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The post September 11 generation March 2004 Download PDF

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The post September 11 period has seen an unprecedented wave of new airlines emerge — 53 airlines worldwide are identified on page 4 — and there are doubtless others with "blue", "fly" or "sky" as part of their name. Moreover, there are at least as many start–up business plans currently seeking financial backing.

To some extent this is a cyclical phenomenon: previous waves of new entrants appeared in the early 80s in the US and in the mid- 90s in the UK, in both cases the result of a combination of deregulation that opened up new possibilities and industry recession that made factors of production (aircraft, pilots, slots) relatively cheap and attainable. For investors with an appetite for risk, a start–up airline project at such times can be an attractive proposition.

The grim reality is, however, that most start–up projects either never get off the ground or fail in the early years of operation.

It has been estimated that the US failure rate for start–ups was around 97%.

This time around the start–ups have mostly emerged in Europe and Asia, while in the US, most of the activity has centred around the spin–off of low cost subsidiaries of the network carriers. There are numerous types of start–ups:

  • LCC models, for example Air Asia, based at Kuala Lumpur using a Ryanair–type model, VBird, based at Neiderrhein, attempting to introduce a jetBlue–type operation to Europe; Air Arabia, based in Sharjah, UAE, adapting an easyJet model to the Middle East and becoming the first flag–carrier designed on LCC principles.
  • Independent charter airlines, like Astraeus in the UK, Air Finland, and Blue Wings in Germany, or new tour company–owned charters like Canada–based Zoom.
  • Low cost scheduled subsidiaries of existing full service carriers — Song (Delta), Ted (UAL), bmibaby (bmi), snowflake (SAS).
  • Pre–existing airlines evolving from regional into LCC types, for example, Norwegian Airlines.
  • Niche carriers, for instance Air Bourbon linking Paris to the island of Réunion.

There have been few start–ups in the scheduled long haul market, which is natural given that market access is far more restricted by bilateral air service agreements.

However, entrepreneurs see opportunities here: BlueFox, a London–based business–class transatlantic airline project, continues to seek funding, while a 747 start–up in Australia has reportedly just signed a capital funding agreement with an experienced airline investment fund.

The post September 11 environment in the US has been hostile towards new entrants, though Richard Branson is now being ardently wooed by many US cities that want to be the base for Virgin USA when or if it materialises. Overall traffic volumes in the domestic market remain depressed, the existing LCCs (Southwest, jetBlue and AirTran) have grown strongly, and there have been opportunities for investors in airline restructurings (whether successful like Frontier and Alaska or inadequate like US Airways). The one innovation in this region which has yet to spread to Europe or Asia is the attempted conversion of regional carriers to LCC models using Regional Jets — ACA’s Independence Air venture is the leading example.

Other major carriers such as Qantas and SIA intend to launch their own versions of the LCC model, and in the process avoid the problems that befell BA with Go, Continental with Continental Lite, Air Canada with Tango, etc. SIA’s subsidiary, Tiger Airways, is due to be launched this summer, given additional credibility by the presence of highly experienced private investors David Bonderman/Bill Frankie and the Ryan family who are backing the project. Qantas claims that its subsidiary, JetStar, will have much lower unit costs than Virgin Blue, and has imported ex–Ryanair management expertise to ensure this.

Cyclical features

So what are the underlying reasons for the start–up phenomenon? Aircraft availability In the past two years this has been the lifeblood of liquidity to many of the new carriers (albeit that ventures such as Ted and Song are a mechanism for incumbents to utilise excess capacity).

A global over–supply of new generation equipment (A320 family and 737NGs) and older but good quality types (737–300s and — 400s) has provided a ready source of equipment.

And this surplus has not been mopped up by the fast–expanding existing LCCs such as easyJet, Ryanair and JetBlue, which have placed mega–orders for new aircraft.

We estimate that just under 200 aircraft (including some widebodies) have gone to post September 11 carriers. But there are still around 500 units currently parked that could come back into commercial service, as well as widespread availability from the lessors.

What is remarkable is that completely new businesses with no trading track record have access to assets of such high capital value, and in relative terms, for minimal collateral (usually three months lease deposits).

Furthermore, these new customers in some instances appear to have negotiated lease rates even more advantageous than big–name airlines. BA and Air France have started urging providers of finance to take a stricter view of airline credit in order, in their view, to help stabilise the industry.

Market opening As full service network carriers have adjusted capacity and network size in response to falling demand, niche carriers have taken advantage of the window created. In the extreme case a failure of the incumbent carrier has led to multiple start–ups trying to fill perceived gaps in the market — VBird, Birdy, Helvetic and Fly Baboo were to some extent products of the Swissair and Sabena bankruptcies.

