Financial Performance of Low-Cost and Full-Service Airlines in Times of Crisis, The

Canadian Journal of Administrative Sciences, Mar 2005 by Flouris, Triant, Walker, Thomas John

Although Southwest already performed significantly better prior to 9/11, our results suggest that the performance gap widened even further after 9/11. Naturally, the question arises: what may have caused Southwest's outperformance?

According to a Unisys Global Transportation report, "the only prerequisite to economic success is to achieve a low cost base from which to build a desired service offering" (Unisys, 2003, p. 9). This statement dismisses claims by full-service airlines that the post-9/11 industry malaise is due to exogenous factors such as terrorist threats, the war in Iraq, and SARS.

Business models create a simplified description of the strategy of a profit-oriented enterprise. The low-cost airlines' business model consists of a variety of characteristics, with price as its single most important product feature. In addition, most low-cost airlines are distinguishable from full-service carriers in terms of their product offering, corporate structure, workforce and work practices, and operational procedures. We address these differences in our discussion below.

Pricing Structure

Pricing structure is a key differentiator between LCCs and full-service carriers. Legacy carriers commonly offer a great variety of services to differentiate their products. These airlines usually operate on a comprehensive network consisting of a complex hub-and-spoke system. Hub-and-spoke systems increase the number of connections between city pairs served by the same number of flights compared to a point-to-point system. The size of the network by means of the number of connections is a strategic success factor for legacy airlines. The product concept of legacy airlines also relies on offering service variety. Legacy carriers target all possible groups of passengers, from price-sensitive leisure travelers to time-sensitive business passengers, while the low airfares of LCCs mostly attract price-sensitive passengers.

Air Transportation is an intermediate good in the sense that most people fly as a means to an end (O'Connor, 1995). For example, tourists have their vacation as their main objective, while business managers aim for negotiations or transactions. Consequently, the willingness to purchase a certain ticket can vary tremendously, thus rendering it difficult for airlines to forecast demand. After deregulation and the relaxation of price and route controls, the legacy airlines introduced revenue management as a competitive tool. In broad terms, revenue management is the practice of maximizing revenue from perishable assets (seats) through a combination of pricing and inventory controls (Cross, 1997).

Legacy carriers use yield management to maximize the earning of every available seat by applying computer-systems to control the number of discount fares available on each flight (O'Connor, 1995). Legacy carriers therefore differentiate their products to be able to offer the right product for each customer segment at an acceptable price. This has led to a very complex and completely non-transparent pricing model (O'Tolle, 2002). As O'Connor points out, the segmentation of passengers or prospective passengers by the purpose of their air journey produced the separation of first, business, and economy class in cabins. In addition, other requirements such as Saturday-night stays and return tickets instead of one-way tickets were introduced.