They do at Cargolux. The Luxembourg-based all-cargo carrier has one major handicap that any amount of good management can't put right: Luxembourg. As a pure long-haul operator, Cargolux must rely on its government to negotiate traffic rights for any new markets it wants to serve. The problem for Luxembourg's negotiators is that they have very little to offer their counterparts in return. Access to Luxembourg/Findel is not exactly the strongest aeropolitical bargaining chip.
Luxembourg has had an open skies accord with the US since 1995 but there has not yet been a mad dash by US carriers to serve the Grand Duchy. No surprise really, given that Findel is within 'spitting distance' of four major European airports: Amsterdam, Brussels, Frankfurt and Paris.
All these factors add up to pineapples for Cargolux. More specifically, after launching its first scheduled foray into South America in early 1996 with the start of Sao Paulo services, the carrier was faced with a sizeable problem. Cargolux is prevented from taking any uplift out of Brazil under the bilateral and so one of these three weekly services is routed back via Accra in Ghana to fill the B747-400F with low-yielding pineapples on a charter basis. Cargolux says that the weekly Sao Paulo service is profitable because of high yields on the Europe-Brazil leg.
Heiner Wilkens, the carrier's president and chief executive, is philosophical about the traffic rights issue, referring to it merely as a 'constraint for Cargolux'. Unfortunately there are others. As an all-B747 dedicated cargo operator - the airline operates a fleet of four B747-200Fs and four B747-400Fs - the carrier is more exposed than most to a business where yields have, on average, fallen by some 2.5 per cent a year since the early 1970s. Moreover, with almost 70 per cent of the world's cargo flown on combination carriers, the market is prone to rampant overcapacity. Most scheduled passenger operators view cargo revenues as incremental and as such only correct capacity based on passenger demand, if at all.
Without the cushion of being able to develop new markets gradually by using the belly-hold capacity of passenger aircraft - like some of its main competitors which operate all-cargo aircraft and have access to the belly space of their passenger division - Cargolux has a sizeable risk to absorb when it launches new routes with a B747 freighter.
The positioning of Cargolux's home base has advantages coupled with drawbacks. Luxembourg's central position in the European Union, which allows good road access to the big markets of France and Germany (and beyond), also means Findel is within a 500 km radius of the hubs of its four larger European competitors: Lufthansa Cargo, Air France, KLM and British Airways.
Furthermore, despite the claims of Cargolux and other carriers that they do not compete with the integrators, companies like Federal Express and UPS are moving from small parcel deliveries into the door-to-door delivery of higher yielding, bulk cargo. Indeed, many analysts suggest the steady decline in yields over the past 10 years has less to do with overcapacity and more to do with integrators eating into the traditional higher yield cargo markets, like automotive and computer parts.
Cargolux is held in high regard by cargo analysts in terms of its basic strategy, but making money in this sector is tough - as last year's red ink at Lufthansa Cargo demonstrated. However the subsidiary did report a pre-tax profit of DM33 million ($18.3 million) for the first half of 1997.
At presstime Cargolux was set to sever its links with Lufthansa Cargo, which has a 24.5 per cent stake in the carrier. Swissair's cargo division, SR Cargo, was in advanced talks with Lufthansa over the purchase of the stake and a decision was expected in mid-September.
SR Cargo has already taken over the running of Sabena's cargo division (Swissair holds a 49 per cent stake in the Belgian carrier) and Wilkens says Cargolux 'for traffic right reasons might fly as SR Cargo out of Brussels to points we can't serve at the moment.'
Meanwhile the tight margins are squeezing Cargolux's financial performance. 'Cargolux is profitable but it doesn't make a whole pile of money each year,' observes Lee Hibbets, research director at Seattle-based consultants Air Cargo Management Group. Nevertheless, the airline has only dipped into losses once in the 1990s, losing US$600,000 in 1993. But in the latest financial year ending 31 December, 1996 Cargolux saw net profits more than halved to $7.3 million, while revenues grew a mere 2 per cent. At the operating level, the decline was even more marked with profits down from $18.7 million in 1995 to $4.7 million.
Wilkens blames the weak performance on a breakdown in yield, especially in the Asia-Pacific market, and says the contrast was exacerbated by the fact that 1995 'was such a good year for the cargo industry in general'.
The strong 1995 performance prompted other carriers to put more capacity into the market, thereby depressing earnings. The carrier also suffered, along with the rest of the industry, from higher fuel costs. The kerosene price hike added $17 million to fuel costs though a surcharge raised $3 million. But with such slim margins a bottom line hit of $14 million 'is a lot for Cargolux,' explains Wilkens. Indeed, if the carrier hadn't decided to apply different accounting principles for its 1996 results (which led it to restate its headline figures back to 1992), the results would have shown revenue growth of only 0.3 per cent. However the drop in the operating and net profits would not have been as marked.
'We were not satisfied with that result, but it's not so bad because our competitors are in the red,' says Wilkens, putting the results into perspective. However there is little room for manoeuvre on the cost side. Wilkens says he has no plans to attack the company's cost base, which according to one European cargo specialist is already lower than its neighbouring competitors. Instead Wilkens lays the emphasis on the quality service Cargolux offers freight forwarders which, he says, enables the carrier to justify charging 'a little bit more.'
Cargolux's slightly higher-than-market pricing has enabled it to keep the average decline in yield down to 1.5 per cent over the past eight years 'in current dollar terms', compared to what he estimates is an industry average fall of 3 to 4 per cent. 'So if you assume an average worldwide inflation rate of 3 per cent [over the same period] that means our yields are going up,' he explains.
