Airline Business Modelsfsncs, Lccs, Ulccs and Charter Carriers Istanbul Technical University Air Transportation Management, M.Sc

Airline Business ModelsFSNCs, LCCs, ULCCs and Charter Carriers Istanbul Technical University Air Transportation Management, M.Sc. Program Aviation Economics and Financial Analysis Module 8 Realizing the vision together November 12, 2014 Outline

Economic characteristics of

•FSNCs •LCCs •ULCCs •Charter Cost structure of the different carrier types Market impact of LCCs/FSNCs FSNCs versus LCCs Future of LCCs/FSNCs

19 November 2013 2 Realizing the vision together Evolution

Before deregulation

•Full service network carriers •Significant number of charter carriers •No low cost models •No price competition (same price on a given route) •Full-quality service •Point-to-point route networks

19 November 2013 3 Realizing the vision together Evolution – cont.

After deregulation

•Proliferation of LCC models •Hybrid carriers •Industry consolidation (mergers and acquisitions) •Alliances and joint ventures •Service debundling •Hub-and-spoke route systems

19 November 2013 4 Realizing the vision together Hub and spoke route network Hub and spoke - route network structure by which a carrier utilizes an airport to route a broad range of Origin & Destination markets.

•Hub = Central node or airport •Spoke = Nonstop routes radiating out from the hub connecting with various other markets •E-D, A-B, C-B etc. O&D market is routed via hub; market cannot sustain frequent nonstop service

19 November 2013 5 Realizing the vision together Hub Structures

Hub Wave Pattern at IST and SAW Hub Wave Pattern at CDG (AF) 30 300 Arrivals Arrivals 20 200

10 100

0 0 -10

-100

-20

Average Daily Daily Average Departures / Arrivals Average Daily Daily Average Departures / Arrivals Departures -200 Departures -30

-40 -300 0:00 1:00 2:00 3:00 4:00 5:00 6:00 7:00 8:00 9:00 10:00 11:00 12:00 13:00 14:00 15:00 16:00 17:00 18:00 19:00 20:00 21:00 22:00 23:00 0:00 1:00 2:00 3:00 4:00 5:00 6:00 7:00 8:00 9:00 10:00 11:00 12:00 13:00 14:00 15:00 16:00 17:00 18:00 19:00 20:00 21:00 22:00 23:00

Time of Day (Local) Time of Day (Local)

TK @ IST OA @ IST ALL @ SAW AF OA Hub Wave Pattern at DXB (EK) Hub Wave Pattern at FRA (LH) 20 30 Arrivals Arrivals 15 20

10 5

0 0

-5 -10

-10

Average Daily Daily Average Departures / Arrivals Average Daily Daily Average Departures / Arrivals Departures -20 Departures -15

-20 -30 0:00 1:00 2:00 3:00 4:00 5:00 6:00 7:00 8:00 9:00 10:00 11:00 12:00 13:00 14:00 15:00 16:00 17:00 18:00 19:00 20:00 21:00 22:00 23:00 0:00 1:00 2:00 3:00 4:00 5:00 6:00 7:00 8:00 9:00 10:00 11:00 12:00 13:00 14:00 15:00 16:00 17:00 18:00 19:00 20:00 21:00 22:00 23:00

Time of Day (Local) Time of Day (Local)

EK OA LH OA

Source:Realizing OAG, July the 12 vision-18, 2010 together Hubs and traffic density

Vancouver (YVR), Calgary (YYC), Toronto (YYZ) Linear Route

•Each route supports 1 flight/day

•Average traffic density 1 YYC 1

1 YVR Hub Route YYZ

•Each route supports 2 flights/day 2 YYC 2 •Average traffic density •2 flights/day per route YVR YYZ •Same or more total traffic as linear

19 November 2013 7 Realizing the vision together Types of hubs

Simple hubs – little or no coordination between in- and outbound flights. Spokes scheduled independently.

•Complex hubs - flights are co-ordinated to arrive in “banks” (allow more and fast connections between flights but poor utilization outside banks and minimal interline traffic).

19 November 2013 8 Realizing the vision together Bank Structure

Typical bank duration lasts between 1.5 hours and four hours

● Bank Duration (BDT) = Inbound Bank (BDI) + MCT + Outbound Bank (BDO) Outbound ● Extended banks (> 4 hours) Inbound produce many hits, but most are poorer quality (i.e. MCT minimization) QSI factors

● “Fast” connections (utilization-driven) Inbound Bank Outbound Bank – sacrifice breadth of MCT connectivity Duration (BDI) Duration (BDO)

● “Many” connections Total Bank (volume-driven) Duration (BDT)

● sacrifice efficiency, i.e. minimize MCTs

Realizing the vision together Types of hubs

Directional

•all arrivals from east, all departures to west •E-W or N-S aligned spokes due to market, regulatory conditions •geographic constraints (i.e. Canada, CX) Multiple (Omnidirectional)

•Reflective of mature hub development •Broad domestic geographic network (i.e. U.S.) • Geographic location with multiple International Destinations (e.g. THY and IST) •Characteristic of all major U.S. carriers

19 November 2013 10 Realizing the vision together Deliverable #4 – Hub Design Analysis Examples of Directional and Omni Hubs

Hub Wave Pattern at DTW (DL) Hub Wave Pattern at DXB (EK) 60 20 Arrivals Arrivals 40 15

10 20

5 0 0 -20 -5

-40

-10

Average Daily Daily Average Departures / Arrivals Average Daily Daily Average Departures / Arrivals Departures Departures -60 -15

