1. 1
Masters Programmes
Submitted by: 1464519
Date Sent: 24th
November 2014
Module Title: Environment of Business
Module Code: IB93B0
Date/Year of Module: 2014/2015
Submission Deadline: 05/01/2015
Word Count: 2819
Number of Pages: 11
Question: Analyse and evaluate the attempts of Air France-KLM to develop a
low cost Airline across Europe
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2. 2
Analyse and evaluate the attempts of Air France-KLM to develop a low
cost Airline across Europe
Up until the first few years of the 21st
century, the European airline industry
was undergoing a rough patch. A multitude of factors contributed to this. The
key economies of Japan and Germany along with many others collapsed. The
long haul flights were running on overcapacity. Iraq was conquered in early
2003. The dot.com boom seriously impacted the magnitude and frequency of
business travel. The fuel prices rose and so did the labour costs. All these
considerations made the business environment extremely volatile and
challenging to work in. It was Ryanair, which turned the tables around for the
European aviation industry. Ryanair was established in 1991 as one of the
first low cost carriers in Europe (Masona, 2007). EasyJet followed the suit in
1995. These airlines opened up a whole new window for passengers of
purchasing airline tickets at never seen before prices, cheaper than that of
British Airways or Lufthansa among others. The flag carriers were clearly
losing their market share to these upcoming low cost carriers. This was
because the low cost carriers were fulfilling the new age customers’ needs by
providing them with cheaply priced tickets. These attractive tickets easily lured
the customers to the airline that quoted the lowest price, irrespective of the
brand loyalty. By 2004, low cost carriers accounted for 20% of the European
airline population and the passenger traffic in the same year was calculated to
be 94.6 million (Travel Weekly, 2004). With the addition of 10 countries to the
European Union, the number of passengers preferring to travel via low cost
carriers intensified significantly. Even though the number of passengers
travelling for business purposes is lower than that of those travelling for
leisure purposes, the contribution made by the people travelling for business
reasons (in terms of revenue) is much more than that of those travelling for
leisure reasons. A new development in the nature of European travellers is
their preference to travel within Europe for short vacations, which leads to the
increase in demand of the low cost carriers. (Masona, 2007)
Air France-KLM merged in 2004 and became the largest airline company in
terms of total operating revenues, and also the largest in the world in terms of

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international passenger-kilometers, in 2008 (The Economist, 2003). To keep
pace with the going market trends, Air France-KLM needs to fasten the
process of cutting its costs and rolling back its investment so as to come back
on track. The operating profit this year also fell by almost 60% as compared to
that of last year (Stothard, 2014).
The company being the largest flag carrier group aims to reduce costs and
compete effectively against budget airlines led by Ryanair and easyJet, which
have established leading positions on short-haul routes over the past two
decades (Stothard, 2014). Air France-KLM’s budget airline Transavia, plans to
develop a low cost airline across Europe. In the attempts of developing this
airline, Air France-KLM face challenges such as strategic decision making on
fleet management, cost restructuring, bargaining power of suppliers (pilots
unions), bargaining power of customers and a replete industry rivalry.
‘transavia.com’ was founded in 1965 as Transavia Holland. Since 2003, it has
wholly been an owned subsidiary of KLM, member of the AIR FRANCE KLM
Group. Within the AIR FRANCE KLM Group, it operates as an independent
member (Transavia.com Corporate,2014).
Owing to the deregulation of the air transport industry across the European
Union, creating hubs is emerging as one of the most effective strategies for
the European airlines. Other than developing regional hubs, the airports at
Amsterdam and Paris have a great scope for becoming the hubs of the
European Union. This is because of their ability to expand runways, raise
capacity to incorporate more flights, manage more passengers and develop
infrastructure (Dennis, 2002).
Air France-KLM had initially planned develop a low cost airline in Europe
being both a strategic and urgent move for the group’s future, given the fast
expanding market and particularly offensive strategies adopted by competitors
in the French market. The growth and competitiveness ambitions set out in
the Perform 2020 plan remain intact. The pilot unions have stigmatized the
Transavia project by fuelling unfounded fears of “delocalization” and “social

