maintain fuel hedging policies as long as
practical which may not be long enough;
The need to maintain a clear distinction and separation
between short haul and long-haul LCC services, or else to
develop operating models that can assimilate their
different operating costs;
The possibility of more alliances so that no individual
carrier is faced with a mix of short- and long-haul services,
but might instead cooperate with one or more partners as
a basis for geographic expansion. This may be by way of
joint ventures, outright ownership, or a less formal or
binding partnerships. It may require some relaxation of
existing regulations;
The need to pursue ancillary revenue opportunities;
Offering tailored service enhancements as a basis for
attracting business and premium customers, rather than
locking into separate class categories and the overheads
they entail.

However these principles might be applied and whatever hybrid
models develop, we can expect to see, perhaps, fewer and larger
airlines in ten years time, more one-on-one or tailored multi-airline
alliances; and a greater variety of hybrid LCC models. Not only
should the LCC movement continue to be dominant within Europe
travel, but it is also highly likely to reach further into inter-regional
and international markets.

243
17.4 Capacity Growth, Eastern Europe

Seat capacity grew by 135% between 2000 and 2009 in Eastern
Europe, although unlike Western Europe, growth was dominated by
international services, where capacity was 146% compared with
internal growth of 88%. Much of the international growth,
however, was through services to Western Europe rather than
inter-continental traffic.

LCCs played an important role in this growth, accounting for 57% of
the expansion in international capacity and 18% local. Their
contribution did not really take off until 2004, however. Since then,
they have been responsible for 61% of growth, and now account for
70% of external capacity.

LCC and FSC Capacity Growth, Eastern Europe: Jun-2001 to
Jun-2009
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


244
17.5 Eastern Europe The Airlines

The expansion of the European Community has been accompanied
by an explosion of airline start ups catering for the integration of
Eastern and Central European member countries, and in response
to the rapid economic growth several are experiencing. There have
been at least eleven successful startups since 2004, although three
have been driven by the emergence of Wizz Air as a multi-national
force.

Low Cost Carriers, Eastern Europe
Airline Country Base Commenced
Red Wings Russia Moscow 1999
SkyExpress Russia Moscow 2007
Wizz Air Ukraine Ukraine Kyiv 2007
Wizz Air Bulgaria Bulgaria Sofia 2006
Air Italy Polska Poland Warsaw 2007
Air Polonia Poland Warsaw 2003
Blue Air Romania Bucharest 2004
Belle Air Albania Tirana 2005
Smart Wings Czech Republic Budapest 2004
SkyEurope Slovakia Bratislava 2002 (FAILED)
Wizz Air Hungary Hungary Vecses 2004

Anadolujet Turkey Ankara 2008
Corendon Turkey Antalya 2005
Izair Turkey Izmir 2005
Atlasjet Airlines Turkey Istanbul 2001
Pegasus Airlines Turkey Istanbul 1990
Sun Express Turkey Antalya 1989

Turkeys air travel demand continues to grow, albeit at a slower
rate

17.5.1 Red Wi ngs, Russi a

Red Wings is a discount airline operating out of Bykova Airport near
Moscow. It was established in 1999 as VARZ-400, changing to
Airlines 400 in 2001, and renamed Red Wings in 2007. Owner,
Alexander Lebedev also owns 49% of German based Blue Wings.

Red Wings Type In Service Order Total
Tupolev
Tu-204 9 6
15
Total
9 6
15

245
17.5.2 Sky Express, Russi a

CJSC Sky Express began operations from Vnukovo Airport near
Moscow in 2007. It aimed at affordable travel in an environment in
which airlines had struggled to adapt to post Glasnost markets and
air travel had fallen dramatically, with numbers on internal flights
reportedly dropping from over 130 million per year to fewer than 20
million.

Sky Express operates an LCC business model with website booking
and payment, a low fare structure, and on-board snack purchase.
Onboard sales also include mobile phone cards, debit cards, travel
insurance, and hotel, restaurant and taxi reservations.

A highly seasonal internal market coupled with rapidly increasing
fuel prices soon after launch led to a reassessment of expansion
plans in 2008. One response has been to develop a seasonal
charter business with non-scheduled flights to Egyptian tourist
resorts and European ski destinations.

Sky Express Type In Service Total
BAE Systems
Jetstream 31 1
1

Jetstream 41 2
2
Total
3
3

LCCs losing market share in challenging Russian market, but
big prospects

17.5.3 Wi zz Ai r, Central Europe

Wizz Air commenced service from Katowice, Poland, in mid 2004,
taking advantage of Poland and Hungrys entry into the European
Community and the creation of a single European aviation market.
It has developed rapidly to capitalise on the development of Central
and Eastern European states and their progressive integration into
the European Union with American investment group Indigo
Partners is the lead investor. Based in Vecss, Hungary, Wizz today
operates 26 Airbus A320 aircraft aircraft to over 150 European
destinations from bases in Hungry, Bulgaria, Poland, Romania and
the Ukraine. It operates through local subsidiaries in Poland,
Hungary and Bulgaria.

Wizz Air plots aggressive expansion plans following demise of
SkyEurope

Wizz Air has followed the Ryanair model, with emphasis on ticket-
less travel, underutilised airports, single class cabins without pre-
assigned seating, and extensive add-on services and charges.
These include on-board snacks and airport-city transport options,
and extensive flight service add-ons. Hence, a trip from, say,
Wroclaw to London Luton may cost well under 200.00, but booking
and single baggage fees will quickly add a further 30.00. Pre-
boarding and seat selection privileges will add 10-15, while excess
baggage fees and changes to a booking will Excess baggage fees
could easily double the cost on just one leg.
246
Service Charges, Wizz Air 2009
Payment Options Basis for Payment Euro
Booking via MasterCard,
Visa, Amex, Diners Club
Per Passenger
5
Booking via Solo, UK
Maestro & Bank transfer
Per Passenger
2.5
Booking via Call Centre fee
Per Passenger
10
Purchase via wizzair.com &
call centre
Per flight per bag
10
Baggage fee at the airport
Per Bag
20
Excess baggage weight fee
via wizzair.com & call centre
Per Passenger
0-5kg
5
6-10kg
30
11+20kg
80
21-35kg
140
36-55kg
200
Excess baggage weight fee
at the airport
Per Additional Kilo
15
Special baggage fee via
wizzair.com & call centre
Per Passenger
30
Special baggage fee at the
airport
Per Passenger
40
Infant Fee
Per Infant
25
Flight change fee via
wizzair.com
Per Passenger
30
Flight change fee via call
centre
Per Passenger
45
Name change fee via
wizzair.com
Per Passenger
40
Name change fee via call
centre
Per Passenger
60
Pre-boarding fee (bus) via
Per Passenger
2.5
Pre-boarding fee (bus) at the
airport
Per Passenger
5
Pre-boarding fee (aircraft)
via wizzair.com & call centre
Per Passenger
4
Pre-boarding fee (aircraft) at
the airport
Per Passenger
8
Extra legroom seat fee via
Per Passenger
5
Extra legroom seat fee at
the airport
Per Passenger
10
Cancellation fee
Per Passenger
60
Seat protection fee
Per Passenger
80
Invoice change fee
Per request
5
Source: Centre for Asia Pacific Aviation & Wizz Air
247
The formula works. Wizz Air has bucked the recession, confirming
an order for 50 more Airbus aircraft in 2009 on the back of
performance reminiscent of if more spectacular than -- model and
mentor, Ryanair. From less than 600,000 passengers in 2004, Wizz
grew by a compounding 77% to 5.9m passengers in 2008, and is
well on its way to a projected 7.5m in 2009. Its dominance of
Eastern European travel and its strong links with the balance of
Europe almost mirror Ryanairs operations out of the United
Kingdom, and raise some intriguing questions about the potential
for aligning the carriers services as a source of continuing growth
for both of them.

Wizz Air Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/wizz-air

17.5.4 Bl ue Ai r, Romani a

Blue Air is a low cost, private Romanian airline that commenced
operations from Bucharests secondary Aurel Vlaicu International
Airport in late 2004 Blue Air is authorized to operate scheduled
domestic and international commercial flights, as well as charter
flights. Today the airline also operates out of five other domestic
centres with low cost flights to 26 international destinations. It has
a fleet of nine B737 aircraft, with five more on order.

Romania LCC capacity share expanding as Blue Air and Wizz
Air battle for local supremacy

Blue Air Type In Service Order Total
Boeing
737 (CFMI) 5

5

737 (NG) 3
5
8
Total
8
5
13

Blue Air Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/blue-air

17.5.5 Bel l e Ai r, Al bani a

Belle Air is a privately owned Albanian airline that commenced
operations out of Tirana in 2005. Its aim is to increase links
between markets in North and West of Europe with the South,
particularly the Balkans. It has established services to 18 Italian
destinations and Liege. Belle Air operates a mixed fleet, comprising
an ATR 42-300, ATR 72-500, two BAe 146-300 (operated
by Bulgaria Air) one McDonnell Douglas MD-82, one Airbus A319,
and two Airbus A320 aircraft

248
Belle Air Type In Service Order Total
ATR
ATR 72
1 1
BAE Systems
(HS)
146 2
2
Boeing
MD-80 1
1
Fokker
100 1
1
Total
4
1 5

17.5.6 Smart Wi ngs, Czech Republ i c

Smart Wings was established as a low cost operator in Prague in
2004 as a subsidiary of the largest private airline in the Czech
Republic, Travel Service. Travel Service is, in turn, 66% owned by
Icelandair Group.

Smart Wings offers a single class low cost service based on
minimising overheads, while including on-flight services and a basic
baggage allowance within its fare. It promotes early booking
savings system to maximise aircraft occupancy. Access to airport
lounges is available for a fee.

Smart Wings operates two B737-500 and eight B737-800 aircraft
from three origins within the Czech republic to 22 international
destinations, in Spain, Italy, France, Hungry, Greece, Cyprus,
Russia and Dubai.

249
17.6 Outlook

The experience with LCCs to date has been mixed in Central and
Eastern Europe, although Wizz Air with its apparently thriving
subsidiary operations and steady progress by Blue Air and Smart
Wings suggest that LCCs will lead the growth of aviation in this part
of the world. They are linking key cities to Western Europe and, to
a lesser extent, the Middle East, at the same time as they forge
primary and second tier domestic and regional links.

It is likely that regionally-based LCCs will lead the way in cementing
aviation links between east and west, as integration continues
across the continent. They may also play an important part in
growing the links between the Middle East and Europe.

Certainly, the low cost model will help lift discretionary travel within
and beyond the region. Difficult economic conditions may see some
failures, but by and large eastern European LCCs are likely to play a
growing role in European aviation and European integration
generally. Cross-boundary investment, including investment in
their eastern European counterparts by western airline interests,
may play a significant part in this future, and perhaps become a
condition for the success of individual carriers.

A key question for Europe is whether low cost long distance carriers
might boost the Asian and American markets. LCCs across the
Atlantic have not been able to grow this market. AirAsia X provides
some hope for building the low cost link with Southeast and
perhaps Southwest Asia, most likely via the Middle East.

Either way, medium-haul, within-Europe traffic will flourish,
especially with the recent expansion and success of Eastern
European LCCs. Travel between North Africa, the Middle East and
Europe is likely to be strong in the medium term, as LCCs cater for
substantial VFR, leisure and, potentially, business traffic. Between
pushing the limits to the established medium-haul LCC, an
emerging capacity to begin to interline and hop beyond airports on
the periphery of Europe, and the prospect of further breakthroughs
in the model, it appears that the low cost model will have a growing
role to play in long-haul traffic to and from Europe.
North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
Africa
251
18 Africa


Africa remains a minnow in aviation, although the last decade has
seen the emergence of a regional market and rapidly growing
connections between North Africa and the Middle East. Europe
remains the dominant partner, although the rate of growth is
slower.

