Transport Management & Theory Practices (7)

Management of Transportation

Seventh Edition Coyle, Novack, Gibson & Bardi

© 2011 Cengage Learning

Chapter 7The Airline

Industry

1© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

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Introduction

• Rail: dominant mode from 1850s to WW II– Superior in both price and service quality to

road transport for most of this period– Superior in service quality to water transport

• Development facilitated by standardization of track gauge and rolling stock

• Pivotal role in U.S. economic development– Great expansion in track mileage, post-1870s– Financed by private capital– Too much track mileage relative to demand


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Introduction

• Wright Brothers first flight: 1903• Government development and promotion of air

transport begins in 1920s:– U.S. Post Office air mail subsidy program helps

launch commercial passenger airline industry

• Competitive advantage: Speed (travel time savings)

• Econ. Deregulation enables more competitive pricing


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Types of CarriersPrivate Carriers

• Definition: – A firm that transports company personnel or

freight in planes to support its primary business

• Preponderance of use is for transport of personnel

• Subject to federal safety regulations administered by the Federal Aviation Adm. (FAA)

Types of CarriersFor-Hire Carriers

• Several different classification schemes– Classified by annual operating revenues

• Majors (revenues of >$1 billion)• Nationals ($100 million - $1 billion)• Regionals (revenues of <$100 million)

– Classified by type of service• All-cargo• Commuter• Charter• International


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Market StructureNumber of Carriers

• Relatively small number of for-hire carriers– Most revenues earned by small number of majors– Several cycles of increasing, then decreasing

number of airlines after 1978 deregulation

• Private air transport– Over 500 corporations own/operate aircraft– About 60,000 corporate-owned planes exist– Thousands of private aircraft used for personal,

recreational, and instructional purposes



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CompetitionIntermodal and Intramodal

• Very limited intermodal competition for long distance (500+ miles) trips– Air has decided advantage in transport speed– Freight: rising competition from time-definite

motor carrier service– Passengers: some limited competition from

personal automobile travel, rail, and bus service

• Intense intramodal competition– Creates cycles of new entrants, excess capacity,

reduced fares, carriers exiting markets


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CompetitionService Competition

• Nature of passenger service competition– Flight frequency on given route – Timing of flights – Meals, in-flight communications, other services– No-frills alternatives intensify competition– Advertising used to differentiate carriers

• Nature of competition for cargo, express traffic– Published schedules and rates– Door-to-door, time-definite service


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Operating and Service CharacteristicsGeneral

• Due to value of time, air dominates for-hire, long-distance passenger market

• When importance of speed outweighs cost, then air is attractive for freight– Emergency shipments– Typical commodities

• Mail, fashion clothing, communications products, fresh flowers, racehorses, jewelry

– Air freight cost vs. inventory cost tradeoff


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Operating and Service CharacteristicsSpeed of Service

• Speed, travel time advantage can be off-set by– Low flight frequency, schedule timing

• Smaller communities have experienced reduced frequencies

– In-direct routing due to hub and spoke networks• Legacy majors moved to hub and spoke networks

following deregulation to improve load-factors

– Air traffic and ground congestion, security measures• Most relevant at major airports• Adds uncertainty to total travel time


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Operating and Service CharacteristicsLength of Haul and Capacity

• Length of haul– 2007 average air trip length for passengers:

1078 miles

• Aircraft capacity dependent on aircraft type– Wide-body, 4 engine jet

• 370 passengers and all-cargo capacity of 16.6 tons

– Boeing 777 carries 263 passengers– Most planes carry 120-260 passengers

Operating and Service CharacteristicsAccessibility and Dependability

• Air travel is generally highly reliable– Weather and congestion are the principal causes

of schedule disruptions– Sophisticated navigation systems facilitate

operation in poor weather conditions

• Limited airport accessibility adds travel time and cost to air travel– Limited accessibility is the principal service

disadvantage of air travel© 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