Customer expectations Travellers have always been price sensitive but the LCCs have stimulated a whole new market for leisure and VFR passengers, who have now come to expect low fares (if booked well in advance) and minimum frills. And following the excesses of the dotcom boom, LCC travel for business passengers has become very widely accepted, even favoured against network carriers in many cases.

Lower costs Availability of labour (cockpit, cabin crew, engineering), has clearly assisted start–ups in some markets. Start–up airlines have also found it easier to negotiate with ground handling suppliers who have been affected by volume downturn and whose own sector has been deregulated, and consequently become more competitive.

Structural features

Barriers to entry are also lower than they have been in previous industry downturns for structural reasons.

Direct selling and distribution Theinternet and use of direct selling mechanisms on travel distribution is a critical factor.

A web–based booking engine and user–friendly website has been exploited by the successful LCCs to produce a massive reduction in distribution costs. The new distribution channels have all but eliminated the old barriers to competition enjoyed by established airlines, through their hold over travel agents and the use of GDSs.

IT systems Today software covering booking and reservations, yield management, operations and control is available in packages from suppliers like Navitaire and Intellysis. A start–up operation can acquire a functioning system for a commitment of less than US$1 million and be operational within months — without the need to invest heavily in people or bespoke development.

Outsourcing Key production areas such as ground handling (ramp, passenger and cargo) and, if the product requires, catering can be outsourced at base and outstations. All heavy engineering and, in some cases, line engineering functions can be outsourced to specialist contractors.

New supplier relationships New entrants do not have to be price takers from their suppliers. Most strikingly the traditional relationship between airlines and airports has been shaken up. Many airport operators, from BAA to the owners of previously pretty much unheard of or un–utilised airports now have a much more commercial outlook on this relationship

. Start–up airlines can receive significant route development and marketing support as well as (now subject to EU state aid conditions) discounts on landing fees and other charges.

Successful business plans?

Our survey of start–ups has been taken from a September 11 baseline. Extending the timeline just a few years back, the list would include some high profile growth stories such as jetBlue, Virgin Blue and Go as new entrants who had attracted private equity into the market. Along with at least one post September 11 example, Air Asia, these airlines demonstrate the main attraction of the start–up. If the business plan works, higher growth and profits can be achieved than by the incumbents. Even better, the original investors can realise value very rapidly through attracting second stage investors to fund growth (see table, above). Air Asia attracted three investors within 18 months and Virgin Blue sold a 50% stake to Patrick Corporation within two years and achieved a rapid capital market exit through an IPO within four years.

Of course, the number of the current wave of start–ups that will achieve such returns will be very limited. Success is dependent upon various factors which are rarely in alignment together:

  • Highly experienced management with experience relevant for the particulars of the business plan. Trying to match LCC experience with the understanding of particular regional markets is a major challenge.
  • The majority of the start–ups have small fleets, usually below five aircraft.
  • To achieve the types of return of the industry lead examples, the model must be able to achieve significant top line growth. Scaleability of the business model is the central success factor.
  • Success is dependent upon both creating a low cost base relative to the competition and sustaining it as the business grows. Experience so far suggests that this is not easy to achieve in practice and requires continual, dogged and single–minded focus.
  • In a cyclical industry there is no substitute for timing. For example, Virgin Blue’s success coincided with and benefited directly from the failure of Ansett. Air Asia’s appearance in Southeast Asia as the first LCC style operator has given it a significant "first mover advantage". Much of the timing issue derives from exploiting greater market access — the reason why so much start–up activity is occurring in Asia.
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Airline Country Base Fleet Backers/Owner Concept start
Adam Air Indonesia Jakarta 2x737, 1x737 Adam Suherman 100% Sched. domestic Dec-03
Aero Mongolia Mongolia Ulaanbaatar 2xF50 Undisclosed Sched. domestic May-03
Air Arabia Sharjah Sharjah 3xA320 Sharjah CAA 60%, Kanoo Travel Middle East LCC Oct-03
Air Asia Malaysia Kuala Lumpur 12x737 Tune Air Holding 73.41% LCC Ryanair model Jan-02
Air Bourbon France Reunion Island 1xA340 Undisclosed Scheduled int'l Jun-03
Air Deccan India Bangalore 4xATR Deccan Aviation 100% Regional to LCC Aug-03
Air Finland Finland Helsinki 2x757 Jussi Salonoja plus 7 investors Int'l charter Mar-03
Air Paradise Indonesia Bali 1x737,A300,A310 Bounty Group 100% (Kadek Wiranatha) Scheduled int'l Feb-03
Air Polonia Poland Warsaw 2x737, 4xLET410 Undisclosed Regional LCC Dec-03
Air Southwest UK Plymouth 2xDash8 Sutton Harbour Holdings 100% Regional Oct-03
Astraeus UK Gatwick 4x737 Management and Aberdeen Private Equity Int'l charter Apr-02
AV8Air UK Manchester 1x757, 1x767 CT2 100% Int'l charter 2004
Birdy Belgium Brussels 3xA330 G.Gutelmann, V.Hasson Scheduled int'l Apr-02
Blue Wings Germany Dusseldorf 1xA320, 1xA321 Jorn Hellwig and others Int'l charter Jun-03
bmibaby UK E.Midlands 15x737 BMI Scheduled int'l Mar-02
Bonair Exel Netherlands Antilles 2xATR Bonaire Holding 100% Sched. reg/dom. Sep-03
CanJet Canada Halifax 6x737 IMP Group International, Inc. Sched. domestic Jun-02
Denim Airways Netherlands Augsburg 14xF50/F27, 5xDash8 Airton BV, EDW Beheer BV Sched. charter Jun-03
Duo UK Birmingham 9xCRJ MBO June 2003 100% Maersk UK Scheduled int'l Jun-03
Etihad UAE Abu Dhabi 2xA330, 1xA340 Abu Dhabi Government Sched. int'l/reg Nov-03
Fly Baboo Switzerland Geneva Dash 8 Undisclosed Scheduled int'l Nov-03
Fly Jet UK LGW/MAN 2x757 Undisclosed Int'l charter Jun-03
Fly Niki Austria Vienna 1xA320, 2xA321 Air Berlin 24%, Niki Lauda Int'l charter Nov-03
Germania Germany Berlin 17xF100 Germania Sched. charter Jun-03
Hapag Lloyd Germany Cologne 4x737 TUI Sched. charter Dec-02
Hellas Jet Greece Athens 3xA320 Cyprus A/W 49% Sched. int'l-LCC Jun-03
Helvetic Switzerland Zurich 5xF100 Undisclosed Scheduled int'l Feb-02
Hooters Air USA Atlanta 4x737 Bob Brooks Sched. domestic Jun-03
Iceland Express Iceland Reykjavik 1x737 4 private investors Scheduled int'l Feb-03
Jet 2 UK Leeds 6x737 Dart Group Sched. int'l-LCC Feb-03
LAFE Argentina Buenos Aires 6x737 Brazil Govt. 80%, Intercargo 20% Sched. int'l/dom Oct-03
Lagun Air Spain Leon 4xSaab340 Regional Govt. aid €5.8m Sched. domestic Sep-03
Livingston Italy Milan 3xA321 Livingston Aviation Group Int'l charter May-03
Norwegian Norway Oslo 8x737, 6xF50 9 private investors LCC dom/int'l Sep-02
Quebecair Canada Quebec 2xSaab340 Undisclosed Sched. regional Apr-03
SkyEurope Slovakia Bratislava 2x737, 6xEmb120 Private + EBRD, ABN Amro and EU funding LCC Feb-02
SkyNet Ireland Shannon 2x737 6 private investors own 75% Scheduled int'l Jun-02
SkyNet Asia Japan Fukuoka 4x737 Hiro Hattori 100% Sched. domestic Jul-02
snowflake Sweden Stockholm 4x737 SAS Scheduled int'l Mar-03
Song USA NorthEast 36x757 Delta Airlines Sched. domestic Apr-03
Styrian Spirit Austria Graz 3xCRJ Local private investors Sched. regional Mar-03
Ted USA Denver 5xA320 UAL Sched. domestic Feb-04
Thai Jet Thailand Bangkok 2x757 Owned by AtlasJet Int'l charter Dec-03
Thomas Cook Belgium Brussels 4xA320 Thomas Cook, Germany Int'l charter Mar-02
U Air Uruguay Montevideo 2xF100 Undisclosed Sched. regional 2003
ValuAir Singapore Singapore 2xA320 Lim Chin Beng 89%, 11% LCC JetBlue model 2004
VBird Germany Niederrhein 4xA320 Niederrhein Airport, R.Stinga + others LCC JetBlue model Oct-03
Viking Sweden Heraklion 2xMD80 Undisclosed private investor Int'l charter May-03
Wind Jet Italy Sicily 4xA320 Finaria Group 100% Domestic LCC Jun-03
Wizz Air Poland Katowice A320s Undisclosed LCC May-04
Zoom Canada Ontario 2x767 Go Travel Direct 100% Int'l charter Dec-02

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