Question 1 : Briefly describe the trends in the global airline industry.
The pattern of ownership has been privatized in the recent years, that is, the ownership has gradually changed from governments to private and individual sectors or organizations. This occurs as regulators permit greater freedom and non-government ownership, in steps that are usually decades apart. This pattern is not seen for all airlines in all regions
The overall trend of demand has been consistently increasing. In the 1950s and 1960s, annual growth rates of 15% or more were common. Annual growth of 5-6% persisted through the 1980s and 1990s. Growth rates are not consistent in all regions, but countries with a de-regulated airline industry have more competition and greater pricing freedom. This results in lower fares and sometimes dramatic spurts in traffic growth. The U.S., Australia, Canada, Japan,Brazil, Mexico, India and other markets exhibit this trend. The industry has been observed to be cyclical in its financial performance. Four or five years of poor earnings precede five or six years of improvement. But profitability even in the good years is generally low, in the range of 2-3% net profit after interest and tax. In times of profit, airlines lease new generations of airplanes and upgrade services in response to higher demand. Since 1980, the industry has not earned back the cost of capital during the best of times. Conversely, in bad times losses can be dramatically worse. Warren Buffett once said that despite all the money that has been invested in all airlines, the net profit is less than zero. He believes it is one of the hardest businesses to manage.
As in many mature industries, consolidation is a trend. Airline groupings may consist of limited bilateral partnerships, long-term, multi-faceted alliances between carriers, equity arrangements, mergers, or takeovers. Since governments often restrict ownership and merger between companies in different countries, most consolidation takes place within a country. In the U.S., over 200 airlines have merged, been taken over, or gone out of business since deregulation in 1978. Many international airline managers are lobbying their governments to permit greater consolidation to achieve higher economy and efficiency.
Question 2 : What is the business level strategy adopted by Air Asia?
1. Single Class, No Frills Service
As with most low-cost airlines, AirAsia operated a single class-service, without frills and at substantially lower prices: passengers were not allocated seats, did not receive meals, entertainment, amenities (i.e. pillows or blanks), loyalty program points, or access to airport lounges. AirAsia’s aircraft were designed to minimize wear and tear, cleaning time and cost. This reduced cleaning and maintenance expenses, loading and unloading times and costs, and allowed quicker turnarounds between flights, improving process efficiencies (differentiation) and having lower costs (cost advantage).
2. High Aircraft Utilization and Efficient Operations
Compared with other airlines, AirAsia’s usage of its aircraft and staff was more efficient. Such (high) efficiency and utilization meant that the overhead and fixed costs associated with an aircraft were lower on a per flight basis. For example, seating configurations to AirAsia’s Boeing 737-300 aircraft were maximized, having 16 more seats than the standard configuration adopted by full-service competitors.
In addition, AirAsia’s aircraft (i.e. point-to-point services kept flights to no more than 4 hours, minimizing turnaround time), and employees (i.e. encouraged to perform multiple roles), were used more effectively and intensively than competitors. For example, its point-to-point services (in 2004) enabled AirAsia to operate its aircraft an average of approximately 13 hours/day. It was 2.5 hours more efficient then full-services airlines, which only managed to use their aircraft for an average 10.5 hours/day. Furthermore, the average turnaround time for AirAsia’s aircraft was lesser (e.g. 25 minutes), as compared to full-service airlines (e.g. 45-120 minutes).
3. Single Aircraft Type
Operating a single aircraft type enabled AirAsia to have substantial cost savings: maintenance was simplified (i.e. made cheaper), spare parts inventory was minimized, infrastructure and equipment needs were reduced, staff and training needs were lowered (i.e. easy for pilot dispatch), and better purchase terms could be negotiated.
For instance, its large purchase of A-320s would make AirAsia on of the relatively few low cost airlines operating this aircraft. With fuel accounting for almost 50% of the total operating costs for the airline, the A-320s would provide an important cost saving of lower fuel usage by about 12%; increasing the airline’s profitability.
4. Low Fixed Costs
AirAsia achieved low fixed costs through successful negotiations for low lease rates for its aircraft, low rates for its long-term maintenance contracts, and low airport fees. This enabled AirAsia to reduce its overheads and investments in equipments substantially in the absence of fringe services.
