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THE BUSINESS ENVIRONMENT AND AIRLINES



SOME SPECIAL IN THE AIR

"The coronavirus pandemic hit the aviation industry hard, erasing two decades of global passenger traffic growth in just a few months. Strict measures implemented by governments around the world to keep the pandemic under control resulted in a substantial 65.9% decline in air traffic. However, at the end of 2020, the industry began to show initial signs of recovery and has been gradually recovering since then, despite the lingering effects of the current coronavirus situation, the conflict between Russia and Ukraine and rising energy and fuel prices. Despite the challenges faced in recent years, the resilience of the air transport industry has become evident in 2022. Compared to March 2022, there has been a notable 69 percent increase in international revenue passenger kilometers (RPKs) for international airline markets as of March 2023" (Source: statista.com ).


The airline industry is one of the fastest-expanding transportation sectors in an increasingly interconnected global economy. The industry has shown moderate signs of recovery from the impact of COVID-19, gradually returning to its pre-pandemic state. In 2023, the airline industry market size was estimated to be slightly less than $814.5 billion, representing a modest three percent decline compared to the 2019 level. (Source: statista.com ).


🌀 STRATEGY IN ACTION 🌀

Making a stopover at the Houston airport, I managed to capture a photograph of a United Airlines Express plane, which reminded me of how this airline managed to move forward despite the threatening environment:

▪️ The fluctuation in the price of oil that affects the cost of jet fuel.

▪️ The little differentiation (except service and brand positioning) between one line and another.

▪️ The lack of loyalty of the price-seeking passenger.

▪️ The strong competition caused by the current lines

▪️ The entry of new low-cost airlines.

▪️The high concentration of airline suppliers.


🎈 Faced with this gloomy outlook, United Airlines was able to mitigate the aforementioned threats through two strategies:

Strategic alliance (horizontal integration to the right) which culminated in a merger with Continental Airlines, of which the United Airlines name and the Continental Airlines logo were maintained, as seen in the tail of the plane in the photograph.
Adjust the size of the planes according to the supply and demand of the routes, so for example, instead of using 200-passenger planes, small 25-passenger planes were implemented, which would make it easier to achieve the break-even point and achieve profit. positive on flights. In addition, fuel consumption would be more efficient by not flying at cruising altitude. This strategy is a clear example of Disruptive Innovation.

🔹️United Airlines, Something Special in the Air🔹️


THE BUSINESS ENVIRONMENT

The business environment is made up of:

NON-Controllable Variables that we can mitigate, but not eliminate; If we are an intelligent company with strategic capabilities, we can turn threats into opportunities.

Controllable Variables, which are those inherent to our strengths and weaknesses that, through strategies, we can increase and maintain (the strengths) and we can mitigate (the weaknesses).

THE AMERICAN AVIATION COMPANY INDUSTRY

In the United States, the airline industry has long struggled to make a profit.


Warren Buffet / Investor

In the 1990s, investor Warren Buffet sarcastically remarked that the airline industry would have been better off if the Wright brothers had allowed the Kitty Hawk to crash.


The point Buffet wanted to make was that that industry as a whole had accumulated more losses than the money it had made, adding that this industry has always been a losing economic proposition.


On one occasion, Buffet made the mistake of investing in the industry with a lot of US Airways shares. A few years later, he had to discount 75% of the value of that investment.

Faced with this situation, Warren told shareholders that if he ever invested in an aviation company again, they would do well to shoot him.



The 2000s have not been kinder to the airline industry, which lost $35 billion between 2001 and 2006. It managed to post low profits in 2006 and 2007 but lost $24 billion in 2008 because oil and jet fuel prices they rose throughout the year.


In 2009, the industry lost $4.7 billion due to a huge drop in the number of people traveling for business as a result of the deep recession that followed the global financial crisis, and that huge figure far canceled out the beneficial effects of the drop in oil prices.


The industry became profitable again in the period 2010-2012, and in 2012 in fact managed to realize a net profit of 13 billion dollars, on revenues of 140.5 billion dollars.

Analysts talk about a series of factors that have made the industry not an easy place to do business. Over the years, larger carriers such as United, Delta and American have been hurt by low-cost carriers that have entered the industry, including Southwest Airlines, Jet Blue, AirT Airways and Virgin America.


These new participating airlines have hired non-union workers, often have only one type of aircraft (which lowers maintenance costs), have concentrated on the most lucrative routes, and typically fly from one point to another ( unlike those that existed before, which have always handled passenger routes from a center to the periphery) and compete by offering very low fares.


These new entering airlines have contributed to creating an overcapacity situation in the industry and have taken market share away from the airlines that existed before, which have a much higher cost structure (mainly because their costs labor costs are higher).

Given this situation, existing companies had no choice but to respond to the rate reduction and the result has been a prolonged price war in the industry.

THE DISAPPEARANCE OF TRAVEL AGENCIES

To make matters worse, the rise of online travel sites such as Expedia, Travelocity and Orbitz have made it much easier for consumers to compare prices before purchasing and has helped keep fares low.



On the other hand, starting in 2001, high oil prices also complicated things. Fuel costs represented 32% of expenses of total income in 2011 (labor costs represented 26%; the two items together add up to the highest variable expenses).

From 1985 to 2001, oil prices fluctuated between $15 and $25 per barrel. Prices then began to rise due to strong demand from developing countries such as China and India and peaked at $147 per barrel in mid-2008.

Due to the above, the price of jet fuel, which was $0.57 in December 2001, reached a maximum of $3.70 per gallon in July 2008, plunging the industry into the red.


BANKRUPTCY NOTICE TO THE US GOVERNMENT

Even though oil and jet fuel prices later fell, they remain above historical levels. At the end of 2012, jet fuel was around $3.00 per gallon. Many airline companies went bankrupt in the 2000s, including Delta, Northwest, United and US Airways.


However, the largest lines continued to fly because they restructured under Chapter 11 of the US bankruptcy law, and excess capacity persisted in the industry.

These companies emerged from Chapter 11 protection with lower labor costs but continued to face the challenge of generating revenue.


The late 2000s and early 2010s were characterized by a wave of mergers in the industry.

❖ In 2008, Delta and Northwest merged.

In 2010, United and Continental merged, and Southwestern Airlines announced that it was considering acquiring AirTran.

❖ At the end of 2012, American Airlines filed for Chapter 11 protection mentioned above.

❖ US Airways later pushed to merge with American Airlines, the companies were negotiating that contract in early 2013.


Some of the forces that have motivated these mergers are the desire to reduce excess capacity and avoid duplication to lower costs. If successful, they could put the industry in an environment with more stable prices and higher profit rates.


However, we will have to wait to see what happens, especially now that the pandemic has been going through, which has created greater problems for this industry.




JUAN CARLOS ERDOZÁIN, EXECUTIVE DIRECTOR OF OMNIVEROS eaBC

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