Five years ago Brazil's national carrier Varig had hardly heard the word 'competition', as it revelled in its position as the sole international carrier operating out of the country.
While Varig remains far ahead of its Brazilian counterparts in terms of traffic, revenues and sheer market dominance, domestic competitors are now snapping at its heels and biting into its market share.
Varig has been hit hardest on its international operations. Whereas Varig's international services once subsidised its domestic network, domestic sales are now supporting depleting international revenues, says air transport consultant José Martinelli at EuroLatin.
Load factors on international routes dropped by one percentage point to 67 per cent last year, while domestic load factors nudged up by 2 points to 65 per cent. The carrier's total passenger volume increased by 4.3 per cent to 9.7 million in 1996.
Not only does Varig face growing international competition from domestic competitors Vasp, Transbrasil and TAM, which are stealthily making their mark on international routes, but the carrier also has to grapple with the might of the majors on international routes.
Varig's Brazil-Europe market share dropped from 46 per cent in 1994 to 41 per cent in 1995 in the face of fierce competition from British Airways, Lufthansa, Air France, Iberia and TAP Air Portugal.
On US routes, following a new bilateral deal Varig is now fighting against American Airlines, United Airlines, Continental Airlines, and Delta Air Lines. Varig's market share on services to New York, Atlanta, Orlando, Miami and Los Angeles slipped to 25.5 per cent in 1996, from 27 per cent in 1995 and 31 per cent in 1994.
Growing competition to the UShas caused fares to plummet. Fares to New York have dropped from some US$1,300 five years ago to today's $850, says air transport consultant Mario Sampaio. And Varig's costs per passenger mile are far higher than those of the USmajors, making it much harder for the airline to compete effectively.
Varig can take consolation, however, in the fact that some 70 per cent of US-Brazilian traffic is generated in Brazil, Sampaio points out. As long as that remains the case, Varig has passenger loyalty on its side. In the words of Fernando Pinto, who took up the role of chairman, president and chief executive in January 1996, 'passengers prefer to fly Varig'.
Moreover, Varig is making considerable efforts to trim its costs, Sampaio says. These efforts do, at last, seem to be paying off. Varig claims that its long-running restructuring measures have already wiped R$140 million (US$120 million) off the carrier's annual costs.
Essential restructuring measures already undertaken include cutting the fleet back to 81 aircraft, reducing employee numbers and trimming unprofitable routes.
While progress has undoubtedly been made, the airline still has a long way to go. High hopes lie with a tough five-goal restructuring plan launched in 1996, under Pinto's direction. The five priorities highlighted under the plan are profitability, human resources, service quality, information technology, and corporate image.
Profitability stands out as Varig's most pressing concern. There's no doubt that Varig's finances need attending to. The carrier's 1995 net loss of US$41.9 million widened into a loss of US$60.4 million in 1996. Revenues slipped 3.5 per cent to US$2.96 billion in 1996, though they are targeted to reach US$3.2 billion in 1997, says Pinto.
Varig blames its poor results on a weak start to the year, restrictions on US visas, airport strikes in France, as well as decreased credit availability and increased interest rates imposed by the Brazilian government.
What's more, the carrier claims that it would have posted a R$95 million (US$88 million) profit in 1996 were it not for changes to Brazilian corporate law. In Varig's view, new Brazilian price rules established last year do not take into account inflation, which reached 2 per cent a month in 1996.
Varig also points to the financial progress it made in 1996. The carrier reduced debts by US$300 million last year, lowered interest rates on debt payments from 17 per cent to 11 per cent, and lengthened payment terms.
Around $2.2 billion of debt remains, however. Some debt may be wiped out via a payment likely to be awarded from the government to compensate for price freezes on air fares between 1986 and 1990. Varig has claimed US$3.5 bilion, but the government is trying to negotiate a lower amount and is offering to cancel debts Varig has with the government as part of the settlement.
Sampaio speculates that Varig may opt to transform some of its debt into shares as a means of bolstering its balance sheet. Sampaio claims that potential future shareholders include McDonnell Douglas and General Electric, which are already major creditors, although neither are likely to be keen on retaining equity in an airline.
Varig may well be able to seize advantage of the government's decision to open up voting rights in Brazilian airlines to foreign interests. Under a new Brazilian air code due to take effect around November, foreign carriers will be able to buy up to 49 per cent of the voting rights of a Brazilian carrier, as opposed to the current 20 per cent limitation.
Currently ownership and control of Varig are focused in the hands of Ruben Berta, a foundation administered by Varig's employees, which holds a 52.5 per cent stake in the airline. The remainder is owned by the Brazilian government.
Pinto dismisses industry speculation that the ownership structure restricts more radical restructuring. 'On the contrary, the foundation members are the ones who really push me to make the radical changes. After all, they need the company's profits . . . even if that means reducing employee numbers,' insists Pinto.
Whether Varig is an immediate candidate for foreign investment or not, the change in voting rights is set to rock the Brazilian airline industry fundamentally. 'Until now, the government has always kept control of companies, while entrepreneurs just had ideas,' says consultant Martinelli. 'As Brazil actively moves towards privatisation, however, the government needs to produce a law to let entrepreneurs be the real decision-makers to push companies to meet targets.'
While foreign participation remains a future option for Varig to reduce its debts, the airline's chairman remains confident that more immediate measures introduced under its restructuring plan will bring Varig closer to its profitability goal.
At the root of Varig's recovery lies a new yield management system being developed by consultants SH&E. The airline hopes that the new software and hardware to be in place by December will improve yield by between 6 and 8 per cent.