As a result of its successful negotiations, AirAsia’s contractual lease charges per aircraft decreased by more than 60% from 2001 to 2004. Aircraft maintenance contract costs were also reported to be substantially lower than other airlines, giving AirAsia a competitive advantage, which was further compounded by its young fleet. Furthermore, the airline’s high safety and maintenance standards allowed AirAsia to procure rates that were favorable on its insurance policies.
5. Low Distribution Costs
By utilizing information technology (i.e. being the first airline in Southeast Asia to utilize e-ticketing, bypassing traditional travel agents), AirAsia achieved low distribution costs by eliminating the need for large and expensive booking/reservation systems, and agents’ commissions. This saved the airline the cost of issuing physical ticket (i.e. estimated at US$10 per ticket).
6. Minimizing Personnel Expenses
As a high portion of costs was the salaries and benefits for its employees, AirAsia implemented flexible work rules, streamlining administrative functions, which allowed employees to perform multiple roles within a simple and flat organizational structure. Having employees perform multiple roles enabled AirAsia to deploy fewer employees per aircraft (i.e. ratio of 106 per aircraft versus 110 employees or more for competitors), saving on overhead costs and maximizing employees’ productivity, as process efficiencies are improved.
AirAsia’s employees were not unionized, hence its rumination policy focused on maximizing efficiency and productivity, whilst keeping staff costs at levels consistent with low-cost carrier industry standards. Although salaries offered to employees were below that of rivals, all employees were offered a wide range of incentives (i.e. productivity and performance-based bonuses, share offers, and stock options).
In addition, rather than an hourly pay scale for its pilots, AirAsia adopted a sector pay policy: pilots were provided incentives to enhance flight operation efficacies by keeping flight and operating times to a minimum, and to cover as many flight sectors as possible within a day. The absence of in-flight services made it possible for the airline to reduce the number of cabin crew per light, saving on employee cost.
7. Maximizing Media Coverage
Being a leader among budget airlines in Southeast Asia, AirAsia received regular coverage from media outlets. AirAsia managed to promote brand awareness without incurring high sales and marketing expenses: in all of his media appearances, Frenandes always appeared wearing a red AirAsia baseball cap and his statements reinforcing AirAsia’s positioning to offer low prices; generating media attention for the airline.
However, AirAsia also invested heavily where required: AirAsia’s major sponsorship for Manchester United, involved global sponsorship and advertising, and promoted the brand beyond the region.
8. Use of Secondary Airports
AirAsia, as with most low-cast airlines, usually operated out of secondary airports which allowed AirAsia to charge lower fares, as operation costs were lower: landing, parking, and ground handling fees were lower, with more slots for landings and takeoffs.
9. Low-Cost Philosophy
To reinforce its low-cost structure, AirAsia instilled a low-cost culture, emphasizing on cost avoidance. For example, emphasis was placed on the elimination of avoidable expanses such as tag costing (despite reach tag costing less than US$0.05), turning off cabin lights at appropriate times, and not overheating in-flight ovens. Such cost saving measures enabled AirAsia to achieve costs per average seat kilometer of US$0.0213 (the lowest for any airline in the world), with its margins of 38% (before taxes, interests, depreciation, and amortization) being the highest in the world in 2004. (Exhibit 5 and Exhibit 6)
Therefore, in conclusion, by eliminating the provision of costly in-flight services, flying a standard fleet, selling tickets to passengers, and minimizing labor, facilities and overhead costs, AirAsia has managed to achieve a successful low-cost structure, which enables it to charge lower prices to achieve high passenger loads, market share, and profitability.
References:
• Ireland, R D, Hoskission, R E & Hitt, MA 2009, The management of strategy concepts, 8th edn, South-Western Cengage Learning, USA
• Singh, K, Pangarkar, N & Heracleous, L 2010, Business strategy in Asia a case book, 3rd edn, Cengage Learning Asia, Singapore
Question 3 : How does Air Asia achieve cost leadership through differentiation?
Some low-cost carriers operate aircraft configured with a single passenger class, and most operate just a single type of aircraft. In the past, low-cost carriers tended to operate older aircraft, such as the McDonnell Douglas DC-9 and older models of the Boeing 737. Since 2000, fleets generally consist of smaller, newer, more fuel efficient aircraft, commonly the Airbus A320 or Boeing 737 families, reducing training and servicing costs.
