Interview: S7 chief executive Vladislav Filev

Opposite the monolithic facade of Moscow's Lubyanka, which once housed the KGB's torture prison, is the head office of a Russian carrier whose determination to shake off communist-era legacies extended to painting its aircraft a most un-Soviet vivid green. And there is not a Tupolev among them. Through the crisp winter air, you can almost hear the Politburo turning in their Kremlin Wall tombs.

S7 Airlines shrugged off its former name, Sibir, five years ago, severing the brand that tied it to Russia's coldest, most inhospitable region in favour of a more daring identity based, of all things, on its IATA designator code. It is the name under which it has been warmly welcomed as the newest member of the oneworld alliance.

SkyTeam might have picked up the venerable Aeroflot, but oneworld believes it has snared the better partner. S7 Group chief Vladislav Filev unashamedly views the carrier as transport for the MTV generation. "Some like Mick Jagger, others like Britney Spears," says Filev, grinning infectiously at the comparison. "With airlines, it's the same story."

While the post-glasnost Aeroflot underwent extensive modernisation, the reinstatement of its hammer-and-sickle emblem and the subtle dropping of the word "international" from its branding seems to lend credibility to Filev's view that the once-omnipresent flag carrier is likely to be selected by passengers who feel "historically Russian". "We feel we are more international than Aeroflot, although we fly less internationally," he says. "We try to be international in soul."

S7 brings three hubs to the oneworld network - Moscow Domodedovo, Novosibirsk and Irkutsk - and 55 destinations in Russia and the CIS. With flights spanning the vast Russian landscape from St Petersburg to Norilsk, Vladivostok and Petropavlovsk-Kamchatsky, it claims to operate the most extensive domestic network, and S7's route map also reaches to China, South-East Asia and eastern and western Europe.

Filev recalls being in the office on 1 April 1998 - the "Day of Laughter" on the Russian calendar. At this time his airline had just two flights on its schedule, from Novosibirsk to Moscow and Beijing. Today S7 operates 160 daily services. "Twenty-four times bigger in 12 years," says Filev. "I think that's a big result. Today we earn 1998's entire revenue in less than two weeks."

But he admits this snowballing of S7's operations has not necessarily been in the airline's interests. "Our vision is that we grew too fast," says Filev. "We need a certain time to make our business better organised, slim, our procedures more solid. We believe the problem of the airline business globally is concentration on growing of operations instead of improvement of operations."

That problem is particularly pertinent to Russia, which has been wrestling with consolidation since the five-member AirUnion alliance, centred on KrasAir, collapsed spectacularly amidst the 2008 fuel crisis. As rival airlines, including S7, picked over the remnants of AirUnion's route network, the Russian government drew up plans to create a successor to the alliance that would bring together several carriers - Rossiya and Vladivostok Avia among them - under the brand Rosavia.

Rosavia was put forward as a potential rival to Aeroflot which, at the time, was testing the mood for a consolidation proposal of its own: the acquisition of a large shareholding in S7. But the Russian anti-monopoly commission, fearing that such close ties between two of the country's biggest airlines would inevitably result in higher fares and domination of important routes, effectively neutered Aeroflot's ambition in late 2008. Aeroflot will instead expand at the expense of Rosavia after a government-level decision to bring the component carriers under Aeroflot's control.

Eager to make a point, Filev snatches up a marker pen - "I like the green colour," he says - and proceeds to sketch lines on a whiteboard to illustrate Russia's dismal mobility figures over the past two decades. Russia has 155 carriers with a valid operating certificate, but just 45 million passengers flew in 2009.

LOW-COST BARRIERS
Russia came to the budget airline party relatively late, and still only two airlines, SkyExpress and Avianova, with barely a dozen aircraft between them, identify themselves as low-cost carriers. But Filev doubts that the country can sustain the budget airline model. "Low-cost carriers don't create anything reasonable," he says. "To be competitive, a low-cost carrier must be 20% less [in its cost base]. I think it's unreachable." Achieving this margin would mean pushing the cost per available seat-kilometre towards the 5¢ mark. But Filev says aspects of the air transport system that "fundamentally define" low-cost operations simply "don't exist" in Russia. There are no secondary airports, which means budget carriers have to negotiate rates alongside full-service carriers, he says. "And I have better prices than anyone else in the main airports."  Budget airlines also need relatively short sectors to ensure adequate utilisation. Filev brings up an internet map on a wall-mounted screen in his office, pointing out the distances between Moscow and other major Russian cities. He questions whether there are enough population centres within range.  The budget market, reliant on high loads, faces the same population mobility problems as other Russian carriers. There is also high customs duty on imported aircraft - forcing Avianova to reduce the seating capacity on its A320s - which makes revenue maximisation tough. "We don't have low-cost airlines in Russia. We have low-fare airlines," says Filev. "They're playing a game where there's no possibility for the investor to win."

