AIR TRANSPORT OPERATING COST
MANAGEMENT
COST MANAGEMENT 1938-1978
In the airline industry, airline operational cost
management is an important expenditure item that
directly affects profitability. Through industry
regulations, the CAB almost ensured that no
particular airline would generate profits more than
the return rates of all airlines.
"Sink or Swim" attitude
This vocalization coincided with the passage of
the CAB chairmanship, first to James Robson and
then to Alfred Kahn.
In l978, Congress passed the Airline Deregulation
Act (ADA), which called for an end to all price
changes and route controls by 1983 as well as the
termination of the CAB itself in 1985.
DEREGULATION ACT OF 1978
The Airline Deregulation Act is a 1978 United
Statas federal law that deregulated the airline
industry in the United States, removing U.S.
Federal Government control over such things as
 fares
 routes and market entry of new airlines
 introducing a free market in the
commercial airline industry and;
 leading to a great increase in the number
of flights
 a decrease in fares
 and an increase in the number of
passengers and miles flown.
The old carriers' efficient in the operations of an
airline, were inefficient in the game they had been
playing, as a new set of regulations changed the
ground rules. The new comers were able to offer
the same or better services at noncompetitively
lower prices and still make a reasonable return on
their investment. With the increased mobility of
existing airlines and the entry of new firms into
the industry, intense price competition was
inevitable.
LABOR COST
Airlines typically spend 30-40% of their operating
expenses on salaries and benefits due to their high
task specialization. This has led to unionized
workers and numerous unions. The air transport
sector's labor relations are complex due to the
Railway Labor Act of 1926, which has never been
amended. The National Labor Relations Act,
which covers all forms of labor except for airlines,
has been amended multiple times. This anomaly
hinders carriers' ability to respond to operational
expenses.
Contractual environment
·The Railway Labor Act (RLA) is a crucial piece
of legislation in the aviation industry. It mandates
that once a craft is unionized, employees must
remain represented for as long as the craft exists.
This means that labor contracts under the RLA
never expire and can be amended every three
years. However, they cannot be decertified
without replacement.
Labor Cost Management in the 1990s
The U.S. air transport industry suffered from
massive overcapacity, depressed revenues, fleet
upgrade and replacement requirements' and high-
cost structures. Consequently, they sought union
wage and benefit concessions' improvement of
crafllevel productivity, and the unequivocal use of
cross-utilization abilities. The unions were again
faced with agreeing to these concessions or
experiencing large workforce reductions.
Unions' counterdemands exhibited themselves as
seats on the board of directors and on various
long-range planning committees, as well as
substantial equity positions in the company.
Experience taught them to respond' *We will give
you millions of dollars in wage and benefit
reductions over the next so many years' but there
must be a quid pro quo, a return."
Although management has been successful at
achieving substantial labor cost reductions in the
last 10 years, the unions have come to realize they
must become proactive in dealing with legitimate
management cost concerns.
COMMISIONS
Commission paid by the airlines to travel agencies
generally represent the second or third largest
operating expense for most carriers.
Commission is the cost of selling your tourism
product.
· Accommodation
· Tour
· Experience
· Activity
· Attraction
TRAVEL AGENCIES
Generate over 80 percent of airline ticket sales in
the United States, any attempts to reduce or
reformat commission payments to these agents
can be akin to making nitroglycerin.
In 1997, Delta Airlines proposed a commission
reduction to agencies such that they would
continue to pay agency commissions at the
prevailing 10 percent rate.
American Society of Travel Agents (ASTA)
Filed a lawsuit against all participating carriers
charging restraint of trade, price fixing, and other
charges.
Most airlines are now owned by holding
companies with the airlines itself being only one
part of the holdings, another part of the holding
company assets are their computerized reservation
systems (CRS).
The Deregulation Act saw a rapid rise of number
of airlines in the United States, it also saw a rapid
rise in the number of travel agencies.
The 32,000 travel agencies can be grouped into
three general classes: Very large franchised
national agencies, the local full-service mom-and-
pop agency, and niche agency.