Growth of the African Aviation Market, 2000-2007
0
20
40
60
80
100
120
140
Africa Europe Middle East North
America
Southeast
Asia
0%
20%
40%
60%
80%
100%
120%
Billion RPK, 2007
% Change, 2000-2007


Low cost carriers have been minor players for most of the decade,
although since 2004 have grown from less than 2% of total capacity
to 10% each for internal and external traffic, potentially providing a
platform to exert considerable influence over the sector in the
coming decade.

LCC and FSC Capacity Growth, Africa Jun 2001- Jun 2009
0.0
2.0
4.0
6.0
8.0
10.0
12.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


252
18.2 The Airlines

The aviation sector is evolving rapidly, with six of the eight African
LCCs identified established since 2001. They are split between
domestic services and services geared to the international holiday
market, linking North Africa (Morocco and Tunisia) with European
markets. Morocco (as a European leisure destination) and South
Africa are the dominant players, as indicated by LCC startups over
the decade.

Low Cost Carriers, Africa
South Africa
Kulula.com Johannesburg 2001
1time Johannesburg 2004
Mango Johannesburg 2006
Kenya
Fly540 Nairobi 2006
Tunisia
Karthago Airlines Tunis 2001
Morocco
Air Arabia Maroc Casablanca 2009
Jet4you Casablanca 2006
Atlas Blue Marrakech 2004

The establishment of low cost operations during the past nine years
has helped to grow the domestic market, with LCCs maintaining
growth despite the market contraction of the past eighteen months.
They are generally focused on growth, and in the process of
expanding international services to other parts of the continent.

At the same time, Morocco stands out in North Africa for the recent
establishment of LCCs with a focus on the tourist markets of Europe
and meeting the needs of the significant expatriate population living
in southern parts of Mediterranean Europe.

18.2.1 Kul ul a, South Af ri ca

South Africa has three low-cost airlines. Johannesburg-based
Kulula, established in 2001, operates 325 weekly services across 12
domestic and three international routes (Namibia, Mauritius and
Zimbabwe). Its website offers car and hotel bookings, as well as all
inclusive holiday packages. While operating a traditional low cost
model, Kulala still offers a loyalty club (jetsetters) and partners
with the Discovery Vitality (a branch of consumer financial services
organisation) to offer rewards for members. Kulala operates South
Africas largest e-tailing site and also markets mobile phone and
internet services (although not, as yet, on its aviation site).

253
18.2.2 1ti me, South Af ri ca

1time was founded in 2004, and operates out of Johannesburg.
Today it provides around 250 services a week across nine domestic
routes. In 2008 it carried 1.6m passengers, an 18% increase on
2007 and a 13% share of the domestic market, at an 82% average
load factor. This was achieved despite a 6% fall in total passenger
movements nationally. However, even with strong revenue growth
margins were eroded by the high cost of fuel, the airline only
managing a slim operating profit ahead of provision for interest, tax
and depreciation.

Despite a difficult year, 1time is maintaining its momentum. It
acquired a 77.5% stake in Safair Technical in 2008 to merge with
its own maintenance division, Aeronexus, forming one of the largest
MRO companies in Africa.

An agreement signed with Solenta Aviation and ACIA Aero Holdings
in December 2008 should support 1times expansion plans through
access to expanded funding, lease aircraft, and charter experience
representation throughout Africa. In order to achieve this expansion
to regional destinations, 1time is developing 1time Holidays off the
back of its modest existing charter operation, with the aim of
generating ancillary revenue.

1time Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/1time

18.2.3 Mango, South Af ri ca

The third South African LCC, Mango, was established in 2006 as a
subsidiary of South African Airways. Mangos CEO expected a
modest profit in the FY08/09 without taxpayer support, despite
the Governments R1,6bn cash injection into South African Airways
(SAA) in February 2009.

Mango has achieved a reasonable market share, accounting for
close to 11% of domestic travel, building on innovative promotion
and partnership arrangements

A fourth South African LCC, Airtime Airlines, planned to commence
flying in January 2009 has delayed start up, with last reports
suggesting that it still had licensing difficulties.

18.2.4 At l as Bl ue, Morocco

Atlas-blue is a fully-owned subsidiary of Royal Air Maroc (RAM)
focused on the inbound tourist market. It commenced operations in
2004 and today operates international services between Marrakech
and Agadir and over 20 destinations in Spain, France, Italy,
Switzerland, Germany, Belgium and Great Britain. Atlas Blue plans
to operate a fleet of 14 aircraft in 2008/09, expanding to 24 by
2012. In three years since it launched operations, Atlas-blue has
become the largest e-commerce airline in North Africa.

254
18.2.5 Ai r Arabi a Maroc, Morocco

Air Arabia Maroc is a subsidiary of LCC Air Arabia and was launched
in partnership with Moroccan private airline Regional Air Lines in
Casablanca in May 2009. It will be based on the Air Arabia low cost
model and is intended to link the European, Middle Eastern and
North African markets. It commenced operations with two A320s.

18.2.6 Jet4you, Morocco

Jet4you is a Marrakech-based airline which commenced operations
in February 2006 focused on services to French destinations. It
also offers services to Belgium, Spain and Italy. In its first year of
operations it carried around 150,000 passengers, and is maiming
for a tenfold increase by 2010. Its current fleet comprises two
B737-400 aircraft, and plans to expand this to ten over the next
two years. Jet4you is owned by German company, TUI Travel PLC.

18.2.7 Kathargo Ai rl i nes, Tuni si a

Kathargo Airlines is a part of a diverse Tunisian tourism,
communications and services group. It was established as a
charter operator working with European holiday companies in 2001,
and was listed in 2006. It has recently begun to operate scheduled
low cost services to Russia, Denmark, Sweden and Paris. A sister
company, KoralBlue, was established at the end of year 2006 to
offer charter services between Egypt and Europe.

18.2.8 Fl y540, Kenya

Fly 540 is the largest domestic LCC in East Africa, majority owned
by African conglomerate Lohnro. It introduced its first service from
Nairobi to Mombasa in late 2006 and now operates regular services
from Nairobi to Mombasa, Malindi, Lamu and Kisumu, Eldoret, and
the Mara. Fly540 currently has orders for ten ATR 72-500 aircraft
(to be configured with 66 seats, including 12 in First Class), to be
used to launch services across Africa from its Nairobi hub. Its aim
is to service 15 African countries by 2010. Four of the aircraft are
scheduled to be delivered in 2009, with two of them committed to
Angola following the recent issue of a license for the airline to
operate there.

255
18.3 Outlook

Aviation in Africa has a long way to go. Its progress will be tied
inevitably to economic growth and political stability. As progress is
made, and this is likely to reflect increasing integration among the
regions successful economies, regional growth should come to
dominate air travel. This will provide ideal circumstances for the
emergence and expansion of traditional LCCs to develop and exploit
a growing but still price sensitive market. Conversely, the
development and expansion of LCCs should contribute to greater
economic integration.

The North African LCC business can be expected to progress with
the economic progress of the wider region, including the Middle
East, but will still be susceptible to any fluctuations in spending out
of the European leisure market. LCCs can be expected to be better
placed to weather any resulting downturns than their FSC
counterparts and are proving their worth in lifting travel from the
Middle East as well as Europe. Over time, business links within the
African continent may provide an additional driver, again potentially
favouring LCCs ahead of FSCs.

North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
Middle East
257
19 Middle East


The Middle East has seen a strong drive for growth by full service
carriers such as Emirates, Qatar Airways and Etihad over the past
decade. Regional growth has been healthy, but the focus of the
FSCs has been on services into Europe, Asia, and North America,
developing the Middle East as a hub for inter-continental travel.

Growth of the Middle Eastern Aviation Market, 2000-2007
0
20
40
60
80
100
120
Middle
East
Europe Southwest
Asia
Southeast
Asia
North
America
Africa
0%
20%
40%
60%
80%
100%
120%
Billion RPK, 2007
% Change, 2000-2007


LCCs have begun to play though, evident in regional and African
traffic, and introducing services between the Middle East, North
Africa and Europe. They still only account for 8% of capacity in
2009, with prospects likely to be shaped by short and medium-haul
services compared with the long-haul orientation of the FSCs.

LCC and FSC Capacity Growth, Middle East Jun 2001-Jun 2009
0.0
2.0
4.0
6.0
8.0
10.0
12.0
14.0
16.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


258
19.2 The Airlines

The Middle East maintained solid growth late into the decade,
despite the recession. This presumably reflect its distance from the
financial crisis and credit excesses which triggered the recession
and the recent growth and momentum it has been able to establish
in aviation. The eight LCCs identified have all been established
within the last six years, a sign of this growth. Despite difficult
conditions in 2008 they have generally held close to their expansion
plans.

The early success and ambitions of these airlines in a large and
rapidly growing regional market and strategic inter-continental
location points to significant future competition, both with
established full service carriers and among the LCCs themselves.
Low cost leadership and modern aircraft will help shape the
outcome of competition, and ensure that low fares sustain medium-
term growth.

Low Cost Carriers, Middle East
Airline Country Base Commenced
Nas Air Saudi Arabia Riyadh 2007
Sama Airlines Saudi Arabia Damman 2005
Felix Yemen Saana 2008
EgyptAir Express Egypt Cairo 2007
Bahrain Air Bahrain Bahrain 2008
Jazeera Airways Kuwait Kuwait 2005
flyDubai UAE Dubai 2009
Air Arabia UAE Sharjah 2003

19.2.1 Nas Ai r, Saudi Arabi a

Nas Air was established in 2007 by National Aviation Services, a
multi-level provider of aviation services, including charter and
corporate jet operations and aircraft leasing. NAS Air operates to
eleven domestic and five international destinations but is in the
middle of an expansion programme intended to lift destinations to
20 and weekly services to over 350 by the end of 2009. The
operation offers internet based purchasing and ticketless booking.
Onboard food and beverages are available for purchase.

Nas Air Type In Service Order Total
Airbus
A319
20 20

A320 6
6
Embraer
190 4
9 13

195 2
2
Total
12
29 41

Nas Air Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/nas-air

259
19.2.2 Sama Ai rl i nes, Saudi Ar abi a

Sama Airlines was the second LCC established in Saudi Arabia,
commencing operations in May 2007. It is a short-haul carrier
serving nine domestic destinations and seven elsewhere in the
Middle East. The airline was founded by Investment Enterprises Ltd,
chaired by Prince Bandar bin Khalid al Faisal. The initial investment
was made by 30 major Saudi private and institutional investors .

Unlike Nas Air, Sama commenced operations with second hand
aircraft, a BAe Jetstream and six B737-300s.

Sama Airlines Type In Service Total
BAE Systems
Jetstream 41 1
1
Boeing
737 (CFMI) 6
6
Total
7
7

Sama Profile: News, Anal ysi s, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/sama

19.2.3 Fel i x Ai rways, Yemen

Felix Airways was established as a subsidiary of Yemen Airways by
the Islamic Bank for Development. It commenced low cost domestic
operations from Sanaa in late 2008, with a second base planned for
Aden. It currently serves seven domestic destinations and operates
to 15 cities in the region. A reduction in domestic flights by Yemen
Airlines will assist Felix to meet a target of 1,200,000 passengers
per year by 2010. Felix operates eight Bombardier CRJ 700 aircraft

19.2.4 Egypt Ai r Express

EgyptAir Express was established as a subsidiary of Egypt Air in
2007, with the aim of increasing domestic and regional services by
the use of smaller aircraft than operated by its parent. It operates
11 Embraer E170 aircraft. While EgyptAir Express maintains a
relatively simple structure, a single aircraft type, and promotes
competitive fares, it relies on sales through EgyptAir (including
internet sales), and plays a feeder role for the parents international
routes ex-Cairo, suggesting that it is not as yet a fully fledged LCC.