As the price of consumer goods has fallen, and the cost of fares has risen, a new television has become more attractive to the Russian people than a flight across the country, says Filev. As a result, the nation's airlines are engaged in a "big, bloody war". Filev claims Aeroflot is forecasting having more passengers by 2020 than Airbus and Boeing separately expect to be carried by the whole of Russia's air transport network. The question, unspoken, is obvious - where will they come from? "If everything is as Aeroflot predicts, there will be no room for any other airline," says Filev, and slaps his forehead to emphasise how ludicrous he considers the notion. "It's a very low probability."

Filev also reserves scepticism for another of Russia's top three airlines, Transaero, the country's only passenger carrier to operate Boeing 747s and 777s. It carries about 10% more passengers than S7, but the nature of its operation means its traffic figure is 80% higher. Transaero is renewing its fleet, having agreed to take 747-400s and 777s from two Asian operators.

"We are very interested in seeing how they will feed this capacity," says Filev, adding that he does not want to join impending "fighting" between Aeroflot and Transaero by bringing larger types into the S7 fleet. "I believe we'll wait until there's room. It's a bad idea to grow widebody capacity."

S7 must resist any similar temptation, he says, and pursue a more modest development strategy. "We think that, over the next two or three years, we should prepare the business for the next [phase] of growth," he adds, stressing that the carrier wants to compete by becoming more efficient and cutting its expenditure.

"I believe operational excellence is key," he says. "The most important thing is how effectively we use our assets, our aircraft." The airline wants to squeeze more from its current fleet of 39 jets, which mainly comprises Airbus A320-family and Boeing 737 aircraft. That might not be easy. Filev claims S7 is already recognised as having achieved the highest utilisation of any carrier for its A319 fleet. He says S7 is wringing 11 to 13h a day out of its A320 family and 13-14h from its 737-800s. Over 2011, the airline intends to increase utilisation of its older airframes, which is running at nine to 10h a day.

Unlike Aeroflot and Transaero, each of which have clung on to a small number of domestically produced jets, S7 operates only Western-built aircraft. "We have a Russian fleet as well," says Filev, then cackles mischievously. "But they're all grounded."

Higher echelons of the Russian government have been less amused by the defection of the country's airlines from Tupolev and Ilyushin to Airbus and Boeing. The depth of its wounded pride was demonstrated in dramatic fashion when prime minister Vladimir Putin grilled Aeroflot over its apparent desertion of the national aviation industry.

Filev admits S7 has also faced a "little bit" of pressure over perceptions of its patriotism, all of which he appears to have gleefully ignored. "We're a free people of a free country," he says, stressing that Aeroflot is state-controlled while S7 is privately-owned. "And it's our choice, and we follow the choice of our customers. I'm not against Russian aircraft. I'm against expensive aircraft."

Nothing has flagged S7's decision to adopt a slower, steadier strategy than its 2009 cancellation of its landmark order for the Boeing 787 - the aircraft type originally intended to succeed S7's Soviet-era fleet with its costly appetite for fuel. S7 had agreed to take up to 25 787s, nudging aside Aeroflot to become the first Russian carrier to order the twinjet. Filev, whose office still sports models of the 787 in S7's distinctive colours, says the aircraft is poised to "reshape the airline landscape".

"As an ex-military man, I know the importance of a new weapon," he says. "A new-generation aircraft is like a new weapon. If we have the chance, we'll try to have this aircraft in our fleet. It was not a problem of belief in the aircraft. The problem was a lack of cash. I needed my cash back." S7 had to divert the cash to fend off a financial predicament that emerged the year after its 787 order. Although its revenues increased by 35% to Rb42 billion ($1.3 billion), in 2008 - the year of the fuel-price spike - the carrier's yields sank and its net profit slumped to Rb73 million.

