To establish a global brand, the big players in the airline game have to bite into BA's market. Matthew Lynn reports on the contest Under way.
A slight frown flicks onto Mike Batt's face. The director of North American routes for British Airways pauses for a minute. And then he says: 'I'll have to give you the view from upstairs on that question.' He had reason to pause; he was about to tread into some swampy ground. The question had been: does he expect BA to lose market share on its valuable North American routes, an arena where it has commanded the loyalty of 40% of passengers flying over the ocean.
And the answer? 'Lord King and Sir Colin Marshall (chairman and managing director of BA respectively) expect us to hold market share,' he says. 'But I think they understand we may lose some of our market. What we are really talking about here is holding as much as we can.
Damage limitation is the name of the game.'
A game is probably the right metaphor, even if it is a very tough one, with stakes far deadlier than a stack of casino chips. It started earlier this year when two of the players who have traditionally dominated the business of ferrying passengers across the Atlantic threw in their towels and dropped out of the sport. Pan Am and TWA, which had held landing rights at Heathrow for decades, and were under intense financial pressure, agreed to flog off those rights to the two strongest US carriers, American and United. At a stroke the nature of the game changed: instead of being played between two weak competitors and one very strong one, it would now be played between three of the strongest players in the world. The battle for the Atlantic, ignited by the arrival of United and American, most closely resembles a giant huge commercial chessboard, with Boeing 747s and DC10s as pieces, and with tarmac landing slots as the spaces. It is fiendishly complicated; there are three main sets of players around the board, plus a few more players likely to wander up to the board and chuck in a few more pieces whenever they feel like it. And it is also a significant game. More than the honour of victory is at stake, since none of the players can afford to lose. The fact that the battle is taking place at all is an indication of the high stakes.
Pan Am and TWA fell victim to trends towards giantism that are slowly re-shaping the airline business. After the deregulation of US skies in the early '80s, a long war of attrition has left three mega-carriers - American, United and Delta - with Northwest Air as a possible fourth player. That game turned on two crucial pieces: the hub and spoke system, through which tens of short haul flights are fed into one city, and the passengers then transferred onto long-distance flights; and the rise of computer booking systems that allow travel agents to key passengers into the schedules automatically (it is not a co-incidence that the two largest computer reservations systems in the US are owned by American and United). In such a competition, Pan Am and TWA were unarmed and defenceless; without control of computers or a domestic US route network, both were doomed. TWA still has a small route network and some Atlantic flights out of Gatwick, and Pan Am is running some flights to South America. But both have departed the big league; they are grand masters no more. 'Pan Am is the first of the major world brands to die out,' says one airline executive.
'And it is a reminder of how fragile any position in this industry can be.' Pan Am's slots at Heathrow were purchased by United for $290 million, while American took over TWA's slots for $445 million.
At the same time, the fast-growing UK challenger to British Airways, Richard Branson's Virgin Atlantic, also picked up a slot at Heathrow. Those moves were made in the face of fierce opposition of BA; so fierce that Lord King scrapped the airline's £40,000 annual donation to the Conservative Party because he wasn't getting value for money.
In the wake of the reshuffle, BA now has 278 flights a week across the Atlantic, with 83,000 seats; American has 16,8 flights, with 35,000 seats; and United has 122 flights, with 30,000 seats. Virgin also has 30,000 seats, although on only 84 flights. United began flying out of Heathrow in April; American took off from the same airport in July. That is the line-up of forces.
Here are the players. The man heading up United's transatlantic challenge is David Coltman, vice-president for Europe at the airline. He should know his opposition well; he worked at British Caledonian and then at British Airways, before switching sides. And he is in no doubt about where his guns are sighted. 'We regard British Airways as the competition. They have been the dominant player in this market for so long they have pretty much the field to themselves. I don't think BA has any particular weaknesses,' he says. 'Their problem is that they have established a market share out of all proportion to what they would normally expect, because of the weakness of the competition on those routes. lt will be very hard for them to hold on to that.' Over at American; the man heading up the insurgency is the vice-president for Europe, Conrad Jacoby he has an advantage over United: the airline has been flying from Gatwick to Dallas since the early '80s and has picked up some experience of the UK market. Like his US rival, he sees B A as the main 'target.'It is difficult to be different in some areas,' he says. 'The important thing is to have a high quality service, and to be consistently good all the time.'