Other changes set to bolster Varig's balance sheet include a 3 per cent increase in seating in its aircraft, introduced in 1996.
Varig also plans to focus on its core airline business by selling additional business undertakings. Negotiations are under way for the sale of its Tropical Hotel business to a foreign company. A sale is expected this year, says Pinto. Varig is also discussing the sale of its ramp-handling company, Sata, and a possible joint venture for engine-shop maintenance.
The plans for incoming cash are backed by a cost-reduction programme encompassing the entire organisation, which is estimated to wipe a further US$50 million off costs this year.
Pinto expects to create savings by renegotiating external contracts, increasing employee productivity by 4 per cent, and trimming employee numbers by 1,700 - the headcount was 18,119 last year.
At the same time, Varig is highlighting human resources as a key focus of its restructuring plan, and it invested US$10.5 million in management training last year. 'We are doing a lot as regards training, recognition and motivation of employees,' says Pinto.
Ahefty incentive for employee motivation is a new result-sharing programme, which the company means to introduce as soon as its regains profitability. The programme will reward all employees with bonus payments, dependent on the extent to which targets are achieved and, in the case of service-related positions, according to customer feedback.
While placing more emphasis on human resources, Varig is also trying to arrest the perceived drop in service standards in recent years. The carrier is making a determined push to improve inflight and ground services, focusing attention on improved baggage delivery and customer relations. Varig has been making strong progress towards improved punctuality, boasting that ontime reliability reached 97 per cent on domestic services and 94 per cent on international operations last year.
The carrier is placing more emphasis on the business passenger as its most important customer. 'Varig's international strategy is to ensure that its first and business class is full,' says Martinelli of EuroLatin.
A vital component of Varig's programme is an update of its information technology. The company signed a contract with IBM and Sita earlier this year, allowing it to outsource data processing and telecommunications systems and cut back on 500 employees. Finally, the carrier's new livery was launched last year.
In addition to the five-point plan, Varig has begun a further phase of restructuring revolving around recommendations made by Atlanta-based consultants Howard Miller, appointed in March 1997 to revise its internal procedures.
New commercial processes put into place in July are estimated to bring an increase of 8-10 per cent in results per year. Next on the list is the redesign of passenger flow from check-in until disembarkation, says Flavio Leal, who was hired by Varig to work with the consultants on the project. Scheduling and crew allocation will be reviewed later.
'We're looking at how we can rethink all of Varig's processes in business, technical and human behavioural terms, in order to improve that process in terms of time, profit, efficiency and employee satisfaction,' says Leal. 'Varig is in the process of a big revolution.'
While Varig is hurriedly getting its internal organisation into shape, external linkups are also falling into place.
The Brazilian carrier may have entered the alliances game somewhat late, but it is making up for lost time. The carrier is due to become the sixth member of the Star Alliance this October, together with Air Canada, Lufthansa, SAS, Thai Airways and United.
Benefits will include fully integrated frequent flyer programmes and seamless booking and travel capabilities. The alliance will be a 'quality-orientated' one with passengers recognised across the group if they participate in any of the loyalty programmes, says Pinto.
The chairman identifies cost-reduction from joint purchasing as one of the key advantages expected to emerge from the alliance. 'We will be buying everything together from paper towels to planes,' he declares.
Pinto plays down potential objections from competition authorities due to the enormity of the grouping that the alliance will create. 'We're not exchanging assets and are simply codesharing in an organised way,' he declares.
The carrier's admittance into the Star Alliance is a logical follow-on from its existing codeshare agreements with alliance members SAS, Lufthansa and United.
Varig abandoned its short-lived codesharing agreement with Delta last year, replacing it with a more substantial alliance with United. The cooperation covers 71 weekly Brazil-USfrequencies and is targeted to boost sales by some 8-10 per cent. Delta's Atlanta hub failed to correspond with Varig's needs as the main thrust of the Brazil-USmarket is to Miami, New York and Los Angeles.
Other Varig partnerships include a codeshare with Japan Airlines, operating to both Tokyo and Nagoya. The airline also operates a codeshare on domestic flights with Transbrasil.
Varig plans to launch new routes into China in 1998, as well as additional South American routes. Last year, it added Orlando in Florida and Cordoba and Rosario in Argentina to its network, which now includes 36 cities in Brazil and 34 cities in 23 overseas countries.
Varig's main hub is at Sïo Paulo, although it has a second hub at Rio, which is 'the way we intend to stay,' confirms Pinto. No further changes to the network are planned, following radical 1994 restructuring, when the carrier trimmed back 13 unprofitable routes, including two domestic services and international destinations in Canada, Africa and Central America.
Varig has boosted its fleet to 81 Boeing and McDonnell Douglas aircraft. Additions to the fleet in 1997 so far include two MD-11s, with a further one due to be introduced later in the year. Varig will further extend capacity in 1997 by adding one Boeing 737-200 and three Boeing 737-300s, to be covered by lease agreements.
Varig will also be endeavouring to take better advantage of the expanding air cargo market in Latin America. Last year, the airline saw a somewhat disappointing decrease in FTKs, which dropped by 1.8 per cent on international routes and 14 per cent on domestic services.
Pinto declares that the slump in traffic and yields yields followed intense competition and a decrease in Brazilian exports. Measures are in place, however, to try and rectify the situation. The carrier's Varig-Cargo project begun in 1996 is intended to turn around performance in the cargo sector.
Varig is certainly making steps in the right direction, through internal restructuring and external alliances, which aim to maintain its position as the giant of the Brazilian airline industry. The only problem with giants is that they can be slow to move. Varig needs to get a move on.
Source: Airline Business
