Network players have always struggled to make short haul pay, but it remains an essential part of the hub-and-spoke model. Now low-cost carriers dominate this market, can the two sides shift their strategies to work together?
There is an uneasy tension brewing in the hub-and-spoke model. Network players would kill to have feeder partners the size of Ryanair, AirAsia or Southwest. While squaring the business case for all sides is tough, both camps are keen to boost their passenger numbers and bottom lines at minimal cost. This sparks hope for hub-and-spoke relations between the two opposing creeds.
"Herb Kelleher created a bit of a religion with his no-frills approach," says Vueling chief Alex Cruz. "Nearly 30 years later, easyJet and Ryanair have been dictating what is and what is not acceptable within the religion." Clickair, which is now merged into Vueling, started off as a good disciple, following the low-cost doctrine to the letter. "We believed everything in this new religion would make us successful," says Cruz. "But our business-class passengers said 'sod this, we're going to another carrier'. After that we began to pick and choose every commandment."
Vueling began connecting its own passengers via its Barcelona base in July 2010. "That is a big no-no," says Cruz. "Commandment number five states 'thou shalt not connect passengers'." By the end of 2010 it had handled a "meaningful" 177,000 transfers. "It was obvious with our network size that it was worth doing," says Cruz. "The results have been fantastic. We have had very few increased costs, yet it has been a tremendous additional revenue source." In 2011 Vueling expects to increase its transfer traffic total towards half a million.
Passengers pay for both point-to-point legs, plus a €5 ($6.80) connecting fee. As part of the deal they get free wireless access and shopping discounts at Barcelona airport. This costs Vueling nothing; it is an airport incentive. "We took on one single, non-variable expense - a transit position at Barcelona airport in case of lost boarding cards," Cruz explains.
Vueling's Navitaire Open Skies platform was able to handle multiple segments, so only "a little bit of development" was needed, although the airline plans to upgrade to New Skies at the end of the year. The remainder of the relaxed six-month lead-up was used for talks with Barcelona airport operator Aena and for handling agent training. "We are probably slow at these things, but we tend not to fail," says Cruz. "We have proven that we are able to do this and drive our cost base down."
Madrid-based Iberia, which owns 45.85% of Vueling, has looked on with interest. Facing competition from low-cost carriers and high-speed rail, Iberia is "simply not making money on short- and medium-haul operations", said chief executive Antonio Vazquez, just before becoming chairman of International Airlines Group, the new British Airways and Iberia parent.
"We cannot operate with the costs of Iberia and the revenues of a low-cost carrier. We must adapt, otherwise we will lose market share and put our long-haul feeder operations in danger," said Vazquez. Iberia's priority may lie with long-haul, but a restructured feeder network is vital because 70% of its international passengers connect.
In Vueling, it seems, Iberia may have found a partial solution. It has tapped Vueling to operate a selection of short-haul routes from Madrid under a short-term contract that runs from April until the end of the summer.
Iberia is also handling several short-haul routes to regional franchise partner Air Nostrum, as it tries to thrash out a longer-term solution with its pilots. Several options are on the table, including establishing a new short-haul airline and contracting out flying to third parties under similar agreements to the one signed with Vueling and Air Nostrum.
This fits neatly with Vueling's growth strategy. "Obviously the next step for us is to connect with another airline and we wanted to do in a controlled way," says Cruz. "This year we are going to attempt to prove wrong commandment number six - 'thou shalt not do anything with other airlines'."
In addition to the Madrid routes, Vueling will feed Iberia's Barcelona-originating Sao Paulo and Miami services, although neither will be available through Vueling's website. Most of Vueling's flights already carry Iberia's code under a one-way codeshare deal, regardless of whether they connect or not. But Vueling has now lifted a GDS restriction, which limited its flights to point-to-point sale, so its flights can be sold in conjunction with Iberia's. This means a passenger can request a Miami-Mallorca flight from their agent, including Vueling's Barcelona-Mallorca segment, on a single, all-Iberia coded itinerary.
BREAKING THE RULES
"As time goes by, we will remove further restrictions and sign deals with other airlines so that they can sell itineraries with their own airline and an Iberia segment, even though it is flown by our metal," says Cruz. "We have this job for Iberia, but we are building it very much in mind to fit with other airlines."
Cruz says Vueling has received tentative feeder approaches from several carriers, including oneworld's American Airlines. "We are quite aware of the fact that we are 45.85%-owned by a oneworld airline. This gives us easier access to oneworld carriers."
Through its diluted alliance ties, Vueling is virtually cousins with Qantas budget subsidiary Jetstar, which has a well-advanced feeder strategy. The Melbourne-based carrier boasts codeshares with American Airlines, Japan Airlines and Qantas, as well as an increasing number of interlines.
