Fight At Aviation's Bottom End To Test Everyone's Resolve
Sydney Morning Herald
Tuesday July 17, 2007
THE ink had hardly dried on Tiger Airways' announcement yesterday that it was adding a $39.99 Melbourne-to-Launceston route to its fledgling operations when Jetstar countered with its $29 fare. If Tiger's Tony Davis was ever under any illusions about the nature of the Qantas group's response to his attempts to enter its home market, they would have been truly dispelled.
From the moment last month that Tiger announced its first service, between Melbourne and Adelaide, Jetstar has responded emphatically to every move. First it was a pledge to "double the difference" if its fares were under-cut on any similar flight, and then came the 10,000-seat $1 fares. Now it is shadowing Tiger on individual routes. The Jetstar response to what is initially planned as a relatively modest start-up by Tiger not only demonstrates that it is not complacent but also that it is determined to preserve its status and protect its branding as the lowest-cost, lowest-fare airline in this market. As a consequence of Jetstar's approach, the depth of the discounting Tiger is using to try to establish a beachhead in this market could rebound on the Asian carrier. It has, for instance, announced a $79.99 one-way fare between Melbourne and Darwin. Analysts say that will cost Tiger at least 5c per seat kilometre, if the planes are full, or about $150 a seat. If they are two-thirds full the cost would be about $225 a seat, plus GST. Deep discounting is the conventional way to enter an aviation market but discounts of that magnitude would appear unsustainable. The equations are different for Jetstar and Virgin Blue, both of whom will have the ability to marginally price seats that would otherwise be empty on profitable flights. If they are disciplined in terms of the seats they offer and when they offer them, they could do significant damage to Tiger's balance sheet while experiencing minimal pain. Not that Virgin Blue has yet entered the fare wars in an aggressive fashion. Virgin's Brett Godfrey has a delicate balance to protect between Virgin's low-cost carrier status and the managed drift upmarket the airline has been making as it targets Qantas's higher-yielding business travellers with its "New World Carrier" strategy. About half Virgin's capacity today is on routes contested only by Qantas and Virgin Blue. If Tiger enters the key Melbourne-Sydney-Brisbane routes it would no doubt provoke a fierce competitive response, although constraints on slots and gates at Sydney Airport would make it difficult for Tiger to mount a serious high-frequency service assault on the incumbents' high-yield heartland. Partly as a consequence of Virgin Blue's New World Carrier strategy and partly because Jetstar continues to improve the economics of its business, Jetstar now claims a 15 per cent like-for-like cost advantage over Virgin Blue. Not only would a head-on collision with Tiger and Jetstar damage the "new" Virgin Blue brand but, given the cost disadvantage, it would be senseless for Virgin to fully engage in that developing contest unless forced to do so. The desire not to devalue its core brand while it attacks Qantas with a big increase in capacity explains why Godfrey has mused about launching a second, ultra-low-cost carrier brand. That would add another confusing and distracting ingredient to the competitive mix at the bottom end of the market and test Tiger's stamina and resolve. As Tiger moves onto Virgin routes - it would now compete with something around only 15 per cent of Virgin Blue's capacity - the motivation for launching a second cut-price brand would grow. While Tiger has powerful parentage - Singapore Airlines, the Singapore Government's Temasek Holdings, Ryanair's Ryan family and interests associated with former America West CEO Bill Franke, it has accumulated substantial losses and a deficiency in its shareholders funds in its relatively brief history. The incumbents are sceptical of Tiger's ability to sustain its initial pricing structure and, indeed, of its entire strategy, although the ability of its parents to write blank cheques isn't in question, only the motivation for doing so. The relatively small size of the Australian market, the distances between the major destinations and the dearth of secondary airports would make it very difficult to establish a discount airline using the Ryanair model in this market, where it recovers its costs from its fares and makes money from its ancillary services. On most of its routes there is little if any direct competition. In this market the opportunity to generate non-aviation revenue is more limited, given the level of competition in ancillary services at the major airports and their proximity to city centres - much of Ryanair's non-aviation revenue comes from a deal with Hertz - and the fact that Australians generally don't take out travel insurance for domestic flights. Tiger's attempt to gatecrash the aviation duopoly is quite different to previous attempts, when the incumbents were two full-service airlines with little experience of competition, let alone of competition from low-cost carriers. Today, with Virgin's history as a low-cost carrier and the success of Jetstar in establishing itself as a very competitive and profitable operator at the high-volume, low-margin end of the market, the domestic industry is a far tougher proposition for an aspiring new entrant.
© 2007 Sydney Morning Herald
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