Every airline strategist will say they have the answers to market success, but are they asking the right questions? The three vital questions are deceptively simple: 'Where are you now? How did you get there? And where are you going?'
Understanding the answers is the key to developing that elusive airline objective, a sustainable competitive advantage. The airline market is fiercely competitive and profits generally low, unreliable or non-existent. The problem is that virtually everyone is competing by doing very similar things in very similar ways. Most schools of corporate strategy give little practical guidance as to how one particular player can succeed.
How can an airline executive devise a strategy for sustained profitability? The answer lies in adopting the resource-based view of the company, which leads to a renewed regional focus, and a recognition that an airline's most valuable assets are its routes.
The international airline industry has been infamous for the low level and inconsistency of its profits. Even in the relatively good year of 1995, the Airline Business 100 carriers achieved a slim net margin of only 2 per cent and several major airlines recorded heavy losses.
In turning results around, most of the focus has been on cutting costs and boosting yields. Growth is an important part of most strategic options, as it nearly always provides lower unit costs, yet expansion is constrained by bilaterals, fierce competition or both.
Yet the barriers to exit in this industry appear more obdurate than those to entry. Competitors, motivated by glamour or government policy, refuse to depart the market when rational analysis says they should have long gone. Profitability is elusive when economic logic flies out the window.
How can the corporate strategists adapt to this? Some 15 years ago airline chiefs and consultants would probably have based their analysis on the application of industrial economics as exemplified by Michael Porter. This analysis would have taken an industry-wide perspective and considered the 'five forces' thought to represent the structural determinants of competition. These were: the threat of new entrants; the bargaining power of buyers; the threat of substitute products or services; the bargaining power of suppliers; and the level of rivalry among existing firms.
The result would have been a picture of an industry whose relatively low barriers to entry result in the players being constantly beset by new entrants, in which buyers could switch at no cost, where product differentiation was minimal, where everyone has the same suppliers, and where nonstop rivalry between competitors destroys profits. The conclusion is that the industry should be avoided in the first place - no use at all to the chief executive who is already in it.
A subsequent innovation in corporate strategy analysis appeared to offer a more useful flight path. In a 1990 Harvard Business Review paper, 'The Core Competence of the Corporation', analysts C K Prahalad and G Hamel said the roots of competitiveness lay in 'competencies' - a corporation that properly identified, nurtured and grew its core competencies, and then developed them into core and related products, would gain and sustain a competitive advantage.
The problem for airlines is that they have the same set of competencies. They all have pilots who fly the aircraft, technicians who maintain them and flight attendants who look after the customers, all in virtually the same way. They often use identical equipment and train to the same standards. They are supported by revenue management systems once thought to confer a distinct competitive advantage, but which are now approaching convergence. Distribution systems are moving the same way as direct selling advances on all fronts. In mature markets, most regular passengers are members of several frequent flyer programmes.
Of course, such competencies are vital. But at most they are 'enablers': they get an airline to the starting line, but they do not give it a sustainable competitive edge. The concept of core competence is only of value if you have core competencies no-one else has.
The latest refinement in strategic thinking offers a way out. The resource-based view (RBV) of the corporation 'combines the internal analysis of phenomena within companies with the external analysis of the industry and the competitive environment,' wrote David Collis and Cynthia Montgomery in the Harvard Business Review last year.
Executives weary and suspicious of strategic jargon should not throw in the towel at this point. The RBV approach is essentially pragmatic, allowing anything which uniquely describes a company to be identified as a valuable asset, concrete or intangible. Collis and Montgomery describe several external market tests to determine whether a particular resource qualifies as the basis for the development of an effective strategy.
This sounds difficult in an industry where everyone is competing by doing basically the same thing, but the most useful test for airline strategists is 'inimitability'. Resources can qualify through having one or more of four characteristics.
First, physical uniqueness. A mining company which owns sole rights to a valuable lease is in a strong competitive position. This may have been obtained through good luck rather than skill, but that is not important.
Second, there is 'path dependency'. This means that the current market position and status of a company has been arrived at through a unique historical process which cannot be duplicated by a rival. This is perhaps the most relevant characteristic of, say, the Australian domestic airline market which, though deregulated, remains a duopoly between Ansett and Qantas. The clock cannot be turned back to enable another competitor to develop as this pair did in the previously protected environment.