19.2.5 Bahrai n Ai r

Bahrain Air was established in 2007 as a joint venture between
Saudi and Bahraini investors, aiming at an IPO in 2010. It operates
to 20 destinations in the Middle East, North Africa and South Asia.
While promoted as a low cost, point-to-point operation, it offers a
small number of premium seats on its six A320 and A319 aircraft,
together with different levels of meal service.

Bahrain Air Type In Service Total
Airbus A319 2 2
A320 2 2
Total 4 4
260

Bahrain Air Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/bahrain-air

19.2.6 Jazeera Ai rways, Kuwai t

Kuwait based Jazeera Airways commenced flying as a private
operator in 2005. 30% funded by Boodai Group and 70% by public
listing. It currently flies to 29 destinations in sixteen countries in
the Middle East, North Africa, South Asia and Europe (Cyprus and
Turkey) with a fleet of ten A320 aircraft, and ten more on order.
While an LCC, Jazeera does offer premium seats. The airline also
has a stronger focus on the sale of ancillary product hotels and
rental cars through its website than other Middle Eastern LCCs.

Jazeera Airways replaces Kuwait Airways as largest operator
from Kuwait Airport

Despite high fuel prices Jazeera was profitable in 2008, having
reduced costs per ASK and increased yield. This performance
underlies an expectation of 2.5m passengers in 2009 and the
confidence to continue with plans to substantially expand capacity
with a target of 59 destinations by 2014.

Jazeera Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jazeera-
airways

19.2.7 fl ydubai , Dubai , UAE

The Dubai government established start-up flydubai which
commenced operations in June 2009 with two B737-800 aircraft
and orders for another 48. The airline offers web-based bookings
with boarding passes issued on booking.

fl ydubai stepping into new markets

flydubai plans to expand rapidly, with initial plans for a four-
destination network by the end of 2009. It had previously stated
plans to concentrate on 12 undisclosed popular, high demand
destinations in the six Gulf Cooperation Council nations, before
expanding to other markets. It aims to capitalise on over two billion
people who live within five-hours flight time of Dubai. It aims to
serve 70 destinations By 2014.

Flydubai Type Order Total
Boeing 737 (NG) 51 51
Total 51 51
261

fl ydubai Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/fl ydubai

19.2.8 Ai r Arabi a, Sharj ah, UAE

AirArabia commenced operations in 2003 and is listed on the Dubai
Financial Market with a 66% public shareholding, 11% held by the
Sharjah Department of Civil Aviation and 7% by Sharjah
International Airport. The airline operates across the Middle East,
North Africa, the Indian Subcontinent and Central Asia. Air Arabia
also offers holiday and insurance options from its website, as well
as hotels and car rental bookings.

Air Arabia has recorded strong growth, up from five destinations,
three aircraft and 550,000 passengers in 2003 to 44 destinations,
16 new Airbus aircraft and almost 3.6m passengers in 2008. It
maintained profit growth in 2008 despite the significant increase in
fuel costs and consequent decline in yield. 32% year-on-year profit
growth marked the first quarter 2009, based on 26% passenger
growth and an 81% load factor.

Air Arabias regional growth aspirations are evident in the recent
establishment of joint ventures Nepalese Yeti Airlines (flyyeti.com)
in 2007 and AirArabia Maroc in 2009.

Air Arabia Type In Service Order Storage Total
Airbus
A320
17 44 1
62
Total

17 44 1
62

Air Arabia Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/air-arabia

262
19.3 Outlook

The Middle East has established itself as a significant aviation hub,
and is set to extend this role. LCCs may complement FSCs in this
respect, especially with respect to neighbouring markets such as
Southern Europe, North Africa and the Indian subcontinent,
creating a significant presence in the wider region.

This distinctive structure supports the emergence of second tier
LCCs catering for Middle Eastern services dependent on creating
stronger services into adjoining regions rather than global markets.
North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
Northeast Asia
264
20 Northeast Asia

LCCS have had mixed results in Asia generally, with slow growth,
losses and failures countering some spectacular success stories.
The main impediment to expansion has been conservative
regulatory regimes, with protectionism still prevalent, with slow
progress in Northeast Asia and China, in particular.

The pace of regulatory reform elsewhere has begun to pick up, with
ASEAN nations on track for open skies within six years. Already
LCCS have made significant inroads in South East Asian markets
and have begun to thrive in India. AirAsia has pioneered medium
haul cross-border flights and has begun to explore longer-haul
opportunities across the entire region and for inter-continental
flight.


The Northeast Asian market under-performed over the decade,
rocked first by the Asian financial crisis, then by SARS, and by the
sluggish performance of the Japanese economy. Internal travel
hardly changed (up 3% over the eight years). International air
travel was up by 11%, but this masked significant volatility. A 20%
decline in numbers between 2000 and 2003 was offset by a 23%
recovery in 2004, for example.

Growth of the Northeast Asian Aviation Market, 2000-2007
0
20
40
60
80
100
120
140
Northeast
Asia
North
America
Southeast
Asia
Europe China Oceania
-20%
0%
20%
40%
60%
80%
100%
Billion RPK, 2007
% Change, 2000-2007


Capacity figures reveal a slowdown later in the decade. Low cost
carriers still play only a minor role in the sector, just 4% of the
total, slightly more on external routes.
265
LCC and FSC Capacity Growth, North Asia Jun 2001-Jun 2009
0.0
10.0
20.0
30.0
40.0
50.0
60.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


266
20.2 The Airlines

South Korea was slow off the mark, although several airlines have
been established over the last three years.

Perhaps the surprising thing is that the longer standing Japanese
LCCs have had very little impact, despite the fact that the Japanese
aviation market has been in the doldrums for most of the decade.
LCCs lifted their performance slightly in the middle of the decade,
but grew only slowly after that so that they accounted for just 5%
of internal capacity by June 2009, despite the fact that domestic
traffic was static. In fact, the full service carriers capacity was 4%
lower in 2009 than in 2001. LCCs still only accounted for 1% of
international flights at the end of the period.

Low Cost Carriers, North Asia
South Korea
Eastar Jet Seoul 2008
Jin Air Seoul 2008
Air Busan Busan 2007
Jeju Air Jeju 2006
Japan
Air Next Fukuoka 2005
Skynet Asia Miyazaki 2002
StarFlyer Fukuoka 2002
JAL Express Osaka 1999
Hokkaido
International Sapporo 1998
Skymark Haneda 1998

20.2.1 Ai r Busan, South Korea

Air Busan was launched in mid 2007 by the Busan City Government
together with twelve local investors. Asiana acquired 46% of the
airline in February 2008. The airline currently operates a fleet of
five B737s and aspires to become South Koreas top LCC. It has a
code sharing arrangement with Asiana.

Air Busan Type In Service Total
Boeing
737 (CFMI)
3
3
Total

3
3

Air Busan Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/air-busan

267
20.2.2 Jej u Ai r, South Korea

Jeju Air launched services from Incheon to Osaka Kansai and
Kitakyushu in March 2009, becoming the first LCC to commence
international operations from Incheon International Airport. Using
B737-800 equipment, the Incheon-Osaka Kansai service operates
daily and Incheon-Kitakyushu three times weekly.

Jeju Airlines recently mandated Airstream International Group to
remarket its four 2006 Bombardier Q-400s as it decided to operate
an all-jet fleet. The carriers other aircraft are two B737-800s. To
support its international expansion, Jeju signed a contract with
Boeing to purchase an additional five B737-800 for delivery
between 2011 and 2013.

JeJu Air Type In Service Order Total
Boeing
737 (NG) 3
5
8
Bombardier)
Dash 8 4

4
Total
7
5
12

Jeju Air Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jeju-air

20.2.3 Ji n Ai r, South Korea

Jin Air, was established as an LCC subsidiary by Korean Air and
commenced operations in mid 2008. Having posted US$7.2 million
in revenue in 2008, Jin Air expects to report as much as US$115
million annual revenue in 2010.

The carrier is proceeding with plans to launch services to five
international destinations in 2009, including Osaka, Bangkok, and
Macau. Within two years, Jin Air plans to expand its international
network to 16 international routes in China, Japan and Southeast
Asia.

To facilitate these expansion plans, Jin Air aims to add an additional
aircraft to its fleet of four B737-800s by the end of 2009 as part of
a plan to acquire 15 B737-800s over the next six years.

Jin Air Type In Service Total
Boeing
737 (NG)
2
2
Total

2
2

Jin Air Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jin-air

268
20.2.4 Yeongnam Ai r, Hansung Ai rl i nes, South Korea

Two South Korean budget carriers suspended services in 2008 due
to increasing competition and weak demand. Yeongnam Air
launched in mid-2008 was based at was Gimhae Airport, Busan and
Daegu Airport and operated with a single Fokker 100. It failed to
gain traction and ceased operations in December the same year.

Cheongju-based Hansung Airlines, South Koreas first LCC founded
in 2004, ceased operations in October 2008 due to worsening
economic conditions, increasing fuel costs, a weakened Korean
won, and difficulties in securing funding or finding an investor
willing to acquire the carrier.

Domestic market share for Koreas LCCs continues
its dramatic rise

20.2.5 Eastar Jet , South Korea

Eastar Jet established services from its base at Seoul Gimpo Airport
in January 2009. It currently operates two leased B737-600
aircraft, with three B737-700s on order for delivery in 2009.

The airline serves Jeju, Cheongju and Gunsan. Its main shareholder
is the South Korean Eastar Group. It plans to operate to China and
Japan in the future, and plans to have a fleet of 15-aircraft Boeing
fleet by end of 2013.

Eastar Jet Type In Service Total
Boeing
737 (NG)
2
2
Total

2
2

20.2.6 Skymark, Japan

Based at Tokyos Haneda Airport, Skymark commenced operations
in 1998. It operates domestic services to Sapporo, Kobe, Fukuoka,
and Naha (Okinawa). The airline transitioned its entire fleet to
B737-800s by the end of 2008 in an attempt to boost efficiency,
and plans to add seven aircraft by the end of 2011.

Skymark
Airlines Type In Service Order Total
Boeing
767
1
1

737 (NG)
9
6 15
Total

10
6 16

Skymark Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/skymark-
airlines

269
20.2.7 StarFl yer, Japan

StarFlyer is a Japanese LCC established in 2002 and modelled on
JetBlue Airways as a low-cost, high-quality carrier aimed at
business and leisure travellers. The airline operates a fleet of four
A320-200s, configured with 144 seats in a one-class layout, and
leased from GECAS.

Star Flyer Type In Service Total
Airbus
A320
4
4
Total

4
4

20.2.8 Ai r Do, Japan

Air Do (Hokkaido International Airlines) was established in 1996
and launched operations in 1998. It is based at Tokyo International
Airport (although it has its headquarters at Sapporo). The carrier
offers services from Tokyo Haneda to Asahikawa, Sapporo,
Hakodate and Ozara.

20.2.9 SkyNet Asi a, Japan

SkyNet Asia is owned by the Industrial Revitalisation Corporation of
Japan (56.9%) and Mera Electric Industrial Corporation (11.7%). It
was established in 2002 but did not begin operations until 2008. It
is based in Miyazaki City and operates mainly between
Miyazaki/Kumamoto/Nagasaki and Tokyo.