Hibbets concurs that there is little Cargolux can do on the costs front but points out that the carrier is putting the squeeze on the assets side. In this respect the focus is mainly on improving fleet utilisation, and here the B747-400F has a clear advantage over the -200F. Last year the three newer aircraft flew an average of almost 15 block hours per day per aircraft, almost 20 per cent more the four B747-200Fs achieved.
This is not the only reason that deputy chief executive, Robert Arendal, believes the B747-400F has 'come of age.' The aircraft also betters the -200F with 18 per cent lower fuel burn and a two, instead of a three, crew cockpit. Indeed, so convinced is Cargolux of the viability of the -400F, that Wilkens is planning to operate an all 747-400F fleet by 2000, with a total of 10 aircraft by 2001. The carrier added a fourth B747-400F in August, while the November delivery of the fifth -400F is timed to replace the single -200F leased in from Southern Air Transport. After that Wilkens plans to replace the three remaining -200Fs by the end of the millennium and will add two more -400Fs by 2001.'Our long-term strategy is to match capacity growth with average market growth of 7 per cent per year, which translates into a new B747 every second year,' he explains. As yet, however, Cargolux has not placed any further orders and holds no options.
But analysts express concern about Cargolux's plan for a B747-400F fleet. One European cargo specialist says he still remains unconvinced of the economics of the aircraft with yields at current levels. He estimates a profitable B747-400F operation to Asia-Pacific requires yields of $3-4 per kilo with a load factor of some 70 per cent in both directions. At the moment yields are no higher than $2.5 per kilo, he says. The figures on the North American routes don't add up either, he claims. The analyst suggests the only way Cargolux is making its current B747-400F operations profitable is by loading the 12-year financing of the aircraft 'at the back end.' Of course, another possible explanation could be that Boeing is giving the carrier substantial discounts below the $150 million book price, as the manufacturer still tries to push its freighter on an unreceptive market.
Hibbets also questions the proposed fleet planning. 'I'm a little unsure of moving to an all-400 fleet. Certainly there are some routes where the -400 is needed, but if you don't need the range and the payload then the -200 is better,' he cautions.
Yields aside, Cargolux seems to be achieving the load factors required to maintain profitability, with average space utilisation around the 90 per cent mark, says Arendal. Hibbet attributes this to Cargolux's 'good brand and strong customer base' which is, in large part, attributable to a 'very good airport.' Forwarders in Asia-Pacific and North America looking to ship freight to an airport notoriously slow in handling cargo, like Frankfurt, have been known to opt for a combination of Cargolux to Findel with onward transport by road. 'They say it's quicker than putting it through Frankfurt by air,' he says.
Cargolux has worked hard to establish a strong customer base. The carrier has focused on building up what Arendal calls 'partnership agreements' with the world's largest forwarders over the last five years. These deals offer discounts in return for fixed term contracts tied to specific routes. This helps Cargolux to reduce the full risk exposure it would otherwise have on its network. Hibbets' suggestion that these partnership contracts now account for some 50 per cent of Cargolux's revenues is downplayed by Arendal, who will only say that that 'they are an important part of our revenue.'
Hibbets believes that these contracts are a powerful competitive tool, beyond what the integrators can provide. 'I find that to be one of the brighter spots of the air freight industry, with airlines like Cargolux taking [its relations with forwarders] to a new level,' says Hibbets. He points out that large companies don't necessarily need the global network offered by FedEx but are looking for specific capacity on specific routes. A good example is the twice weekly charter service Cargolux operates to Huntsville in the US on behalf of forwarder Panalpina, which needs the all the capacity to fulfil its contract with IBM.
But Cargolux knows if it is to provide a flexible global network it is going to need to overcome its 'nationality handicap' of having little or no aeropolitical leverage. Not surprisingly, this problem makes Wilkens a natural proponent of open skies. Indeed, the open skies deal signed with the USin 1995 has had a marked impact on the carrier's geographical revenue split (see chart). While the declining yields in Asia-Pacific freight have pushed Cargolux to develop South America, the opening up of the US market has seen revenues from the Americas jump from 13 per cent in 1993 to 20.25 per cent last year. Asia-Pacific revenues have fallen from 53 per cent to 28 per cent. Moreover, ex-Europe revenues to Asia-Pacific dropped from 50 per cent in 1993 to 40 per cent in 1994, while Europe-US revenues have grown from 25 per cent to 40 per cent, estimates Arendal.
Wilkens is also planning a number of linkups to help increase the global network. 'We will try to get more access through alliances in the future,' he explains. Wilkens says only that he is looking for carriers that don't operate all-cargo aircraft in the US and Asia-Pacific. Wilkens denies, however, that the carrier's prospective Swissair ownership would govern its choice of partner outside Europe.
Wilkens believes Cargolux and the industry as a whole will only start achieving their full potential if the step is finally taken to integrate basic IT systems to enable the global cargo community to communicate efficiently. He rules out complete standardisation, however, as he believes IT should still be used as a competitive tool, for instance when bar-coding to help track shipments.
As yields look set to continue their decline, Cargolux must build on its relationship with forwarders to protect its own system. A wider network would allow the carrier more flexibility in supplying the sort of 'air-bridge' provided for Panalpina's client IBM and help it to retain the higher yield items now being poached by the integrators. Full dependency on a fleet of B747-400Fs appears risky and Cargolux will need more than the yield mix provided in its African pineapple cocktail to keep the operation profitable.
Source: Airline Business