Third, there is economic deterrence. On the two occasions a new competitor has tried to enter the Australian domestic market, it has been defeated by the strength of Ansett and Qantas. Bigger and with deeper pockets than any new entrant, the pair will see off any upstart. They know that if all are losing money, the smallest and weakest will go out of business first.
The fourth and final characteristic is 'causal ambiguity'. Less esoteric than it sounds, this means that often it is not possible to analyse what makes a successful company succeed. Rather like a gold medal Olympic athlete, you think you can see how it's done but you can't copy it. In companies, 'causally ambiguous resources are often organisational capabilities,' say Collis and Montgomery. 'These exist in a complex web of social interactions and may even depend critically on particular individuals.'
They cite attempts by Continental and United to copy Southwest's blueprint for running a low-cost airline. Although they could duplicate the route structure and other observable elements, they cannot copy Southwest's culture, the key to its success. In a sense, causal ambiguity is just one manifestation of path dependence; Continental and United can't duplicate Southwest because of the unique, historical process that brought Southwest to where it is today.
Inimitability is not invariably good. Old airlines, large airlines, or those which are or were state-owned will also have a unique historical profile which might embrace entrenched, inefficient work practices, powerful trade unions, high costs, old aircraft, or other damaging characteristics. An inimitable resource is only of value if it offers a sustainable competitive advantage.
Physical uniqueness and path dependence are probably of greatest value to strategists. The one thing that is physically unique about any successful airline is the combination of its route structure and history. It will have a network which originates at a clearly identifiable point - its home base.
This geographical structure and the way it developed, is the one thing a successful, profitable airline has that none of its competitors will have. The network is much more than lines on the map. It is embedded in a wealth of market understanding, an established network of travel agents, and most important, customer loyalty and trust, all developed over many years.
In addition, there will be a network of maintenance and other flight support services, together with supporting physical infrastructure. There will also be the institutionalised learning of flight crews and the familiarity of ground support crews, although this technical experience is perhaps the easiest to duplicate.
This means that the single most important strategic factor for an airline is a clear sense of regional focus: knowing where its home base is, and understanding how its network spreads from there. Its routes are its most valuable assets - perhaps the only assets that really matter - and they need to be carefully managed. So it is critically important for an airline to identify, maintain and develop the deep market knowledge embedded within its route network, in order to maximise the value of its assets.
Regional focus should not be seen as a limiting factor; a region can mean many things. Certainly some 'regional airlines' perform well: last year, Atlantic Southeast in the US and Rio-Sul and TAM, both of Brazil, achieved net margins of 15.5, 10.3 and 10.9 per cent respectively. Yet British Airways and Singapore Airlines perform well on a much wider geographical basis.
For Qantas and Ansett's domestic networks, operated largely independently of their international operations, their region is the entire continent. In the US, American, Delta and United are primarily domestic airlines with international arms, but each has a regional identity through focusing hub-and-spoke networks on specific nodes: American in Dallas-Fort Worth and Miami, United in Chicago and Delta in Atlanta.
In the US, the regional airline par excellence is Southwest. Well outside the traditional definition of a regional airline operating small aircraft, Southwest ranks 27th in the world by sales and 14th on net profits. What is its secret? Certainly its low-cost, no-frills approach is a key factor, although others have tried to imitate it and failed. But perhaps the most important ingredient is its sense of knowing where it belongs - the western US - and its development of its network cautiously from there. Although it has developed into Baltimore-Washington, Chicago/Midway and Florida, these expansions have built on the firm base of home territory.
A competitor which simply copies routes misunderstands all that the route structure really represents. Path dependence keeps Southwest in front. No other carrier can duplicate the historical process - the unique combination of people, events, places and times - that brought Southwest to where it is today. The interaction of two inimitable resources, physical uniqueness and path dependence, provides the sustainable competitive advantage.
A region should not be taken to mean an area within national or fixed boundaries. Take Qantas: beyond its domestic base its market is clearly Asia-Pacific. The primary axis is between the east coast of Australia and Japan, but it is steadily developing its market into other major centres. The same region - with a different focus - is occupied by SIA. BA's historic 'home turf' extends to most parts of the world, with a particular emphasis on the Atlantic and Europe.