Skynet Asia Type In Service Total
Boeing
737 (CFMI)
7
7
Total

7
7

20.2.10 Fuj i Dream Ai rl i nes, Japan

Fuji Dream Airlines is a carrier launched in July 2009. It aims to
challenge the common view that regional carriers are a marginal
proposition in Japan. Instead of basing itself in Tokyo, or one of
the major regional/business centres such as Fukuoka (StarFlyer) or
Miyazaki (Skynet), Fuji Dream has chosen to base itself at the
brand new Shizuoka Airport, which opened at the beginning of June
2009.

The carrier commenced operations with a fleet of two brightly
painted 76-seat E 170 regional jets. Its initial destinations
Komatsu, Kumamoto and Kagoshima are all secondary regional
destinations with strong business traffic. Shizuoka is itself a
major light manufacturing region. Crucially, there is little
competition on the chosen routes, from either ground or air
transport. Neither JAL or ANA (the only other domestic carriers at
the airport so far) operate to any of Fuji Dreams initial
destinations, and there are no direct fast-rail lines to the cities.

A third aircraft has already been ordered from Embraer, and the
carrier plans to expand to five aircraft by 2012. Three other
destinations, Toyama, Matsuyama and Sendai, have also been
announced for the next two years, but the carrier is avoiding adding
major cities such as Sapporo or Fukuoka where there would be
strong competition from major carriers.
270

Fuji Dream Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/fuji-dream-
airlines

20.2.11 Ibex Ai rl i nes, Japan

Ibex Airlines (formerly Fairinc) is a privately owned Japanese carrier
which commenced services on domestic routes from Sendai Airport
in 2000. It later reached a cooperation agreement with ANA for the
provision of MRO services and crew. It is considering shifting its
operational focus to Tokyo Narita Airport, to take advantage of
increasing slots at the gateway.

Ibex currently operates two Bombardier CRJ-100s and two CRJ-
200s, with order for four CRJ-700s.

20.2.12 Ai r Next

Air Next is a wholly-owned subsidiary of All Nippon Airways
launched in June 2005 in Fukuoka with two B737-500, with the
purpose of providing a lower cost unit. The carrier currently
operates eight B737-500s.

Meanwhile, ANA stated it may delay the launch of its proposed
international LCC, which had been scheduled to commence service
as early as Mar-2009. The reduction in international travel demand
has been cited as the reason for the delay.

Air Next Type In Service Total
Boeing
737 (CFMI)
7
7
Total

7
7

20.2.13 JAL Express, Japan

JAL Express is a wholly-owned subsidiary of the JAL Group. It
commenced services in 1998 and is based at Osaka International
Airport. It operates domestic and international short-haul flights,
including routes to China. Services to South Korea are planned.

JALways, another JAL Group carrier established in 1990 meanwhile
may have a bigger future. In August -2009 Japan Airlines was
reported to be considering separating low-margin international
routes into a new company or transferring them to subsidiary,
JALways. The move would allow JAL to focus on higher-yielding,
business-focused routes and, along with anticipated personnel cuts,
would be expected to result in JPY100 billion (USD1.1 billion) in
annual cost savings.

JAL Express Type In Service Total
Boeing
737 (CFMI)
8 8
Boeing
MD-80
3 3
Total

11 11

271
20.3 Outlook

There is no doubt there is a willingness to experiment with LCC
start-ups in Korea South Korea and Japan, but for the moment they
can only operate under the radar of the main carriers.
Consequently, they have not yet been able to sustain air traffic in a
softening market as has happened elsewhere.

Market weakness may also be a reason why they have struggled.
Among the factors militating against their growth at a domestic
level (apart from the resistance of incumbents and regulators) has
been the development of very fast train networks, with South Korea
following Japan with its own network opening in 2004.

The best prospects for LCCs lie in the development of regional
services, the likelihood of which remains bound up in Chinese as
well as Japanese and South Korean regulation. While this suggests
that LCC activity, may continue to lag in the region in the short-
term, as and when the barriers are reduced they are likely to
rapidly establish themselves as a key component in the
international market within North Asia (including China) if not
beyond.
North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
China
273
21 China


Chinas aviation has grown spectacularly since 2000. The domestic
market grew by 173%. External traffic grew 79%, led by 92%
expansion in European traffic.

Growth of the Chinese Aviation Market, 2000-2007

0
50
100
150
200
250
China Europe North
America
Southeast
Asia
Northeast
Asia
Oceania
0%
20%
40%
60%
80%
100%
120%
140%
160%
180%
200%
Billion RPK, 2007
% Change, 2000-2007


Despite this growth, LCCs have played a negligible role in aviation
growth in China, where the state still more or less determines what
airlines will operate, and where. In 2009 LCCs accounted for just
3% of total capacity, 5% externally and 3% in the dominant
domestic market (including Hong Kong and Macau).

LCC and FSC Capacity Growth, China Jun 2001- Jun 2009
0.0
5.0
10.0
15.0
20.0
25.0
30.0
35.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


274
21.2 The Airlines

LCCs have played only a small part in the expansion of Chinese
aviation, as the major groups have been progressively rationalised
and expanded. There are signs that this may be changing, though,
with several LCC-style airlines established later in the period.
Individual LCCs generally remain small and operations localised.
They are mostly offshoots of the established and dominant airlines.

Low Cost Carriers, China
China
Lucky Air Kunming 2007
China West Air Chongquing 2006
Spring Shanghai 2005
United Eagle Sichuan 2005
Viva Macau Macau 2005

21.2.1 Juneyao Ai rl i nes

Juneyao Airlines commenced operations from Shanghai in 2006. It
is 75% owned by Juneyao Group, which also has interests in United
Eagle Airlines and a controlling stake in Okay Airways, acquired in
early 2006.

Juneyao Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/juneyao-
airlines

21.2.2 Vi va Macau, Macau Speci al Admi ni strati ve
Regi on

Privately owned Viva Macau was launched in 2006, and currently
operates a fleet of two B767-200ERs with a two class configuration.
It has announced plans to expand the fleet to 15 aircraft within five
years based on additional destinations in Japan, South Korea,
Indonesia and Australia, countries where it currently has a
presence, and new services to India, Russia and the Middle East.

The airline is aiming to lift monthly passengers from 15,000 to
50,000 in 2009, and double its workforce and fleet size. However,
it has been up against a concession framework favouring Air Macau
and limiting its ability to secure aviation rights.

Viva Macau Type In Service Total
Boeing
767
2
2
Total

2
2

Viva Macau Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/viva-macau

275
21.2.3 Okay Ai rways, Chi na

Chinas first private airline, Okay Airways began operations out of
Tiajin in 2005, primarily as a charter operating with some limited
scheduled operations. The airline has struggled to find a strategy
to resolve ongoing financial problems and shareholder problems. It
focuses on the domestic market.

Okay Ai rways Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/okay-airways

21.2.4 Spri ng Ai rl i nes, Chi na

Spring was established by Spring International Travel Service Ltd in
Shanghai in 2005. It has been highly successful, operating
profitably since 2006. Its association with one of Chinas leading
travel companies has enabled Spring to maintain high occupancy
figures even as other airlines struggle. In 2008, a difficult year for
Chinese aviation, Spring recorded 3.9 million passengers, a 26%
year-on-year increase. Even in the March 2009 quarter, the airline
recorded a 37.5% increase on the same period in 2008.

Spring Airlines operates 18 domestic routes and recently expanded
its fleet to 13 all economy A320 aircraft. It plans to expand to 100
aircraft by 2015. The CAAC recently approved Spring Airlines
application for rights to operate passenger and cargo services to
Hong Kong and Macau by late 2009, where it plans to offer highly
discounted airfares, as part of its domestic route network. The
airline also plans an IPO late in October 2009.

Spring Airlines Type In Service Order Total
Airbus
A320
12
7 19
Total

12
7 19

Spring Airlines Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/spring-
airlines

21.2.5 Lucky Ai r, Chi na

Lucky Air, formerly Shilin Airlines, commenced operations in 2004
as a subsidiary of Hainan Airlines and Shanxi Airlines. It rebranded
as Lucky Air and commenced scheduled services in 2006.

Lucky Air Type In Service Total
Boeing
737 (NG)
8 8
Total

8 8

276
21.2.6 Chi na West Ai r

China West Air commenced operations from Chongqing in
March 2006 by Hainan Airlines, also as a subsidiary of Hainan. Its
domestic services started in 14, 2007.

21.2.7 Uni ted Eagl e, Chi na

United Eagle commenced operations out of Chengdu as a privately
owned airline in 2005 using Airbus aircraft. In March 2009, Sichuan
Airlines purchased 76% of Eagles shares as the company
underwent a reorganisation. Today it operates to twelve domestic
destinations using three A319 and one A320 aircraft.

United Eagle Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/united-eagle

277
21.3 Outlook

The outlook for the Chinese economy remains strong provided
internal stability can be sustained in part a function of growth so
that aviation is set to prosper. Domestic travel will continue to
dominate, but rapid international growth, most likely led by
connections with other parts of Asia, should also be sustained.

The LCC model offers the prospect of responding effectively to
growing demand and extending services to secondary centres of
population. It will also help to build linkages with the ASEAN
nations, central Asia and the Middle East. To date, however,
Chinas aviation policy has limited opportunities. When or if that
changes, LCCs can be expected to accelerate the provision of
domestic and regional services and greatly expand the market as it
potentially drives down costs throughout the sector.
North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
Southeast Asia
279
22 Southeast Asia


Southeast Asia has enjoyed solid growth during a volatile period.
Regulatory changes and LCCs have played a large part.
International FSC traffic out of key hubs dominated, with 73% of
RPKs in 2007. LCCs, though, drove rapid internal traffic growth.

Europe is the key destination, but the most rapid growth has been
with the Middle East, India (Southwest Asia) and China, reflecting
increasing inter-regional, Asian integration.

Growth of the Southeast Asian Aviation Market, 2000-2007

0
20
40
60
80
100
120
S
o
u
t
h
e
a
s
t

A
s
i
a
E
u
r
o
p
e
N
o
r
t
h
e
a
s
t
A
s
i
a
O
c
e
a
n
i
a
C
h
i
n
a
M
i
d
d
l
e

E
a
s
t
N
o
r
t
h

A
m
e
r
i
c
a
S
o
u
t
h
w
e
s
t

A
s
i
a
A
f
r
i
c
a
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Billion RPK, 2007
% Change, 2000-2007

Source: Centre for Asia Pacific Aviation &Boeing 2008

Long-haul travel means that FSCs still dominate capacity, but LCCs
have made inroads in the last five years. By June 2009 LCCs
accounted for 29% of internal capacity, and for 71% of growth
since 2001. They also accounted for one third of external capacity
gains, 91% between June 2004 and June 2009 as their influence
accelerated.

LCC and FSC Capacity Growth, South East Asia 2001-2009
0.0
2.0
4.0
6.0
8.0
10.0
12.0
14.0
16.0
18.0
20.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


280
22.2 The Airlines

The LCC sector has been dominated in Southeast Asia by AirAsia,
although this is changing. Most noteable has been the recent entry
of LCCs established in whole or part by the majors.

