Industry Airline - Increasing Competition and Alliances
American and European Airlines
Jarek Grygolec
Why airline industry is interesting?
Flying is on the rise Airlines in the US:
620 million passengers Employ directly 1 million workers Pay $18 billion in taxes Essential social, leisure and business link Aircraft maker Boeing is the biggest American exporter
Era of Regulation
Heavily restricted entry by regulators
Airfares subject to approval by regulators Approval needed also for new routes
Regulatory capture inevitable In 70s unregulated intrastate airfares in CA were 40% cheaper than airfares in comparable but regulated Eastern interstate routes
New Era of Deregulation
Deregulation of US market in 1978 "I have more faith in greed than in regulation" Alfred Kahn, Chairman of Civil Aeronautics Board, 1980 Free entry subject to safety rules
Survival of the Fittest?
More than 60 new interstate carriers by 1983, i.e. New York Air, Republic, Piedmont, Ozark Airlines, SouthWest Most of them went bankrupt, was acquired or merged with the incumbents Airfares went down by 20% in the 80s, rising late in the decade however. What happened?
Using Game Theory
Fathers of modern game theory:
John von Neumann Oskar Morgenstern
Everything is a game! Players interdependent decisions Big question: What rational players do? Answer: Equilibrium concept
1994 Nobel to Game Theorists
John F. Nash Jr. Nash Equilibrium
Reinhard Selten
John C. Harsanyi
Perfect Equilibrium Bayesian Equilibrium
Rules of the Game
The small entrant - "Puppy Dog"
moves first decides to Enter or Not Enter a single route
The incumbent:
operates many routes observes entrant's choice moves second decides to Accommodate or Fight entrant
Playing the Game
Small Entrant
Enter Not Enter
Entrant: $0 Incumbent: $10m
Incumbent
Fight
Entrant: -$1m Incumbent: $7m
Accommodate
Entrant: $1m Incumbent $9m
Top Dog and Puppy Dogs
The incumbent accommodates Then it will face entry by many Puppy Dogs entrants to its other routes The incumbent just turns Top Dog:
Fight any Puppy Dog Send a message: "Don't mess up with us"
What happened in Europe?
In the past markets dominated by national carriers, often state owned and heavily subsidized by governments Compare two routes in mid 90s:
Washington-New York: 216 miles London-Paris: 211 miles European airfare 30% more expensive
LOT Polish Airlines History
National Carrier, est. January, 1, 1929 68% of shares owned by state. Protected by government Enjoying quit life: 3.7m travelers in 2003 2nd Award in ad festival held in San Francisco in 1995 for slogan: "Poland is free. The flight very reasonable."
Another of ad LOT Polish Airlines
"Fly to Cracow! A place with Paris coffee shops without Parisians."
Deregulation in Europe at last
Effective deregulation in Europe in 1997 Flood of new entrants New business model: low-cost airline May, 1, 2004 Poland joined EU
New low cost airlines sprang up LOT challenged at last Flying for a coffee as in LOT's ad? EasyJet's airfare on London-Cracow route from 16 British pound
Survival of the Fittest: Episode 2 Flood of new entrants in Europe
Ryanair 1050 900 750 600 450 300 150 0 1995 1996 1997 1998 Year 1999 2000 2001 2002 Virgin Express EasyJet Debonair GO Buzz bmibaby
Easy Jet LEAN and HUNGRY
Easy Jet is LEAN!!!
No thrills, only web tickets Two types of plane to cut service cost Plane is to fly not to stay in the hangar Plane not full? Sell tickets for 10 Euro
Easy Jet is HUNGRY!!!
2002: Firm order of 120 Airbus A319 aircrafts in 5 years with option for 120 in next 5 years
Losing the Game? Change the rules
Lean and Hungry Entrant
Enter Not Enter
Entrant: $0 Incumbent: $10m
Incumbent
Fight
Entrant: $1m Incumbent: $-5m
Accommodate
Entrant: $10m Incumbent $5m
Top Dogs turned Fat Cats
Big incumbents were made "Fat Cats with health problems" Subsidies in EU: "One time, last time" Easy Jet and Ryanair earn profits consistently SwissAir, Sabena went bankrupt Read news for more airlines obituaries
Fat Cats Face Reality
"The harsh reality is that our world has permanently changed, and we must change with it." Gerald A. Grinstein CEO of Delta, September 2004.
Fat Cats' Dilemma
Beg government...