-80 -20 0:00 1:00 2:00 3:00 4:00 5:00 6:00 7:00 8:00 9:00 10:00 11:00 12:00 13:00 14:00 15:00 16:00 17:00 18:00 19:00 20:00 21:00 22:00 23:00 0:00 1:00 2:00 3:00 4:00 5:00 6:00 7:00 8:00 9:00 10:00 11:00 12:00 13:00 14:00 15:00 16:00 17:00 18:00 19:00 20:00 21:00 22:00 23:00

Time of Day (Local) Time of Day (Local)

DL OA EK OA

● DL’s DTW hub is bi-directional ● EK’s DXB hub is omni-directional (east-west) and has a 9-wave and has a 3-wave pattern pattern ● Omni-directional hubs are more ● Bi-directional hubs typically have commonly found in European, Gulf 6+ waves in their daily hub and Asian hub patterns and structure typically have 3-7 waves per day

● This type of structure is most commonly found in U.S. hubs

Realizing the vision together Types of hubs – cont.

International

•International & domestic networks co-ordinated •Carriers primary international gateway for that region •i.e. YVR (AC), SFO (UA), MIA (AA), IST (THY) •i.e. HKG (CX), AMS (KL) - though no domestic networks

19 November 2013 12 Realizing the vision together Hub Wave Pattern at FRA (LH) – by Region

Hub Wave Pattern at FRA by Region (LH)

30 Arrivals

-10 Average Daily Daily Average Departures / Arrivals

-20

Departures -30 0:00 1:00 2:00 3:00 4:00 5:00 6:00 7:00 8:00 9:00 10:00 11:00 12:00 13:00 14:00 15:00 16:00 17:00 18:00 19:00 20:00 21:00 22:00 23:00

Domestic Africa Caribbean/Central/South America Europe Far East Middle East North America Oceania South Asia

Realizing the vision together Time penalties of hubs

Three additional trip time components compared to nonstop flight:

•30 minutes for additional ascent/descent (stop) at hub airport •Extra cruise time (depending on the angle) •Connection time (30-60 minutes between flights) Extra trip time offset by better total time for traveler:

•Total time = trip time + waiting time •Wait time = Time from Desired Departure to Actual Departure

19 November 2013 14 Realizing the vision together Overview of the hub design principles

Design process schedule is a generator of alternatives, Peer Hub Bank Time Comparison and selection of the best fit. Ideally, this is a AF @ CDG LH @ FRA EK @ DXB combination of different optimization tools BDI 1.50 3.75 3.17 Selecting the Best Hub Structure Requires Defining BDO 1.57 3.88 3.50 Alternative competing hub structures and selection of MCT 1.00 0.75 0.75 the best structure that leads to the optimal outputs BDT 4.07 8.38 7.42 # Banks 7 4 3

Source: OAG, July 12-18, 2010 Realizing the vision together Time penalties comparison

Linear:

•2 flights per day nonstop, 8 hours apart.  average wait = 4 hours Hub:

•4 flights per day, but via hub

•2 hours apart average wait = 1 hour

+ 0.5 h ascent/descent

+ 0.5 h extra cruise

+ 0.5 h connection  total wait & incremental flight time = 2.5 hours

19 November 2013 16 Realizing the vision together Demand effects

N cities in a hub network  N (N-1) / 2 potential city pairs

Supporting a hub - total traffic needed to support an additional flight can be small

eg Airline has 200 destinations connecting to hub 1 passenger per destination could fill an aircraft

19 November 2013 17 Realizing the vision together Demand effects – cont.

“Hubbing” keeps more traffic on-line (less interline) Feeder links can be important - hubs led to the rise of extensive “commuter” or “regionals” aligned, contracted with or subsidiaries of major air carriers (e.g. AC Jazz)

19 November 2013 18 Realizing the vision together Hub choice factors

Competition Weather

•especially for cargo hubs Geographic location Distance from the airline’s other hubs Local O&D market Airport congestion

•groundside & air traffic

•access to gates & facilities

•room for future growth

•community support

•Restrictions (e.g. night operations) No of City Pairs within 40% circuitry

19 November 2013 19 Realizing the vision together Criteria for evaluating hubs

Primary Hubs Secondary Hubs

Evaluation Criteria Minimum Evaluation Minimum Requirement Criteria Requirement Intl O&D demand >1.5 million annual Regional O&D >1 million annual pax in pax in 2008 demand 2008

Dom O&D demand >1.5 million annual Dom O&D >1 million annual pax in pax in 2008 demand 2008

th Good circuity for 6 >30 of top markets Good circuity for >20 of top regional Freedom markets <130% circuity regional markets markets <130% circuity

Potential for strong achieves ranking in Good circuity for >20 of top domestic presence top 2 by seat share domestic markets markets <130% circuity

Apt capacity for >40 gates available Apt capacity for >20 gates available hubbing simultaneously hubbing simultaneously

Realizing the vision together Apply criteria to hubs in India: Example

= Meets criteria

Only BOM and DEL satisfy all of the criteria to be a Primary Hub

Realizing the vision together Delhi is geographically positioned to provide direct routings to the greatest number of 6th Freedom markets, when compared to major hubs like Dubai and Singapore

