The future of the European charter industry looks bright despite increased threats from liberalisation and low-cost scheduled competition. Paul Holubowicz reports on the sector's considerable strengths.The imminent demise of the European charter sector has been regularly predicted since the 1970s, when 'charter' was often considered to be synonymous with a low quality service - old aircraft, technical problems, amateurish customer relations, and the like - which the customer would eventually reject. But Europe's charters bought state-of-the-art fleets, and introduced levels of service often comparable with the majors.

New conventional wisdom is that the liberalisation of the European aviation market - by freeing scheduled carriers to fly any route and introduce a host of low, innovative fares - will kill off any raison d'etre for the charter industry to exist. A comparison is often made with the virtual disappearance post-deregulation of the American charter sector.

It is curious, then, that in the industry's dog years of 1992-3, while Europe's scheduled carriers were collectively losing $3.5 billion, the predominantly charter carriers of ACE, the European arm of the International Air Carrier Association (Iaca), were pulling in combined profits of $300 million. And Iaca, which had only 15 members in 1979, now has around 50 airlines that transport over 80 million passengers a year.

Europe's charters have defied the predictions of experts and survived efforts by state-owned carriers to restrict the conditions under which they operate. In fact the European charter sector has prospered in part because of the restrictions placed on it by the regulators. By requiring charters to sell only packages, including the flight and hotel accommodation, regulators have encouraged non-scheduled airlines to offer a total package price well below the scheduled airline fare. And by forbidding charters from selling direct to the public, regulators have helped keep charter airline staff numbers down by removing the need for large numbers of sales and marketing staff.

These governmental restrictions have transformed the European charter industry into a lean and competitive sector which focuses on wholesaling rather than retailing, and optimises economies of scale by developing high traffic volumes and concentrating on point-to-point services to highly seasonal leisure destinations. At the same time charters, which were unable to employ conventional marketing methods, have benefited from having third party tour operators assume most, if not all, of the commercial risks.

That's all very well, critics say, but what about the realities of the new European marketplace, said to 'blur the distinction' between charters and scheduled carriers? And what about competition from the new, low-cost independents or low-cost subsidiaries of major carriers, which are already emerging in Europe?

First, the myth that the European market is strictly comparable to the American one needs to be dispelled.

European charters are more firmly established than their American counterparts ever were. Some two thirds of the world's charter flying now takes place in Europe, and more than half the cross-border passenger traffic in Europe is operated in a charter mode.

Second, the European leisure market is substantially more differentiated than the American one. Leisure traffic is predominant on a number of routes from the UK and northern Europe to Spain, southern Greece and the Balearic Islands: on UK-Spain routes, for example, charters account for more than 70 per cent of total traffic. On other routes, such as those between France and Germany, the charter contribution is negligible.

This is not to say that liberalisation in Europe will have no impact on charters. But the degree and kind of impact is likely to be different from experience in the US.

Cost control lies at the heart of the future of European charter operations. The more successful European scheduled carriers - British Airways, Lufthansa and KLM - have been paring costs through regular campaigns, with emphasis on management/staff consultations, rigorous oversight of cost-savings by senior management, and, in the case of BA and Lufthansa, the setting up of low-cost affiliates to fly thinner routes. BA also has a profit-sharing programme which rewards employees if the airline achieves its earnings target for the year.

The success of these efforts is clear: cost-cutting has been the foundation for BA's consistent profitability and the driver of improved financial performance at Lufthansa and KLM. But while the successful scheduled carriers can reduce their costs up to a certain point, there are several reasons why most of them are unlikely to match charter costs.

The first is the influence of unions. The scheduled flag carriers invariably have close ties with their unions, and that puts a brake on their productivity. Take the case of flight time limitations. Industrial agreements at scheduled carriers have whittled away at national statutory limits on the hours crew can spend in the air. A typical Iberia pilot, for example, flies around 450 hours a year, less than half the statutory limit. Meanwhile pilots working for Iaca's Spanish member airlines fly on average 800 hours per annum.