Like Cruz, Jetstar Group chief Bruce Buchanan is deliberately shaking things up, offering products not typical to low-cost players. On 1 February, Jetstar became the first non-oneworld carrier to participate in oneworld-branded fare packages, via its Qantas codeshare. "Through strategic interline and alliance fare agreements such as this, we are tapping into new customer markets," says Buchanan. Cruz believes this could be a viable path for Vueling. "It makes a lot of sense and could be a very interesting model for us to follow, but they are 18-24 months ahead of us."
Low-cost purists would probably argue that Jetstar and Vueling are complicating their models under the influence of their legacy airline owners. But, surprisingly, even the greatest fundamentalist of them all, Ryanair, does not immediately dismiss the idea. "If someone was willing to pay us for feed, we would be very happy to talk to them," says Ryanair deputy chief executive Michael Cawley. He says there are two ways Ryanair could be motivated to act as a feeder: to generate additional passengers or being given "a big cheque to do it". But Cawley is quick to add that any partner would have to take all the responsibility: "We would not want any complexity, and the passenger would have to transfer their own bag." But this would be "virtually impossible", says Marcelo Bento Ribeiro, who is yield and alliances director at Brazilian low-cost carrier Gol. "If you want to service international connecting passengers, you have to bring in some complexity."
Gol kicked off its feeder strategy three years ago and today it has one-way codeshares with Air France, American Airlines, Delta, Iberia and KLM. Similar deals with Aeromexico and Qatar Airways should go live by June and it has interline deals with many more. "Every passenger we get through those partnerships, we wouldn't get any other way," says Bento Ribeiro. "Their revenue goes straight to the bottom line - I can't give any numbers, but it definitely contributes to our results. Gol really has to thank Air France, because it took the time - and a considerable workload - to see whether it was even possible. Other airlines were much more conservative."
Gol was cautious too, restricting its deals to the "low-hanging fruit" of one-way codeshares. "It is easy to do it all one-way, but that doesn't mean we'll never have the ability to market other airlines. It brings more complexity in terms of fare structures and workload, so, if we ever started doing that, we would start with just three or four [destinations]."
Bento Ribeiro says the jump from interlines to codeshares was "not much more complex, operationally". Gol was already listed on the global distribution systems and offered connections on its own network, meaning most of the work was IT-related. Gol now uses Navitaire's New Skies platform and is satisfied with it. "We don't have any plan move away from it. For our business, it fulfils our needs."
Gol revisited every aspect of its operation before its feeder debut in 2009. This revealed that its staff had never seen paper tickets before and its bag tags were not 100% IATA-compliant. "I would advise anyone considering such as move to do very careful planning," says Bento Ribeiro. "This is not something you can turn on one day and have working the next. You need to work closely with your airline partner to make sure you understand one another's expectations. You need to agree on every point, to avoid misunderstanding or unfulfilled expectations, and communicate well with your employees so they understand what to do in every situation." He also recommends "very careful and transparent" dialogue with investors. "Our only concern was making sure our investors knew we were adding to our business and not changing it."
Gol's key motivation was to increase its passenger numbers. "Low-cost carriers all over the world are evolving. They realise that to grow, you must cater for different sections of the market. If they only cater for cost-sensitive leisure customers, at a certain point they will reach their fill of that and have to go for another segment," says Bento Ribeiro. Seabury senior vice-president Geoffrey Weston agrees: "As the low-cost market shakes out, everyone is focusing on segmentation, putting even more pressure on network carriers."
Although codeshares are not hugely different from interline deals, passengers are reassured by familiar branding, he says. "When you carry another code, like Delta's, customers know what degree of service they are going to get. They know it has been audited as safe and secure. This increases customer confidence and customer volumes."
Long-haul players seeking feed in Brazil have a limited choice - two airlines control 80% of the market - but Bento Ribeiro believes that, beyond his own market, low-cost and network partnerships are a hot topic. "This is something virtually every long-haul carrier these days is trying to figure out. The big issue is that not all low-cost carriers want to do it, but I do think this is a trend." JetBlue director, alliances and partnerships Scott Resnick agrees, saying that low-cost to traditional airline feed is "definitely" something to watch. "This is new area for us, but it has growing importance within JetBlue."
ATTRACTING A MATE
This is hardly a surprise. JetBlue is quite the sought-after partner, thanks to its New York JFK hub, even attracting an equity investment from Star Alliance heavyweight Lufthansa. But this did not stop it sealing an interline deal with Lufthansa's oneworld rival American Airlines. "Lufthansa is a good partner, but we don't want to be tied down to any alliance or partnership. Our obligation to our shareholders is to find partners that deliver the most value," says Resnick.
