Under chief executive Willie Walsh, Aer Lingus has taken a long, hard look at its business model and re-emerged with a highly profitable low-fares operation
It has been a remarkable turnaround by any reckoning. Only a couple of years ago, Aer Lingus was battling for its very survival. Today, it has cash in hand and is turning record profits with the promise of better still to come. What is more, the state-owned flag carrier has weaned itself away from its old reliance on premium traffic and is thriving on the sort of low fares that allow it to compete with the most aggressive of its low-cost rivals.
Willie Walsh, the youthful chief executive who has been at the helm since the dark days in October 2001, puts the transformation in more modest language. As he is fond of saying, it has been about making Aer Lingus "relevant" again in a world where a small, high-fare legacy flag carrier was looking distinctly surplus to requirements. You do not have to look far to see the signs of change. On the doors of the carrier's headquarters, a somewhat stark concrete affair at Dublin airport, are posters proclaiming fares of €29 ($37) each way to London. And Aer Lingus goes a lot lower than that too these days.
The transformation, perhaps inevitably, goes back to 2001. Even before the terrorist attacks devastated the carrier's only long-haul routes to the US East Coast, Aer Lingus had been heading toward trouble. Among other factors there had been the foot and mouth crisis among British cattle, which even led Ireland to postpone St Patrick's Day celebrations. By mid-year, Aer Lingus was forecasting hefty losses. By 11 September it was facing a cash crisis. "In the airline business we have tended to take cash for granted," says Walsh. As it ran out, the carrier faced extinction.
The near-death experience helped focus minds and an aggressive restructuring plan was pushed through within weeks of the terrorist attacks. "We just set out to buy ourselves some time and came up with a survival plan," says Walsh. Less than six months later, the goals had been achieved, with the workforce cut by a third and a headline 16% drop in overall costs.
As 2002 began to unwind, it became apparent that the mid-year upturn on which the management team had been pinning its hopes was not going to materialise. In fact, yields continued to spiral down. "We could fool ourselves and say that we got it right in October 2001, but we didn't," says Walsh, with the sort of earnest honesty that has helped Aer Lingus to face up to some uncomfortable home truths. The harshest truth was that the flag carrier was fighting for its survival, while low-cost carriers such as its near neighbour Ryanair were flourishing.
"There was a lot of soul searching around that time," he remembers, acknowledging how tough it was for executives who had spent whole careers building the airline in the mould of a traditional flag carrier. Walsh, at least, had the benefit of a little more outside perspective than most. In the three years before returning to headquarters, he had been in Spain running the Irish carrier's Futura charter subsidiary - an operation which he says was highly autonomous and very down to earth. In any case, Walsh at only 42 seems to represent a new breed of executive at the Irish flag carrier. Like the airline itself, he has shrugged off the ceremony, dispensed with a PA, and got down to work.
"The business model we had was a failure. It had brought us close to bankruptcy," says Walsh, pointing out that a model which cannot withstand external shocks is of little use in the airline industry. It was at this point, in mid 2002, when the management team determined not simply to restructure the business, but to transform it: and to do so without bringing in the usual troops of external consultants. The impressive cost cuts already achieved, and those still being planned, were to be used to fund a dramatic and permanent downward shift in the pricing structure of the airline.
The business-class fares which had underpinned the airline's life as a flag carrier were halved overnight. One day the airline was asking €1,000 for a premium fare to Brussels and the next it was €498. That is now the most expensive price the new Aer Lingus charges for any European fare, even a fully flexible, refundable business ticket. What is more, the airline introduced a fully flexible economy ticket as an alternative to a business booking. Yields have duly tumbled, causing a 7% fall in revenues along the way, but at the same time the new strategy has given a more accurate picture of what the real underlying demand is for a full business product.
A lot of modelling has gone on against the fares of the low-cost carriers. On the main trunk route to London Heathrow, for example, C-class fares are capped below the maximum Ryanair fare on its services to Luton. While Aer Lingus does not always need to be the cheapest on offer, the carrier, with its full service product, is determined to be competitive. "There is a premium that people will pay but it's less than we used to charge," says Walsh, conceding that it may be in the region of €10-40.
"People were paying the higher fares, but they didn't like paying them and they were going to do something else as soon as they could. So why wait to be forced to do something about it?" he asks. The fares experiment, which has seen previously unthinkable €1 ticket sales, would have sunk the company unless the costs were not only brought down but also stayed down. "We had to be certain that the cost reductions were bedded down," he says of the initial, somewhat brave, decision in 2002. "We pinned our colours to the mast. It made a statement that there was no return to the old ways of doing business and we developed on that during the year."