Low Cost Carriers, South East Asia
Vietnam
Indochina Ho Chi Minh 2008
Jetstar Pacific Ho Chi Minh 1991
Philippine
Spirit of Manila Angeles 2008
PAL Express Cebu 2007
Zest Airways Pasay 1995
Cebu Pacific Manila 1996
Thailand
Nok Air Bangkok 2004
Thai AirAsia Bangkok 2004
One-Two-Go Bangkok 2003
Malaysia
Firefly Penang 2007
AirAsia X Kuala Lumpur 2007
AirAsia Kuala Lumpur 2001
Singapore
Jetstar Asia Singapore 2005
Tiger Singapore 2004
Valuair Singapore 2004
Indonesia
Batavia Air Jakarta 2002
Citilink Asia Jakarta 2001
Indonesia
AirAsia Jakarta 2000
Mandala
Airlines Jakarta 1969

22.2.1 Jetstar Paci fi c, Vi etnam

Jetstar Pacific Airlines is based in Ho Chi Minh City and operates
domestic and international schedule services, as well as charter
flights. Formerly known as Pacific Airlines, the airline commenced
operations in April 1991. In 2007 it was purchased by a consortium
including Qantas (18% holding), the State Capital Investment
Corporation of Vietnam, and Saigontourist. It is now operated by
Qantas as part of the Jetstar LCC network, operated by Qantas.

It is intended that Jetstar Pacific will have a fleet of up to 30 Airbus
A320 aircraft by 2014 to support expansion and that Qantas will
increase its stake to 30% in 2010 and possibly up to 49% in the
future. The airline is currently serving domestic Vietnamese routes
with five B737-400 aircraft, but plans to have a fleet of 30 A320s
by 2014 to support its expanding domestic and regional services.
281

Jetstar Pacific Type In Service Total
Airbus
A320
1
1
Boeing
737 (CFMI)
5
5
Total

6
6

Jetstar Pacific Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jetstar-pacific

22.2.2 Indochi na Ai rl i nes, Vi et nam

Indochina Airlines, a privately-owned Vietnamese carrier, took to
the air in November 2008, operating services from Ho Chi Minh City
to Hanoi and Danang. Other destinations planned before the end of
2009 are Nah Trang and the ancient capital of Hue. Currently
Indochina Airlines operates two leased B737-800s.

The carrier is chaired by Vietnamese music icon, Ha Hung Dung. It
reached a cooperation agreement with rival Vietnam Airlines in
May-2009 covering staff training, crewing and aircraft leasing.

Indochina Airlines Type In Service Total
Boeing
737 (NG)
2
2
Total

2
2

22.2.3 Cebu Paci fi c, Phi l i ppi nes

Cebu Pacific commenced operations in 1996 as a domestic carrier.
It expanded into international services in 2004. Today Cebu serves
some 13 international destination in Northeast Asia, China and
Southeast Asia, and more than 30 domestic destinations.

Cebu Pacific expects to be profitable for the full year of 2009, with
traffic stimulated by cheaper fares leading to a 20% increase in
revenues in the first half of 2009, although net income fell 15% due
to foreign exchange losses.

The LCC expects to carry 9 million passengers in 2009 and is
aiming to lift this to 17.5 million in 2014. This follows a lift of 30%
year-on-year in the first four months of 2009, to 4.4 million
passengers.

Cebu Pacific returns to profitability in 1H2009 on strong
passenger and revenue growth

Cebu is Asias third largest LCC, with 1,665 weekly services in June
2009, and has overtaken Philippine Airlines in terms of capacity. It
attributes strong growth to a combination of low fares, increased
capacity on services to Hong Kong, Macau, Osaka, Shanghai and
Busan, and the continuing growth of domestic traffic despite the
282
global downturn and falling traffic on international routes, especially
in North Asia.

Cebu Pacific plans to purchase 17 Airbus and two ATR aircraft from
2009 to 2014 and despite the current slowdown still plans to take
delivery of 15 new A320 aircraft between Oct-2010 and Nov-2013.
The fleet expansion is expected double the airlines passenger
capacity.

Cebu Pacific Type In Service Order Total
Airbus
A319
10
10

A320
11
10 21
ATR
ATR 72
8
2 10
Total

29
12 41

Cebu Pacific Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/cebu-pacific

22.2.4 Spi ri t of Mani l a Ai rl i nes, Phi l i ppi nes

Philippine LCC entrant, Spirit of Manila Airlines, took delivery of its
first aircraft, a B737-300, in Jan-2009. In Nov-2008, Spirit of
Manila gained government approval to operate from Diosdado
Macapagal International Airport (DMIA) - the former Clark Airbase -
to Taiwan, Macau, Kuwait, Bahrain and Dubai. The airline has
confirmed it is considering adding B747 aircraft for the Middle East
routes, which are slated to commence before the end of 2009.

The airline added a 147-seat MD83 to its fleet in Aug-2009 and will
add three more aircraft to its fleet between Oct-2009 and Dec-2009
to add services to Macau, Hong Kong and Taipei, targeting the
Filipino migrant worker market.

22.2.5 Ai r Asi a (Mal aysi a) and Ai r Asi a X, Mal aysi a

AirAsia Berhad today is a private, low cost airline based in Kuala
Lumpur. It was owned by a government investment group and
commenced operations in 1996. The airline struggled, however,
and was sold in 2001 to Tune Air Sdn Bhd, owned by former Time
Warner executive Tony Fernandes. He reformatted it for low cost
operations which has sustained growth in the mold of an Asian
Ryanair.

It operated for three years as a domestic LCC and then began
international flights, commencing with Bangkok services. Air Asia
also pioneered the cross-border JV in the region and has 49%-
owned sister airlines in Jakarta (Indonesia AirAsia) and Bangkok
(Thai AirAsia).

In June 2009 Air Asia operated 83 aircraft across 117 routes and 12
countries. It is the second largest LCC in the Asia-Pacific region
behind Jetstar in revenue terms.

AirAsia currently operates a fleet of 83 aircraft, having taken
delivery of 56 A320s in 2008. It will take delivery of a further 14
A320s (and retire nine older B737-300s) in 2009, but has deferred
eight A320 deliveries from 2010 to 2014 to conserve cash. AirAsia
recently noted it was also very likely to defer an additional eight
283
A320s scheduled for delivery in 2011, partly because of the lack of
progress on the new Low Cost Terminal at Kuala Lumpur airport.

In addition to regional offshoots, AirAsia X was introduced in
January 2007 with a focus on longer-haul routes, covering
destinations between four and eight hours flight from Kuala
Lumpur. Plans have since become even more expansive, with daily
services to London Stansted and planning underway for services to
the USA.

The Malaysian government has reportedly given AirAsia X rights to
36 international destinations. The airline is considering setting a
new virtual hub in Abu Dhabi to serve Europe and North Africa.
The slow development of the Kuala Lumpur Low Cost Carrier
Terminal has been cited as a key driver for this decision, ensuring
AirAsia X can maintain its aircraft utilisation rates of 17-18 hours
per day.

With a foundation fleet of 26 A330s and A340s AirAsia X plans to
grow its network to approximately 30 destinations across the Asia
Pacific region by 2013. This should include between eight and ten
Indian cities in the next five years.

AirAsias growth continues in 3Q2009: Pax up 19%

AirAsias new capital raising will ease balance sheet pressure

AirAsia X yield and load factor pressures make 2Q2009 the most
challenging quarter yet

AirAsia is currently the largest customer for the Airbus A320, having
placed a firm order for 175 aircraft, plus additional 50 options, with
deliveries scheduled through to 2014.

The AirAsia Group carried 18.3 million passengers in 2008, having
reached its 50 millionth passenger milestone in Jun-2008, after only
six years of operations. The Group now confidently expects to carry
60 million passengers per annum by 2013, as it forecasts and
achieves capacity growth of 20% in each quarter of 2009.

AirAsia announced a 328% increase in operating profit to US$36.4
million in the three months ended 30-Jun-2009, one of the clearest
endorsements to date of the benefits of the LCC model amid this
deep economic downturn, a result helped by the fall in fuel prices.
On the back of this performance, the airline is seeking to raise up to
US$180 million before the end of 2009 through private placements
to repay borrowings.

As with some of its European counterparts, AirAsia is aggressively
pursuing ancillary revenue to grow its margins. Non-ticket revenue
grew by 89% in the second quarter of 2009 to represent 14.5% of
total revenue, up from 8.1% in the previous corresponding period.
This is seen by management as a means of countering the potential
impact of higher fuel prices on base fares and margins.

Type In Service Order Storage Total
Air Asia
Airbus A320 44 115 159
Total 45 115 160
Thai AirAsia
284
Airbus A320 9 9
Total 18 18
Air Asia X
Type
In Service Storage Order Total
Airbus A330
3 23 26
A340
1 1
Total
4 23 27

AirAsia Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/airasia

AirAsia X Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/airasia-x

22.2.6 Jetstar Asi a, Si ngapore

In 2004 Australias Qantas established Jetstar Asia as a Singapore-
based joint venture with 49% of equity. The balance was held by
Singapore governments Temasek Holdings and two local
businessmen.

Jetstar Asia pushed the LCC envelope by serving destinations more
than four hours from its Singapore base, including, Hong Kong and
Taipei. In 2005 Jetstar Asia took over local LCC rival, Valuair, also
established in 2004, retaining the brand and the routes operated
under it. After several difficult years, the ownership structure of
the company had been modified and additional capital injected.

Jetstar Asia still fl ying at a loss

2008 saw a substantial jump in passengers and revenues,
attributed to increased brand awareness, improved aircraft
utilisation, and a broadening of the earning base. In the 2009 June
year, Jetstar Asia handled 463,000 passengers, with a load factor of
76.0%.

Jetstar currently offers up to 304 flights per week to eighteen
destinations, primarily within Southeast Asia. The airline has
ambitious plans to grow the capacity of its Singapore services,
supported by an investment of an additional three A320 aircraft.

Jetstar Asia Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jetstar-asia

285
22.2.7 Ti ger Ai rways, Si ngapore

Tiger Airways was established in Singapore in 2004 by a consortium
comprising Singapore Airlines (49%), Singapores Temasek
Holdings (through Dahlia Investments Pte Ltd 11%), US-based
Indigo Partners (24%); and RyanAsia Limited (16%)

Today it operates from its original Singapore base (Tiger Airways
Singapore) as well as from Melbourne and, recently, Adelaide (Tiger
Airways Australia). It operates to 25 destinations across nine
countries in Asia and Australia using A320 aircraft.

Tiger operates a core low cost model with consistently low fares
aimed at expanding the budget market. Stringent cost controls and
a high level of capacity utilisation based on maximising the daily
sectors served by aircraft underlie this,. The model includes 95%
sales booked directly over the internet, ticketless travel, no frills
with add on services on a pay basis, new, fuel efficient, low
maintenance aircraft, budget terminals and secondary airports,
short aircraft dwell times, outsourcing maintenance.

The Asian arm of Tiger Airways operates to around 30 destinations
across nine countries in Asia-Pfacific, with a current fleet of eight
A320s, and had carried over 3 million passengers by mid 2009.

The airline aims to offer the widest geographic coverage of any
LCC in the Asia Pacific region, but suffered setbacks with the
termination of planned expansions in Korea and the Philippines. In
late 2007, Tiger Airways announced that it would be starting a
Korean-based budget airline, Incheon Tiger Airways, at Seouls
Incheon Airport, but abandoned the project in December 2008.

A planned tie-up with Philippine carrier South East Asian Airlines
has received approval despite protests from other Philippine
carriers, but it seems to have stalled.

On a more positive note, Tiger Airways Australia, which commenced
operations for Melbournes Tullamarine airport in late 2007, is
expanding and rapidly reportedly delivering good results.

The Group as a whole transported 3.2 million passengers in the
year ending March 2009, up 42.4% on the previous year on the
back of a 43% capacity increase. Group gross revenue is reported
to be up 25% year-on-year.