Ansett is following the regionally based philosophy by expanding overseas cautiously, building upon its domestic network. Now that Air New Zealand owns half of Ansett, the management teams will need to think carefully about maximising the value of their route assets without losing focus in their respective regional markets. Qantas, in its alliance with BA, has adopted a clear regional focus within Asia-Pacific. It might otherwise have become an international arm of regionally focused Singapore Airlines, a far more difficult role.
BA has gained wider access to Asia-Pacific without the risk of losing focus on its existing markets or its route network based on London. The fact that no other airline can duplicate BA's combination of physical infrastructure and route network has undoubtedly contributed to its $740 million net profit in 1995, the highest of any airline. Britain's bilateral agreements are an important factor, but even if these were swept away it is difficult to imagine that BA would hit serious trouble with the network it has.
The trend towards mega-alliances reflects a recognition that it is not possible for one company to be both a European airline and a US domestic airline, let alone a combined European and Asian airline. Even without the regulatory barriers, it is unlikely that one airline could develop the deep market knowledge and sensitivity to operate profitably in two or more different markets.
What mega-alliances do, however, is offer a way for airlines on both sides of the Atlantic to increase sales and profits through access to each other's markets, while allowing each partner to maintain its regional focus and local identity. This is the optimum solution for airlines seeking to gain access to markets beyond their traditional regions.
Airline executives can develop winning strategies by adopting the resource-based view of their companies. The RBV allows for good fortune based on pure luck, historical accident, geography and other favourable circumstances. It is pragmatic and embraces reality. The approach suggests that the key to success lies in adopting a clear regional focus - knowing and accepting where your home base is, in space and time, and carefully building your network from there.
An airline's routes are its most valuable assets, and they need to be managed to maximise their value. Airlines seeking to expand into new markets are likely to do best through alliances, rather than trying to duplicate established networks from scratch. Profitability, indeed, begins at home.
very airline strategist will say they have the answers to market success, but are they asking the right questions? The three vital questions are deceptively simple: 'Where are you now? How did you get there? And where are you going?'
Understanding the answers is the key to developing that elusive airline objective, a sustainable competitive advantage. The airline market is fiercely competitive and profits generally low, unreliable or non-existent. The problem is that virtually everyone is competing by doing very similar things in very similar ways. Most schools of corporate strategy give little practical guidance as to how one particular player can succeed.
How can an airline executive devise a strategy for sustained profitability? The answer lies in adopting the resource-based view of the company, which leads to a renewed regional focus, and a recognition that an airline's most valuable assets are its routes.
The international airline industry has been infamous for the low level and inconsistency of its profits. Even in the relatively good year of 1995, the Airline Business 100 carriers achieved a slim net margin of only 2 per cent and several major airlines recorded heavy losses.
In turning results around, most of the focus has been on cutting costs and boosting yields. Growth is an important part of most strategic options, as it nearly always provides lower unit costs, yet expansion is constrained by bilaterals, fierce competition or both.
Yet the barriers to exit in this industry appear more obdurate than those to entry. Competitors, motivated by glamour or government policy, refuse to depart the market when rational analysis says they should have long gone. Profitability is elusive when economic logic flies out the window.
How can the corporate strategists adapt to this? Some 15 years ago airline chiefs and consultants would probably have based their analysis on the application of industrial economics as exemplified by Michael Porter. This analysis would have taken an industry-wide perspective and considered the 'five forces' thought to represent the structural determinants of competition. These were: the threat of new entrants; the bargaining power of buyers; the threat of substitute products or services; the bargaining power of suppliers; and the level of rivalry among existing firms.
The result would have been a picture of an industry whose relatively low barriers to entry result in the players being constantly beset by new entrants, in which buyers could switch at no cost, where product differentiation was minimal, where everyone has the same suppliers, and where nonstop rivalry between competitors destroys profits. The conclusion is that the industry should be avoided in the first place - no use at all to the chief executive who is already in it.