If Europe's Joint Aviation Authorities (JAAs) ever succeed in agreeing a harmonised European statutory limit, this will not prevent the unions from demanding and maintaining 'industrial agreements' with individual airlines that restrict their members' flying to substantially less than the statutory ceiling. The European Commission has recently been heard suggesting that perhaps all Community airlines should be obliged to have such union agreements.

In contrast, charter carriers have traditionally operated to statutory limits, unencumbered by union agreements. As Iberia has discovered, reducing the gap between what their pilots currently fly, and what they could fly if they wanted to be more productive, can be a recipe for industrial strife. Yet any hope of successfully restructuring Iberia into a viable entity will depend on it.

Second, charters can contract out most service functions and retain only core personnel functions in-house. This means everything from catering to back-office work is performed by parties not directly employed by the airline.

Iaca airline Air Berlin made industry history this year by becoming the first to contract out cabin staff services. No longer on the payroll or a part of fixed overheads, the airline's cabin staff costs now form part of direct operating costs. Some scheduled carriers are taking steps in that direction, but they may never come close to the stripped-down core staffing approach of the charters and, if they do, it could take years. Even at British Airways, which generally has good union relations, efforts to hive off non-core activities or contract out non-core services consistently meet with strong resistance.

The third point is the starkly different approach the two modes take to sales and marketing. Relying on tour operators rather than in-house sales staff translates into considerably lower overheads for charter carriers. And the charters' recent victory in gaining equal treatment in CRS displays may not in the end alter that situation very much.

For years European charters fought for CRS equality with scheduled airlines. They finally won the battle when the EU Code of Conduct on CRSs required that, from June 1994, all CRSs show a totally integrated scheduled/ non-scheduled primary display for any given city-pair, with services listed in chronological order only. Since the scheduled airlines that own the CRSs then insisted that a secondary screen showing scheduled services only should be available on demand, the charter airlines fought for equality here too. Now, any CRS operating in Europe that offers a scheduled-only secondary display has to provide a charter-only secondary display as well.

But having won that victory, can the charters afford to take advantage of it? Around 10 years ago the typical booking fee for a CRS reservation was $1.85; now it is at least double that. This, along with the need to take on back-office staff to connect with the CRSs, has caused most charters - which operate on wafer-thin profit margins - to shun reliance on CRSs as a source of bookings. Even scheduled carriers are having second thoughts: Michael O'Leary, chief executive of Irish carrier Ryanair, recently complained: 'I take great exception to paying Galileo over £4 ($6.50) for a return booking on a £59 flight when other airlines selling first class seats for many thousands of pounds are paying the same £4 charge.'

The European Commission has recently suggested that the burden of CRS costs should be shared more equally between airlines and travel agents, but even this may not be sufficient to make CRSs attractive to charters. Most charter carriers are likely to continue wholesaling tickets, in a package and on a seat-only basis, through tour operators and other seat-broking intermediaries. Seat-only currently accounts for some 15 per cent of charter sales within the European Union.

There are exceptions, such as Germany's LTU and Denmark's Maersk, which have essentially switched over to a retail-style distribution of their product, making full use of the CRSs. But the majority of charters are sticking to what they do best and letting third parties sell their seats for them.

With the advent of low-cost subsidiaries like Lufthansa Express and independent low-fare carriers, such as Belgium's EBA Express, there are rumblings that the charters' cost advantage will evaporate. It is also said that when all EU carriers are free to fly cabotage routes after April 1997, the threat to the charters' survival will become more intense.

Charters are unlikely to be fatally impacted, however. The term 'low cost,' as it applies to Europe, has to be placed in perspective. As the European Commission's Committee of Wise Men pointed out, European airlines' operating costs per ATK are around 48 per cent higher than the operating costs of major US airlines. That means that even a European 'low-cost' airline might still have a relatively high cost base if it remains too closely connected with a flag carrier. As a result it might still have to scramble to match the charters' low overheads and compete with their wholesale approach.

Also, the routes that charters fly are highly seasonal and peaky, with the bulk of traffic (on average around 75 per cent in turnover terms) flying from June to September. Few scheduled carriers, whatever their cost base, have the flexibility to carry that type of traffic in an economical manner.