Europe

DEL DOH DXB CCU

AUH HYD BOM East Asia & BLR MAA Oceania SIN Number of 6th Freedom Markets between East Asia & Oceania and Europe with <130% Circuity1,2 50 47 44 42 40 38 35 DEL is also better 32 31 30 30 located than other 30 major Indian airports Source: Industry Data 20 17 Notes: 1/ Analyzed Top 100 6th Freedom O&Ds to connect Asia & between East Asia/Oceania and Europe; 2/ 130% Oceania with Europe 10 circuitry means that the total flown distance between two cities via the hub is 30% greater than the nonstop 0 distance DEL DXB AUH DOH CCU BOM HYD MAA BLR SIN

Realizing the vision together Industry Challenges

A key source of fragility is increased competition from low cost carriers

• Low Cost Carriers have •Low cost carriers have redefined the airline product redefined the industry and its •One-way versus return trips economics. •Point-to-point versus hub-and-spoke route system • Air Canada has launched a new •Less connectivity low cost model with their leisure •One type of aircraft focused Rouge. •Quicker to adjust capacity • WestJet has launched a new •Focus on what adds value, remove the rest regional service, Encore. •Many have achieved high, consistent profitability

19 November 2013 23 Realizing the vision together Next Generation Airline Business Model

The Internet effect

•Industries Profoundly Impacted by Internet Companies:

•Music • Google purchased travel software •Video company ITA Software Inc •Newspapers

• ITA powers •Book publishing & retail Orbitz, Kayak, Cheap Tickets, •Traditional Phone Companies AA, UA, Virgin, ANA and others •Big Box Electronics •Income tax preparation •Travel Agents •Aviation

19 November 2013 24 Realizing the vision together Google/Social Media/Visa Int’l: Re-packaging Airline Product? Internet creates new interline products Internet companies have potential to repackage airline products:

•Kayak “hacker fares” create connections not available from carriers;

•Google invested in airline res system;

•Could develop platform to enter business directly;

•Could offer value added packages for trip fulfillment:

•Would you pay $125 for guarantee that you will get to your destination today?

19 November 2013 25 Realizing the vision together Automation

Automated kiosks are playing a greater role •90% of domestic AC passengers use kiosk, mobile Automation & Check-In: check-in or •Mobile check-in and boarding passes have automated bag-tag nearly replaced the traditional check-in process process.

•WestJet has •Canada was a pioneer in self bag-tag. approximately 85% of passengers check-in online or a kiosk

•Ryanair charges fee if kiosk is not Auckland, New Zealand August 2011, Amsterdam Bag-Drop used

•Amsterdam airport - fully automated bag drop function

19 November 2013 26 Realizing the vision together Types of airline business models

Legacy or full-service network carriers Low cost carriers (LCCs) Ultra low cost carriers (ULCCs) Charter carriers Regional carriers Hybrid carriers

19 November 2013 27 Realizing the vision together Legacy carriers

Legacy carriers (or FSNCs)

•Wide range of pre-flight and onboard services •Multiple seat classes •Hub-and-spoke route systems Still account for a large share of passenger traffic

•Larger market share in international routes •Smaller in domestic markets (loss to LCCs) Ownership (private, majority or minority stake owned by the government, multi-country)

19 November 2013 28 Realizing the vision together Major airlines by the number of passengers carried

Source: IATA, January 2013 19 November 2013 29 Realizing the vision together Major international cargo carriers

Source: IATA, June 2011 19 November 2013 30 Realizing the vision together Profit vs Compensation

Source: Dallas News (04/2011) 19 November 2013 31 Realizing the vision together Low cost carriers (LCCs)

“No, we shouldn’t give you a bloody cup of coffee. We only charge 19 euros for the ticket”

Michael O’Leary, President of Ryanair

“When someone comes to me with a cost saving idea, I don’t immediately jump up and say yes. I ask: what’s the effect on the customer?”

Herb Kelleher, former CEO Southwest Airlines

19 November 2013 32 Realizing the vision together LCCs

Low cost carriers have contributed to profit LCC differ from legacy erosion of majors carriers:

•Do not offer ‘frills’

•Have point-to-point route systems as opposed to ‘hubs’

•Use simple fleet composition, typically one type of aircraft

•Non-unionized labour

US-based Southwest Airlines is a notable example of success with over 40 consecutive years of profitability Ryanair is the most profitable passenger airline in Europe Canada’s LCC WestJet was modeled on Southwest

19 November 2013 33 Realizing the vision together LCC business model

Major expansion of LCCs in the US, Canada, Europe, Australia, Asia and Latin America. Traditional LCC business model:

•one type of aircraft •‘no frills’ product •charge for ‘ancillaries’ •price sensitive travellers •high density routes •high aircraft utilization •secondary airports •point-to-point route systems

19 November 2013 34 Realizing the vision together LCC design

• Product design (simplicity)

•Single class •Higher density seating •No assigned seating (e.g., Southwest) •‘cheap and cheerful’

• Process design (simplicity)

•Use of secondary airports •Minimum turn-around time •High aircraft utilization •No connections, interlining •Short to medium haul routes (up to 750 miles)

19 November 2013 35 Realizing the vision together With a banked schedule, minimum connect times drive turnaround times – not ground operations

Ground Operations – Required Time for a Turnaround ( Carriers – 737-300)

Cater Weight and Extend jetway and (15 min) Balance open door (2 min) (1 min) 41-46 Deplane Boarding

Inside min (10 min) (13 min) Close door Clean cabin and jetway (10-15 min) (1 min)

Close cargo Arrival door Dispatch (2 min) (1 min) Prearrival Fuel (4 min) (10-15 min) Equipment Set Up Departure (2 Min) Ground power A/C Ramp(Outside) 33-43 bin door min (3 min) Unload/load bags and cargo (20-30 min)