A subsequent innovation in corporate strategy analysis appeared to offer a more useful flight path. In a 1990 Harvard Business Review paper, 'The Core Competence of the Corporation', analysts C K Prahalad and G Hamel said the roots of competitiveness lay in 'competencies' - a corporation that properly identified, nurtured and grew its core competencies, and then developed them into core and related products, would gain and sustain a competitive advantage.
The problem for airlines is that they have the same set of competencies. They all have pilots who fly the aircraft, technicians who maintain them and flight attendants who look after the customers, all in virtually the same way. They often use identical equipment and train to the same standards. They are supported by revenue management systems once thought to confer a distinct competitive advantage, but which are now approaching convergence. Distribution systems are moving the same way as direct selling advances on all fronts. In mature markets, most regular passengers are members of several frequent flyer programmes.
Of course, such competencies are vital. But at most they are 'enablers': they get an airline to the starting line, but they do not give it a sustainable competitive edge. The concept of core competence is only of value if you have core competencies no-one else has.
The latest refinement in strategic thinking offers a way out. The resource-based view (RBV) of the corporation 'combines the internal analysis of phenomena within companies with the external analysis of the industry and the competitive environment,' wrote David Collis and Cynthia Montgomery in the Harvard Business Review last year.
Executives weary and suspicious of strategic jargon should not throw in the towel at this point. The RBV approach is essentially pragmatic, allowing anything which uniquely describes a company to be identified as a valuable asset, concrete or intangible. Collis and Montgomery describe several external market tests to determine whether a particular resource qualifies as the basis for the development of an effective strategy.
This sounds difficult in an industry where everyone is competing by doing basically the same thing, but the most useful test for airline strategists is 'inimitability'. Resources can qualify through having one or more of four characteristics.
First, physical uniqueness. A mining company which owns sole rights to a valuable lease is in a strong competitive position. This may have been obtained through good luck rather than skill, but that is not important.
Second, there is 'path dependency'. This means that the current market position and status of a company has been arrived at through a unique historical process which cannot be duplicated by a rival. This is perhaps the most relevant characteristic of, say, the Australian domestic airline market which, though deregulated, remains a duopoly between Ansett and Qantas. The clock cannot be turned back to enable another competitor to develop as this pair did in the previously protected environment.
Third, there is economic deterrence. On the two occasions a new competitor has tried to enter the Australian domestic market, it has been defeated by the strength of Ansett and Qantas. Bigger and with deeper pockets than any new entrant, the pair will see off any upstart. They know that if all are losing money, the smallest and weakest will go out of business first.
The fourth and final characteristic is 'causal ambiguity'. Less esoteric than it sounds, this means that often it is not possible to analyse what makes a successful company succeed. Rather like a gold medal Olympic athlete, you think you can see how it's done but you can't copy it. In companies, 'causally ambiguous resources are often organisational capabilities,' say Collis and Montgomery. 'These exist in a complex web of social interactions and may even depend critically on particular individuals.'
They cite attempts by Continental and United to copy Southwest's blueprint for running a low-cost airline. Although they could duplicate the route structure and other observable elements, they cannot copy Southwest's culture, the key to its success. In a sense, causal ambiguity is just one manifestation of path dependence; Continental and United can't duplicate Southwest because of the unique, historical process that brought Southwest to where it is today.
Inimitability is not invariably good. Old airlines, large airlines, or those which are or were state-owned will also have a unique historical profile which might embrace entrenched, inefficient work practices, powerful trade unions, high costs, old aircraft, or other damaging characteristics. An inimitable resource is only of value if it offers a sustainable competitive advantage.
Physical uniqueness and path dependence are probably of greatest value to strategists. The one thing that is physically unique about any successful airline is the combination of its route structure and history. It will have a network which originates at a clearly identifiable point - its home base.
This geographical structure and the way it developed, is the one thing a successful, profitable airline has that none of its competitors will have. The network is much more than lines on the map. It is embedded in a wealth of market understanding, an established network of travel agents, and most important, customer loyalty and trust, all developed over many years.
In addition, there will be a network of maintenance and other flight support services, together with supporting physical infrastructure. There will also be the institutionalised learning of flight crews and the familiarity of ground support crews, although this technical experience is perhaps the easiest to duplicate.
