Biography for William Swan
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Biography for william swan

Biography for William Swan

Chief Economist, Seabury-Airline Planning Group. AGIFORS Senior Fellow. ATRG Senior Fellow. Retired Chief Economist for Boeing Commercial Aircraft 1996-2005 Previous to Boeing, worked at American Airlines in Operations Research and Strategic Planning and United Airlines in Research and Development. Areas of work included Yield Management, Fleet Planning, Aircraft Routing, and Crew Scheduling. Also worked for Hull Trading, a major market maker in stock index options, and on the staff at MIT’s Flight Transportation Lab. Education: Master’s, Engineer’s Degree, and Ph. D. at MIT. Bachelor of Science in Aeronautical Engineering at Princeton. Likes dogs and dark beer. ([email protected])

  • Scott Adams


Airline evolution

Airline Evolution

William M Swan

Chief Economist

Boeing Commercial Airplanes, Marketing; Retired

Spring 2008


Structure is destiny

Structure is Destiny

  • Structure of costs across airplane sizes

  • Structure of fares and reservations

  • Structure of route networks and hubs


The airplanes are amazingly similar

The Airplanesare Amazingly Similar

  • 707

    • Prototype 707 in 1954

    • Advanced 707-320

      • Seating 189, charter configuration

      • Speed 600 mph nominal

      • Altitude 36,000 ft

      • Range: Transcontinental

      • Wing 146 ft, length 152 ft, body width 12 ft

  • 737

    • 3rd generation family -600, -700, -800, -900

    • Largest are -800/-900

      • Seating 189/215, charter configuration

      • Speed 530 mph actual

      • Altitude 35,000 ft

      • Range: Transcontinental

      • Wing 113ft, length 130 ft/138 ft, body width 12 ft


The significant changes

The Significant Changes

  • Jets now come from 70-550 seats in size

    • 100-400 seats if you want to use Boeings

    • 70-350 seats if you want to use 2 engines

  • Ranges now cross the Pacific

    • How long will people sit?

    • The world is round – limits useful range


Big airplanes are cheaper per seat conventional representation confusing

Big Airplanes are Cheaper per SeatConventional Representation (Confusing)


Underlying linear relationship well adjusted presentation clear

Underlying Linear RelationshipWell-Adjusted Presentation (Clear)


Big airplanes make you wait cost with frequency value included

Big Airplanes Make You Wait(Cost with Frequency Value Included)


Concepts to keep

Concepts to Keep

  • The denser the route, the cheaper the seats

  • Not the Same as bigger airline, wider network

    • No indication that extensive networks are cheap

  • Not the Same as longer flight distance

    • However, longer the distances are cheaper per Km

  • Economies of Airplane Size have Persisted

    since jet airplanes:

    • MIT study in 1971

    • AA/UA fleet planning 1986

    • Boeing Study 2001


Ticket prices

Ticket Prices

  • Yield has declined 2-3%/year since 1971

    • Representing a 1% annual decline in fares

    • Further decline due to change in ticket mix

    • Yield is “cents per kilometer”

  • Two kinds of fares

    • Advance purchase, discount fares

    • Regular, unrestricted, full fares

  • Low Cost Carrier (LCC) pricing

    • Erosion of full fare levels

    • Less than meets the eye


Prices fares and yields

Prices, Fares, and Yields


Fare regulation in us

Fare Regulation in US

  • Why Regulate Fares?

    • Economies of Density

      • Average cost per seat > Marginal cost per seat

      • Natural monopoly – at least when network is thin

    • Mentality of only one (“full”) price

      • No discount fares, airlines for premium travel only

  • How fares were regulated (US case)

    • Yield (cents per km) fixed

      • Independent of range (but longer distances are cheaper per km)

      • Independent of market density (but denser markets are cheaper per seat)

    • Set to cover average costs including return on investment

  • Consequences of regulating fares this way

    • Long haul was immensely profitable

    • Large markets were immensely profitable

    • Low value trips were not offered low value tickets (few discounts)

    • Load factor 50-55% range (today 70%+)


Deregulation

Deregulation

  • US deregulation 1978

    • End of restrictions on starting new nonstops

    • End of fare regulations

  • 1977 Regulated snapshot:

    • Only ATL and ORD were hubs

    • JFK gateway for most Europe flights

    • Regional carriers feeding majors at hub cities

    • Interline (between airlines) connections

    • Limited 30% discount advance purchase fares

    • Fares proportional to distance, no “boarding” cost

    • Fares independent of market size, no “small” cost


First response to deregulation

First Response to Deregulation

  • Airlines added new nonstop routes

    • Bleeding traffic off old connecting legs

    • Reducing head-to-head competition

    • Making networks thinner but with more links

    • Filling out hubs

  • Prices went up in small, short markets

    • It took a while unlearn “long, big” paradigm

    • Smaller communities gained services

    • Hubs began to develop

    • Regional carriers merged with majors

      • They were always loosing money before, anyway


Evolution of routes networks

Evolution of Routes & Networks

  • Origin-to-Destination (O&D) flows small

    • Few pairs big enough for local only service

  • Need to combine flows to build size

    • Get to at least 100 seats per departure

    • Best layout turns out to be coordinated hubs

  • Three Stages of Hubs

    • Natural gateways, minimum spanning trees

    • Competitive hubs, banked connections

    • Continuous hubbing


Half of travel is in connecting markets

Half of Travel is in Connecting Markets


Connecting share of loads averages about 50

Connecting Share of Loads Averages about 50%


Network evolution airlines hate to compete

Network Evolution:Airlines Hate To Compete

  • Avoid head-to-head competition

    • Preferred airline wins big

      • First choice on all high-fare traffic

        • Higher yields

      • First choice for whatever low-fare travel is going

        • Full on off-peak days means higher load factor

    • Unstable head-to-head competition

    • Natural Monopoly

  • New Routes = “get your own monopoly”


Biography for william swan

Networks Develop from Skeletal to ConnectedHigh growth does not persist at initial gateway hubs

  • Early developments build loads to use larger airplanes:

    • Larger airplanes at this state means middle-sized

    • Result is a thin network – few links

      • A focus on a few major hubs or gateways

      • In Operations Research terms, a “minimum spanning tree”

  • Later developments bypass initial hubs:

    • Bypass saves the costs of connections

    • Bypass establishes secondary hubs

    • New competing carriers bypass hubs dominated by incumbents

    • Large markets peak early, then fade in importance

  • Third stage may be non-hubbed low-cost carriers:

  • The largest flows can sustain service without connecting feed

  • High frequencies create good connections without hub plan


Biography for william swan

Skeletal Networks Develop Links to Secondary Hubs

Early Skeletal Network

Later Development bypasses Early Hubs


Biography for william swan

Regional and Gateway Hubs in US

JFK

ORD

SFO

DEN

LAX

ATL

DFW

MIA


Hub concepts

Hub Concepts

  • Hub city should be a major regional center

    • Connect-only hubs have not succeeded

  • Early Gateway Hubs get Bypassed

    • Traffic builds early, stays flat in later years

  • Later hubs duplicate and compete with early hubs

    • Many of the same cities served

    • Which medium cities become hubs is arbitrary

    • Often better-run airport or airline determines success

    • Also the hub that starts first stays ahead


Largest routes are not growing as bypass flying diverts traffic

Largest Routes are Not Growingas bypass flying diverts traffic


Biography for william swan

Many Secondary Hubs in US

SEA

MSP

DTW

PIT

JFK

SLC

ORD

SFO

EWR

DEN

CVG

STL

LAX

ATL

PHX

DFW

IAH

MIA


Competition is rising in regional flying

Competition is Rising in Regional Flying


Competition is rising in long haul

Competition is Rising in Long-Haul


Examples of the 3 kinds of hubs

Examples of the 3 Kinds of Hubs

  • International hubs driven by long-haul

    • Gateway cities

    • Many European hubs: CDG, LHR, AMS, FRA

    • Some evolving interior hubs, such as Chicago

    • Typically 2 banks of connections per day – one in, one out

  • Regional hubs connecting smaller cities

    • Most US hubs, with at least 3 banks per day (each way)

