By David Knibb in Melbourne

Jetstar is the poster child of that turbulent group of airlines called "baby low-cost carriers", the no-frills offspring of legacy airline parents. Distinct from their free-standing cousins such as Ryanair and Southwest Airlines, baby low-cost carriers come with their own set of issues.

As Jetstar illustrates, success hinges on a delicate balance between independence from and integration with the parent airline, in this case Australia's Qantas. Among baby low-cost carriers, Jetstar is one of the few that seem to get this balance right.

But just as the world starts to recognise its success, Jetstar is about to embark on a new and untried business model as it graduates from short-haul operations in Australia and New Zealand into much longer flights to Asia and the Pacific. This bold expansion, set to start in November, leaves the next chapter in its success story very much unknown.

Qantas decided to launch Jetstar for the same reasons that All Nippon and South African Airways are considering baby low-cost carriers now - to block the growth of low-cost rivals and grab some of the traffic they are stimulating.

As Alan Joyce, chief executive of Jetstar, recalls in an accent that betrays his Irish roots: "Virgin Blue had a cost base 30-40% below Qantas and was growing very rapidly. It looked like they were going to get their stated aim of 50% market share. Qantas could see what had happened in Europe and America, and there was no reason it wouldn't happen here."

Low-cost evolution

The 2004 launch of Jetstar was a product of good timing, good planning, or a combination of both. The big advantage for Jetstar is that it came late enough in the evolution of baby low-cost carriers for the team assembled to develop it to review what others had done right or wrong and learn from past mistakes.

Most examples were of what can go wrong: conflicting cultures and agendas between parent and baby; cannibalising the parent's traffic; high costs from the parent embedded in the baby spin-off; scope clauses and union resistance to work transfers; consumer expectations based on the parent's reputation; use of the baby as a below-cost "fighting brand" that brought trouble for the parent under competition laws, and so on.

Team members might have thrown up their hands in despair, but instead they looked for ways to avoid these mistakes. They also studied what successful low-cost carriers - whether babies or stand-alones - were doing right. The end product was what Joyce calls a "huge business plan with 22 appendices that showed exactly how we were going to do it".

The timing of Jetstar's launch helped in two other ways. Several years earlier, two other airlines had collapsed in Australia - Ansett and Impulse. The demise of Ansett left hundreds of A320 pilots unemployed. Many of them found work overseas, but they jumped at the chance to return to Australia when Jetstar advertised for A320 pilots.

Experienced labour pool

As a result, Jetstar was able to start with experienced cockpit crews that brought a level of respect from regulators that was unprecedented for a startup. But did those experienced ex-Ansett pilots also bring legacy-carrier expectations with them? Joyce thinks not. "Going through a real death experience with the collapse of Ansett focused people's minds," he says. "They realised Ansett had made mistakes. It made them much more receptive to change."

If Ansett's collapse helped Jetstar, that of Impulse boosted it even more. When Impulse ran out of money in 2001, Qantas bought it and kept the carrier's Boeing 717s, flight crews and some of its ground staff, changed its name and turned it into the small jet division of regional carrier QantasLink.

So, when the time came to launch Jetstar, Qantas repainted the QantasLink jets again and had a ready-made airline, complete with its own fleet, air operating certificate, staff and lower-cost employment contracts, particularly for pilots and engineers. Not only did this allow Jetstar to avoid the costs so often embedded in baby low-cost carriers, but it started with an identity and culture already separate from Qantas.

Joyce believes the Boeing 717 was the wrong aircraft for Jetstar, a problem it has now fixed by replacing it with Airbus A320s. But starting with the wrong aircraft was the price of starting an instant airline. Looking back on the decision to turn a QantasLink unit into Jetstar, Joyce says: "We can see that it really gave us speed to market - it allowed us to get there a lot faster than if we started greenfields. That was a big advantage, because we now know that Paul Stoddard [OzJet's founder] was looking at this end of the market. Transitioning from one fleet type to another cost us a lot of money along the way, but the advantages outweigh the disadvantages."

Jetstar's launch scared Stoddard away from the low-cost market. He ended up with OzJet, an all-business-class airline that lasted only four months as a scheduled carrier. Alex Cruz, who heads airline consulting for Accenture from London, has studied baby low-cost carriers around the world. Like Jetstar's planning team, he has tried to discern what makes them work.

"The model that Qantas and Jetstar are running is probably the best working example," he says. "They seem to hit right on most of what we consider the attributes of success for airline babies." Cruz claims the successful baby low-cost carrier has a blend of independence from and integration with its parent. Independence is especially important in the early years, he says, with progressive integration as the baby airline matures and market conditions allow it.

Joyce believes Jetstar is even more independent today than it was when it started, but apart from that, it is clear that he and Qantas have worked hard at finding the right balance. On the independence side of the ledger, Jetstar made the conscious decision to base itself in Melbourne, well away from the Sydney headquarters of Qantas.

As every Australian knows, the rivalry between these two cities is such that choosing the opposite city from one's parent is a clear declaration of independence. Even more boldly, Jetstar deliberately picked the A320 for its fleet instead of the Boeing 737 so that it would not have commonality with Qantas. This helped convince the Qantas board the Airbus offer on the A320 was competitive, but independence was more important to Joyce than price. "If we didn't have a completely different aircraft, there would be the temptation for people to grab hold of it," he says. "Choosing the A320 allows us to have our own maintenance facility, our own pilots, our own fleet."

