Learning from the past: Lessons for big airlines
Having crossed paths in an airport lounge with a
senior manager from one of Europe's largest airlines, it was strikingly clear that in this industry we have short memories or we need to be better at learning from the experiences of others. And perhaps, that my generation of executives who are now in leadership roles haven't learned enough from our predecessors.
In this lengthy conversation it seemed clear that this manager credits the success of airlines in the United States purely on the benefit of being able to exploit Chapter 11 and ignores other key strategies and capabilities which the airlines have developed. This manager seemed to suggest that the leadership at his airline (Major EU airline Group) believes Chapter 11 would solve all their problems (albeit I doubt this manager is truly in a position to represent the views of the entire leadership). This is an overly simplistic and incredibly unfair representation and is frankly a simple cop-out of accepting the real systemic and structural issues facing some of Europe's largest airlines. To simply credit Chapter 11 ignores the hard work and real transformation the leaders of large US carriers have taken their airlines through. It also ignores the real, and significant, contribution employees have made to ensuring the future and sustainable success of their airlines.
When pressed, this manager argued that his airline faces different challenges. This is an interesting perspective. If his airline faces different challenges to the US carriers, then why should a comparison to Chapter 11 be relevant? It should only be relevant if the challenges are the same. I.e. he claims his airline is solely disadvantaged because it doesn't have the remedies available to it that Chapter 11 afforded American carriers.
But let's consider that argument. What is the main benefit of creditor protection and Chapter 11? It primarily allowed airlines in the US to restructure their balance sheets, to renegotiate debt. Thus providing more financial flexibility. With this they were able to write down undepreciated assets, to reduce leverage and to then reinvest in the product and order more fuel efficient airlines. They addressed labour productivity largely outside of Chapter 11.
Are the large EU airline groups suffering from not having access to Chapter 11? Not at all. Their balance sheets are not in bad shape. Almost all large EU airlines have a reasonably younger fleet than even the US airlines today. LH, LX, OS, BA, IB, AF, KL etc have reinvested in enhancing the product across all classes of service having introduced a new business class and IFE (both albeit somewhat outdated already at almost all of them), an updated economy class and added a new cabin with premium economy. These airlines also consistently added new aircraft with the A380, the 747-8I, Embraer E-Jets, CRJ 900s, and newer Airbus A319, A320 and A321 aircraft with the latest sharklets. It seems such airlines wouldn't benefit from Chapter 11 even if it were available to them. It's easy to just credit the US carriers with Chapter 11 and discount the very real pain, suffering and hard work which went into re
structuring these airlines over a 20-year period. The leaders of airlines in both Canada and the United States need to be given due credit for having done the difficult things that needed to be done. But even more importantly, staff, unions and mid-level managers have to be given credit for working together to ensure the success and survival of their airlines. This was not a management success, it was a group effort of all parties, including partners, suppliers, vendors and customers who worked together. Chapter 11 was one small part of this.
Swiss faced similar challenges to those Lufthansa faces today, and it had some success turning around. Sister company Austrian Airlines also faced similar challenges and it seems to be on a path to reinvention. British Airways enjoys one of the only large true origin and destination large markets in Europe with demand to/from London, an advantage that puts it heads and shoulders above its peers. The challenges at European airlines are, however, of their own making. They are operational in nature. They should look closely at the following
Aircraft size. As an example, although Lufthansa has reduced the number of aircraft in the fleet, it has increased the average number of seats per aircraft and the overall number of seats and available seat kilometres flown. Thus it has increased capacity and done so in a sticky way. It might argue it has lowered unit costs, but this is only a rational argument if the yields associated with adding capacity on a like for like flight have also held up, which it seems they have not, and rarely do. Adding seats in this way is like reducing the number of retail stores in a chain, but increasing capacity in remaining stores thus having lower like for like sales per square foot (airline managers like to make their industry sound more complicated, but it is like many others). Air France also likewise struggles with the A380, an ill-fated aircraft that performs extremely well on some markets, but needs high demand day in and day out - a difficult ask on most competitive routes.
Home market. For decades Lufthansa, Air France and KLM has benefited from the inability for aircraft to efficiently fly long distances. As such, traffic from across the Atlantic needed to stop somewhere in Europe before heading to small European cities or further east. As aircraft technologies have improved, airlines began point to point services across the Atlantic with the Boeing 767. Airbus introduced competitive unit costs with the larger A330-300 and Boeing responded with the larger 777-300ER. As aircraft size at the comparable unit cost grew, airlines consolidated back to feeding hubs. Now a second wave is emerging with the Boeing 787 having lowered units costs again at the 250 seat mark, compared to the 777 at the 330 to 450 seat mark. Airlines can now efficiently bypass large hubs. Fewer takeoffs and landings and countries touching a ticket means fewer taxes and fees and thus lower prices. The reality is that every time this phenomenon emerges, as it did with the innovation of the 767, the 330 and the 777-200, and now the 787, airlines with small local demand are hurt because they don't have a large enough home market demanding services to the main hubs of cities such as Frankfurt, Zurich and Vienna. Airlines such as Air France and British Airways are more resilient due to the strong demand for services to London and Paris. As such, some airlines find themselves overcapacity and unable to compete on cost using large aircraft like the A380, B747 and A340. Without a home market, such airlines need to fly most of their passengers on at least two sectors, needing to cannibalize demand from other home markets, while other airlines can carry many passengers on non-stop services.