Tiger Aviation Groups capacity growth is being driven hard by the
acquisition of new aircraft. It plans to grow its fleet to 70 A320s by
2016, with the aircraft to be configured in the standard LCC carrier
180-seat, all-economy configuration. Tiger Airways Australia is
reportedly hoping to take 30 of the 57 A320 aircraft currently on
order. This would be a massive addition to Australias already well
served domestic skies.

Tiger Singapore Type In Service Order Total
Airbus A319 2 2
A320 8 57 65
Total 10 57 67
Tiger Australia Type In Service Order Total
Airbus
A320 6 6

Tiger Airways Profile: News, Anal ysis, Fleets, Routes & More:
286
http://www.centreforaviation.com/profiles/airlines/tiger-airways

22.2.8 Indonesi a Ai r Asi a, Indonesi a

Established as private airline Awair (Air Wagon International)
commenced operations in 2000. However, services were
suspended in 2002 due to financial problems. In November 2004
AA International Limited, 99.8% owned by AirAsia, acquired a
49.0% of Awair and re-launched it in late 2004, changing its name
to Indonesia AirAsia in 2005.

Based in Jakarta, the airline currently operates within Indonesia and
to in Malaysia, Singapore, Thailand and Australia (having launched
daily Denpasar-Perth in July 2009).

Indonesia AirAsia has announced plans to launch Jakarta,-Manila
and Denpasar-Ho Chi Minh City services in late 2009 as part of its
regional expansion plans. The carrier expects traffic to increase by
5% in 2009 and is aiming to gain market share from Cebu Pacific,
the only other LCC currently operating Jakarta-Manila service.

Indonesia AirAsia operates a fleet of eight A320s and seven B737s
and plans to have a total of 10-12 A320s by the end of 2009.

Indonesia AirAsia Profile: News, Anal ysis, Fleets, Routes &
More:
http://www.centreforaviation.com/profiles/airlines/indonesia-
airasia

22.2.9 Mandal a Ai rl i nes, Indonesi a

Founded in 1967 by interests associated with the Indonesian army,
Mandala Airlines was developed as a relatively low profile second
tier airline for 30 years. In 2001, though, it was shaken by the
theft of around US$13.5 million and thereafter struggled to
compete with emerging airlines. In 2005, a crash by a B737 soon
after take off resulted in the loss of almost 130 passengers and
people on the ground, placing further pressure on the airline. Along
with growing concerns about the business influence of the military,
this was led to the requirement for Mandala Airlines to be sold.
Cardig International purchased the airline in April 2006 and
subsequently sold 49% to Indigo Partners.

This marked the beginning of a transformation of the airline along
low cost lines, and positioning in the low cost market as a safe
airline with young fleet and successful IATA and manufacturers
safety audits.

Mandala ordered 30 new Airbus aircraft in 2007, worth USD1.8
billion. In early January it retired its last B737-400 and is now
operating a fleet comprising Airbus A319/A320, with more expected
to be delivered in 2009.

Mandala has also reworked its schedules and network to benefit
from Adam Airs exit from the market and to focus on historically
successful routes to cities where Mandala was strong in the 1990s
and early 2000s. The focus of the airline was on reviving its strong
network in Java, Sumatra, Kalimantan and Bali. Today it operates
or is planning to operate to some 35 domestic destinations, seven
in association with Air Nusa.

The carrier airline is targeting 8-9 million passengers in 2009, an
80% year-on-year increase from 2008, which was up 50% on 2007.
287

Mandala Airlines Type In Service Order Total
Airbus
A319
4

4

A320
7
25
32
Total

11
25
36

Mandala Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/mandala-
airlines

22.2.10 Batavi a Ai r, Indonesi a

Jakarta-based airline, Batavia Air, operates to approximately 30
domestic destinations, as well as Guangzhou (China) and Kuching
(Malaysia). It aims to add Jakarta-Penang (Malaysia) services by
the end of 2009.

The airline commenced services in Jan-2002 one of several new
entrants in Indonesia since the start of the decade. The airlines
fleet includes two A319s, four A320-200s, five B737-200s, 13
B737-300s and 14 B737-400s. The carrier was expected to add two
A330s in Aug-2009 to launch services to Jeddah, although it
appears these plans have been deferred.

22.2.11 Ci ti l i nk, Indonesi a

Citilink is a low cost subsidiary of Garuda Indonesia. It operates
two B737-300s from its parent from its base in Surabaya. Citilink
was established in 2001 and currently operates to Balikpapan,
Banjarmasin, Batam and Jakarta. The units operation has been
reduced from its peak in 2005 of three B737-300s and six Fokker
F28s, as the Group has upgraded its fleet.

Citilinks future is unclear, as the mainline operation looks to
significantly expand its B737NG fleet and its own short-haul
network over the coming 12-18 months.

Garuda Indonesia prepares for low cost onslaught

22.2.12 Nok Ai r, Thai l and

Nok Air commenced operations in 2004, as a joint venture between
Thai Airways (39%), the Government Pension Fund (10%), the
Crown Property Bureau (6%), and several mainly local investment
agencies. It commenced international operations in 2007 with
services to Bangalore and holds rights for other Indian destinations.
It has held back its Indian business as a result of less than
satisfactory loadings and the potential of alternative routes within
Southeast Asia.

For Nok Air, at least, the outlook appears to be improving, with the
carrier targeting a full-year profit of US$5.9 million, after reporting
cumulative losses of over US$5.9 million in 2008.
288

Looking forward, Nok Air now appears more focused, redeveloping
its marketing strategy and increasing cooperation with parent, Thai
Airways for ticket distribution, routes, schedules and the customer-
base programme. At the same time, Thai Airways plans to transfer
some domestic, non-trunk routes to Nok Air. This will support the
planned addition of two B737-400s to its current fleet of three.

The strategy also ties in with Thai Airways restructuring plans,
which focus on cost reduction and a stronger focus on European
services in light of weak Asian demand following the swine flu
outbreak.

22.2.13 One Two GO, Thai l and

One-Two-GO Airlines was established in Bangkok by charter
operator Thai Orient Airlines in 2003. Its progress has been marred
by a poor safety record, culminating in a crash in Phuket in 2007
that killed 90 people and resulted in the airlines suspension. The
airline was restructured and reinstated by the Thai Department of
Civil Aviation in December 2008 having passed the requisite safety
audits.

One-Two GO today positions itself as a low cost airline but with a
single fare service without add-ons, a focus on quality and
customer service. It operates four MD80 aircraft and serves six
domestic destinations from its base at Bangkoks Don Mueang
Airport.

One-two-GO Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/one-two-go

22.2.14 Thai Ai r Asi a, Thai l and

Thai AirAsia is a pioneering cross-border LCC joint venture, based
at Bangkok. It is 49% owned by AirAsia Bhd, with the remaining
51% stake held by a Thai businessman and airline executives.

Thai AirAsia is evaluating its expansion plans and examining
emerging markets, such as China and India, with plans to launch to
second-tier cities in both countries. Domestically, the LCC is
considering Phuket as its second hub. The airline plans to double
passenger numbers to nine million p/a by 2012.

Thai AirAsia currently operates a fleet of nine A320s and nine
B737s. The LCC is advancing the retirement of its B737-300 aircraft
fleet and replacing them with new A320 equipment.

In the three domestic markets of Malaysia, Thailand and Indonesia,
in which the arms of the Group operate, AirAsias market share has
continued to climb, no doubt to the chagrin of long established
rivals. Current domestic market share according to AirAsia, by
passenger numbers in Malaysia, Thailand and Indonesia, is 63%,
43% and 8%, respectively - an increase from 28%, 22% and 2% in
2005.

289
AirAsia domestic market share: 2002 to 2009

Source: Centre for Asia Pacific Aviation & AirAsia

Thai AirAsia Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/thai-airasia

290
22.3 Outlook

Despite a relatively limiting regulatory environment and a
propensity by governments to favour flag carrier FSCs, LCCs have
made huge inroads in a relatively short time in Asia. Unlike the
FSCs they have been focused on linking regional centres and this,
together with their low fares, has substantially expanded the
market. They have been able to do this largely under the radar of
the main carriers with their hub focus and emphasis on medium to
long-haul routes.

Nevertheless, the success of LCCs, and of AirAsia in particular,
means that today their fortunes and those of the LCCs are
becoming more closely linked. The extension of LCC networks over
longer distances and their increasing presence at hub airports
means that direct competition will be a greater issue. The
challenge for governments is to allow this competition to drive
innovation and investment among existing as well as new carriers,
FSCs as well as LCCs. The interests of economic development
generally, as well as the regions growing tourism sector in
particular, are more likely to be served by allowing the LCC
movement to progress and prosper rather than to stifle it in an
attempt to preserve some form of status quo.

Provided the regulatory stance is benign, the LCC movement will
prosper, driving economic integration not only among Southeast
Asian economies, but also between them and their rapidly growing
neighbours to the north and the south. The likelihood is a more
intense and more widespread network of air transport services
throughout Asia will be a mark of the wider regions economic
progress.

North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
South Asia
292
23 South Asia


The past decade has seen strong growth in the domestic market so
that today it matches the traditional activity on Middle Eastern and
European routes. Southeast Asia has also begun to feature as
commercial and cultural links between the Indian subcontinent and
its neighbours strengthen.

Growth of the South Asian Aviation Market, 2000-2007
0
5
10
15
20
25
30
35
40
45
Southwest Asia Middle East Europe Southeast Asia
0%
20%
40%
60%
80%
100%
120%
140%
160%
Billion RPK, 2007
% Change, 2000-2007


LCCs played a major role in this growth. Over six years they went
from nothing to 48% of all internal capacity, accounting for 86% of
growth. Their contribution to international traffic has been more
modest, reaching 10% in June 2009.

LCC and FSC Capacity Growth, South Asia Jun 2001-Jun 2009
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


293
23.2 The Airlines

The rapid growth of domestic LCC services reflects the recent
proliferation of LCCs in India, which dominates aviation in the
region.

Low Cost Carriers, South Asia
India
Jet Airways Konnect Delhi 2009
MDLR AIRLINE Delhi 2007
Air-India Express Cochin 2006
IndiGo Delhi 2006
Go Air Mumbai 2005
SpiceJet Delhi 2005
Kingfisher Red Bangalore 2003
JetLite Delhi 1991
Sri Lanka
Mihin Lanka Colombo 2006
Pakistan
Shaheen Air Karachi 1993
Nepal
Cosmic Air Kathmandu 1998

23.2.1 Spi ceJet, Indi a

SpiceJet began service in mid-2005 in New Delhi, although had its
roots in ModiLuft, a short-lived, post-deregulation airline
established in 1994 by Lufthansa and Indian investors. (ModiLuft
ceased operations in 1996). By 2008 SpiceJet was India's second-
largest LCC.

The airline operates an all-Boeing fleet with a single-class seating
configuration on short and medium haul domestic routes. It
operates 111 daily services to 18 domestic destinations. SpiceJet
carried 379,000 passengers in the March year 2009, at a load factor
of 67.5%, higher than many of its domestic rivals.

SpiceJet Type In Service Order Total
Boeing
737 (NG) 19 9
28
Total
19 9
28

SpiceJet Profile: News, Analysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/spicejet

294
23.2.2 Indi Go, Indi a

IndiGo was established in Delhi in 2006 as a domestic LCC. It
currently operates 19 A320 aircraft and provides 120 daily services
to 17 destinations. It is one of the few Indian LCCs to report recent
growth in demand, with a 13.9% year-on-year increase in
passengers in March 2009, maintaining a healthy 70% load factor .
IndiGo is Indias largest domestic LCC and fourth largest carrier.