Opportunities To Compress Ground Operations’ Turnaround Times

Realizing the vision together But, with a continuous schedule, ground operations drives turnaround time, and thus airplane/crew utilization

Ground Operations – Required Time for a Turnaround ( Southwest – 737-300)

Weight and Extend jetway and Balance open door Cater (1-2 min) (<1 min) (13-16 min) 21-31 Deplane Cleaning

Inside min (6 min) (2-5 min) Boarding Close door (9-13 min) and jetway (<1 min)

Close cargo Arrival door (2-7 min) (<1 min) Prearrival Unload/load bags and cargo Equipment (18-21 min) Set Up Departure (1-2 Min) Ground power A/C Ramp(Outside) bin door Fuel 23-32 (<2 min) (6-11 min) min

The LCCs Have Engineered Rapid Turnaround Processes emulated on short haul routes by network carriers

Realizing the vision together Differences between legacy and low cost models

HUB & SPOKE CARRIER LOW-COST CARRIER

Model Convenient connecting travel via hub Efficient point-to-point (P2P) travel

Synchronized banks: – enable rapid connections Continuous flow uses flight and ground resources Scheduling – lower utilization of flight efficiently (minimal down time and level-loading) equipment/crews – uneven workload for ground crews

Lengthy (65 min), due to the minimum Minimized (25 – 30 min) -- key to high utilization of Turnarounds connect times for passengers and bags flight resources

Baggage – Schedule creates uneven work load – Schedule creates level work load Handling – Two parallel baggage-handling systems – Simpler baggage-handling system

Passenger – Schedule creates uneven work load – Schedule creates level work load – Intense re-work to maximize service to – Simpler process provides adequate customer Handling preferred pax (e.g., re-seating) service

Banked schedule creates hub congestion Continuous schedule minimizes congestion, Fuel that consumes extra fuel reducing fuel consumption

Objective Heavy use of high-cost channels (GDS) Heavy use of low-cost channels (direct)

Realizing the vision together LCC cost advantage

Source: CAPA Centre for Aviation (2010) 19 November 2013 39 Realizing the vision together Mid 2000@s US LCCs had still a cost advantage of up to 37% over US network carriers

Operating Cost per ASK 1/

8 7.32 Unadjusted 6.83 6.89 7 Stage-Length Adjusted Seat Adjusted 5.96 6 5.55 5.55 5.27 5.27 5.07 5 4.43 4.36 4.36

CostperASK (US$ cents)

0 Network Airlines JetBlue AirTran Southwest 2 1/ CY 2005. / 2/ American, Delta, United. Source: IATA Airline Cost Performance Economics Briefing, March 2007.

Realizing the vision together LCCs cost advantage

Source: O’Connell (2008)

19 November 2013 41 Realizing the vision together Southwest achieves 75% of its cost advantage through fuel hedging and product, distribution, and overhead cost savings

0 7 1.1

6 0.4

1 / 1.1 5 0.4 4 7.3

4.3

US$ cents per ASK per cents US$ 2

0 Network Labor Aircraft and Infrastructure Product, Seat Density Southwest Airline Fuel Distribution, Adjustment 2 / Overhead 1/ CY 2005. 2/ American, Delta, United. Source: IATA Airline Cost Performance Economics Briefing, March 2007.

Realizing the vision together JetBlue’s cost savings are more evenly spread across all cost centers

7 0.1 0.4 0.3 0.5 6

0.4

1 / 5

4 7.3

3 5.6

US$ cents per ASK per cents US$ 2

0 Network Labor Aircraft and Infrastructure Product, Seat Density JetBlue Airline Fuel Distribution, Adjustment Overhead 2 1/ CY 2005. / Source: IATA Airline Cost Performance Economics Briefing, March 2007. 2/ American, Delta, United.

Realizing the vision together EasyJet has far less of a gap in infrastructure costs as it operates at more major airports than Ryanair

12 0.3 0.8

10 0.8

2.0

1 / 1.2

6 11.6

€ cents per ASK per cents € 6.5

0 Network Labor Aircraft and Infrastructure Product, Seat Density EasyJet Airline Fuel Distribution, Adjustment 2 Overhead / 1/ CY 2005. 2/ Air France, British Airways, Lufthansa. Source: IATA Airline Cost Performance Economics Briefing, March 2007.

Realizing the vision together LCCs profit margin

Source: The Economist (2012) 19 November 2013 45 Realizing the vision together Economic Impact of LCCs

Large airfare reduction [Hof, Dresner & Windle (2004), Morrison & Winston (2003), Kim & Singal (1993), Borenstein (1990, 1992)]

•Network carriers reduced average airfares by 35-40% Huge expansion of stimulated demand as well as passengers attracted from adjacent airports thus dramatic increase in travelers at LCC airports Network carriers’ hub premiums decreased significantly when one or more LCCs are present at the hub

19 November 2013 46 Realizing the vision together LCC expansion globally is a continued driving source of growth

LCC routes in end 90’s LCC routes mid 2000’s

North America Europe Flights per week: 26, 151 Flights per week: 23,767 North America Miles/Flight: 710 Miles/Flight: 650 Flights per week: 35,027 2005-06 capacity = +8% 2005-06 capacity = +26% Miles/Flight: 688 2005-06 capacity = +8% Far East Flights per week: 6,941 Miles/Flight: 469 Europe 2005-06 capacity = +45% Flights per week: 4,040 Miles/Flight: 609 Latin America 2005-06 capacity = +26% Flights per week: 3,238 Miles/Flight: 601 2005-06 capacity = +45%

