Niche player

Being small in a tough global environment has proved to be an advantage for the Croatian flag carrier

In the short independent history of the country it serves, Croatia Airlines has made solid progress. From a standing start, soon weighed down by a short but devastating war that closed Croatian airspace for eight months, the airline, through collaboration and sound management, has carved out for itself a sustainable niche in south-eastern Europe.

This is not to say that it has not been a titanic struggle for the young airline to find its way in the marketplace, but a mutually beneficial and wide-ranging partnership with Lufthansa on both operational and technical levels has gained the airline deserved recognition in Europe.

German connection

There are strong historic links between the German-speaking countries and Croatia, going back more than a century when this region formed part of the Austro-Hungarian Empire. Bringing Lufthansa onboard was a natural move, even though circumstance played a hand. According to chief executive Ivan Misetic, when the fledgling carrier went to the second-hand market for an affordable fleet, only Lufthansa was willing to deal with Croatia Airlines by offering some of its early-generation Boeing 737-200s, the acquisition being supported by Dresdner Bank.

Since then, Croatia Airlines has built up connections to southern Europe through Zagreb and linked the Croatian capital to Europe's main business centres. This has been achieved through "collaboration, collaboration, collaboration", Misetic emphasises. He now also counts Austrian Airlines, Air France, Alitalia, LOT, Czech Airlines, Turkish Airlines and SN Brussels Airlines as partners of the airline. In November 2003, Croatia Airlines signed a co-operation agreement with Deutsche Bahn which enables passengers to use the whole German rail network with a Fly & Rail ticket. Today, nearly 40% of Croatia Airlines' revenues are generated in the German market.

Croatia depends heavily on tourism, and given the shape of the country, necessitating long journeys over sometimes difficult terrain, and the quality of road and rail systems, aviation is vital for boosting the economy. Croatia Airlines is obliged, therefore, to provide adequate domestic services to link the eight airports in the country and is now focusing on developing tourist traffic throughout the year, not only in the high season. But it has been a struggle to generate enough traffic. All domestic routes, including those linking the capital Zagreb with the well-known tourist destinations of Croatia's long coastline, are losing money. The airline has had more success building up a network of routes to the coastal resorts direct from European cities, bypassing Zagreb. Some are seasonal, but those from London and Paris operate all year round.

The imposition of 22% in local taxes on top of the ticket price is preventing much of the population from using faster air travel for holidaying on the Adriatic Coast. Two years ago Croatia Airlines introduced a low-fare strategy with prices starting at c12 ($15), and although this is cheaper than the tolls being charged on the roads, it has not been enough yet to make domestic air travel profitable. There are still remote areas that have to be developed and Misetic would like to see the government issuing a tender for private companies to bid for the provision of social services to the more outlying areas along the lines of those in Norway, France and other countries.

Misetic is resisting calls for the airline to add transatlantic flights to the USA and Canada to serve expatriate Croat communities, accepting that it could never compete with the established carriers and citing other airlines in the region where national expediency has overridden commercial sense. Acquiring one or two aircraft, such as Boeing 767s, would also overstretch resources, without a reasonable chance of making it pay, he says. Businessmen and leisure travellers from North America can quickly and effectively reach various points in Croatia via the Lufthansa hubs at Frankfurt and Munich; via Vienna with Austrian Airlines; or through Paris with Air France, Misetic adds. "I am not driven by politics, but by commercial considerations, as long as this creates benefit for the country and is not a burden on equity. I leave flights of fancy to others," he says.

Realistic ambitions

It would be a mistake to view Misetic's reluctance to take Croatia beyond Europe as a lack of ambition. This he has in abundance, but it is firmly rooted in what is achievable by his small airline. "We are too small to have global market penetration, so we cannot compete on that stage. As we cannot beat them, we have to join them, so let us be the best at what we can do."

Croatia Airlines initially operated with the ex-Lufthansa 737-200s backed up with ATR 42 turboprops, but in 1997 embarked on a fleet renewal which was completed in summer 2000 with four Airbus A319s and three A320s. A fifth A319 was acquired on operating lease in March. As the Croatian government could not make loan guarantees to a private company to safeguard the acquisition of the Airbus fleet, it acquired 94% of the airline's shares. The fleet was acquired through export credit agency rules with a 12-year loan from the Bayerische Landesbank, to be paid in six-month instalments.

A recent demonstration of the Embraer 170 regional jet in Croatia and a planned follow-up visit by Misetic to the Embraer facilities near São Paulo, would appear to make the Brazilian aircraft the front runner in replacing the ATR turboprop fleet, but Misetic says it is too early to draw any conclusions.

With the assistance of Lufthansa Technik from day one, the airline has built up its own maintenance facilities and now undertakes all but heavy maintenance on its fleet in its workshops at Zagreb airport. Through Europe's JAR 145 certification, it also has authority to carry out third-party work and in the last three years has carried out three C-checks on Lufthansa A320 aircraft and fitted reinforced cockpit doors to 14. "After the war, we had to prepare ourselves technologically and build an image of safety," Misetic says, "and I believe we have achieved it."

High early interest expenses on the fleet kept Croatia Airlines in the red, in spite of reasonable operating profits, but reducing interest levels have finally pushed the airline into the black. In the 2003 financial year to the end of December, preliminary figures indicate a small net profit of $2 million on a 13% increase in revenues to $186 million. Record results were achieved in passenger traffic, with a total of 1.47 million recorded, an 11% improvement over 2002, with 21% and 8% increases respectively on domestic and international scheduled services. Average load factor was up 4.2 points to 60.7%. According to senior vice-president flight operations Miljenko Radic, the 10-strong fleet of four A319s, three A320s and threeATR-42s logged some 30,000 hours on 23,000 flights.

