Inside the airline industry’s meltdown
The airline industry despite the crucial role it plays in connecting the global economy, is notorious for destroying value. Even the relatively young Indian private airline industry has seen almost all airlines either go bankrupt or shutdown with two of the three major players left standing are on the brink, the financials of the dominant market leader with more than half the share of the industry are nothing to brag either and the government owned airline, a monopoly for long, was virtually bankrupt even before the pandemic. And airlines have been among the worst affected industries world over by the pandemic. In this well researched piece for The Guardian, Samanth Subramanian brings out several details about running an airline from the cost of fuel and aircraft acquisition and maintenance to competitive pricing and carbon emissions to show why airlines are an inherently fragile business.
“…the pandemic’s effects upon aviation seemed sudden and tectonic. Richard Aboulafia has an alternate view: “Nothing new is happening. It’s just happening faster.” Aboulafia is the vice-president of analysis at Teal Group, an aviation market research firm, and every month he sends out a chatty newsletter that is widely read in the industry. “Dear Fellow Dark Cloud Dwellers,” he wrote in May, peering ahead at the contours of a post-Covid industry. Airlines will hoard cash, he predicted. They will choose smaller, more efficient planes. They will fly more point-to-point routes, leaving behind the old hub-and-spoke networks – the kind that require us to fly from one town to another in a minimum of two legs, via a “hub” airport in a major metropolis. But these changes were under way even last year, he argued. The coronavirus has only made them seem more practical still.
…In the 70s and the 80s, barring a couple of price spikes, aviation fuel – Jet A-1, as the industry calls it – was cheap. As a result, the industry’s ideas for keeping razzum above cazzum didn’t need to dwell too heavily on the cost of fuel. Instead, airlines pursued their beloved hub-and-spoke model – their elaborate networks that offered journeys only in multiple legs. To cultivate an airport as a hub, an airline booked out most of its landing and takeoff slots, so that it could corner the market on flights serving the surrounding area. After Delta developed the Atlanta airport as a hub, for instance, a customer found it more expensive to fly into the region on any other carrier.
In the hub-and-spoke model, passengers flowed thickly from one hub to another, before dispersing in thinner streams to their eventual destinations. To make these hub-to-hub flights, airlines ordered wide-body planes such as the 747, intending to stuff them with up to 500 passengers each. These planes consumed enormous quantities of fuel, and airlines then burned more still by shuttling their passengers from hubs to smaller airports. But the cost of Jet A-1 was so low that it almost didn’t matter. Besides, no matter which plane you flew, the takeoff phase always burned through Jet A-1 the quickest. The most fuel-efficient stage of flight came at cruising altitude, tens of thousands of feet in the air. It seemed to make sense, then, to put as many people as possible into a single takeoff and to then keep them up in the air for as long as possible. The hitch was, though, that airlines couldn’t always pack these massive aircraft to capacity, and they engaged in such ruinous price wars to fill their seats that Rasm suffered
Beginning in the 90s, and continuing well into this century, the price of fuel rose steadily, forcing airlines to re-examine their extravagance with Jet A-1. In 1989, a barrel of oil had cost $10, but in 2008, the price hit $147. In the uncertain years after 9/11, many airlines watched their passenger volumes flag, even as they kept having to pay for the new planes they had ordered years earlier. Ordinarily, airlines might have responded by raising ticket prices – except that, as the industry was fast deregulating everywhere, low-cost carriers emerged as fierce competition. These carriers shrank the cost of flying by doing away with frills such as meals and legroom. “That revolution was brutal,” Aboulafia said. “You couldn’t conduct business as usual.” The hub-and-spoke model appeared to be fading as well. Every city was building itself a decent airport, and people didn’t want to waste their time with layovers and connecting flights. Keeping Casm lower than Rasm needed a fresh approach.
Chief among these was to blow less money on Jet A-1. Airlines typically enhance their fuel efficiency by 1%-2% a year, and often these gains are won by tinkering around the edges: lighter seats, less water in the bathroom tanks. In 2017, when United Airlines reduced the weight of its paper in its inflight magazine, it saved nearly 770,000 litres of fuel a year – or $290,000 in costs. Aboulafia told me that, a decade or so ago, many airlines adopted power-washing, which reduces the drag on a plane by stripping it of greater quantities of oil, grime and bug corpses than an ordinary lather could ever do. Separately, several airlines started playing the futures market in fuel, to hedge against sharp price hikes. Delta bought a whole oil refinery near Philadelphia.
But the true leaps in efficiency were achieved by new craft, which airlines began to request from manufacturers in the early 00s. The Boeing 787, for example, claims to burn 20% less fuel than its older sibling, the 767.
Tickets stayed cheap, though, and not just because of the competition from low-cost airlines. Peter Morris, who was once Iata’s chief economist, told me that back in 1995, 25% of the cost of a ticket actually went into producing and selling it: courting travel agents, paying out commissions, printing tickets securely. The internet did away with that, replacing it with attritional algorithm battles. Automated web crawlers alert an airline many times a day if a rival drops its price on a route, so that analysts can decide if their airline can afford to do the same. Boet Kreiken, who once worked for the Dutch Air Force, called the price game “mutually assured destruction”. This is among the reasons, people in the industry kept claiming, that airlines hardly make any money.”