Resnick dismisses concerns about the risk of a product divide as passengers transition from traditional carriers to low-cost players. "It's not as important as it once was. Although we are an all-coach carrier, we make sure we deliver a premium experience that happens to be coach, but is consistent with legacy airlines. Passengers are looking for good connections, which are seamless and on time with friendly staff." After pursuing an organic growth strategy, JetBlue was looking to swell its passenger numbers. Resnick says it was "hard to look beyond the opportunity" of connecting traffic, although costs remained a prime concern. "We don't disclose the specific results of our partnerships, but we are really pleased and encouraged by how they are performing, contributing to our growth and ramp-up. We are happy with what we have seen so far."
JetBlue codeshares with Cape Air and Lufthansa on selected routes and has interline deals with Aer Lingus, American Airlines, El Al, Emirates and South African Airlines. "We will add about another six this year," says Resnick. "I'm not sure what the maximum is, but most airlines have more than 100 interline partners; we have seven. I don't envision 100-200. That's just not the right model for us."
JetBlue recently invested $50 million in its transition to Sabre, but its earliest deals were done with a "less robust" reservations platform, which meant it needed to work more closely with its first three partners. "Technology cannot be understated in this field. Our cutover to Sabre has accomplished many, many benefits beyond partnerships. What we are doing today would not have been possible before, so we have no regrets."
Resnick believes technology has a big part to play in reducing the complexity and cost implications of low-cost to traditional airline tie-ups. "I suspect we will see this as a trend see among low-cost carriers. There is definitely space and room in the industry for low-cost technology to make this easier."
Today JetBlue's interline fares are only available for sale via its partners' websites and through travel agencies, but the airline is looking to add this functionality to its own website. "We are excited about this, which is something we are working on actively now. It will be the first half of this year."
Unlike Gol, JetBlue prefers interlines to codeshares as they deliver the majority of the value, without the extra complexity. "What does the code really bring, other than complexity?" asks Resnick. "If you end up being the marketing carrier, you have a big [cost] lift in having to file fares in partners' markets. We have invested a lot in our brand. We want to be transparent about who we work with." He has reason to be cautious. Late last year, Jet-Blue faced a hefty fine from the US Department of Transportation because its call-centre staff failed to specify when flights were operated by Cape Air under codeshare. "That was an important lesson for us to learn," says Resnick. "We have taken it very seriously."
Then there is the question of airport preference. Dirk Albrecht, partner in charge of Roland Berger's Aviation Practice, believes the mega-hub or point-to-point debate is "projecting itself onto the short-haul market more than long-haul at the moment". Low-cost carriers favour cheaper, uncongested airports, while network carriers want mega-hubs. This is just one more element that would have to be resolved for the two sides to join forces.
But a solution might be needed sooner rather than later. Roland Berger's report "Future scenarios for the European airline industry" questions whether low-cost airlines will operate all intra-European flights by 2015.They already dominate short-haul, making disconnect a major question for legacy airlines, says Albrecht. "I don't think they can avoid this situation, because they are already in the middle of it, so it's a more a case of what they can do to alleviate it," he says.
In the absence of a coherent solution from the airlines, passengers are becoming more savvy. "Those passengers who know how to connect will connect anyway," says Chris Tarry, principal of aviation consultancy CTAIRA. He adds that if just two or three passengers per flight transferred between easyJet and Virgin Atlantic at Gatwick, it would create a feasible feeder operation. This has not escaped Virgin's attention. Last May, Julie Southern, then Virgin Atlantic chief commercial and financial officer, said: "We do talk [with easyJet] about it periodically and we already have quite a lot of self-connecting traffic. The challenge is we have fundamentally different business models. EasyJet is not willing to put complexity into its model."
Tarry says this reluctance creates openings for overlay services, such as transfer agents, and new ancillaries like connecting insurance. "The easier you make it for the travelling public, the more likely they are to take it up." Indeed, in an ironic echo of the travel agency days, companies such as Icelandic technology firm Dohop have stepped in to encourage passengers down the self-connecting route.
Airports have also emerged as unlikely connections facilitators, lured in by the appeal of increasing their airline and passenger numbers. But while airports may have a link role to play, a senior airline source observes that "eight out of ten people don't know who airport operators like BAA are", so they would need to invest in a consumer-facing brand.
Despite this reservation, the source believes low-cost and network carrier connections have a future. He flags the potential of a tie-up between low-cost goliaths like easyJet and Southwest, with the transatlantic leg served by a new joint-venture long-haul carrier or an existing player like Virgin Atlantic. "This is not too remote from reality," he says.