    • Some European hubs, with 1 or 2 banks per day

  • High-Density hubs without banking

    • Continuous connections from continuous arrivals and departures

    • American Airlines at Chicago and Dallas

    • Southwest at many of its focus cities


Continuous hubs

Continuous Hubs

  • AA had 12 banks a day at DFW & ORD

  • Revised so airplanes turn in 25 minutes

  • Passengers connect in 40-120 minutes

  • Higher aircraft and gate utilization

  • Nearly the same connect times as banked

  • AA connects 50%, and lives by it

  • WN connects 33%, and tops up with it

  • Ryanair connects 15%, and fights it


Why secondary hubs airlines hate competition

Why Secondary Hubs?Airlines Hate Competition

  • Avoid “head-to-head” whenever possible

    • Preferred carrier wins big

      • Gets first choice of premium fare demand

      • Gets full loads during off peaks

      • Leaves 2nd choice carrier low yield, high peaking

    • Result: Lots of new routes


Forecasters in 1990 were confused

Forecasters in 1990 Were Confused


Biography for william swan

What We Missed: New Routes


Biography for william swan

Minot Connects to the World


18 00 bank gives minot 38 destinations inbound bank outbound bank

18:00 Bank Gives Minot 38 DestinationsInbound BankOutbound Bank


The one horse in a one horse town

The One Horse in a “One-Horse Town”


Industry growth is small markets

Industry Growth is Small Markets

  • Virtuous Circle:

    • Better services: More Value

      • Faster connections (add 15% demand for online)

      • Fewer Stops (add 15% for each lost stop)

      • Higher frequencies (add 15% for full-day schedule)

    • Lower Costs: Lower Prices

      • Higher traffic volumes mean lower costs

      • Competitive choices eliminate monopoly pricing

  • New “small” markets get new services

    • Smaller towns, secondary city airports

    • Grow network from “below”


The first big event nobody noticed deregulation 1984

The First Big Event Nobody Noticed(Deregulation: 1984)

  • Peoples Express opened a low cost hub

    • At Newark (EWR) airport, New York City

    • Cheap fares, lousy service

  • AA discovered PE

    • Became aware of the extent of PE connects

    • Responded by matching PE fares

      • 70% off full fare (compared to 35% off for SSave)

      • Capacity only available midweek

      • AA clearly the preferred choice at matched fares


Results of big event

Results of Big Event

  • PE went out of business

    • Due to “horrendous peaking of traffic”

    • No midweek loads

  • AA found it was making more money

    • 80% average weekly load factors (not 60%)

    • Filling previously empty mid-week seats

    • Selling tickets for half previous discount fares

    • Revenue Management controlling sales

  • Paradigm shift:

    • Old way was set fares, get load factor

      • Weak demand means lower load factor

    • New way was set load factor, sell to fill

      • Weak demand means lower average fare


Results of new fare structure

Results of New Fare Structure

  • Marginal seats sold at marginal cost

    • Breaking “single price” mentality

    • Economically efficient

    • Allows full cost recovery from multiple prices

      • High full fares pay cost of frequency

      • Low controlled fares get marginal capacity

      • Saturday stay, advance purchase discriminate


Southwest and lccs new airlines from deregulation

Southwest and LCCsNew Airlines from Deregulation

  • 19 out of 20 start-ups failed

  • WN (Southwest) succeeded

  • America West (hubbed) survived (+AirTran)

  • LCCs had 20% cost advantage from labor

  • WN had “shuttle technology”

    • Engineered for loading and unloading

    • Reliability from high frequency

    • Incidental connections high (30%)

    • Business airline: not “cheap,” Just good

    • Good employee relations; reasonable wages


The 2nd big event nobody noticed deregulation in 1998

The 2nd Big Event Nobody Noticed(Deregulation in 1998)

  • Airlines were paying $3/segment booking fees

    • Computer reservations systems owned by AA, UA

    • Travel agents hooked to mainframes

      • Agents got 8-15% booking fees

      • Agents got bribes to sell AA, UA, DL….dominant networks

  • Southwest refused to pay fee

    • Was thrown off reservations systems

    • Continued to sell on internet

    • No drop in Southwest business

    • No one noticed

  • Majors’ Res systems no longer in control


Consequences of 2 nd event

Consequences of 2nd Event

  • Majors became able to reduce commissions

    • Travel agencies no longer had pricing power

    • Removed one high-cost part from trip

  • Start ups no longer had to pay majors

    • Previous Res System profits greater than airline’s

    • Majors owned Res Systems

    • Majors no longer controlled cost of entry

    • Majors lost full information about competitor’s prices

  • Later consequence: Competitive Pricing

    • Direct-to-airline bookings made prices hard to monitor

    • Internet intermediaries compared multiple airlines sites

    • Cost of information on prices greatly reduced

    • Now only 18 out of 20 start-ups fail = twice the successes

    • Majors unable to extract rents to pay pilots’ premiums


The lcc hcc war

The LCC/HCC War

  • Airline Industry is forever young

    • Birth and death process

      • 38% of ASK service 20 years back, airline gone

      • 28% of today’s ASKs with new airlines

      • Index of competition flat to rising

  • HCCs have adapted

    • Labor rates down: wages, rules, retirement

    • Service quality, costs, and prices down

  • LCCs will migrate services

    • Higher quality: boarding, onboard, reliability

    • More connections at higher prices

    • More price differentiation

    • Higher connecting share

  • Who can tell which is which?