Like the major carriers, many low-cost carriers develop one or more hubs to maximize destination coverage and defend their market[1] Many, like Southwest Airlines, do not operate a traditional hub in any market. Southwest operates point-to-point service, with focus cities serving as mini-hubs for passenger connections to other cities.
Aircraft often operate with a minimum set of optional equipment, further reducing costs of acquisition and maintenance, as well as keeping the weight of the aircraft lower and thus saving fuel. Pilot conveniences may be excluded such as ACARS and autothrottle. Often, no in-flight entertainment systems are made available, though many US low-cost carriers do offer satellite television or radio in-flight. Some do not offer reserved seating, hoping to encourage passengers to board early and quickly, thus decreasing turnaround times. Some airlines even use only non-reclining seats, or operate aircraft with no window shades.
Airlines often offer a simpler fare scheme, such as charging one-way tickets half that of round-trips. Typically fares increase as the plane fills up, which rewards early reservations. Often, the low cost carriers fly to smaller, less congested secondary airports and/or fly to airports in off-peak hours to avoid air traffic delays and taking advantage of lower landing fees. The airlines tend to offload, service and re-load the aircraft (turnaround) in shorter time periods, allowing maximum utilization of aircraft.
In Europe and early in Southwest's history, luggage is not automatically transferred from one flight to another, even if both flights are with the same company. This saved costs and is thought to encourage passengers to take direct flights. Modern US-based low-cost carriers generally transfer baggage for continuing flights, as well as transferring baggage to other airlines.
In many cases, low cost carriers generate ancillary revenue from a variety of activities, such as à la carte features and commission-based products. Some airlines may charge a fee for a pillow or blanket or for carry-on baggage. In Europe, it is common for each and every convenience and service to have an additional charge. In other regions this practice is more limited.
Low-cost carriers are intended to be low-cost, so in many cases employees work multiple roles. At some airlines flight attendants also clean the aircraft or work as gate agents (limiting personnel costs). Southwest Airlines is well known for using fuel hedging programs to reduce its overall fuel costs. Some airlines eschew the use of gates that include jetways, since these generally cost more to lease.
Where permissible, some airlines have a disinclination to handle Special Service passengers, for instance by placing a higher age limit on unaccompanied minors than full service carriers. Often these airlines offer no refunds or transfers to later flights in the event of missed flights; if the aircraft leaves on time without a passenger who arrived late, he will have to buy a wholly new ticket for the next flight.
Differentiation
Not every low-cost carrier implements all of the above points. For example, some try to differentiate themselves with allocated seating, while others operate more than one aircraft type, still others will have relatively high operating costs but lower fares. JetBlue for instance has in-flight entertainment (i.e. LiveTV) in every passenger seat. Other airlines are limited on what points they can implement based on local laws, such as Ryanair cannot remove window blinds from its aircraft as they are required to be fitted by the Irish Aviation Authority. As supply increases, this sort of differentiation by brand is one of the most important criteria for the future success of low-cost-carriers, since price-competition alone is not believed by many experts to be enough given the number of carriers.
As the number of low-cost carriers has grown, these airlines have begun to compete with one another in addition to the traditional carriers. In the US, airlines have responded by introducing variations to the model. Frontier Airlines and JetBlue advertise satellite television. Advertiser-supported Skybus Airlines launched from Columbus in 2007, but ceased operations in April, 2008. In Europe, the emphasis has remained on reducing costs and no-frills service. In 2004, Ryanair announced proposals to eliminate reclining seats, window blinds, seat headrest covers, and seat pockets from its aircraft.
Question 4 : Identify the ways Air Asia can sustain its competitiveness through the business level strategy that is adopted?
AirAsia builds and sustains its competitive advantage by providing services at a price that is simply lower than competitors’ price. Operation effectiveness and outstanding efficiency are two main characteristics of low cost businesses including AirAsia. The central objective is to achieve bigger cost advantages than the rivals by continuously searching areas for cost reduction along its value chain. By further analysing AirAsia’s value chain, one can actually determine how AirAsia creates cost advantages along its value chain. Appendix 2 summarises the sources of cost advantages contributable to the low cost business model for each activity in AirAsia’s value chain. These cost advantages constitute AirAsia’s order winner in competing with its rivals as they enable AirAsia to provide the lowest possible price to the price sensitive customers. In LCC industry, cost is the competitive priority and it determines market position.