And if the Aer Lingus executives wanted any reminder of why there was no return then they need only look out of the window. There they can see the headquarters of Ryanair, that most aggressive of Europe's low-cost carriers. "It helps to keep us focused. They are on our doorstep, we can see what they were doing," says Walsh. He has never doubted that the low-cost sector was here to stay and one of the early moves in 2001 was to begin an aggressive benchmarking exercise against Ryanair and easyJet. "In the past we were benchmarking ourselves against traditional flag carriers and we perhaps felt a little too comfortable," he says. "I don't mind admitting that we've learned from low-cost carriers. It's learning what you don't have to do."
He argues that the carrier is now being driven by the customer, doing what they want and are prepared to pay for, whereas in the past, the focus was less on customer needs than on providing elaborate service levels. "We built in complexity assuming that if it's complex then it provides better service," he says. "Simplicity is the order of the day."
Stripping out the complexity has already helped bring overall costs down by 30% compared with where they stood in 2001 as the group was shedding cash. And highest on the list of savings, weighing in at a hefty 56%, is in sales and distribution. Benchmarking had demonstrated that Aer Lingus was at a massive cost disadvantage against Ryanair, which represented more than €20 per passenger per sector, even before the customer had checked in. To even up the odds, it set about slashing travel agency commissions and, above all, promoting web sales.
From virtually a standing start two years ago, internet bookings climbed to more than half of all ticket sales in 2003. Around 40% of tickets sales outside the Irish market are made over the web and the figure stands at over 60% at home, across all services and tickets. By way of scale, these volumes represent over €1 million of revenue per day.
The target is to take the online share up to around the 70% mark and could go further, although Aer Lingus still handles 10-12% of sales through call centres and will keep some business fares available on the computer reservation system.
Walsh is keen to stress that the new model, while based on low fares, is not that of a pure low-cost carrier. In fact, a next step in developing the aerlingus.com message is to start to emphasise the "points of difference" that give the carrier an edge in terms of service. That includes four simple key benefits: friendly service, assigned seating, flights direct to main airports and the promise never to leave the passenger stranded.
The key, says Walsh, lies not in providing elaborate service but in consistency. Advertising in the past may have focused on the luxury of business class but that was far removed from the average passenger experience. "Traditionally, we promised more than we delivered. Now when we say we're going to do something we are going to deliver it," he says.
Weaning the carrier off premium traffic has also changed attitudes to network planning. Gone are the days when routes were driven only by the business market with the back of the aircraft left to fill itself. Now, he says, the aim is for a "much more sustainable" balance. From March a number of services will have business class entirely stripped out and will, in future, only be retained where it is adding real value rather than just complexity.
Over the past two years Aer Lingus has added 30 new routes to its European network, closing four historic loss-makers and experimenting with new, often leisure-driven services. A typical example is the new route from Dublin down to the Spanish mass-market beach resort of Malaga. It was the sort of route that the old Aer Lingus would hardly have considered, but it was clear that others were making money in the market and gut instinct eventually overcame the dark warnings coming from the planning department. The route turned out to be arguably the carrier's most successful new launch and, jokes Walsh, it was the planning department that went. Joking or not, the department has indeed been dispersed.
The ultimate proof of the new business model has come from the group's new-found profitability, which is at levels that even appear to astonish Walsh at times. A year after the crisis, Aer Lingus had turned in operating profits of €64 million ($82 million) for 2002, equivalent to a margin of 6.6% on revenues that had dipped just under €1 billion. For 2003 that had risen to better than €75 million and a margin approaching double figures. Such profitability, as Walsh stresses, is better than Aer Lingus has ever posted in its history and has been achieved against the backdrop of a steady decline in revenues. On the Heathrow route, for example, yields have been in free fall, dropping 30% since 2001 and are due to fall another 5-6% this year.
The next challenge is to look at the options of raising ancillary revenue. Ryanair has made a fortune from on-board and online selling of everything from car hire and hotel rooms to travel insurance. Aer Lingus would like to follow suit. It already sells food in its economy cabin, having resolved the niggling disputes with flightcrew, and could go further.
In all of the cost cutting, Walsh has been determined to avoid the "mistakes of the past", including the quick fixes and firefighting at which the industry has become skilled over the years. The idea of setting up a separate low-cost unit is quickly dismissed. "If you've got a problem with your cost base, then you're not going to address that by setting up a subsidiary," he says.