In February 2002, Croatia Airlines introduced online booking, but progress has been slow. Internet penetration is just 17% in Croatia, and privacy laws have hindered large-scale sales of airline tickets. In 2003, receipts from online booking amounted to less than 3% of total revenues. With a recent relaxation of the law, the airline has set itself a target of 25% of sales online in 10 years.

The turnaround has not been achieved without sacrifices. Misetic says that the airline has not increased salaries for its staff for six years, except for pilots, but has been able to keep harmony through regular meetings with the four unions and getting together with all employees twice a year to outline airline strategy. Other, more tangible measures have also helped to keep peace. Every single employee gets assistance with living costs in the form of affordable loans, has access to free training and travel, and there is an airline-financed sports club.

Employee benefits

Now that the government has created a framework that enables companies with 1,000-plus employees to set up pension and medical insurance schemes, Croatia Airlines has also added this option to its agenda. Misetic offers more encouragement. "We have just managed to get into the black, and if we can sustain our profitability, we can take a fresh look at labour issues," he says.

He attributes the airline's commendable progress to the absence of interference from its government shareholder and, perhaps more importantly, on its predominantly young staff untainted by a communist legacy. "I want to run the airline as if communism never existed in our country," he says. "We want to be exposed to more competition. It is better to learn to be competitive if you are 25 years old." The help of Lufthansa and a strong in-house training policy has enabled Croatia Airlines to build up an expert base that will take it further. The average age of its workforce, of which 53% are female and 48.2% are university graduates, is just 34 years.

The next five years will be crucial for Croatia Airlines in sustaining its hard-won position. Misetic wants to build up the airline's equity and improve its profitability over the next three to five years in preparation for a domestic initial public offering, which has the backing of the government. Also part of this process will be netting a strategic partner that can help to take the airline forward.

Potential partnerships

In view of the existing close relationship with Lufthansa and Austrian Airlines, it would be surprising if such a partner emerges from outside the Star Alliance, but, being a politician as well as a businessman, he rules nothing in or out. Croatia also has ambitions to join the European Union, probably in 2007, which could provide yet another challenge for the airline.

"Within the next five years," Misetic says, "I want to double revenues to $300 million, carry two million passengers, and have an all-jet fleet of 15 aircraft including small regional aircraft, no more than 1,300 staff, and, of course, I want to be profitable. I want to be ready for privatisation." Provided no disasters outside his control befall the airline in the meantime, it would be surprising if Misetic did not realise the goals he has set for the airline.

Croatia Airlines five-year record - operations
Measure	Units	1999	2000	2001	2003	2003p
Passengers	thousands	921	1,063	1,242	1,322	1,468
	change	0.2%	15.4%	16.8%	6.4%	11.0%
Traffic	RPK million	639	763	922	9830
	change	2.7%	19.4%	20.8%	6.6%
Load factor	%	51.2%	52.7%	55.5%	56.5%	60.7%
Five-year record - finance
Revenues	$ million	119,5	124	143	159	186
	Change	-2.9%	4.0%	14.8%	11.4%	17.1%
Operating result	$ million	-2.8	1.0	8.7	16.6	21.0
	Margin	-2.3%	0.8%	6.1%	10.4%	11.3%
Net result	$ million	-15.7	-24.8	-11.2	-3.0	2.0
	Margin	-13.1%	-19.9%	-7.9%	-1.9%	1.1%
NOTE: 2003p= figures are provisional. Sourced from company accounts. RPK= revenue passenger Km 1mile=1.609km

Man at the top: Ivan Misetic Apart from a two-year interlude when he served as ambassador at large and head of state protocol for the Republic of Croatia, Ivan Misetic has been with the airline since the start of scheduled services. After graduating with a Master of Science degree from the University of Zagreb's faculty of economics, he joined Adria Airways in a sales and marketing capacity and fulfilled similar roles after joining Croatia Airlines in March 1991, a few months before the war that was to lead to independence for the Croatian people. He was appointed to the supervisory board in April 1997, followed a year later by taking the reins as president and chief executive, and brought to bear his intimate knowledge of the industry and politics to lead the airline on its difficult quest for profitability and recognition. An affable giant of a man, he has achieved both aims through a firm grip on reality, but says his challenge now is to maintain this hard-won success and continue to grow the airline in concert with the maturing of his young country. Since November 2002, he has been a member of the Association of European Airlines (AEA) presidents' committee.

Historic highlights Established on 7 August 1989 as a private company under the name of Zagreb Airlines, operating a Cessna 402C for UPS. Changed to Croatia Airlines on 23 July 1990. Operated first scheduled passenger service between Zagreb and Split on 5 May 1991, using a Boeing MD-82 leased from Adria Airways. Shelling of Zagreb TV tower by Serbian forces on 15 September that year led to closure of airspace above Croatia and Slovenia. Peace treaty on 14 January 1992 resulted in the founding of the independent republic of Croatia. On 1 April 1992, Aeroflot became first airline to serve Zagreb again, followed by the re-introduction of flights by Croatia Airlines with Boeing 737s, joined in 1993 by ATR-42s. In 1997 the government of Croatia took a major shareholding to guarantee renewal of fleet with Airbuses, including four A319s and three A320s. Certification to JAR 145 and ISO 9001 was obtained in 2001, and last year the carrier successfully passed IATA's new IOSA safety audit.

REPORT BY GÜNTER ENDRES IN ZAGREB

Source: Airline Business