Filev says S7 was shouldering a debt of Rb13 billion in October 2008, at a time when banks were not offering financial assistance. Bringing this burden down was "very painful", he confesses, but the carrier still managed to haul its indebtedness back to about Rb8 billion within a year, and by July 2010 the level was "quite comfortable".

S7 eased its financial pressures through an Rb8.9 billion line of credit with Russia's private Alfa Bank which runs to 2014. A state-owned bank might have provided a cheaper loan, but Filev says: "Our choice was to work more with a commercial business."

He says the state could cut off finances simply by citing governmental policy. "They can forget about our small entity. They're not interested in damage to their balance sheet. When you speak with a private business, at least you can discuss money. It's always a question of price. When you speak with the government, you're never sure what the question's about."

Filev says the 2008 crisis "taught us a lot", but adds: "I'm quite happy with the financial position. We have free cash now. It's very helpful for a better feeling."

The airline has driven its costs down to 6.9 cents per available seat-kilometre, Filev claims, adding that the airline would be "happy to have 5.5 cents". Cost-efficiency is "our core idea", he adds. "I believe we can push the costs down and make ourselves more competitive."

S7's mood for caution extends to its route network. "It's very simple for the coming years," says Filev. "We'll try to improve our operations and growth will be very limited. We'll make very few changes to our structure; we shouldn't change our schedule by more than 10-12% a year. It's not a massive change."

The carrier has stopped the charter services of its travel division, Globus, because Filev believes the capacity could be put to better use on its scheduled network. "It's impossible for us to have, in the same entity, two different types of operation," he says.

Once S7 has settled, says Filev, there will be "room for growing". He adds: "It's matter of cost. It doesn't matter if it's a merger or fleet [expansion], it's a matter of cost."

CHARTING HISTORY
Nothing contrasts with Vladislav Filev's pro-Western leadership of S7 more than his earlier life as a nuclear Cold War warrior. After graduating from the military space academy in St Petersburg, he joined the army and served in the Soviet Union's strategic missile forces. In the year he signed up, 1985, the Soviet leadership underwent a radical change when Mikhail Gorbachev became general secretary of the Communist Party. Filev left in 1993 as Russia grappled with the shedding of communism and the uncertainties of its new free-market economy. He adapted to the business environment, becoming chairman of investment company Eurofinance-Novosibirsk before joining the board of S7 in 1997. Filev describes S7 as a family business; his wife, Natalya, has been a major shareholder.

He hopes S7's access to the oneworld network will provide a fresh influx of passengers and allow the airline to get a return for its intense efforts to meet the alliance's requirements. "We're trying to be a more Western-style airline," he says. "If you don't know something, first you try to find people who understand your question."

Filev says the airline worked with Western consultancies and an experienced team of retired pilots to adapt its cockpit training and operations, while Airbus and Boeing also lent it their specialist knowledge. Lufthansa Technik provided the mentoring and organisational expertise to create a reliable system of maintenance and airworthiness support. Filev says the effort was "expensive", but the approval from Lufthansa Technik was worth the investment. "From such an experienced [company], that's very important to us," he says. "It's the same story with sales and commercial management, always having to find people who understand better than anybody else."

Over its 18-month alliance implementation period, under the sponsorship of British Airways, S7 had working groups handling as many as 35 activity areas. "It made for us a massive job," says Filev. "You can see the result now: our procedures and standards accepted by oneworld."

Modernisation is crucial to attracting the younger rouble. "We're trying to appeal to younger citizens," he adds, pointing to the proportion of internet-based sales as evidence that it is reaching the youth market. Online sales reached 15% this year and exceeded the number of tickets bought at airline desks.

Not everything in Russia is keeping up with S7's pace. Filev gripes about the country's air transport infrastructure. "We're never happy," he says, citing the lack of modern landing systems. "We always want a better deal. But Domodedovo is the best Russian airport." He also shrugs off the advantage Aeroflot gains through Siberian overflight royalties. Russia's climate, atmospheric or economic, simply doesn't tolerate the weak. "We compete however we can, fair or unfair," says Filev. "Crying is for poor people. We live how we live. If someone is sitting in the castle, we'll wait. We're young. We have time."

Click here for more on the changing alliance landscape

Source: Airline Business