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You have been asked to read the short account of the US airlines industry (please refer to the file Assessment 2 – Background Information.pdf, which is available on MySCU) and prepare a 2,500 word report that addresses the following:
∙ With the aid of a clearly drawn diagram conduct a competitive forces analysis of the U.S. airline industry. What does this analysis tell you about the causes of low profitability in this industry? What are the principal advantages and disadvantages of using the five forces framework?
∙ The economic performance of the airline industry seems to be very cyclical. Why do you think this is the case?
∙ Given your analysis, what strategies do you think an airline should adopt in order to improve its chances of being persistently profitable?
The profitability of the US airline industry is influenced by different factors ranging from the entry of low-cost carriers, price wars, growth in online travel agencies, fuel cost fluctuations, overcapacity, reported bankruptcies and mergers and acquisitions (Clark 2016). Porter's five forces analysis is conducted to determine the market profitability and attractiveness (Dälken 2014). The advantages and disadvantages of this framework are determined from the critique of several researchers. The influence of the cyclical nature of business on the profit margin is analysed. The challenges faced by the airline operators can be resolved with the adoption of strategies that improve seat availability. Overall, the competitiveness of the US airline industry is high and companies have to give due diligence to the macro environment to develop strategies to state competitive. This report begins with an overview of the industry, followed by Porter's five forces analysis. The cyclicality of the industry is discussed and a set of strategies are recommended to improve the profitability.
1. Overview of US Airline Industry
Despite the growth in the US airline industry, carriers face difficulty in achieving constant and strong profitability. This is mainly due to the business complexities arising from the regulatory environment, incidences of exogenous events and the on-going price pressure. It is to be noted that the industry-wide passenger traffic increased by 3.1% in 2016. As per statistics released by the International Air Transport Association (IATA 2016), the total net profit was around $20 billion which is slightly above the 2015 and 2014 figures. This is a third consecutive year of positive return on invested capital for the industry. Prior to this period, the industry experienced combined losses due to the economic slowdown. To compensate this, legacy carriers reduced their capacity to suit the air travel demand. It is claimed that carriers are continuing capacity discipline despite improvements in the recent years (NBER 2017). The increase in disposable income, rising customer confidence on air travel and the demand from business and leisure travellers drive the current growth in the industry. However, the intense price competition among players, especially from the low-cost carriers which has siphoned the travellers from leading players through no-frills services.
As of 2016, the top seven airlines in the US are Delta, Southwest, American, United, Alaska, Jet Blue and Spirit with a combined market capitalization of $130 billion as a resultant of mergers over the last decade (Holmes 2016). The low-cost carriers are growing with a market share of 30% through their price reduction strategies across several city-pairs which are beneficial for air travellers. The lesser willingness of consumers to pay higher fares is an additional constraint. Apart from this, the growth in internet has created an environment for intricate price information accessibility which has curtailed the ability of carriers to charge higher fares for time-sensitive passengers. Expenses arising from fluctuating fuel prices, labour and maintenance costs impact the bottom-line of airlines. In order to retain their market shares and maintain profits, airlines have to restrain capacity additions, upgrade fleets and product improvements to mitigate cost escalations.
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