Case Study

What are the main drivers of success in the airline industry? Critically analyze and comment on the evolution of the airline industry?
The main drivers of success in the airline industry are dependent on what the customers value and where the organization (in this case the airline company) must excel to outperform their competition.
Since the airline industry is very sensitive to changes in the economy, both passenger and freight demand need steady economic growth. Therefore a main success driver is to manage the high fixed costs, which are related to these areas. Also, it is important to have control over the cost item fuel, which is crucial to an airline since it’s also considered to be a fixed cost. It is also mentioned in the case that technological innovation and flexibility were considered to be key success factors for profitability. Another important factor is the relationship between airliners and aircraft providers, since this can ensure the airliners flexibility and renewal, which is of importance to the customers in this highly competitive industry. Airliners should also be considering their occupancy rates, which should be optimized to cover the fixed costs of every flight. To do this, fidelity programs and code sharing can be used as tools for success.
The evolution of the airline industry starts with national clusters, and countries and governments have played a big part for the industry. The governments would support the (often state owned) companies, to ensure a strong national defense. This led to limited access to the sky, and the industry was heavily regulated. And as we know, regulation can slow down innovation and renewal, which was the case of the airline industry until the start of deregulation all over the world. With the deregulation, the airline industry finally could operate as a true business. This led to privatization and opportunities for the airliners to form new types of organizations, for example alliances and mergers were implied. This gave the airliners opportunities to find synergies to fight the increasing competition. The “new” type of industry that is found today can help the companies to develop engineering, policies, procedures and solutions to be applied for a more effective business and industry. This is the case of AF-KLM which success wouldn’t have been created if the industry were still regulated.

Which is better for an airline company: an alliance or a merger?
To define if a merger or an alliance is better for an airline company, a compare between these two strategies is necessary.
An alliance can procure many advantages, first, it reduces the cost of implementation of a complex structure, and this simplifies the structure so that it allows a bigger one. Of course states are more favorable to this strategy because countries can keep their national champions. However many risks needs to be highlighted. The alliance tends to keep a repetition in operating costs because each of the companies keeps it. Marketing campaigns, R&D, software and other elements are often paid twice or more, depending on the number of companies in the alliance. Cannibalism is a high risk in alliances because companies have some difficulties to meet the alliance objectives while they have their own objectives.
Mergers offer different advantages and disadvantages; the main advantage is reducing cost, mergers eliminate the costs paid many times in the case of alliances (marketing, R&D, software etc), the company can avoid cannibalism and improve planes occupancy rate allocating the right number of places. Then, the new company has a better adaptability to new strategy because of the unique hierarchy line. However, companies that merge have to face many problems. A merger is very complex to implement (training for new software, new processes…); it last many years before having a real operational merger and many mergers fails. Mixing culture is a real challenge for companies especially when they are from different cultural backgrounds.
So to conclude, it seems that there is no better choice, it really depends on the company, and especially if they have close cultures and processes it could simplify the merge and reduce adaptation period. Otherwise, an alliance provides many advantages, for companies that have different influence areas it’s a quick and efficient strategy.

How would you evaluate the AF-KLM merger proposal?
In this case, the merger had several obstacles, such as geographical proximity, which means that the advantages of internationalization were low whereas cannibalization was high since the companies were sharing several destinations.
Also, the corporate cultures were strong and very different. Each company had its own alliances and a challenge was to coordinate them into one alliance.
It is important to remember that Air France was much bigger than KLM. Typically, in this case, the middle management just freeze and the key persons leave the company if they realize that the imbalance is significant.
In spite of all these issues, AF-KLM proposal managed to create a global leader. Indeed the competition in the airline industry was getting increasingly unregulated, it was time to consolidate and restructure the companies, which were only playing in their national market. The smart idea was to avoid cutting costs and downsizing erratically in order to focus on getting new market shares and thus greater turnover. This point was related to the way this merger was promoted: the concept was “One group, two companies”, said Jean-Cyril Spinetta and Leo van Wijk. Indeed, the leaders of both companies never used the word “merger” and never emphasized the imbalance between them to insure the trust of the workforce and of the companies within in the alliances.
An important synergy came from the broader network since the group could target new customers with cheaper offers. The group managed to reduce the number of offices, the number of services and the number of crew attendants per flight without damaging the image of the company thanks to a quicker modernization and a promotion of targeted new offers. In the AF-KLM, the two companies managed to combine their different forces to provide an internal and cheap service without creating conflicts with the employees and without damaging the brand image.
Another good point in this proposal is the use of IT technology to make the two different systems work together. The group managed to get a coherent offer thanks a good and fast communication within the group.
Finally, the proposal was rather successful since Air France and KLM overcame the various initial obstacles by keeping two distinct paces. The pace was slow in terms of unifying the two different management teams who had the time to learn to work together efficiently. However the pace was much faster when it came to unify the commercial offers and the information system, which provided them a huge competitive advantage.

What are the critical success factors for such a mega-merger?
Critical Success factors are vital for a strategy to be successful and may change over time.
At this time, the new group has to focus on growing market share and revenues. It has to promote the ability to target and reach market segments by for instance extending its maintenance activities or targeting business travelers. The group also encourages investment in growth markets, which consists in providing more flights to India and China. The Air France-KLM group should focus on strengthening its brand image, which will contribute to ensure its reputation and attract customers. It should also concentrate on the organizational effectiveness and center on improving its management. For instance Air France and KLM have to coordinate their former partners (Alitalia, Korean Airlines).
To enhance its management it also has to reconcile the different corporate culture, it has to rationalize the two-hub system but also the long-haul route system. The group could benefit from a larger network but Air France and KLM have many destinations in common and this could be changed. The change would contribute to promote the cost-savings policy. Indeed cost-savings is a major critical success factor for Air France-KLM group. Cost-savings could be realized by increasing bargaining power and commercial distribution. As far as bargaining power is concerned, it deals for instance with the modernization of the fleet. Since the group is going to buy more planes, it will be able to negotiate the prices with the providers. Another example of cost cutting concerns the diminution of the numbers of offices around the world or the coordination of IT systems. Would you predict that there will be more mergers and alliances in the airline industry?
Knowing the successful AF-KLM merger, we can predict that there will be more mergers and alliances in the airline industry. The airline companies are ought to be more competitive as the prices of oil are very volatile. Customers are flying less and at lower prices (preference for low-cost airlines and economy seats) because of the global economic crisis. The goal is to get new market shares and ensure continual growth by lowering price, cutting costs and improving service quality. Therefore, collaboration is high on the priority list of airline companies due to the above.
The outbreak of diseases like SARS in 2003 and H1N1 in 2009, added to terrorist threats, have caused customers to take flights only if it is necessary or use alternative transportation supposedly safer. In order to boost sales revenues, combining companies can leverage on each others’ marketing and distribution channels to maintain and increase their market shares.
Moreover, in this globalized world, companies can find many assets in an alliance or a merger. The companies can combine physical resources (by sharing hubs and sharing airport lounges), technological resources (by code sharing to optimize occupancy rates and cooperating in scheduling) in order to be international players. This would allow airlines to gain greater negotiating power when it will come to renew their fleet and unit energy.
However, government antitrust regulations will still overlook any attempt of alliances or mergers and those that disrupt the competitive market might not be approved.

Sources http://www.bizmology.com/2009/10/15/mergers-vs-alliances-airlines-growth-strategy-in-the-years-to-come/ http://www.capital.fr/carriere/dossiers/pourquoi-la-fusion-air-france-klm-est-exemplaire-193724