Oceania Middle East & Africa Flights per week: 5,727 Flights per week: 988 Miles/Flight: 675 Miles/Flight: 1,063 2005-06 capacity = +37%

Sources: OAG,

Realizing the vision together Current status of LCCs

19 November 2013 48 Realizing the vision together LCCs in North America

19 November 2013 49 Realizing the vision together Southwest Airlines

1971 1983 2013

Source: Southwest Airlines

19 November 2013 50 Realizing the vision together Impact on fares before and after Southwest entry In top 10 Philadelphia markets

19 November 2013 51 Realizing the vision together Impact on traffic before and after Southwest entry In top 10 Philadelphia markets

19 November 2013 52 Realizing the vision together LCCs in Europe

Trends:

•Increased LCC penetration •LCC subsidies (lower airport landing fees) •Ryanair allegedly benefited from 660 million EURO in subsidies

19 November 2013 53 Realizing the vision together LCCs in Asia

19 November 2013 54 Realizing the vision together LCCs quickly gain domestic market share in Asia

Source: CAPA as quoted by Airline Leader (2012) 19 November 2013 55 Realizing the vision together Ultra Low Cost Carriers (ULCCs)

The difference between LCCs and ULCCs is relative

•tend to incorporate the majority of LCC features

•rely on traffic stimulation more than market steal

•max number of a la carte services

•do not offer ‘frills’ if they add to costs Marketing tool of self-promotion

•(“Ryan Air – Europe’s only ULCC”) József Váradi distinguishes between ULCCs, a category in which he places Wizz Air, and LLCCs, lazy-low-cost carriers, that have lost their original focus and are "diverting from the basic fundamentals of being really low-cost".

19 November 2013 56 Realizing the vision together ULCCs

ULCCs differ from LCCs : Rely on traffic stimulation more than market steal High proportions of ancillary revenues Do not offer ‘frills’, even if they enhance revenues, if the frill adds to costs. ULCCs have power to shift passenger travel and airport usage patterns to much greater degree than traditional LCCs. The ULCC business model is based strictly around low fares, which requires low costs.

19 November 2013 57 Realizing the vision together Ancillary services are an important source of revenue for ULCCs

Ancillary revenue = revenue from non-ticket sources Charging for everything: blankets, entertainment, beverages, food, priority boarding, credit card handling fee (!) etc. Becoming a major source of revenue for LC, LCC and ULCC – 43.8% increase world wide to $32.5b in 2011 United $1,527m, Qantas $783m, Ryanair $663m, Air Canada $534m (2009)

19 November 2013 58 Realizing the vision together ULCCs and ancillary revenue

Source: tnooz (2010) 19 November 2013 59 Realizing the vision together ULCC at a glance: Allegiant Air

•Founded in 1997 •Based in Las Vegas (focus cities in Florida and Phoenix) •A travel company (hotels, car rentals, show tickets distribution) •Route network has minimal overlap with LCCs •Profitable (EBITDA 16.4% in 2011) •Low debt ratio

19 November 2013 60 Realizing the vision together Allegiant’s focus is on leisure markets

Route map as of February 2012 19 November 2013 61 Realizing the vision together Allegiant’s business model

Fleet

•51 MD-80

•1 B757-200 (5 more on order) Costs

•Low aircraft ownership costs

•Simple IT systems (no connecting flights)

•Uses low cost airports

•No dedicated counters at airports Product

•No frills service at a low price

•Canadian traffic at US airports (e.g. Bellingham and Plattsburgh)

•$133 BLI-LAS versus $274 YVR-LAS with Air Canada

19 November 2013 62 Realizing the vision together ULCCs

Europe

• Ryanair, Wizz Air, Aer Lingus

•(Michael O’Leary “Ryanair is the only ULCC”) North America

•Spirit Airlines, Allegiant Air Canada

•no ULCCs presently

•Rouge will not be ULCC according to AC’s CEO.

•“Is it ultra-low cost à la other low-cost carriers elsewhere in the world? You know, that was not necessarily achievable within the context of our unionized environment.”

19 November 2013 63 Realizing the vision together A newer fleet explains part of Ryanair’s cost gap, but the largest gap still exists for product and distribution costs

12 0.5 1.2

10 / 1 2.2 8

2.4 6 11.6

1.2 4

€ cents per ASK per cents €

2 4.1

0 Network2 Labor Aircraft and Infrastructure Product, Seat Density Ryanair / Airline Fuel Distribution, Adjustment 1/ CY 2005. Overhead 2/ Air France, British Airways, Lufthansa. Source: IATA Airline Cost Performance Economics Briefing, March 2007. Realizing the vision together Ryanair – pursuit to reduce its operational costs

0.09 0.08 Other

0.07 Landing and handling 0.06 Route charges 0.05 Aircraft rental Distribution 0.04 Maintenance

CASM (€) CASM 0.03 Personnel 0.02 Depreciation and amortisation 0.01 0 2000 2001 2002 2003 2004 2005

Cut down Cut down Cut down Cut down distribution landing and maintenance personnel costs costs handling costs

Source: Ryanair Realizing the vision together Ancillary revenues significantly contributes to revenues and profitability of low cost carriers

Ancillary revenues as a proportion of total ● Ancillary services revenue can bring substantial revenues