The US model of winning emergency concessions from the staff, he believes, is also fundamentally flawed. Although the cost may go in the short term, "it is all going to come back", he says, adding that Aer Lingus made 2,000 permanent job cuts. At the same time, the staff that remain have continued to increase their pay, he says, pointing to the fact that while the headcount is down by 33% over two years, the labour bill has fallen by only 22%.
Walsh is equally wary of falling for the old temptation to grow the airline out of trouble, only to risk being left with too many seats and too much cost when markets next turn down. "There's plenty of potential for us to grow, but we're resisting the temptation," he says. "There's more to do in terms of getting our cost base down before we start any significant expansion."
However, the move toward a simplified single fleet type on European operations will bring with it substantial capacity growth. The plan is to replace the existing mix of Boeing 737-300/400s and BAe 146 regional jets to standardise on the Airbus A320 family. An order for 17 aircraft was placed last September and the first is due to arrive in April, with the last 737 scheduled to leave around November 2005. That is a year earlier than originally planned, thanks to the speed with which the carrier's financial health has improved.
While the capacity gains are a bonus, the virtues lie in the simplicity of a single aircraft type. "It's incredible when you look at how much you end up paying for what was traditionally labelled as flexibility," says Walsh, cataloguing the savings on crews, scheduling and maintenance. "It makes pricing and your approach to the market very different too."
With load factors at 76% across the network - up 11 points from two years earlier - and that €1 fare offer in reserve, Walsh has little concern that the new capacity will be filled. There may still scope to take factors up to 80%, he suggests.
But his real enthusiasm is reserved for potential on the North Atlantic, where flights have run at 86% full over the last year. Even at the start of the year, the numbers were in the low 70s. The only block to expansion is access to the US market, limited for years by the Irish bilateral agreement which insists on a stopover at Shannon in the west of Ireland for half the flights. So far that has limited access to New York, Boston, Chicago and Los Angeles, with a return to Baltimore Washington International also planned this spring. Walsh is "optimistic" that there could be movement this year as the Irish government weighs up the gains to be made from lucrative in-bound tourism, which accounts for around two-thirds of passengers.
"I believe that we can double the numbers in two or three years of gaining the access. We would quickly respond. Within three months we would launch three new gateways in USA," says Walsh, who has talked of as many as 15 potential new US destinations. The airline would need to add to its fleet of seven A330s, but with widebodies freely available in the market there is a window of opportunity that Aer Lingus is keen not to miss.
"We're not afraid of the competition," says Walsh. "If there is going to be more competition on the transatlantic then we say bring it on." Walsh concedes thatalso means competition with fellow members of the oneworld alliance. "It creates tensions but that is a good thing within an alliance. It makes us all better,"he says. "Of all the alliances, oneworld is probably the most practical. After 11 September we knew that the alliance could only be strong if all the members were strong. As we restructured we spoke to one another and shared our benefits and mistakes in an open dialogue."
One final piece of unfinished business is the group's privatisation. Aer Lingus has been on the list for the best part of a decade, but governments have come and gone without progress. Although there is some enabling legislation going through the Irish parliament, Walsh sees no particular rush towards a sale. With cash in hand and profits growing, there is less urgency than there was, and the airline team is not in any hurry to have to deal with the distraction that a flotation would bring. For now, the target is to keep driving down costs, or rather embedding a low-cost culture throughout the company. The company is no longer even posting up a hard cost-cutting target as it did in the past. "Where do we cut?" says Walsh. "We just cut everywhere."
Willie Walsh is far from typical as the head of one of Europe's few remaining state-owned flag carriers and, at only 42, must rank among the youngest. At first glance he seems fairly unassuming, but when describing his mission to transform Aer Lingus, the passion starts to show.
Colleagues say that he is in the office at 08:00 each morning logging on to check his e-mails - he has no PAand controls his own diary.
Walsh first joined Aer Lingus back in 1979 as a cadet pilot after graduating from Trinity College in Dublin with a masters in management. He rose swiftly through the ranks at Aer Lingus to emerge in 1998 as chief executive of Futura, the group's Spanish charter subsidiary based in Palma.
He concedes that his time in Spain, running what was a highly autonomous unit, may have given a sense of perspective when he eventually arrived back in Dublin to become chief operations officer in 2000.
When Aer Lingus controversially dismissed its chief executive in July 2001, Walsh was eventually chosen to step into the role, which he did on 19 October, just weeks after 11 September.
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