Fuel efficient fleet. Lufthansa operates one of the largest, if not the largest 4 engine aircraft fleet in the world. That speaks for itself.
Unit costs. Some of these airlines seem to be under a common illusion that increasing aircraft size results in lower unit costs. This is such a rudimentary myth. In reality there are numerous factors involved and one has to take them all into account. Nevertheless, all being equal, even if bigger means lower costs, it rarely means higher profits because the airline has to discount to fill the extra seats. With the majority of new aircraft added by the large EU carriers in recent years being capacity increases, these airlines have structurally increased flying costs per flight and decreased flexibility. They are under more pressure to fill seats because the cost of turning on the machine is higher than it was before. Yes, an A321 costs less per seat per mile than an A320, but it costs more to fly PER FLIGHT than an A320 - it still is heavier, requires more fuel, carries more water, food, crew, etc. If the airline can't fill it, it actually increases its commercial risk.
Labour costs. Airline managers around the world place far too much attention on labour costs. These are a factor input cost which should be addressed, but unlike a common myth, lowering these costs will rarely make or break an airline. These costs are sticky and even as high as a 20% reduction in base salaries does little to impact the overall flight cost. European carriers have far bigger battles to fight than these. Unfortunately, however, Lufthansa has been so generous over time, it has created an unrealistic expectation with staff over pay rises. In this sense, British Airways and Iberia have done much better.
germanwings and eurowings. Sometimes success goes to ones head. germanwings was built to serve a purpose. It appeared successful albeit it wasn't really since much of its costs were hidden inside Lufthansa. Exploiting it to expand as a platform across Lufthansa short haul was an ill conceived idea. It's been tried by many others which call failed and retreated. Yet Lufthansa thought they could succeed where many an airline went to die. Now that Lufthansa wants to distance itself from this year's crash, it seems to want to rebrand the germanwings fiasco as eurowings, thus continuing down a path which by its own admission is failing to deliver results. Tango, Song, Ted, snowflake, go... how many other examples are needed to illustrate that even some of the best airlines have tried and failed? Lufthansa seems resistant to wanting to learn from others. One can only hope that IAG will be careful to not let it's BA and IB management culture influence and drive Vueling and Click into the wrong path. An interesting platform, however, is AFKLM's Transavia, which has true lower costs, simplicity and is a platform which could be grown to rival any no frills brand in Europe, if the Air France and KLM crews will allow it.
If the recent conversation with this manager is representative of what the whole leadership at this large airline group believes, then it seems it is going to face a lot of pain and suffering for a long time as it spends its time addressing issues which will not improve its situation.
Such airlines need to learn from the past. They needs to look to the successes of airlines such as Air Canada. Learn from their actions from a decade ago which have been paying dividends. Copying their change of a holding structure or copying their strategies such as establishing Rouge is not the answer (airlines around the world have been copying these without success). ACE Aviation was created to solve specific challenges at Air Canada. Copying this solution at Lufthansa Group or AFKLM Group or IAG will not help as these groups face different challenges. The Rouge strategy works now a decade after the restructuring. Copying it in Europe won't work because it is building those platforms off the wrong base.
Lufthansa has a strong balance sheet. It writes down its aircraft faster than most airlines. It owns a large proportion of its aircraft. It has tremendous financial flexibility afforded to it by the cash flow from its non core business entities, particularly the maintenance, cargo, and other services businesses. So, Lufthansa has no disadvantage from lacking the benefit of Chapter 11. What Lufthansa is lacking is a home market and it is failing to adjust its business strategy for the core airline. It is overcapacity and adding numerous other airline businesses such as Jump (an internal Lufthansa subfleet flown by Cityline), Swiss, Austrian, Brussels Airlines, germanwings, eurowings, sunexpress, etc simply distracts from the core problems.
Air France KLM Group has the benefit of a strong home market in Paris and France, and with exceptional fiscal management at KLM. The airlines have also hung on to aircraft longer, much like Air Canada and Delta, thus allowing them to keep capital expenditures under some better control than their other European counterparts. However, uncompetitive products and a corporate programme which is weak outside of France and the Netherlands are significant weaknesses. The well publicised challenges with labour at France are perhaps the most challenging issue for the group. Along with a need to shift to a stronger network demand approach.
It's time for Europe's strongest airlines to step back, look at the big picture and get on with fixing their houses. This will take a new vision, a new strategy, real engagement with staff from the front line to the executive office, and a fresh approach. Lufthansa needs to remember its heritage and its core values. It needs to shed the recent distractions, and probably with it, some of its recently added management who are steering the airline in the wrong direction. It needs to make employees feel valued (which doesn't mean paying them more), and it needs to win back the trust of passengers fed up with constant strikes. Many passengers have been forced to try other airlines and to learn that there are numerous airlines which are much more reliable, customer-centric and price competitive which are more than happy to serve the German market which is product-sensitive as well as price-sensitive. Air France needs to shift it's management style to be more employee-inclusive.
For what it's worth, we keep our fingers crossed that the pilot at the helm of Lufthansa will clear his desk, trim his aircraft and steer it out of the clouds and onto blue skies. He's the right person for the job and he has one of the strongest leadership teams in the industry. So if any team can do it, it is this one. Pressing our thumbs for the yellow crane. In contrast, we can only hope that the synergies of Air France and KLM can finally be realized. These two airline cultures have much to offer each other.