Strategy Dynamics Briefing 63: Rivalry example – low-fare airlines

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Many airlines struggle for profitability because fares are so transparent and customers can so easily switch. Only the limited number of services that less busy travel routes can support limit this otherwise frictionless movement of customers’ choice. The customer rivalry frameworks from briefings 50-53 are therefore directly applicable to airlines. In the full-service sector, some genuine loyalty to specific airlines is common, driven by frequent-flyer programs as well as by customers’ experience of reliability and service with specific firms. Loyalty is hard to achieve in the low-fare sector, where customers are so strongly motivated by price. This makes it especially important for airlines to win the competitive battle for the key scarce resource — routes.

Competition for air-travel routes also features all three of the rivalry mechanisms, but unlike customers, routes do not “decide” which airline to deal with, so if access to airports were unconstrained, rivalry would simply be a matter of which routes each airline chooses to operate. Airport access is, however, often limited by their capacity to handle aircraft departures and landings, so those close to important travel destinations often have some power to levy substantial charges for airlines that wish to use them. In the case of major hubs, such as New York JFK and London Heathrow, the attraction of the airport to travelers is so strong that many airlines are desperate to win take-off slots, especially at the busiest times of the week. Airport slots are therefore a special case of rivalry for supply of a scarce resource.

Many low-fare airlines have limited this difficulty of airport access by two means. First, on busy routes, they deliberately choose secondary airports rather than the major hubs. Even if inconvenient to travelers, the big savings on fares compared with full service competitors captures large numbers of customers. Furthermore, the secondary airports are often so anxious to win passenger traffic to boost their own income that they offer very good terms to airlines that choose to use them.

The second way in which low-fare airlines mitigate the problem of limited access to popular airports is by starting operations on routes that have previously been unserved. This is a powerful example of firms creating the very market that they themselves then serve, rather than waiting for “market demand” to grow until it is viable for them to provide for it. The histories of all successful low-fare airlines have featured continual and rapid expansion onto routes that previously had no direct airline service.

Figure 1 shows a 15-year scenario for competition between two low-fare airlines to open routes in a fast-developing regional market. The competitor started operating before our airline, at a time when there was estimated to be 50 potential routes that could support a low-fare service. The competitor grew rapidly over the first few years, growing to about 30 routes on its own, at which time we started operating in the same market, but on different routes (“sole” routes are those on which the airline is the only low-fare provider operating, although full-service airlines may be present). We started opening routes relatively slowly, then, as confidence grew, opened a large number of routes in quick succession. By the end of year eight we were operating 44 routes versus the competitor’s 64.

Figure 1: Rivalry by low-fare airlines to open routes in a major regional market. (Click image to view larger)

Rivalry by low-fare airlines to open routes in a major regional market

As the two airlines grew, the appeal of their services stimulated demand to create more potential new routes, a clear case of the key mechanism mentioned earlier in this chapter, namely the emergence of new potential resources. However, our rapid growth in year eight depleted this potential significantly, forcing the competitor to start operations on routes that we previously served alone and converting our sole routes into shared routes. By the end of that year, we were competing directly on 20 routes. By year 15, both firms have grown strongly and used up all the new opportunities they can find, so neither airline is able to grow except by invading each others’ routes—a strategy each seems reluctant to pursue.

Figure 1 is a screen-shot from the Lofare Airline Microworld business game, ideal for learning about the dynamics of rivalry – see www.strategydynamics.com/lofare

Until next time…

 

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Similar architectures for different businesses

A helpful feature of the strategy dynamics method is that it often discovers similarities between the fundamental structures of seemingly quite different organizations. This means that insights can quite often be transferred. The rivalry for airports amongst airlines, for example, has a similar structure to retailers’ competition for store locations. Retailers can create new demand with their first few stores, making it possible later to open still more, in a close parallel to figure 1. Retailers need to be careful, though, not to open too many stores, because at some point each new store either attracts too few customers to be viable, or only does so by stealing customers from existing stores. An airline needs to exercise the same caution, because opening ever-more routes may at some point simply attract passengers from the same airline’s existing routes.

Strategic Management Dynamics book coverAnother case concerns the staff development chain of consultancies, which has parallels not only in other professional firms, but also in support functions inside larger businesses. It can even be found in religious communities, and terrorist groups, where juniors do the leg-work, supervised by mid-graders, and led by the senior ‘partners’ who set the organizations goals!

This briefing summarises material from chapter 7 of Strategic Management Dynamics, pages 495-500.

Read more about the book on our website

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