Cost reductions keep coming

Cost Reductions Keep Coming


Two choices

Two Choices:

  • Regulated Airlines

    • Few routes, larger airplanes

    • Focus on inelastic business demand

    • Monopoly prices and costs

    • Permanent Names

  • Competitive Markets

    • Many routes, smaller airplanes

    • Innovation, adaptation

    • Competitive prices and costs

    • Bankruptcies and Start-ups

    • Biggest names still survive


Evolution part 2 birth and death

Evolution: Part 2Birth and Death

  • 38% of the air travel 20 years ago

    • Was flown by carriers that do not exist today

  • 28% of the air travel today

    • Is flown by carriers that did not exist 20 years ago

  • Competition is greater now

    • By any reasonable technical measure

    • But only slightly greater. Almost unchanged

  • Conclusion: A healthy industry requires

    • Failure of badly run airlines

    • Failure of most new start-up airlines

    • Success of some new start-up airlines

  • Overall employment and services should grow


Mergers that work

Mergers That Work

  • When airlines serve the same airports

    • Their merger will be a success

    • Merged airline offers better connections

    • Better, more valuable service to customers

    • May eliminate some competition

  • Mostly this is a short-haul carrier merging with a long-haul carrier


More mergers that work

More Mergers that Work

  • Failing airlines are acquired

    • Majority of employees retained

    • Majority of airplanes retained

    • All airports’ still served

    • Management employees of failing airline gone

  • This process is good

    • Reduces operations in a orderly fashion

    • Maintains the most service and employees

    • Avoids losses associated with bankruptcy


Mergers that seldom work

Mergers that Seldom Work

  • Merging airlines to expand network reach

    • Overlap of airports only at edges

    • Makes bigger airline

    • Does not improve many connections

  • Most such mergers have not worked

    • Difficulties with employee cooperation

    • Little increase in value or saving in cost

    • Tendency to retain bad practices


Bankruptcy how airlines fail

Bankruptcy: How Airlines Fail

  • Government airlines do not fail

    • They just need money, over and over

  • Regulated airlines seldom fail

    • They just don’t improve services

    • They also may not improve costs

  • Competitive airlines do fail

    • Efficiency comes from eliminating the bad ones

    • In the “Profit and Loss” system

      • The losses are the important thing

      • A loss comes when it costs more to run the airline

        • Than the customers are willing to value the service

      • Bankruptcy is the way to stop doing things that are losses


Bankruptcy social details

Bankruptcy: Social Details

  • In the US

    • Bankrupt means not enough money to pay

      • wages; leases; loans; owners of airline

    • Owners give up all their invested money

    • Part of loans are given up (“haircut”)

    • Lease payments may be reduced

      • Or airplanes taken away

    • Wages may be reduced

    • Airline gets smaller

    • BUT IT CONTINUES TO EXIST

  • After 3rd Bankruptcy and reorganization

    • Airline may stop operating


Bankruptcy social details1

Bankruptcy: Social Details

  • In Europe

    • Bankruptcy is more disgraceful

    • Airline is shut down

    • Airplanes and airport gates are sold

    • Employees all loose their jobs

    • Similar to 3rd bankruptcy of US airline

      • Stock holders loose all their money

      • Bond holders loose almost all their money

      • Airplanes and employees try to find new airlines


The hard problem

The Hard Problem

  • A healthy industry means some airlines fail

  • Failure is hard on employees

  • Failure may reduce services

  • How to make transition smooth

    • Most employees get jobs at new airline

    • Most airplanes are put back to use

    • Most services are kept operating

  • No country has “ideal” Government Policies

    • Either regulate to avoid failure

    • Or allow messy bankruptcy

      • Arguments about who looses how much money

      • No incentives to make smooth transitions

  • Be the first: Do it “better”


Biography for william swan

William Swan:

Data Troll

Story Teller

Economist


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