Both men have plenty of resources to play with. Jacoby's boss, the hard-boiled chief of American Airlines, Robert Crandell, has estimated that the airline's venture into the European market has cost it some $2 billion; a mixture of the cost of the landing rights, plus planes and staff and so on. United are reluctant to reveal figures for their investment, describing totals as likely to be meaningless. Even so, its staff in the UK has grown from five to 1,600 this year, indicating a substantial investment in the operation above and beyond the cost of the routes. The trick will be to make that investment pay off. To make it pay, however, each of the airlines will have to achieve two things; they will need to make sure they have high load factors, meaning the planes are close to full; and they will need high yields, meaning the passengers are paying full fares, and are not all flying at discounted cheap rates.
It boils down to a marketing battle; a war fought at 50,000 feet, over canapes and bottles of fine wine, and with smiling stewardesses and comfy headrests as the main weapons - at least, so the players would like us to believe. The message the men fighting the battle would like to put across is that the contest is all about service. 'United has a total commitment to quality,' says David Coltman. 'Our strength is the level of our service,' says Mike Batt, a man who has just spent £6 million on upgrading the training of his transatlantic staff.
Service has a role to play, particularly among the important business and first-class passengers. And it is a factor BA hopes to use to devastating advantage. 'Quality service has been part ofourculture for a long time now,' says Batt. 'It is something that is built into the way we operate, rather than something we are just trying to bolt onto the North Atlantic routes. And it is something that is very difficult to develop suddenly. Anyone will tell you that the standards just aren't the same in the US.' He has a point. Airline industry analysts say that because European airlines have seldom competed on prices, they have a highly developed culture of competing on quality. In the US, where price wars between airlines have been long and vicious, airlines have concentrated more on keeping costs lean, and have worried less about quality. BA is betting heavily on its quality edge, and even extending it. 'We don't believe in following the competition,' says Batt. 'We believe in aggressive marketing, in leading from the front.'
Many of the airline's recent moves are in tune with that 'hit 'em before they hit you' philosophy. lt has already spent £10 million on brushing up its service, including new lounges and check-in facilities in the US, and more ground staff at Heathrow.
It is also planning to improve the number of passengers its staff can recognise by name from its current 60% (a marketing tactic it is particularly pleased with) and is experimenting with extra ground staff to escort a few passengers per flight from check-in desk to departure gate. British Airways may well be able to score points with the quality argument and its US rivals may find it hard to catch up. They will try. In August, for example, David Scowsill, BA's general manager for Europe, defected to American. Like a chessboard, however, while one side is building strength on one side, the opponent can build advantages elsewhere in the arena. The US airlines have their own strategic strengths to fling back at BA. One is their frequent flyer programmes, a sophisticated marketing device for locking customers into an airline by rewarding regular flight with free travel. The programmes are a powerful tool, yet costly - one reason why BA has not launched one until now. This year it was forced to respond with its Latitudes schemes, which already have over 180,000 customers.
The most important advantage, however, is the hub and spoke system, the anvil upon which TWA and Pan Am were hammered. Both American and United have huge feeder networks bringing people into their main gateway airports, and then taking them on to Europe. The same system works in reverse for passengers travelling from the UK to the US; and it is an established tenet of airline marketing that people dislike changing airline almost as much as they dislike changing plane. British Airways has long recognised that it has a massive weakness here, which is why it has lobbied long and hard (and unsuccessfully) to be allowed to operate within the United States. BA's US rivals dismiss the advantages. David Coltman shrugs at the mention of feeder networks. 'Our view is that two-thirds of the American population is within driving distance of a British Airways gateway airport in the US, and the distribution of wealth means that a far higher percentage of people likely to fly to the UK are within that, so I don't think it matters very much.'