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Equipment and Facilities

• Types of vehicles (aircraft)– Many aircraft types

• Wide range of seating capacity, cargo payload, speed, fuel consumption, operating costs/hour

• Key is to match operating characteristics to demand needs of route

• Terminals (airports)– Airports financed by government

• Federal construction assistance programs• State and local governments operate and maintain

– Air carriers and users pay for use

Equipment and Facilities


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Taxes and Fees


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Taxes and Fees (continued)


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Cost Structure Fixed vs. Variable Cost Components

• High variable costs (80% of total operation costs)– About 38% attributable to flight operations– About 10% for maintenance– About 14% for aircraft and traffic servicing

• Low fixed costs– Due to government investment in terminals and

operating infrastructure

• Increasing price competition creates pressure to reduce labor costs, increase productivity

Cost Structure Fixed vs. Variable Cost Components


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Cost Structure, cont’dFuel and Labor Costs

• Fuel costs: rising fuel costs have major impact on total operating costs– A Boeing 474-400 consumes 3,411 gal./hour– Airlines turn to more fuel efficient aircraft and

smaller planes on low-density routes

• Labor costs– Variety of job skills required by an airline

• Pilots, flight engineers, attendants, communications personnel, mechanics, ground crew, administrative

– Pilot wages vary depending upon the plane they are rated to fly and union affiliation


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Cost StructureEquipment, Economies of Scale and Density

• Equipment economies of scale and density– Cost per flight-hour higher for larger planes

– But, cost per seat-mile lower for large planes• Example of EOS with respect to plane size (capacity)

– Also, for any given plane size, low marginal cost to fill empty seats (example of econ. of density)

Plane Seats Operating Cost/Hr. Operating Cost/Seat-Mile

B747-400 367 $8,443 $0.046

B767-300ER 175 $3,873 $0.051

DC-9 101 $2,071 $0.069

Cost StructureEquipment, Economies of Scale and Density

• Operating economies of scale at the firm level– Minor degree of economies of scale

• Capital investment needed for integrated communication networks create some EOS

• For the most part, EOS at the firm level are not significant

• Significant economies of density at route level– Important consideration when choosing city-pairs to

serve, and setting flight freq. and planes for each route


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RatesPricing

• Many passenger fare variations– Price of same seat on flight may vary depending

on restrictions at time of purchase• Advance purchase, time of day, competition

– Yield management used to increase revenues and improve capacity utilization

• Load factors average about 79.9% in 2007

• Cargo pricing– Based mainly on weight or cubic dimensions– Over-dimensional charge for < 8 cu ft. density


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RatesOperating Efficiency

• Operating ratio = [Op. Exp./Op. Inc.] * 100– Industry average: 1994-2000: 94.7-96.9

2007: 94.7

• Load Factor = [#Passengers/#Seats] * 100– Industry average climbs above 70%– Relationship between load factor, plane size,

and operating costPlane Seats Pass. Load Fac. Op. Cost/Hr. Op. Cost/Pass.-hr.

B747-400 367 239 65.1% $8,443 $35.32

B747-400 367 80 21.8% $8,443 $105.54

DC-10 101 80 79.2% $2,071 $25.89


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Current IssuesSafety and Security

• Air transport has lowest accident rates

• Factors affecting airline safety – Airport security and threat of airline terrorism

• Administrative agencies– Department of Homeland Security

– Transportation Security Administration

• Security-related initiatives– Passenger and luggage screening. carry-on limitations

– Screening of freight carried on passenger airlines

– Substance abuse• Drug testing policies, alcohol consumption guidelines



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Current IssuesTechnology

• Sophisticated equipment and programs facilitate the achievement of high speed transport– Automated information processing programs

• Air Cargo Fast Flow Program– Paperless, speeds processing through customs

– Improves shipment tracking

– Improves communication between connecting carriers

– Air traffic control system• Potential application of GPS navigation aids

– Potential to reduce operating costs, improve service, and safety

– Requires high cost investment for new technology on aircraft


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Business

Transport Management & Theory Practices (7)