IndiGo reports further market share growth

IndiGo has an ambitious growth strategy, with plans to add 11
A320s in 2009 and five in 2010, according to Ascend. The carrier
will also introduce a slightly larger A321 aircraft to its fleet from
2012.

Indigo Airlines Type In Service Order Total
Airbus A320 19 46 65
A321 30 30
Total 19 76 95

Indigo Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/indigo

23.2.3 GoAi r, Indi a

GoAir was set up by Wadia Group in 2005 and currently operates to
eleven Indian destinations from its base in Mumbai. It appears to
have suffered badly from the current downturn and increased
competition. Passenger numbers reported by the Ministry of Civil
Aviation had fallen 47.2% year-on-year in February 2009 as the
airline implemented moves to rationalise routes in response.

GoAir roars back to life with triple digit growth

GoAir is nevertheless pursuing expansion, adding three new routes
in early and expansion of capacity on existing ones, with a
programme to increase its A320 fleet to 11 aircraft by the end of
the year.

GoAir Type In Service Order Total
Airbus
A320 7 14
21
Total
7 14
21

295

GoAir Profile: News, Anal ysi s, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/goair

23.2.4 Ai r Indi a Express, Indi a

Air India Express was established as an LCC subsidiary by the
National Aviation Company of India Ltd operating out of Cochin in
2005. It commenced operations with three leased aircraft, and
today has a fleet of 21 B737-800s. It plans to expand this to 25
aircraft by the end of 2009.

Air India Express offers services to 14 major international
destinations from 17 Indian cities within a flight time of
approximately four hours. This includes Southeast Asia and the
Middle East where it is currently focused. Its largest international
market is the UAE, which accounts for 50% of international flights
and where it has over 14% market share. This is followed by
Bahrain, Qatar, Singapore and Oman.

Air India
Express Type In Service Order Total
Boeing
737 (NG) 22 3
25
Total
22 3
25

Air India Express Profile: News, Anal ysis, Fleets, Routes &
More:
http://www.centreforaviation.com/profiles/airlines/air-india-
express

23.2.5 Ki ngfi sher Red, Indi a

Kingfisher Red was established in Bangalore in 2003 as Air Deccan,
a low cost airline operating to second tier cities. Its public listing in
early 2006 proved ill-timed as the market turned down at about the
time, driving its share value down. It also experienced severe
competitive pressure from the entry of a number of airlines, and
suffered heavy losses from slower than projected market growth.

Indias full service carriers continue to lose market share to
their low cost rivals

In 2008 Air Deccan merged with Kingfisher Airlines and rebranded
initially simplify Deccan and subsequently Kingfisher Red. It
provides a low cost operation alongside its full service parent,
Kingfisher Airlines. While continuing to operate as a low cost
carrier, Kingfisher Red provides complimentary meals and awards
frequent flyer miles in association with Kingfisher Airlines. Bookings
are driven from the parents website with Kingfisher red flights
presented as an alternative to economy or premium class.

296
Kingfisher Red Type In Service Total
Airbus A320 14 14
ATR ATR 42 6 6
ATR 72 9 9
Total 29 29

Kingfisher Red Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/kingfisher-red

23.2.6 MDLR, Indi a

Apparently one of a rash of new LCCs, newly established MDLR
Airlines provides a relatively high level of service on its scheduled
operations and includes Club class seating. Owned by Murli Dhar
Lakh Ram Group, a diverse development, construction and
investment group, MDLR commenced operations in 2007. While
operating as a scheduled, low cost domestic carrier from Delhi to
six domestic destinations, MDLR also provides charters. .

MDLR Airlines Type In Service Total
BAE SYSTEMS
RJ Avroliner 3
3
Total
3
3

23.2.7 JetLi te, Indi a

Jetlite was established in Delhi in 1991 as Sahara Airlines. Running
into problems in the mid-1990s, the airline was purchased by Jet
Airways in 2007 and immediately renamed and repositioned as an
LCC. Jet Airways then set about replacing its own services on many
marginal routes with those of its low cost subsidiary.

JetLite currently operates single-class, low fare services to 26
domestic and two international destinations. It does, however,
participate in the JetPrivilege frequent flier programme operated by
Jet AIrways.

Jet Lite Type In Service Order Total
737 (NG) 14 10 24
Bombardier
CRJ Regional
Jet
5 5
Total 22 10 32

JetLite Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jetlite

297

23.2.8 Jet Ai rways Konnect, Indi a

Jet Airways Konnect was launched in mid 2009 as a low cost
division of publicly-listed Jet Airways with the aim of eliminating
loss-making routes. The operation runs in parallel with an existing
LCC subsidiary, Jet Lite. A separate operation was apparently
preferred to expanding the existing one simply to avoid the
regulatory delays that would arise from redeploying aircraft from
Jet Airways to JetLite.

Jet Konnect operates a single class, no frills service, with onboard
refreshment purchase. However, bookings are still made through
Jet Airways and the principals loyalty programme applies.

Jet Airways Konnect has a fleet of six ATR 72-500s and
two Boeing 737-800s.

23.2.9 Mi hi n Lanka, Sri Lanka

Mihin Lanka was set up by the Sri Lankan Government in 2007
primarily to offer low cost transport to migrant workers between Sri
Lanka and destinations in India, Southeast Asia and the Middle
East. However, the airline recorded losses US$20.5m in its first
year of operation, reportedly due to high overheads, and its sole
aircraft was seized by the lessor, leading to suspension of services
through 2008. It has relaunched with a newly leased B787-800 and
with a reported capital injection of USD52.7m by the Indian
Treasury.

Mihin Lanka Type In Service Total
Airbus
A320 1 1
Total
1 1

Mihin Lanka Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/mihin-lanka

298
23.3 Outlook

Deregulation over the past ten years and the consequent burst in
economic activity has stimulated the entry of a range of airlines into
what had become a somewhat static aviation sector, most have
been LCCs. This has stimulated air travel, although the uneven and
uncertain economic development path might see some shake downs
in the sector in the future. In some respects, the constraint on
aviation expansion is unlikely to be the lack of willing investors as
much as the capacity of the market and, perhaps, the infrastructure
to keep up.

Indias previously suppressed economy and airline system saw an
outlet in the early part of the century, completely transforming the
industry. Today domestic low cost airline operations contribute a
larger proportion than in any other country.

Provided conditions continue to favour the expansion of air travel,
there is little doubt that LCCs will continue to drive it. Indeed, it is
likely that the low cost model, or local variants of it, will become
even more dominant in domestic travel in the future, and play an
increasing role in regional travel (into the Middle East and
Southeast Asia) as well.

North America
Europe
Africa
Middle East
Northeast Asia
China
Southeast Asia
South Asia
Oceania
Oceania
300
24 Oceania


Traffic growth in the Oceania region, has been modest, slightly
below the world average. However, within-region growth has been
substantial and still is still the dominant element in the aviation
sector, followed by growing Southeast Asian traffic.

Growth of the Oceania Aviation Market, 2000-2007

0
10
20
30
40
50
60
70
80
Oceania Southeast AsiaNorth AmericaNortheast Asia China
-10%
0%
10%
20%
30%
40%
50%
60%
70%
80%
Billion RPK, 2007
% Change, 2000-2007


As in other mature markets, LCCs emerged as a key driver,
especially later in the period. Hence, by June 2009 LCCs accounted
for 38% of internal capacity in the region (and 9% of external
capacity), and a high 47% in Australia (16% international).

LCC and FSC Capacity Growth, Oceania Jun 2001- Jun 2009
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
2001 2002 2003 2004 2005 2006 2007 2008 2009
M
i
l
l
i
o
n
s
LCC Network


Three key features underlie these regional figures. The first has
been the remarkable impact of the low cost revolution on the
growth of the Australian market. LCC domestic capacity in Australia
increased more than 9-fold between 2001 and 2009, as full services
airline capacity contracted by almost a third.

301
And in the international sector, LCCs added almost 440,000 seats
between 2004 and 2009,while full service carriers added just 56%
of that figure (245,000 seats). The overall result was that market
growth over the decade was accounted for entirely by LCCs, which
introduced total capacity of 1,648,000 seats, while full service
carriers effectively withdrew 971,000 seats.

The second feature is related to this, and that is the sudden
internationalisation of LCCs in the region. This is seen in the
increase in LCC international, medium haul services. This has been
a feature of the main trans-Tasman routes for some time (noteably
under the influence of Air New Zealands former subsidiary,
Freedom Air). But what is much more significant is the competition
emerging on Southeast Asian routes. Internationalisation is also
manifest in the presence of foreign owned airlines driving LCC
competition within Australia.

The third feature has been the adaptation of the full service carriers
to the changed environment. This has been most noteable in the
case of Qantas, although Air New Zealand too has sought to
streamline and simplify services and adopt cost saving measures in
response to the increased presence of LCCs. Both have shown a
willingness to adopt and, if necessary, to modify their responses
with a new level of flexibility and a keen eye on cost savings.

302
24.2 The Airlines

Although Air New Zealand subsidiary Freedom Air led the way (in
part as a response to the threat of failed start-up Freedom Air)
Virgin Blue has been the key mover in the LCC stakes. It is today
in some respects a victim of its success as Qantas has continuously
sought to counter its presence and as early growth has driven it to
strategies intended to maintain its momentum which have tended
to dilute the LCC model. This includes the establishment of
subsidiaries in New Zealand and Samoa.

Low Cost Carriers, Oceania
Australia
Tiger Melbourne 2007
Jetstar Melbourne 2004
Virgin Blue Brisbane 2000
New Zealand
Pacific Blue Christchurch 2004
Samoa
Polynesian Blue Christchurch 2005

24.2.1 Vi rgi n Bl ue Group, Austral i a

In 2000 Sir Richard Bransons Virgin Group invested in speculative
start-up, Virgin Blue, to take on the dominant Qantas-Ansett
duopoly in the Australian market. It got off to a great start, in part
thanks to Qantas purchase of potential low cost competitor,
Impulse Airlines, and the collapse of Ansett Airlines in 2001.

Ansetts demise left Virgin Blue as the number two airline in a
largely point-to-point market, ideal for the low-frills airline. With
aircraft cheap and easy to come by after September 11, Virgins
fleet and network grew rapidly, picking up where Ansett had left off
and stimulating new traffic with low fares.

Qantas first, and short-lived, response was to segment domestic
routes, operating to leisure-destinations with low frill, high density
services. Unfortunately, this tainted its brand. It also established a
short-lived, separately branded, low cost long-haul carrier,
Australian Airlines, aimed at low yield international markets. The
subsidiary tended to operate as an extension of the mainline. With
pilots seconded from Qantas for example, it could not achieve the
savings necessary for an effective LCC.

Virgin Blue expects breakeven in FY2010 after sinking
to a deep loss in FY2009

In 2004 Qantas sharpened its response with the launch of Jetstar, a
standalone subsidiary which, however, rarely competed head to
head with its parent. Jetstar took Virgin Blue on with lower prices,
competing where the LCC had previously enjoyed free rein. This
enhanced Qantas survivability. It also strengthened Virgin Blues
resolution to attack Qantas near-monopoly of the premium market.

303
In 2002, Virgin Blue had sold part of its holding to transport
conglomerate Patrick, and launched a successful IPO in 2003.
Under a new board it pursued corporate travel in order to lift yields.
It also expanded operations into the South Pacific offering mainly
outbound LCC leisure services from Australia and New Zealand, the
latter via a subsidiary, Pacific Blue. These routes were mostly
profitable and offered some flexibility in allocating Virgin Blues
now-extensive order list of new B737s.