● But to generate them requires complex marketing and sales effort

● Passengers want to save with LCCs, instead of spending

Source: Centre for Asia Pacific Aviation

Realizing the vision together Regional carriers

Beech

•19 seats 1.5-2 hours Dash 8

•37-74 seats 2+ hours CRJ/ERJ

•50-90 seats 3 hours Embraer

•70-180 seats 4 hours

19 November 2013 67 Realizing the vision together Charter carriers

Canada & Europe: important industry players U.S. & Asia: not common Seasonal niche opportunities (35% of summer Europe are Charters) Commonly 1- 4 freq/wk. Maximize aircraft utilization Varies significantly from year to year Often affiliated with tour operators (i.e. Canadian Affairs) Canada: Zoom, Air Transat, Skywings Europe: Thomas Cook, LTU, MyTravel

19 November 2013 68 Realizing the vision together Charter carriers in Europe

Number of charter passengers from the UK to top destinations, 1996-2006 14,000

1,862 12,000

10,000 For each country every bar from left to right represents one year, 1996 to 2006 3,046 8,000

6,000 2,267 Figures in red indicate typical

Passengers (000s) Passengers sector length in kilometers 4,000 2,956 3,468 1,868 2,000 4,110 1,859 998 2,203 2,593 0 Spain Canary Greece Turkey Cyprus Egypt Portugal Italy France Tunisia Bulgaria Islands (Excl Madeira) Realizing the vision together The growth in individual (seat only) travel has had a significant impact on the traditional charter market

Passengers at Spanish airports (1990-2006)

200

● In Spain the charter market peaked in 1994 and has declined by 150 Scheduled 25% in 12 years Non-scheduled ● In the same period the

162 total market has 148 100 131 trebled, with 115 101 107 105 scheduled carriers 89 81 75 growing four fold. 51 59 67 Passengers (millions) Passengers 48 46 43 50 43 ● Much of the scheduled growth since 2002 has been 39 38 37 30 33 34 36 36 33 34 36 36 36 36 33 30 29 with Low Cost 0 Carriers 1990 1992 1994 1996 1998 2000 2002 2004 2006

Source: DGAC Spain Realizing the vision together Example Decline of UK charter airlines

Non-scheduled passengers carried by key UK airlines

35,000

1,076 1,455 715 1,871 30,000 2,339 Drop of around 5,235 3000 pax 5,552 5,693 6,041 2,590 5,797 3,194 25,000 XL Airw ays

5,730 7,905 5,284 20,000 8,053 8,017 First Choice 7,971 8,199

Thomsonfly 15,000 8,070 6,037 8,069 5,746 5,261 4,926 Passengers (000s) Passengers 4,853 Thomas Cook 10,000 4,686 4,656 6,234 7,210 7,436 My Travel 6,935 6,378 5,000 3,857 3,568 Monarch 4,416 4,092 3,791 3,303 3,137 2,794 2,654 0 2000 2001 2002 2003 2004 2005 2006

Realizing the vision together Source: UK CAA Circa 100 charter airlines in Europe, with over half of all charter aircraft operated by carriers from the UK, Germany or Turkey (2008)

Number of aircraft over 50 seats operated by charter carriers

UK 204 Germany 128 Turkey 103 Spain 71 Netherlands 48 France 46 Italy 39 Iceland 26 Sw eden 23 Bulgaria 21 Belgium 15 Sw itzerland 13 Croatia 13 Romania 11 Denmark 11 Note this data includes vertically Portugal 10 integrated fleets as well as Austria 10 Czech 7 independent charter carriers Cyprus 6 Poland 4 Greece 4 Finland 3 Lithuania 2 Latvia 2 Hungary 1 0 50 100 150 200 250

Note: Europe includes EU27, plus Croatia, Iceland Norway, Switzerland and Turkey

Realizing the vision together Growth of seat-only market to try to compensate decline of the traditional package tour market

Scheduled passengers carried by key UK airlines 6,000

5,000 266 233 XL Airw ays

Growth of around 1,549 4,000 1,436 First Choice 4000 pax 263 457 250 217 Thomsonfly 3,000 157 528 287 1,095 Thomas Cook 2,000 Passengers (000s) Passengers 988 1,709 3,134 813 2,558 My Travel 1,000 1,890 820 85 1,323 758 Monarch 432 621 0 2000 2001 2002 2003 2004 2005 2006

Source: UK CAA

Realizing the vision together Unit costs of charter carriers

Handling Charge Per Passenger €, 2006/07

Adjusted unit cost (@ 800 km, eurocent) British Airw ays € 30.1 Virgin Atlantic € 27.8 0 2 4 6 8 10 Astraeus € 18.9 First Choice € 14.5 BMI Group € 13.3 Ryanair - 2007 3.5 XL Airw ays € 12.0 Ryanair - 2006 3.6 Monarch € 11.7 Thomson Fly € 10.7 First Choice - 2006 4.9 MyTravel € 10.6 Thomas Cook € 10.5 TCUK - 2006 4.9 Jet2.com € 8.0 Eurocypria - 2006 4.9 Eurocypria Airlines € 7.8 Flyglobespan € 7.2 Eurocypria - 2007 5.0 Cyprus Airw ays € 6.7