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dumping”, which have never been at stake. Management regrets these
mistaken interpretations, but has taken note of the concerns expressed
(Centreforavaition, 2014).
“To remain in the race in Europe, we have no alternative than to rapidly
expand Transavia. We are now taking every measure to explain and
accelerate its growth out of France. The Air France-KLM Group is reaffirming
its aim of reaching a fleet of more than 100 Transavia aircraft by 2017," said
Alexandre de Juniac (Centreforavaition, 2014; Air France-KLM, 2014). With
the move to develop transavia franchise other than France and Netherlands,
was a much need foot step looking at the overall market dynamics that have
been volatile. For Air France, growing Transavia a strategy to better compete
with the likes of easyJet and Ryanair, which together with the growing number
of low-cost operators, have taken a big chunk of the business away from
legacy carriers. Inevitably it must weigh in the factor of cost, a sizeable part of
it is wage-related. Perhaps there is a strong reason here why independent
full-fledged budget carriers such as easyJet and Ryanair tend to fare better
than upstarts spawned by established full-service airlines.
Lufthansa faces the same problem, when its pilots went on strike in protest
against the airline’s cost-cutting plan to introduce new low-cost units to
improve its competitive edge. This led to a dispute over retirement benefits for
pilots, resulting in strikes in August and September that affected operations at
Frankfurt and Munich, disrupting flights to major destinations such as New
York, Washington D.C., Boston, Chicago, Los Angeles, Dallas and Atlanta in
the United States, and to gateway airports in Asia including Singapore and
Tokyo. Though an attempted strike action at its freight vision faltered when
Lufthansa Cargo rescheduled its 21 freighter flights from Frankfurt to hours
outside the duration of the strike (Leo, 2014).
Air France-KLM has abandoned Transavia Europe plans for now after Air
France’s recent draft agreement with the pilot union over the future growth of
its Transavia France LCC operation (Centreforavaition, 2014). Transavia
Europe plans were stalled after the pilot union went on a two-week strike in

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September, costing the company over half a billion euros worth of losses
(Stothard, 2014).
The Porter’s Five Forces would give a more in depth analyses of the
competitive forces in the industry and develop business strategy (Porter,
2008).
Rivalry among existing competitors:
The Rivalry within the industry is really intense in terms of operating costs,
which are significantly lower in the budget airlines than the flag carriers.
According to analysts at Oddo Securities, Ryanair operates at about 3.3 euro
cents per available seat kilometer- a measure of unit cost or efficiency –
compared to 4.9 c at Transavia and 7c at Air France-KLM’s mainline
businesses (Stothard, 2014). Hence for a LCC transavia, industry-operating
costs are lower than that of its competitors. Furthermore, the distinctive
features of airlines such as easyJet, which focuses on Business travellers and
Ryanair, which focuses on being on time gives them core competencies,
which is a lagging attribute in Transavia.
Industry rivalry in the airline industry is very fierce and because of the
dynamic nature of the industry price and value delivery war go hand in hand in
the low cost carrier.
Bargaining power of customers:
Price sensitivity and lower switching costs help customers shift from one
airline to another because of budgeted travel options (Franke, 2003). Budget
airline tend to bundle benefits to reduce switch of customers.
Jamie Baker, analyst at JPMorgan, says flag carriers face significant
difficulties when establishing a budget airline within the broader group, adding
it involves a cultural shift towards a low-cost mindset. This is “not unlike trying
to convert the religiously devout”, he says. Partly for this reason, Mr Baker
praises the move last year by IAG, parent of British Airways and Iberia, to
take over Vueling, a Barcelona-based low-cost airline (Stothard, 2014). The

6. 6
customer in the LCC segment is volatile to price and benefits that are not
monetary such as being on time and providing seat reserve and faster on
ground processing. Customers in the low cost carrier segment tend to easily
shift on the bases of price and seek value in terms of cost advantage
available.
Bargaining Power of Suppliers:
Supplier of the aviation industry are many including the pilots, cabin crew,
ground force, airport resources and infrastructure, aviation fuel companies
and so on. They have a major contributing element to the operational and
financial capabilities of the aviation industry.
Air France-KLM face major challenges form the French pilot union that wants
its members at Transavia France to have the same working conditions as
those of Air France’s mainline business. The Pilots had threatened a
weeklong strike which according to the analysts would cost the lossmaking
group as much as €40m a day (Stothard, 2014). The pilots demanded similar
benefits as the flag carrier and did not want downsizing in pay or benefits
offered. Transavia Europe was intended to focus more resources towards its
faster development, which was taken in by the pilots at Air France as; their
jobs might be shifted from Air France to Transavia Europe.
Threat of Substitutes:
For domestic or regional airlines or routes, there is always the option of taking
a car, bus or train. It may take longer but often this consideration is
outweighed by the cost advantages of substitute methods. The switching cost
may vary in this case but is a likely alternative.
In the case of international airlines, the threat of substitutes is almost non-
existent. On longer routes, a traveler needs to take a flight with no possible
alternates. Threat here is from competitors who may offer better rewards,
better prices or a better flying experience. There is also somewhat of a
switching cost. Airlines offer miles that collect to offer rewards. If these

7. 7
collected miles are divided over multiple airlines, benefits are also divided and
slow to accumulate (Marc, 2014).
Threat of New Entrants:
The new entrants in the aviation industry, which according to Porter are the
sexy industries (Porter, 2008), see a lot of new players come and go.
Lucrative business models and unique business opportunities have always
been a part and parcel of the aviation industry. Firms who see growth
opportunities in this industry and don’t have much of a capital restraint will
immediately want to enter into this industry.
The Porter’s five forces explain the industry dynamics and the problems faced
by Air France-KLM have been analyzed using the same framework. Devising
a business strategy to maintain stakeholder value and to increase proportions
of value delivery are elementary to the aviation industry.
In the global scenario of the industry, flag carriers have developed low cost
airlines. This development is crucial not only for the devised 2020 plan by the
organization, but also to keep up with the competitive forces that drive the
industry. The Low cost carrier strategy helps flag carrier deliver better
stakeholder value and also focus on the Service dominant logic. The service
dominant logic focuses on creating various value delivery accords for
stakeholders, creating value maximization opportunities for companies. In the
airline industry the stakeholders of the business are key assets for the smooth
functioning. Also being a highly capital intrinsic industry and faster expanding
market of aviation, the scope of business widens.
In order to remain a key player in the competitive market, Air France-KLM
tries to satisfy the needs of all its stakeholders by constantly investing in new
aircrafts to provide a comfortable and enjoyable experience to its passengers,
save fuel costs, reduce discharge of greenhouse gases and create a
sustainable growth advantage over its competitors (Air France-KLM, 2014).
By way of its Climate Action Plan, which stresses on the continuous renewal
of its fleet, it aims to minimise its carbon footprint by making use of