Patrick took a controlling share in Virgin Blue in 2005, and a
commitment was made to a business model intended to lift yields
by more than it increased costs. Achieving the desired gain in yield
gains proved difficult, though, while increased complexity and costs
made Virgin Blue more vulnerable to the new competition from
Jetstar.

The high service frequency demanded by corporate travel accounts,
even in small markets, required a departure from the single aircraft
type LCC model, and in 2007 Virgin Blue began to add Embraer
ERJ-170s and -190s to its core B737NG fleet.

In 2007 Toll Holdings, another logistics and transport group took
over Patrick. Toll did not see Virgin as a core business and backed
the airline out of its investment by issuing all but a tiny proportion
of its holding by way of an in specie dividend to its shareholders.

2007 was also the year of surging oil prices and softening the
demand, and the year that Singapore-based Tiger Airways entered
the Australian market with a modest, ultra-low cost operation.
Jetstar responded aggressively, intensifying the LCC competition.
Despite this, Virgin Blue retained around 32% of the domestic
market in late 2008 and with Qantas shared a firm hold on the key
Melbourne-Sydney-Brisbane routes. This hold is now being
challenged, though, as Tiger entered the Sydney-Melbourne route
in July 2009.

In 2007 Virgin Blue announced V Australia, a long-haul service
between Australia and the US West Coast, a lucrative route where
Qantas enjoyed a 70% market share. This was simply too tempting
for Virgin Blue to ignore, especially as it was the only other airline
which could tap the Australian market behind gateway. In any
case, success in the corporate market required Virgin Blue to be
able to deliver customers to key international destinations. The
new service, however, brought about a further departure from the
LCC model, requiring a third aircraft type in the B777.

The timing could hardly have been worse as the service confronted
the worst global recession in nearly a century, destroying the
premium traffic which had made the market attractive and reducing
leisure travel. To compound the misery, the V Australia launch
coincided with Deltas entry onto the route.

Today, Virgin Blue is a very different airline from the aggressive
LCC start-up of less than ten years ago, in shape as well as size.
Its costs are higher and have hardened around a more complex
management and asset base, operations are less flexible, and the
risk profile has increased as it has taken on the dominant full
service carrier at the same time as the LCC market has come under
strong competitive pressure.

Virgin Blue Groups costs may still be lower than those of longer
established full service competitors, but it has yet to generate the
yields to justify the increased complexity, costs and risk it has
taken on. And, with premium traffic the worst affected of all by the
economic downturn, the result of migrating up the food chain may
simply prove to be more indigestion.

304
Virgin Blue Type In Service Order Total
Boeing 737 (NG) 48 19 67
Embraer 170 6 6
190 12 5 17
Total 66 24 90

Virgin Blue Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/virgin-blue

24.2.2 Paci fi c Bl ue New Zeal and

In 2003 set up New Zealand based subsidiary, Pacific Blue, to offer
an LCC product on the Tasman. Pacific Blue now operates domestic
services in New Zealand, trans-Tasman services, and also services
to the Pacific Islands, including Vanuatu, the Cook Islands and
Tonga.

Pacific Blue enhances New Zealand-Australia operations

Pacific Blue is expanding its services to Indonesia and adding
services to Phuket (Thailand) from Perth later in 2009, in addition
to expanding its presence in the South Pacific, specifically New
Zealand and Fiji.

In mid-2009, Pacific Blue commenced test flights for its new
Embraer 190 E-Jets for international regional and New Zealand
services. The Virgin Blue Groups latest aircraft type is configured
in a two-two layout with 104 seats.

Pacific Blue Type In Service Total
Boeing
737 (NG) 11 11
Total
11 11

Pacific Blue Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/pacific-blue

24.2.3 Pol ynesi an Bl ue, Samoa

Virgin Blue established Polynesian Blue, a JV airline with the
Samoan Government, in 2005 to operate direct flights between Apia
and Sydney, Brisbane and Auckland.

305
Polynesian Blue is a successful case study for the troubled Pacific
Island aviation sector. Prime Minister of Samoa, The Hon Tuilaepa
Sailele Malielegaoi, stated at the time, we have moved from
subsidising the national airline service to receiving income from it,
which is very important for the economy and provides the
opportunity to steer funds into other priorities.

Pol ynesian Blue Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/pol ynesian-
blue

24.2.4 V Austral i a

In its most recent expansion move, the Virgin Blue Group has set
up a long-haul subsidiary, V Australia, which commenced services
between Australia and Los Angeles in early 2009, using newly
purchased B777 jets.

V Australia is moving to address other attractive long-haul routes
on which Qantas has enjoyed a powerful and lucrative position. It
plans to launch services to Phuket (from Brisbane and Melbourne)
and Johannesburg (from Melbourne) in late 2009 and early-2010,
respectively.

V Australia kicks off second phase expansion

South Africa has also performed very well for both Qantas and
South African Airways. Qantas operates six times weekly non-stop
services on the Sydney-Johannesburg route with B747-400
equipment, codeshared with South African Airways (SAA). SAA
offers five times weekly Johannesburg-Perth services, also
codeshared with Qantas.

V Australia's arrival should significantly undermine the yields that
this duopoly has enjoyed. By also offering Phuket (Bali) services
from Brisbane and Melbourne V Australia is throwing down the
gauntlet to Qantas LCC subsidiary, Jetstar. This will be more
attractive than existing services that require transit stop either in
Sydney (to use Jetstars three times weekly service) or Bangkok
(using Qantas/Thai Airways) for Australian visitors to Bali.

The Melbourne-Johannesburg service will commence in time for the
FIFA World Cup in Jun-2010. Connecting flights will be available
from other key Australian ports to both Johannesburg and Phuket.

The airline is set to take delivery of its fourth B777-300ER aircraft
shortly, which will offer a three-class configuration.

V Australia will also step up its trans-Pacific expansion, adding twice
weekly Melbourne-Los Angeles services from December 2009.
Currently, Qantas flies daily non-stop services on the route, while
United offers a one-stop codeshare service with connections via
Sydney. V Australia already serves Los Angeles from Sydney (daily)
and Brisbane (three times weekly) with B777 equipment. V
Australia is confident of approval of its JV agreement with Delta Air
Lines on the Pacific route.

306

V Australia Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/v-australia

24.2.5 Jetstar, Austral asi a

Jetstar is a wholly-owned and successful LCC subsidiary of
Qantas. Since it launched domestic services in 2004, Jetstar has
increasingly underscored its value to the Group, having a record
year in FY2008/2009 in a deteriorating market environment.

In FY2008/09, Jetstar became the largest airline operating between
Japan and Australia and managed to provide a profit turnaround for
the Group, despite the H1N1 influenza, which severely affected
Japanese operations.

These results also highlight the success of Qantas Groups two
brand strategy, which paved the way for the successful transition of
Japanese services from Qantas Mainland to Jetstar and enabled the
Group to protect its valuable Tokyo slots.

The two-brand strategy is also working well in New Zealand.
Between Japan and New Zealand, Jetstar has grown by 14.4%, with
Qantas shrinking 5.0% in the period.

Jetstar reported a better-than-expected underlying profit (excluding
start-up costs) for its first full month of domestic New Zealand
operations in July 2009, due to higher-than-expected revenue,
passenger numbers and load factors. The carriers domestic New
Zealand network currently covers five routes between Auckland,
Christchurch, Wellington and Queenstown with 84 weekly services,
although the carrier has signalled an active interest in expanding
further.

This expansion could become a reality sooner than expected, with
Jetstars early profitability contrasting with the Qantas Groups loss
of A$32 million for domestic New Zealand services in FY2008/2009.

Jetstars Trans-Tasman services, meanwhile, handled almost
400,000 passengers (399,460) in the 12 months to Jun-2009, with
the carrier currently operating to Christchurch and Auckland with 42
weekly A320 services.

Jetstar increasingl y bullish on prospects for the current
financial year

Jetstar and FFP save Qantas mainline as operating losses touch
AUD30 million a month

The carrier commenced daily Auckland-Sydney operations in April
2009, as well as services to the Gold Coast, while maintaining
Qantas own Trans-Tasman services. Jetstars Christchurch Trans-
Tasman services continue to operate to Sydney (ten times weekly),
Melbourne (nine times weekly), Brisbane (daily) and Gold Coast
(twice weekly) having first commenced in Dec-2005.

307
Jetstar plans to respond to the rising threat of Tiger Airways
expansion by launching five A320 services a day between Sydney
and Melbourne Tullamarine in October 2009, to enhance
profitability and Group market position, ensuring we are meeting
the needs of different market segments. Jetstar is reducing
Sydney-Melbourne (Avalon) frequency from seven to four per day
as the new Tiger service eats into the low end leisure market. This
could be the thin edge of the wedge, as Jetstar now bumps up more
often against Qantas mainstream business routes.

Qantas recently cancelled delivery of the first 15 B787s which were
destined for the Jetstar fleet. Jetstar currently operates a fleet of six
A330-200s (in addition to 33 A320-200s and four A321s). This will
increase to seven in December2009 and to 11 with the delivery of
these new two-class, 303-seat aircraft. The Group was also
considering a fifth leased A330-200, also for operation by Jetstar.

Jetstar also plans to expand its short-haul fleet in 2010, with three
aircraft for the Jetstar Asia Singapore-based operations, four new
aircraft for Australian/New Zealand operations, and two new aircraft
as replacements.

Jetstar is again considering expanding into Europe in the next two
years, and is looking into new Asian hubs for the services, as it
receives the additional A330 equipment.

JetStar
Type In Service Order Total
Airbus
A320 32 59 91

A321 2 2 4

A330 6 6
Boeing
787 10 10
Total
40 71 111

Jetstar Profile: News, Anal ysis, Fleets, Routes & More:
http://www.centreforaviation.com/profiles/airlines/jetstar

24.2.6 Ti ger Ai rways, Austral i a

Tiger Airways Australia commenced operations at Melbournes
Tullamarine airport in 2007. The Australian network now covers 12
destinations, including Adelaide, Alice Springs, Canberra, Darwin,
the Gold Coast, Hobart, Launceston, Mackay, Newcastle, Perth,
Rockhampton and the Sunshine Coast.

Tigers Australian domestic growth will continue, but yield
increases are badl y needed

Tiger Airways confident in Australian routes

The airline projects traffic of 2 million passengers a year initially,
with greater growth as its fleet expands.

308
Tiger Australia Type In Service Total
Airbus
A320 6 6
Total
6 6

Tiger Airways Australia Profile: News, Anal ysis, Fleets, Routes
& More:
http://www.centreforaviation.com/profiles/airlines/tiger-airways-
australia

309
24.3 Outlook

The markets of Oceania are naturally small, if affluent. It will be
difficult even for LCC operations to maintain the sort of domestic
performance recorded over much of the current decade for another
ten years. The future of the sector, then, lies in the success of the
regions destinations in attracting leisure visitors.

The prospects in this respect seem positive, as the LCC model is
stretched to take in the substantial population centres of Southeast
Asia through the development of medium to long-haul services. If
the current recession or high long-term oil prices act to dampen
down long-term demand growth in global tourism, Oceania will be
well placed to intensify its focus on Asian markets. Low cost carriers
should play a significant part in converting the potential associated
with increasingly affluent Asian centres into higher tourist and
traveller numbers.

The intensity of LCC competition, and the responses of the
incumbent carriers, will play a role in shaping how this demand
eventuates. It seems likely that competition will intensify Air Asia
X is looking closely at the region, for example, and that there will
be further if not continuous entry and exit, restructuring and
innovation in these markets.
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