Batt, naturally, disagrees. 'I can't even comment on that because it is so preposterous,' he says huffily. 'Why would they have spent so much money on building the system if it didn't matter?' There is a curious war of words on this issue, one where the observer has entered a world of bluff and double-bluff. BA, which is disadvantaged on the feeder network, likes to emphasise its weakness because it wants to build up political pressure for the restrictions on it to be lifted. United and American, which have the upper hand, prefer to play down their advantage. They want to cool political pressure for change. So both sides are economical with the truth: that BA is at a disadvantage, but perhaps not a crucifying disadvantage.
Call that a stalemate. The US has the edge in frequent flyers and feeders; the British have it in quality. And yet there may be a flaw in the emphasis BA puts on quality. 'The truth is most passengers don't care about how cute the hostesses are, or the vintage of the wine,' says one executive. 'All they care about is how much it costs them.' lt is a good point. In the US, the airlines compete largely on price because they operate in a free market; and in a free market, price is the only factor that counts.
The North Atlantic is virtually a free market, so price is likely to dictate the flow of competition. BA has recognised this. In July it moved to cut its fares by 10.5% on its North Atlantic routes. It has also moved to put its excess, discounted tickets through legitimate travel agents rather than bucket shops ('That will hurt the competition,' says Batt with a wide grin).
Virgin, always keen to keep prices low, signalled its determination with a £279 return fare to New York announced in August. And United and American have been doing their bit to end the advertising recession by filling the newspapers daily with announcements of cheap rates and special offers. Those are just the upfront moves. Behind the scenes, reportedly, the skirmishing is more intense. 'Some of the US airlines are just going into major corporate customers and saying, "Look, tell us what price we have to take to win this business, and we'll take it",' says one industry insider. Which is the way it was always likely to go. Airline marketing battles begin with smiles and end with a display of teeth.
Upfront, the airlines are keen to avoid a full-scale price war. Says Jacoby, 'You'll find that the airlines that really cut fares are the ones that are going broke and need the cashflow. They stop worrying about whether they make a profit on the service. We've been making a profit on our UK routes since day one, and we intend to keep it that way. Price wars don't do anyone any good.' At United Coltman takes a similar stance. 'I expect there to be a lot of posturing about price,' he says.
'And it is certainly true that one of the best way to lift the market is through price cuts. But I think everyone will be keeping a very close watch on the number of seats they are offering at discounted prices.' BA also shudders at the prospect of a price war. 'It's no good just having a cheap price, because you pretty soon find yourself going bankrupt,' says Batt. 'The key is the ability to manage your prices, so that you can stay competitive and still make a profit.' Virgin is keen to stay out of the fray. 'lt's uneconomic to compete only on price,' says marketing manager Chris Moss. But a price war may be unavoidable.
Conflict is seldom sought in business; it arrives because it is unavoidable. Each of the players needs to win, and should any of them start failing, they may quickly start resorting to a price competition that the others have to match. Both American and United are deeply into a high-stakes strategy of developing a global airline, strong not just in their own region but powerful, throughout the world. To do that, they have to develop a strong business over the Atlantic, not just against BA, but each other.
It may be worth losing money on the Atlantic, to build the global brand. The airlines deny this. 'I don't believe it is wise just to buy market share, even if you could afford to do it,' says United's Coltman. Even so, it may be where the logic of his position is leading him.
For BA the stakes are even higher. The Atlantic is its most valuable route network, accounting for £1.6 billion of total turnover of £4.9 billion last year, and making profits of £158 million, out of a total of £167 million. It can ill-afford to lose it. And yet the profit margins it used to make on the routes, over 15% according to analysts, are unlikely ever to return. For BA, there must be a temptation to wound its new competitors so hard in a price war that they become as enfeebled as its old competitors. They only have a market to gain; BA has a market to lose. But, then again, they may only wound themselves. Like chess, it is a contest of opposing strengths, pitted over long, carefully plotted moves, where the victor emerges only at the end. Fittingly for a game ofcommercial chess, the prize goes to the player who captures the king - the Lord King, naturally.
Matthew Lynn is a freelance writer.