On the integration side of the ledger, by far the most important element is the so-called Flying Committee. This consists of Qantas chief executive Geoff Dixon, chief financial officer Peter Gregg, executive general manager John Borghetti and Jetstar's Alan Joyce - the four most senior executives in the Qantas group. Joyce is not aware of any other group like it in the world.

The Flying Committee periodically reviews the routes of every operating unit in the Qantas group. They decide whether to add or transfer routes from one brand to another. Joyce offers an example: "Assume Jetstar can make an economic argument to launch Melbourne/Avalon to Perth. Qantas will figure what it's going to cost in terms of Jetstar cannibalising their traffic."

The committee would go through the economics from the perspective of Qantas, Jetstar and the group as well. It may be with Jetstar on the route that Qantas can make a better margin. "There can be lots of arguments, but at the end of the day everybody's working for the group benefit," says Joyce. This committee explains why Jetstar has not cannibalised Qantas traffic to anything like the extent that other baby low-cost carriers have hurt their parents.

Network management

In its first year, Jetstar did not share a single route with Qantas. They now overlap on 10-15 routes, but are still careful to differentiate by scheduling so that business travellers can fly Qantas while Jetstar flies at times of the day that attract leisure travellers. Jetstar and Qantas now codeshare - particularly on thinner routes that Qantas transferred to Jetstar. The Qantas website links to Jetstar's site and Jetstar flyers who pay more than the lowest fare earn points under the Qantas frequent-flyer plan. With a chance to redeem those points throughout Qantas's far-flung network, Joyce sees this loyalty plan link as a big plus for Jetstar.

Sometimes Qantas also performs groundhandling, engineering and the like for Jetstar. But when it does, it is on tender with competitive bids from others. "If Qantas wins it, it's a transparent process," says Joyce. Other areas of integration are in the advantages that Jetstar enjoys by relying on Qantas for certain financial functions. Jetstar handles its own payroll, revenue management, human relations, information technology, marketing and sales.

But it relies on Qantas for what it calls the treasury function. This includes aircraft leases, insurance, currency hedging and fuel hedging. Qantas has considerable expertise in these areas, says Joyce, "and we benefit from it - fuel hedging over the past two years has saved us an absolute fortune". Qantas also lends a huge hand in aircraft acquisitions. All of Jetstar's A320s are on operating leases, and Qantas guarantees them all. Qantas will also assist with the A330s that Jetstar plans to fly overseas starting in November.

When Jetstar graduates to the Boeing 787 on international routes in 2011, it will again be a big beneficiary of its Qantas affiliation. "The 787 was a group purchase," says Joyce. "When Qantas orders 65 787s with options for another 50, we benefit from the better price. It's a deal that probably nobody else will get. Jetstar will have a big advantage because we will have the first 12 of those aircraft."

Whether Jetstar is becoming more or less independent is debatable. The Flying Committee continues to exercise a heavy hand of control. But Joyce can point to Jetstar's success - it now claims more than 13% of the Australian domestic market. He can point to the February reorganisation of Qantas, which created two distinct airline groupings - Qantas Airways and Jetstar. And he can quote Geoff Dixon, who explained this change on the grounds that "the management of each of the businesses will have the freedom to pursue independent...initiatives with accountability for results".

Results, of course, are the final measure of success. And it is the group's success that counts. As Accenture's Cruz points out: "Ultimately we're talking about an airline baby, not a stand-alone low-cost carrier. Ultimate success must be measured in terms of how it contributes to the financial success of the group." Jetstar lost A$23 million ($17 million) in its first year because of start-up costs, but posted a A$44 million profit before tax and interest in the 2004-05 financial year. In the first half of the current year, its profit was up 46%.

Results are not the only measure of Jetstar's contribution to the Qantas group. By transferring routes that are predominately leisure from Qantas to Jetstar, Qantas has been able to concentrate its capacity in higher-yield markets. "Qantas Domestic is making more money than it ever has," Joyce notes. "It's growing, which is quite different from three years ago. It has reallocated capacity from loss-makers to profit-makers. We've come in and managed to make the Qantas loss-makers into profitable routes for us."

Jetstar has also been "a test base" for Qantas. Joyce cites examples of practices or policies Jetstar tried first and Qantas is now adopting. One of the more innovative is crew utilisation schedules - designing them so that flight crews end up at the end of each shift back at their home base. "Qantas is now looking at this," notes Joyce.

The November launch of Jetstar International is like starting over again with no guarantee of success. Instead of flight sectors one to four hours long, they will extend up to 10 hours. Just as Jetstar is achieving a one-type fleet based on the narrowbody A320, it will introduce widebody A330s. Quick turns - critical to high aircraft utilisation - are impossible on international flights. With two classes of cabin service, overseas operations will never match Jetstar's current unit costs of 8.2 Australian cents. Joyce will have to treat Jetstar International as a separate business model.

Yet, inevitably it will affect the domestic operations of Jetstar. The local carrier will be pushed into more costly practices, such as interlining connecting passengers - something it has so far avoided - and seat assignment, which it has just announced.

It is inevitable that Jetstar must cede some of its success to work with this new venture. After all, it is the group that counts. ■

Source: Airline Business