Lastly, congestion will remain a perennial problem, despite recent moves in Germany, Italy, Spain and Switzerland to remove ATC activities from government control. The industry-sponsored Air Transport Action Group (ATAG) points out that capacity increases in the European Union's ATC systems have barely kept up with increased demand. Congested airports, such as London/Heathrow, Frankfurt, and Milan/Linate, and flight delays are serious obstacles to the fast turnaround times needed for low-cost, high frequency point-to-point services. For all of these reasons, it is not clear that a new breed of low cost scheduled airline will evolve to become fully competitive with charters.

Meanwhile the European majors have different viewpoints on the place of charter in their own operations. On the one hand, British Airways in December sold off its charter subsidiary, Caledonian Airways, to UK tour operator Inspirations. Robert Ayling, BA's group managing director, said the operation would have a better future as part of an integrated leisure travel business. Clearly, as a public limited company, BA has decided that charter flying is not its business.

Lufthansa's attitude is more ambivalent. Its chairman, Jürgen Weber, says that he expects the tourist market to grow faster than business travel. Weber signed a co-operation agreement in December with tour operator DER Deutsches Reiseburo GmbH, to offer tours to Germany and the rest of Europe under the trade name Lufthansa Tours. Lufthansa's charter arm, Condor, also says it will take a 25 per cent stake in Frankfurt-based Alpha Holding GmbH.

Most projections are that leisure air travel, which now accounts for more than 65 per cent of RPKs on European routes, is due for a further boom in a liberalised European air transport market. That represents a considerable turnaround from the 1970s when business travel was predominant.

Whatever the majors decide to do about their charter subsidiaries, it is clear that charters, independent or affiliated, will have a role in an expanded and liberalised Europe. However their future development is likely to follow several different routes.

First, there will be those that follow companies like LTU, Maersk Air and Transavia into more scheduled services. However their charter experience is likely to mark the way they sell capacity: for two-class services operated by former all-charter airlines, the capacity 'behind the curtain' is usually sold wholesale well in advance of the flight date, with CRSs used to sell the premium class seats.

Then there will be the large charter operators, such as the UK's Britannia Airways, wholly tour operator-owned and integrated, which will choose to maintain their traditional charter role and concentrate on what they do best - the chartering of whole aircraft to leisure destinations. Britannia tried scheduled services on routes to the Mediterranean/Aegean and even domestically within the UK, but found the returns to be disappointing.

Finally, some independent charters will take on more work for the majors and even form alliances with the larger scheduled carriers. A good example is the partnership Maersk Air formed with BA to operate BA scheduled services out of Birmingham, on a franchise basis. Even BA's former charter subsidiary, Caledonian, has said it will continue to work with BA by purchasing ground handling, engineering and flight crew services from the larger carrier, and by operating BA's scheduled services between London Gatwick and Nassau, San Juan and Tampa. More cross-modal alliances can be expected to develop as the scheduled carriers ask their charter counterparts to operate predominantly seasonal leisure services.

For the smaller, independent charters which are not interested in the franchise type of business, the future looks more uncertain. The trend continues to be towards vertical integration, with package tour operators building up their own airlines and contracting for most of that capacity themselves, as is the case with PremiAir of Denmark, Corsair in France, and Airtours and Thomson in the UK. In such an environment, the smaller charters will be left to pick up the leftovers, and these will not be enough to keep them going. For these more vulnerable charter carriers, the franchise concept will become increasingly attractive.

Indeed, franchising holds considerable potential, especially for the smaller, fully independent charter carrier. A substantial number of charter carriers could prosper under the colours of a flag carrier which chooses to reduce its operating costs in this way.

Nonetheless, as long as there is a high volume of demand for wholesale leisure air services, the charter formula will be an effective way to satisfy the market. The conclusion reached by the UK Civil Aviation Authority in its 1993 report on European liberalisation remains valid: 'Whole plane charters are likely to continue in large numbers for many years to come.'

Nonetheless, as long as there is a high volume of demand for wholesale leisure air services, the charter formula will be an effective way to satisfy the market. The conclusion reached by the UK Civil Aviation Authority in its 1993 report on European liberalisation remains valid: 'Whole plane charters are likely to continue in large numbers for many years to come.'

Source: Airline Business