Monarch - 2006 5.1 € 0 € 5 € 10 € 15 € 20 € 25 € 30 € 35 Air Berlin - 2006 5.3 Average Cost Per Pilot in € 2006/07 5.3 XL Airw ays UK - 2006 British Airways - 2007 MyTravel Airw ays - 2006 5.5 Austrian - 2006 First Choice - 2007 Astraeus - 2006 5.5 Thomsonfly - 2007 Monarch - 2007 easyJet - 2007 5.7 XL Airways UK - 2007 easyJet - 2007 Transavia - 2006 6.0 BMI - 2007 Turkish - 2006 easyJet - 2006 6.1 CSA - 2006 Eurocypria - 2007 80.7 Jet2 - 2006 6.7 Malev - 2006 LOT - 2006 Thomsonfly - 2006 6.7 Hellenic Imperial - 2007 Cyprus Airw ays - 2007 6.9 EuroAir - 2007 Astra Airlines - 2007 Cyprus Airw ays - 2006 7.7 Croatia - 2006 Sky Wings - 2007 Aegean Airlines - 2006 8.5 JAT - 2006 Tarom - 2006

0 2 4 6 8 10 0 20 40 60 80 100 120 140 160 Cost in € 000s

Realizing the vision together ●Profitability of Charter Carriers

-10% -5% 0% 5% 10% 15% 20% 25% 8.0% 7.2% Astreus Monarch 20% Ryanair - 2007 14% 6.0% XL Airways Futura 20% Ryanair - 2006 20% 4.0% 2.6% 1.9% easyJet - 2007 10% 1.8% 1.6% 1.8% 9% 2.0% 1.0% 1.1% 0.7% 0.5% 7% 0.2% 0.1% easyJet - 2006 6% 0.0% Net Margin Net 2004 2005 2006 2007 4% Air Berlin - 2006 3% -2.0% 12% Thomsonfly - 2006 12% -4.0% 12% First Choice - 2006 9% -6.0% -6.6% -6.5% 3% -8.0% Monarch - 2006 -4% 4% Transavia - 2006 3% 9% TCUK - 2006 9% 3% MyTravel Airw ays - 2006 3% 1% XL Airw ays UK - 2006 1% 0% Jet2 - 2006 1% Charter operators must 10% Aegean Airlines - 2006 6% 2% extract higher prices in Cyprus Airw ays - 2007 0% -2% Cyprus Airw ays - 2006 -2% the market to survive. -3% Eurocypria - 2007 -3% -7% Operating margin Net profit margin Eurocypria - 2006 -5% -8% Astraeus - 2006 -7%

Realizing the vision together Future trends in airline business models

Hybrid models develop as airlines move away from ‘pure’ legacy or low cost models. Airline business models are converging towards one another as:

•Legacy carriers face increased pressure to lower costs, cut on ‘frills’, charge for ‘ancillaries’, renegotiate labour contracts, etc. •Low cost carriers look for new markets and expansion opportunities

19 November 2013 76 Realizing the vision together A newer fleet explains part of Ryanair’s cost gap, but the largest gap still exists for product and distribution costs

12 0.5 1.2

10 / 1 2.2 8

2.4 6 11.6

1.2 4

€ cents per ASK per cents €

2 4.1

0.09 0.08 Other

0.07 Landing and handling 0.06 Route charges 0.05 Aircraft rental Distribution 0.04 Maintenance

CASM (€) CASM 0.03 Personnel 0.02 Depreciation and amortisation 0.01 0 2000 2001 2002 2003 2004 2005

Cut down Cut down Cut down Cut down distribution landing and maintenance personnel costs costs handling costs

Source: Ryanair Realizing the vision together Are we seeing the evolutionary business model in action and changing the industry ?

Realizing the vision together In US legacy carriers started closing the gap from mid 2000’s

Labor Costs per ASM CY 2000 & CY 2005

5.0¢ 4.4¢ 4.5¢ Network LCC

4.0¢

3.5¢

3.0¢ 2.6¢ 2.4¢ 2.5¢ 2.0¢ 2.0¢

1.5¢

1.0¢

0.5¢

0.0¢ 2000 2005

Not adjusted for Stage Length Realizing the vision together Source: U.S. DOT, Form 41 Domestic Only US carriers have been successful in reducing their distribution costs taking advantage of lower cost distribution channels

Promotion and Sales Costs as a Percentage of Operating Costs -- Selected US Carriers’ Domestic Sectors Continental increased internet sales from 20%

5% of total to nearly 50% of total between 18% Northwest 2000 and 2005 16% Southwest 14%

– Hawaiian went from around 12%

3% to 50% as well 10%

6% Airlines have brought their costs down by: 4% 2%

0% – Redirecting customers to direct 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 channels US Airline Distribution Costs as a Share of Operating Revenue 1999 vs. YE2Q06 ● On to websites and away from agents

● B2B 16%

1999 YE2Q06 14% 13.3% ● On line agencies 12% 11.2% 11.0%

– Renegotiating contracts with GDS 10%

providers 8% 7.1% 7.4% 7.1%

6% – Increasing e-ticket use 4%

– Significant reduction in ATO 2% 0% Legacy LCC Hawaiian

Realizing the vision together Source: US DOT Form 41 Q2 2006. Includes NW and WN Emulate lessons from the success of Low Cost Carriers

● Divestiture of business units airline MRO etc and provide focus on that with holding company

● Privatisation, formation of new labour contracts in business friendly environment with hire and fire and performance based compensation

● Delayer and rationalise the business: most airlines can achieve that by leveraging growth

● Intelligent use of front office back office strategies to maintain focus and synergies across back office

● Creation of focused airlines with front office specialisation and back office synergies Network focus on variable contribution and restructuring

– Focus assets on few destinations (concentrate fewer destinations and dominate the city pair

