4.2. Delta airlines: The low cost carrier threat

Question 1

Rivalry

Answer 1

High, because:

• Several players with similar levels of power
• Not much differentiation between airlines
• High level of fixed cost (excess capacity) and high exit barriers for those airlines who own the planes
• Few customer switching costs (loyalty programs only do so much, customers value prices more)
• Perishable product
• Industry decline - take shares from competitors
• High level of required transparency (disclosure on what routes are profitable leading to imitation, here regulation works against incumbents)
• Efforts to collude are undermined

Question 2

Threat of new entry

Answer 2

• Few barriers to entry especially for small and low cost carriers (lease planes, get landing spots for small airports) but higher barriers for full service airlines (who tend to buy airplanes and must operate a full network of routes)

because:

• some but not much regulation: landing slots and FAA license
• low capital requirements (for low cost airlines who are trying to enter)
  + Planes can be leased (in oversupply)
  + Personnel (oversupply due to layoffs)
  + Fuel (commodity)
• e channels accessible for everyone
• some scale economies
• not that high customers switching costs
• incumbents cannot forestall entry (low ROE prevents lowering of prices)
  note: Scale is a consideration more for manufacturers of airplanes, not as much for airlines

Question 3

Supplier power

Answer 3

High power - labour gets 40% of total cost, largest percentage goes to pilots
because:
- no substitutes - pilots are highly skilled and in limited supply
- contracts are specific - people cannot be switched between roles
- unions creates the effect of industry concentration (similar to how high customer concentration but purchase in high volume - high concentration and needs to hire)
- product is perishable - if pilots go on strike, the lost money cannot be recuperated, so there is high dependence on them
- suppliers of inputs does not have much power: given the extreme competition between Boeing and Airbus, the provision of airplanes is quite competitive
Boeing and Airbus are active in some other industries (however the commercial airplanes market is the most important one)

Question 4

Customer power

Answer 4

High bargaining power: end customers see little difference between airlines (little switching cost, little differentiation) - decisions are made on cost

because:

• few switching costs
  + frequent flyer programs only go so far to create switching costs
• Little differentiation?
  • Inability of airlines to compete on what matters most: safety
  • One exception: business travelers do care about timing and have need for refundable tickets etc. (so some differentiation)
• Excellent information available to customers and ability to compare in real time

Question 5

Threat of substitutes

Answer 5

Historically there were few, but in recent years cannot compete when it comes to long distance

Question 6

Note on supplier power

Answer 6

During bankruptcy proceedings, the courts renegotiate contracts of pilots and other airline staff – airline minimum profitability is
restored - strikes follow – new round of bankruptcy, etc