The following is a summary of industry forces in the U.S. airline industry and recommendations for viability of the industry moving forward. Industry deregulation has significantly changed the competitive environment for established traditional airlines. The adaptation of these traditional airlines is critical to the viability and success of the entire industry.
Detailed assessment of the U.S. airline industry forces supports the need for change in the industry, particularly among large established carriers.
Analysis of the U.S. airline industry forces suggests that the airline industry in its entirety, and particularly the large traditional airlines, must focus on managing their cost structure and listening to the voice of the customer. Any investment or activity that does not add value for the customer must be eliminated from an airlines operating process.
:ad200 It is recommended that large traditional airlines undergo a complete reengineering of their organization structure, rather than attempting to compete on different strategies with the launch of complementary low cost brands like United’s TED and Delta’s Song. The structural inefficiencies of traditional large airlines is pervasive and they must overhaul their structure and operations to focus on activities that add value in the customer’s eyes. The evidence suggests that customers do not recognize differentiation in air travel and they value low cost and efficiency. Time and money invested in differentiation is ineffective. U.S. airlines should further focus on innovation that creates efficiencies, either directly for the customer, or indirectly through firm operations that will translate to competitive fares.
U.S. Airline Industry Forces
Supplier power in the U.S. airline industry is high as passenger jets are the most significant cost for airlines and there are only a handful of suppliers. Additionally, planes must be ordered far in advance, leaving airlines with little choice but to place orders in anticipation of industry growth. Major U.S. airlines have only two primary choices for supply of their jets and there can be significant differentiation between products from the perspective of the airlines. The long-term nature of these purchases creates a long-term relationship whereby the airline is often motivated to purchase the same kind of jets to reduce maintenance and service costs, adding to the leverage held by major jet suppliers.
For the major U.S. airlines, labor unions must be considered as a supplier with significant power. This force is held over from an era of regulation but remains a significant factor in successful performance in the industry. Major airlines that existed during industry regulation became involved in labor agreements that left them little flexibility.
Threat of Entry
While the airline industry is capital intensive and requires large upfront investment, there are also economies related to being new in the industry such as better fuel efficiency and lower maintenance costs for new planes. The Civil Aeronautics Board did not approve any new passenger airlines from 1938 to 1978, during the time of industry regulation making this industry force virtually nonexistent prior to 1978.
With deregulation came a flood of new entrants and intense competition with more than 20 new airlines entering the industry by 1980. The change in this industry force moved the once tightly controlled oligopoly much closer to perfect competition where price wars quickly became the norm. U.S. airline industry return on capital should be a deterrent to new entrants, but this impact has not been recognized as new firms have continually entered the industry.
Threat of Substitutes
The threat of substitutes in the airline industry is very low, primarily composed of passenger trains, buses, and personal automobiles. With no high-speed passenger train system in the U.S., the threat of this substitute has always been low since air travel became a viable option for U.S. consumers. Travel by train is significantly longer than by air while the price difference to the consumer is not similarly disproportionate. The fixed routes of train lines also put this substitute for air travel at a disadvantage.
Travel by bus offers consumers some of the same trade-offs as train service except that the travel time is often increased again, for a comparable trip. Passenger cars as an alternative to airline travel is only viable to most consumers for very short distances, thus it is also an insignificant substitute.
The lack of viable substitutes to the airline industry which effectively meet the travel needs of consumers is advantageous, though it has certainly impacted other industry factors like the threat of new entrants.
Buyer power has changed significantly in the airline industry over the last 20 years due largely to industry deregulation and technological innovation related to the impact of the Internet. Prior to deregulation, the Civil Aeronautics Board’s control over pricing and airline routes gave the consumer very little power as it did not provide the choices of unregulated competition. If consumers did not like the prices available for air travel, they were forced to look for substitutes, none of which offered a similar value proposition as the airline industry.
With the advent of the Internet as a convenient method for the average consumer to search for the lowest airfare and complete the transaction without an intermediary, buyer power has increased as a significant industry force. This trend coupled with the lack of differentiation by the consumer between air carriers has commoditized the industry and made price the most important factor impacting buyer behavior.
U.S. airline industry rivalry is extremely fierce, driven by changes that have increased buyer power and the threat of new entrants. While the threat of substitutes is low and the power of suppliers has remained largely unchanged, these forces have been offset to changes in buyer power and new entrants, resulting in overall poor industry performance.
High exit barriers have always existed in the industry but the flood of new entrants has exacerbated this issue and increased its impact on competition. Further, cost structures composed primarily of fixed costs has spurred price competition and negatively impact most carriers.
Industry Key Success Factors
Two key success factors are paramount in the U.S. airline industry:
- Cost Structure. With the commoditization of air travel, cost structure is now a key success factor in the industry. Effective management of fuel, maintenance, and labor costs is mandatory in the current environment of deregulated competition.
- Voice of the Customer. Customers do not recognize differentiation in air travel and are price sensitive. There is less delineation between leisure and business travel as it relates to price elasticity. A determined focus on the features and benefits that are valuable to the customer today is a key success factor in the industry.
© July 17th, 2007 Bryan A. Harmsen. Submitted for MGMT4290 – Business Strategy, Daniels College of Business, University of Denver. U.S. Airline Industry Case.
Buyer power as defined by Micahel Porter, is the power to bargain down prices. While the Internet has given us the power to select the least expensive carrier serving our destination, it does not offer the power to bargain down prices charged by the selected carrier. Competitioon, not buyer bargaining power keeps prices low in this industry.Tags: airline, factors, industry, us