– Eliminate tag flights, two stop one stop routes

– Day of week, time of day and convenience of the schedule

– Hub Optimisation - improve flight connection either side of the banks

– Use of professional modelling tools and develop scheduling skills

Realizing the vision together Depeaking is reducing costs through squeezing out the embedded unproductive time within a ‘bank’, while crews wait for baggage to travel

250 Baggage Handling: Workload vs. Staffing Requirement (Within A Turnaround) 200

150 Work-load standard

100 True workload 50

5:00 AM5:00 AM5:30 AM6:00 AM6:30 AM7:00 AM7:30 AM8:00 AM8:30 AM9:00 AM9:30 PM1:00 PM1:30 PM2:00 PM2:30 PM3:00 PM3:30 PM4:00 PM4:30 PM5:00 PM5:30 PM6:00 PM6:30 PM7:00 PM7:30 PM8:00 PM8:30 PM9:00 PM9:30 AM1:00 AM1:30

10:00 AM10:00 AM10:30 AM11:00 AM11:30 PM12:00 PM12:30 PM10:00 PM10:30 PM11:00 PM11:30 AM12:00 AM12:30

Productive Travel And Down Time Within Standard

Continuous scheduling eliminates a lot of the underlying complexity

Realizing the vision together Rising revenues also helped US network carriers improve operating profitability

Adjusted Revenue per ASK

7 -31% 6 -12% -36% 5 -27%

3 Network Airlines1 2 / Southwest 1 JetBlue

RevenueperASK (2005 US$ cents) 0 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005

1/ American, Delta, United. Source: IATA Airline Cost Performance Economics Briefing, March 2007.

Realizing the vision together Full service carriers have implemented some of LCC’s practices into their business model to improve efficiency

Traditional Flight Plan Structures vs. Adjusted Structures

Aircraft – Crew assignment changes frequently Dedicated flight crews Aircraft and crew rotate independently Aircraft and crew rotate together Aircrafts rotate via multiple airports in rotation Point-to-point operation of aircraft Maintenance is conducted at multiple locations Maintenance is only conducted at home base Night-stops at different airports 100% night-stop rate at home base

DUS HAM FRA

TXL

Crew TXL HAM MUC Change FRA MUCCrew Crew Change Change

CGN CGN

Realizing the vision together Source lufthansa systems Dedicated Hamburg Operations profits from using LCC Structures

Aspects of Lufthansa Hamburg

Dedicated 737 Fleet

Autonomous MRO Teams with fix Members

Point to point Operation of Aircrafts

Nightstop Rate 100% in Hamburg

Dedicated Flight Crews

Easy and efficient Flight Planning Measurable Benefits

Easy and reliable Prediction of available Ground Time at Airports: 30 min avg. Capacity Aircraft Rotation: 5 per day Optimized Maintenance Planning Air - Ground Ratio: 7:1 Simplified Crew Roster Creation Fleet Utilization improved: *** Effective Reaction on Disturbances

Realizing the vision together Source lufthansa systems European network airlines are able to achieve a much higher revenue premium over LCC competitors on short-haul markets than their counterparts in the US

Adjusted Revenue per ASK

12 -38% 10 -35% 8 -53% -46% 6 Network Airlines1 4 / EasyJet 2 Ryanair

RevenueperASK (2005 €cents) 0 1998 1999 2000 2001 2002 2003 2004 2005

1/ Air France, British Airways, Lufthansa. Source: IATA Airline Cost Performance Economics Briefing, March 2007.

Realizing the vision together LCCs have targeted longer haul markets for expansion: they operate 65% of their domestic capacity in markets over 500 mi.

LCC Distribution of Traffic By Trip Stage Length U.S. Domestic Markets >75 Passengers Per Day Each Way CY 2000 vs. CY 2004 100% 14.5% 90% 20.0% 80% 55% 65% 70% 39.9% 60% 45.1% Over 1,500 Miles 50% 500-1,500 Miles 40% 0-500 Miles

30% 46% 20% 35% 10%

0% 2000 2004

LCCs -WN,JetBlue,HP,Airtran,ATA,Frontier

Sources: US DOT O&D Database, via Database Products Hub Supplement Database Realizing the vision together Low-cost carriers increasingly resemble hub & spoke systems, in addition to expanding their previously limited international offerings

Percent of LCC Airport Total Seats Frontier Denver 49% JetBlue New York Kennedy 35% Southwest LAS, PHX, MDW, BWI, HOU 30%

WestJet Calgary/Toronto 37% AirTran Atlanta 35% America West Phoenix 34%

LCC International Destinations Aruba Bahamas Bermuda Canada Costa Rica Dominican Republic Jamaica Mexico

Realizing the vision together Sources: US DOT O&D Database As legacies increasingly erode LCC advantages, LCCs will increasingly hybridize to meet the growing challenge

Southwest Airlines in 2000 Southwest Airlines in 2005

Number of Aircraft in Fleet 326 Number of Aircraft in Fleet 412

Percent of Markets Under 2 Hrs 83.9% Percent of Markets Under 2 Hrs 76.5%

Avg No. of Daily Flights per Market 4.4 Avg No. of Daily Flights per Market 4.1

Average Stage Length 470 Average Stage Length 584

Code-Share Agreements None Code-Share Agreements ATA

Realizing the vision together Future trends in airline business models – cont.

Legacy carriers introduce low cost subsidiaries

•Air Canada – Rouge •Qantas – Jetstar •Lufthansa – Germanwings

19 November 2013 91 Realizing the vision together Thank You! www.intervistas.com

Realizing the vision together