JetBlue's high capitalisation, high growth plan August 1999

The launch of JetBlue (formerly known as New Air) is now expected towards the end of this year, having so far attracted some $130m of venture capital from investors such as George Soros. For an airline that is still some months away from taking its first passenger booking, JetBlue has generated a great deal of hype. So how viable is the strategic plan of this self–proclaimed “mega new entrant”?

In the April issue of Aviation Strategy we reviewed JetBlue’s proposed network out of New York JFK, focusing on the major market opportunities that the airline could exploit. Remarkably, traffic volumes on many domestic routes from JFK had fallen by more than 30% from 1985/86, the time when People Express was at its peak. And yields on some of these routes look to be very high. Consequently, JetBlue confidently forecast strong traffic stimulation factors resulting from its entry and was able to sketch out a plan whereby it would develop a network of 44 points in the first three years of its operation.

In this article we will be concentrating on other elements of the JetBlue strategy, in particular the importance of exceptionally high start–up capital, without which the venture would not have gone ahead. JetBlue’s management attributes the failure of so many start–ups to inadequate capitalisation, which leads to excessive concentration on the conservation of cash at the expense of longer term strategic expansion.

Significance of the A320 order

The main use of the start–up funding will be aircraft deposits. In April JetBlue ordered 25 A320s, with options for a further 50. In addition it is leasing further A320s from ILFC and SALE. Unit prices for the orders are, of course, a secret but, as this was a prestigious order for Airbus to win against competition from Boeing’s 737–700s, it can be assumed that JetBlue got a very good deal. Indeed, it might be possible for JetBlue to stick rigidly to the Airbus delivery schedule — which approximately requires the addition of 10 aircraft a year — and lease aircraft out as a profitable sideline. The aircraft order is central to JetBlue’s strategy for several reasons:

• First, JetBlue puts very strong emphasis on the safety perception of start–ups in the US. It clearly sees an all–new fleet as a major sales point in relation to other new entrants and also to established Majors. Promoting the all–new fleet will be an essential element in building JetBlue’s brand.
• Second, its cost structure depends on utilisation of around 11.5 block hours a day, which is probably only achievable with an all–new, maintenance–guaranteed fleet.
• Third, JetBlue will use its Airbus commitments to leverage its negotiating power with the airport authorities. This is in contrast to the traditional start–up approach whereby new airlines first decide which points they intend to serve, then go to these cities to seek gates, check–in desks and concessions, but are generally in a weak bargaining position because their fleet plans, and hence growth prospects, are nebulous.

JetBlue’s strategy is first to identify the routes that meet its requirements in terms of potential demand, then approach the airports with Requests for Proposals. In other words, JetBlue intends to makes the airports compete for its business, and expects to be able to play off one city against another. JetBlue is, in effect, borrowing a standard strategy from other industries — it gives the example of General Motors obtaining competing bids from several states before deciding where to locate a new plant. JetBlue will also concentrate on secondary airports in major markets, again with the aim of strengthening its negotiating position.

To connect or not to connect?

JetBlue’s top management takes Southwest as its industry model — hardly surprising as most of these managers are either ex–Southwest or, like the CEO David Neelemen, ex–Morris Air — the Salt Lake City airline that was bought out by Southwest. It is therefore planning a point–to–point operation with no hubbing.

JetBlue expects that this strategy will curtail the competitive response of the incumbents. For example, JetBlue will probably start an operation from Buffalo to JFK, a route on which no other carrier offers jet service at present. Continental flies from Buffalo to Newark and US Airways from Buffalo to LaGuardia, but neither of these carriers could drastically reduce fares to JetBlue levels without greatly increasing their own local traffic and spilling important connecting traffic to destinations like Washington and Florida.

For distribution, JetBlue is going to heavily promote Internet bookings and will rely on its own internal reservations system (which was very successful when developed at Morris Air but which, it must be said, has posed problems for other small airlines that have bought the system and tried to adapt it for markets with connecting traffic).

In this regard, one wonders whether JetBlue is being too rigid in transferring a Southwest–type point–to–point operation to JFK. It may be missing a major market opportunity by largely ignoring short haul connections from international flights at the US’s main gateway. (Also, it is worth remembering that BA and other foreign carriers were very interested in buying Pan Am Express as a JFK feeder in the early 1990s, though nothing materialised mainly because of ownership restrictions).

Southwest costs in New York?

A similar question about JetBlue’s plans relates to its cost base. In its preliminary projections JetBlue appears to aiming at the same unit cost — 7.4 cents per ASM — as Southwest despite the fact that it will be operating in a much higher cost environment and that it will not be able to achieve the same economies of scale (Southwest’s fleet contains 280 units).

JetBlue justifies its cost predictions by arguing that its costs are not escalated by seniority consideration in the way that Southwest’s now are. Nevertheless, JetBlue’s estimate that its average cost per employee will be around $36,000 against $48,000 at Southwest suggests that management has not fully appreciated the cost of living in New York.

On the other hand, JetBlue may be being too conservative with its unit revenues — around 7.7 cents per ASM against Southwest’s 8.3 cents — as US Airways achieved 13.8 cents operating mainly in the short/medium haul East Coast market last year.