8. 8
sustainable biofuel. Air France-KLM takes social responsibility very seriously
(Air France-KLM, 2014). It makes efforts to integrate business operations with
environmental considerations so as to enable it to keep growing and building
its reputation in the long run, thus serving as a competitive advantage over
other airlines. This is done by focussing on efficient utilisation of human
resources and maximum use of other resources (Air France-KLM, 2014). Air
France-KLM is trying to follow the Ryanair model by keeping prices very low.
It is also trying to borrow money so as to keep the prices low. Merely cutting
costs wont help. There is a strong need for the airline to realise what its
standing in the market is, whether it has any growth potential and even
whether there is ample personnel who is being trained to work efficiently in
the airline and contribute to the same firm in the long run. In continuity to
Porter’s analysis, the threat of new entrants in the market is very high. Firms
who see growth opportunities in this industry and don’t have much of a capital
restraint will immediately want to enter into this industry (Porter, 2008),
The attempts of Transavia Europe have not been successful because of the
poor management and suppliers connect. When the overzealous easyJet
managers decided to save money by cutting the portions on in-flight meals for
crew, the pilots alerted the airline’s chief executive of the penny-pinching. The
chief exectuve restored the meals in order to win the confidence of the
crewmembers and the pilots. She also sent out a strong message with the
move of not creating another ‘Orange Ryanair’ (Hollinger, 2014).
Transformation catalyst at easyJet was the strategic changes that happened
in the organization after Ms. McCall was brought in as the chief executive.
“She challenged the orthodoxy of low- cost flying,” says Sir Michael. By
November of her first year Ms. McCall revealed that easyJet would go where
no one thought low cost could. She began to target business travellers with
flexible fares and eventually allocated seating (Hollinger, 2014). EasyJet chief
executive Carolyn McCall has added a new spin to what the low-cost model
means in a recent interview with Buying Business Travel (BBT): “It means we
have new engines, high fuel efficiency. Our plane utilization, turn-time and
load factors are very high. We use our assets really well. We use our assets
really well. We don’t have fancy offices, we have a hanger – open plan

9. 9
offices, and we share space with plane maintenance. It’s very important to us,
we never lose sight of it – without that low-cost model, we wouldn’t be able to
do the low fares” (Leo, 2014).
The heavy losses due to the strike and mismanagement of the flag carrier
image and dropping profit margins have resulted in the drop of share value of
the flag carrier. The environment and customer shift have not been well
adopted when the flag carrier launches a low cost carrier. Mostly mergers and
acquisitions are suggested for the flag carriers. This is a suggestive move
because culture shift is very difficult for flag carriers and hence budget airlines
have significantly higher costs than the other budget airlines in the market.
This is the case with transavia as well. According to analysts at Oddo
Securities, Ryanair operates at about 3.3 euro cents per available seat
kilometer- a measure of unit cost or efficiency – compared to 4.9 c at
Transavia and 7c at Air France-KLM’s mainline businesses (Stothard, 2014).
Suggestive measures and conclusion
Industry synergies have been the trend since the late 1990s in the airline
industry. Recently when Air France announced that it would co-ordinate ticket
sales with Etihad Airways, a strategic move in place with the future demand
making a strong Arab partner on board (The Economist, 2013). Strategic
alliances have also been fruitful in the low cost carriers. The aim of these
carriers has been to minimize cost at trade off points such as Airside
Productivity (Aircraft, Crew), Landside productivity (ground handling), Stability
(punctuality, few irregularities) (Franke, 2003).
Air France-KLM should focus on expanding transavia with a merger or
acquisition of a LCC. The ethical and supplier issues would be better dealt
with in case of an acquisition or a merger. A strategic move like Emirates to
have the lowest landing cost at home should be developed in order to give the
public private airline to have the benefit. This would minimize cost and also a
resultant drop in the per passenger per kilometer cost of Air France as well as
Transavia. With priority task of cutting costs and cover up for losses caused

10. 10
due to the strike.
Air France KLM current need to bring up shareholder confidence and to keep
up the employee morale. Gaining the customer trust and also parallel focus
on expansion plans of transavia France and also ways to develop transavia
Europe are primary tasks.
References:-­‐
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France-­‐KLM,
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Minimizing
our
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