This means that the single most important strategic factor for an airline is a clear sense of regional focus: knowing where its home base is, and understanding how its network spreads from there. Its routes are its most valuable assets - perhaps the only assets that really matter - and they need to be carefully managed. So it is critically important for an airline to identify, maintain and develop the deep market knowledge embedded within its route network, in order to maximise the value of its assets.
Regional focus should not be seen as a limiting factor; a region can mean many things. Certainly some 'regional airlines' perform well: last year, Atlantic Southeast in the US and Rio-Sul and TAM, both of Brazil, achieved net margins of 15.5, 10.3 and 10.9 per cent respectively. Yet British Airways and Singapore Airlines perform well on a much wider geographical basis.
For Qantas and Ansett's domestic networks, operated largely independently of their international operations, their region is the entire continent. In the US, American, Delta and United are primarily domestic airlines with international arms, but each has a regional identity through focusing hub-and-spoke networks on specific nodes: American in Dallas-Fort Worth and Miami, United in Chicago and Delta in Atlanta.
In the US, the regional airline par excellence is Southwest. Well outside the traditional definition of a regional airline operating small aircraft, Southwest ranks 27th in the world by sales and 14th on net profits. What is its secret? Certainly its low-cost, no-frills approach is a key factor, although others have tried to imitate it and failed. But perhaps the most important ingredient is its sense of knowing where it belongs - the western US - and its development of its network cautiously from there. Although it has developed into Baltimore-Washington, Chicago/Midway and Florida, these expansions have built on the firm base of home territory.
A competitor which simply copies routes misunderstands all that the route structure really represents. Path dependence keeps Southwest in front. No other carrier can duplicate the historical process - the unique combination of people, events, places and times - that brought Southwest to where it is today. The interaction of two inimitable resources, physical uniqueness and path dependence, provides the sustainable competitive advantage.
A region should not be taken to mean an area within national or fixed boundaries. Take Qantas: beyond its domestic base its market is clearly Asia-Pacific. The primary axis is between the east coast of Australia and Japan, but it is steadily developing its market into other major centres. The same region - with a different focus - is occupied by SIA. BA's historic 'home turf' extends to most parts of the world, with a particular emphasis on the Atlantic and Europe.
Ansett is following the regionally based philosophy by expanding overseas cautiously, building upon its domestic network. Now that Air New Zealand owns half of Ansett, the management teams will need to think carefully about maximising the value of their route assets without losing focus in their respective regional markets. Qantas, in its alliance with BA, has adopted a clear regional focus within Asia-Pacific. It might otherwise have become an international arm of regionally focused Singapore Airlines, a far more difficult role.
BA has gained wider access to Asia-Pacific without the risk of losing focus on its existing markets or its route network based on London. The fact that no other airline can duplicate BA's combination of physical infrastructure and route network has undoubtedly contributed to its $740 million net profit in 1995, the highest of any airline. Britain's bilateral agreements are an important factor, but even if these were swept away it is difficult to imagine that BA would hit serious trouble with the network it has.
The trend towards mega-alliances reflects a recognition that it is not possible for one company to be both a European airline and a US domestic airline, let alone a combined European and Asian airline. Even without the regulatory barriers, it is unlikely that one airline could develop the deep market knowledge and sensitivity to operate profitably in two or more different markets.
What mega-alliances do, however, is offer a way for airlines on both sides of the Atlantic to increase sales and profits through access to each other's markets, while allowing each partner to maintain its regional focus and local identity. This is the optimum solution for airlines seeking to gain access to markets beyond their traditional regions.
Airline executives can develop winning strategies by adopting the resource-based view of their companies. The RBV allows for good fortune based on pure luck, historical accident, geography and other favourable circumstances. It is pragmatic and embraces reality. The approach suggests that the key to success lies in adopting a clear regional focus - knowing and accepting where your home base is, in space and time, and carefully building your network from there.
An airline's routes are its most valuable assets, and they need to be managed to maximise their value. Airlines seeking to expand into new markets are likely to do best through alliances, rather than trying to duplicate established networks from scratch. Profitability, indeed, begins at home. n
Paul Couvret is a consultant with PA Consulting Group in Sydney.
Source: Airline Business