1. Large travel agency- because of their huge
sales volume, can and do receive favored
nation access rates and privileges from the
major reservation system.
2. Local mom-and-pop- has to pay the going
rate, as determined by the CRS, without
any privileges.
3. Niche player- can pick and choose which
access level and CRS best suits its type of
sale categories.
CONCLUSION- as the industry continues to
move toward globalization, commission
structures, access fees, and nonagency ticketing
methods, like every other negotiable operating
cost, will be affected.
FUEL
The most significant item in an airline’s operating
budget and is the single highest direct operating
cost for many carriers. The best way for an airline
to save fuel, and ultimately fuel cost, is to
modernize its fleet, converting to newer, fuel-
efficient aircraft.
In 1990, Perry Flint wrote an article for Air
transport World entitled “A fuelish Problems “
FUEL HEDGING
According to Elizabeth Reed of Phibro Energy, is
new to the airline industry. During the late 1980s,
airlines only began using financial mechanisms to
protect fuel expenses and no market yet exists for
the trading of jet fuel futures contracts.
European Air Charter Airlines – The first carrier
to begin fuel hedging because they cater to
package-tour operators who need to have fixed
airfares well in advance of actual tour dates,
charter carriers are especially vulnerable to rapid
swings in the price of fuel. On the other hand,
charter airlines have the advantage of knowing
what their revenues will be months in advance,
thus making it easier to budget expenses.
DeMarco Outline Four Basic Hedging Strategies
- The goal of the hedge is to allow the
airline to know rvhat its malimurn fuel
cost will be and to plan accordingly
· Swap Transaction
· Price Insurance
· Collar
· Participation Hedge
SWAP TRANSACTION
The simplest hedge is a swap transaction. "That
means fixing the price of jet fuel, relative to an
established benchmark and then exchanging cash
payments throughout the terms of that contract so
that the customer effectively is made whole to that
fixed price," explains DeMarco.
PRICE INSURANCE
The second hedge technique is known as price
insurance. The airline pays an up-front fee for the
right to cap its maximum exposure to increases in
the price of fuel. The only cost to the airline is the FORTRESS HUB
up-front premium it is paying for the privilege of
A location where a dominating carrier has
limiting its exposure to an increase in fuel prices.
established operations that make competition
COLLAR virtually impossible or impractical for another
carrier.
Another hedging technique is called a collar and
does not involve an up-front fee. In this case, the In 1980, The GAO indicated that thirty-eight
airline and Phibro agree to both a maximum and a airports dominated by one or two carriers had
minimum price of fuel. airfares that averaged twenty-seven more revenue-
per-passenger miles.
PARTICIPATION HEDGE
Landing Fees
The fourth hedge is known as a participation
hedge. With no up-front fee, the airline can · Landing fees have risen as airport
establish a level above which Phibro must absorb authorities seek funding for modernization
an increase in fuel expense. In exchange, it agrees and expansion amidst uncertain funding
to share with Phibro a percentage of the savings commitments.
should the price fall below that level.
· Airlines have become financial partners
LANDING FEES
with major US airports, investing heavily
Cost management and legalized control of in terminals and hanger facilities, causing
competition have become a significant concern existing airports to reach physical limits.
and strategy for airlines in regard to airline-airport
operations' Limited airport resources constitute a
significant barrier to entry for airlines seeking to
establish new service
The two most important airport resources:
· Gate Space
· Take Off and Landing Slots
Takeoff and landing slots are also sources of
barriers to entry' These slots are usually allocated
by administrative decision.
One of the most radical changes relative to airport
operations abetted by deregulation has been the
manner in which airiines have restructured staging
areas to increase market share.
HUB AND SPOKE SYSTEMS
· This system allows for increased service
between smaller cities and permits a
carrier to feed itself rather than rely on
another carrier to act as a prederegulation
local carrier.
· Provides important advantages to both
passengers and airlines.
· Passengers departing from the hub are
better able to fly nonstop to their
destinations, while passengers located in
spoke cities are usually faced with no more
than a change of planes at the hub.