Dialogue: Low-cost carriers way to go

The only way to sort out the mess is for the big carriers to get real about costs, says JIM SCOTT*.

Air New Zealand "spin doctors" said it paid too much for Ansett Australia. Qantas told Newscorp that Ansett New Zealand wasn't worth buying and then a group of New Zealand's reputedly more astute and hard-nosed businessmen, with no real aviation experience, thought they knew better and paid the price.

In Australia, two low-cost carriers, Virgin Blue and Impulse, stepped up the heat on the two larger full-service network operators, completing the mixture that makes up a chaotic aviation market on both sides of the Tasman.

Aviation worldwide seems to have the ability to turn the heads and minds of shareholders, employees and the flying public when it comes to making judgment calls.

The full-service carriers still believe they will get rid of the low-cost carriers simply by having a price and cashflow war, but this strategy is seldom the real cause for new-start, low-cost carrier failures. It is not very many years ago that leading New Zealand retailers were saying The Warehouse and its "red sheds" would never establish a foothold in the retail sector. Hello! Are you still there?

In my opinion the low-cost carrier with a sound strategy and a well-managed business plan is more than capable of capturing a significant market share in any domestic market, anywhere in the world.

Origin Pacific, with its low-price fare strategy, is quietly expanding its route network throughout provincial New Zealand.

The large full-service carriers like Qantas and Air New Zealand, with their inherently high-cost and inflexible routing structures, are ill equipped to compete in the short-haul and domestic markets against the new generation of well-managed, low-cost carriers. The public is becoming increasingly comfortable travelling with airlines that fly modern high-tech aircraft, where the price is maybe 50 per cent lower, and where the employees seem enthusiastic about providing a competitive quality service. This is certainly the trend for all retail markets, so why should aviation think it will be treated any differently?

All carriers must deal with the large price swings for one of their highest cost components, fuel. These increases are much the same for all operators but are a significantly higher proportion of total costs for the low-cost carriers. If the aviation industry and its airline managers choose not to put up their prices in line with these major cost increases, then management is effectively asking its shareholders to subsidise the consumers.

I know of no business on this earth that can last very long selling products and services at a price significantly lower than the average cost of production. The aviation industry, for as long as I can remember, has always had a sales and marketing philosophy that believes market share and "bums on seats" are more important than bottom-line profitability or lack of it.

The larger full-service carriers often have packages and network pricing arrangements that are locked in for periods of six months or more.

Exchange rate fluctuations in southwest Pacific countries recently have probably been more significant than anywhere else in the world, yet fixed-pricing policies have continued unabated.

Qantas and Air New Zealand continue with press releases advising that they are downgrading their profit projections while at the same time apparently ignoring the need to recover significant real cost increases.

No wonder the shareholders are flooding the market with sell orders and replacing these with share purchases of businesses in highly competitive but sustainable profit-performing sectors.

The aviation industry is, in my opinion, setting itself up to become the last of the global dinosaur industries. As long as it continues to shield itself behind nationalistic protectionism, as offered by the 1944 Chicago Convention and its bilateral and special ownership criteria, it will have to live with more large-scale business failures, as occurred last year with Philippine Airlines.

Past experience in the most monopolistic and/or high market share protected industry sectors is that open competition can lead to a 50 per cent or greater reduction in prices, without any real visible change in the quality of products and services being delivered.

What is certain is that the large full-service and dominant carriers, like their monopoly airport colleagues, are never going to deliver such price reductions of their own accord.

Many modern businesses are able to deliver these levels of reductions under competitive pressure and still maintain an acceptable level of profitability for their shareholders.

The continued failure of Governments and the aviation industry to move forward with the modern, open economic model is fostering what appears to be the chaotic aviation sector.

I believe the battle between the full-service carriers and the low-cost operators in the Australian domestic market is great news for the travelling public and for the inbound tourism industry. Ultimately, it will lead to a more cost-effective and sustainable industry.

In New Zealand we have just witnessed the overriding of the Commerce Act by the Coalition Government in order to put together a more globally competitive dairy industry.

In aviation we have recently seen this same Commerce Act used to block a merger of the Ansett New Zealand and Air New Zealand domestic operations. Had these two full-service operators been allowed to merge, we would by now have here a strong and prosperous low-cost carrier or carriers competing with the high-cost, higher-priced, full-service operation.

Let the travelling public make its own choice and the businesses will adapt and adjust.

* Jim Scott was chief executive of Air New Zealand from 1988 until 1991. During this time the then Government-owned airline was privatised and subsequently floated on the NZSE. Today he is the governing director of private investment company Aquiline Holdings.