Airline Economics Alex Philip Istanbul Technical University Air Transportation Management M.Sc. Program Fundamentals of Airline Management Module 6: 14 October 2015
Objectives Airline Economics Define the operating cost components that impact airline profitability Understand introductory and transition costs Understand key environmental economics issues Select the right airplane by analyzing options from an airplane cost perspective 2
Define the operating cost components that impact airline profitability 3
Airplane Economics Operating Costs Revenue Profitability Airplane Related Payload Related Passenger Cargo System Related 4
Operating Cost Focus Total Operating Cost (TOC) Cash Airplane Related Operating Cost (CAROC) Fuel Flight crew Cabin crew Maintenance Landing Navigation Airplane station Ground power Airplane Related Operating Cost (AROC) Ownership Cost Systems Related Operating Cost (SROC) Depreciation Financing Airplane Introductory investment Operating lease cost Hull insurance General and administrative Airplane Passenger Cargo Passenger Related Cost Payload Related Operating Cost (PROC) Food In flight services Handling Commissions Advertising Reservation and sales Baggage handling Cargo Related Cost Handling Commissions Advertising Reservation and sales 5
Contributions to Total Operating Costs Cash Airplane Airplane Total Related Operating Related Operating Operating Costs Costs Costs Cargo Related Navigation Operating Fees Costs System Related Operating Costs Cabin Crew Flight Passenger Crew Related Operating Ownership Other Costs Maintenance Cash Airplane Fuel Related Operating Airplane Related Costs Operating Costs Landing Fees 6
Costs Vary by Airplane and Operation 737-800W 162 Seats 500nm 777-300ER 365 Seats 6,000nm Navigation Fees Flight Crew Cabin Crew Ground Support Cabin Crew Ground Support Flight Crew Landing Fees Maintenance Navigation Fees Maintenance Fuel Fuel Landing Fees ~ $9,000 per trip ~ $90,000 per trip 8
Exercise 1 Cost Drivers and Implications Each table will have one Cost Driver to review Take 5 minutes to list as many items that can drive that cost higher or lower in two groups Manufacturer Driven Airline Driven Each table will present to the group 9
Cost Driver and Implications Cost Driver Manufacturer Airline Fuel Maintenance Cost Landing Fees Navigation Fees Ground Station Flight Crew Cabin Crew 10
Fuel Expenses Drivers include: AIRPLANE PAYLOAD TRIP DISTANCE AIRLINE RULES 11
Oil and jet fuel prices 200 180 160 140 120 100 80 60 Avg Ann Prices 2007 $72 2008 $97 2009 $62 2010 $80 2011 $111 2012 $112 2013 $109 2014 $99 2015 $56 $/Barrel (Brent Crude Oil) Jet Fuel $/gallon (US Gulf Coast Jet Fuel) Forecasts IHS PIRA OxEcon 4.50 4.00 3.50 3.00 2.50 2.00 1.50 40 EIU 1.00 20 Brent Crude Oil 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 Oil price forecasts are nominal annual average prices for 2015-18 Historical data source: EIA Oil prices down 50+% since June, mid-term price outlooks $80/bbl Updated on: 1/21/2015 0.50 0.00 12
Continuous fuel reduction with design improvements 737 NG 1998 7.5% Fuel Reduction Winglet 2001 Up to 4% Fuel Reduction Carbon Brakes 2008 0.4% Fuel Reduction Performance Improvements 2011/2012 2% Fuel Reduction 737 MAX 13% Fuel Reduction Baseline is the 737 Classic, 1,000 NM mission 13
Flight Crew Costs Drivers of crew fees include: BLOCK RATE PER HOUR SALARY AND BENEFIT FACTOR HOTEL / PER DIEM RECURRENT TRAINING 14
Cabin Crew Costs Drivers of crew costs include: NUMBER OF CABIN CREW SALARY AND BENEFIT FACTOR HOTEL / PER DIEM RECURRENT TRAINING 15
Maintenance Cost Key Cost Drivers Airframe Engine 16
Maintenance Cost / Flight Hour Airplane Size, Technology, Reliability Older Technology Maintenance costs are directly related to airplane size Newer Technology Improved Reliability New technology and improved reliability drive costs down Airplane Size 17
Areas driving Maintenance Costs Airline maintenance practices Airline accounting practices Airline operations Inherent reliability of the airplane Airline Manufacturer Maintainability characteristics of the airplane Airline support practices Manufacturer product support Airlines and manufacturers control costs 18
Electrical Power Distribution Optimization Traditional Power Architecture 777 Distributed power Architecture 787 Engine Bleed Air Electric Power 20
Technology Simplified Trailing Edge 767 6-Bar Linkage 777 4-Bar Linkage 787 Single Hinge 21
Technology - Getting More from Fewer Parts 777 787 23 parts 13 parts 22
Technology Composite Fuselage Composites drive lower weight, fewer parts and fasteners, and less maintenance 23
Maintenance Programs Longer Intervals, Less Maintenance, Less Often C C Check or systems check D D Check or structures check 767 C G Landing Gear C C D C G C C D (7) (7) (7) (20) (7) (9) (7) (20) (Total Days) 84 777 C C C (8) (8) (8) (23) D G C (10) C (8) 65 787 C C C (5) (5) (5) (15) Years G D 30 Numbers in parentheses are days out of service; All tasks have their own interval; represents common grouping of tasks. Maintenance plans shown at aircraft EIS. 24
Airplane age impacts costs Airframe maintenance cost/flight hour Newness Maturity Aging Actual Higher Utilization Lower Utilization Amortized Two dimensional aging curve Defined by age (years) and annual utilization (flight hours) Years in service 25
Engine Maintenance Overview Plan Period (Typically Years) 1 st Interval 1 st Shop Visit $ spent 2 nd Interval 2 nd Shop Visit $ spent 3 rd Interval 3 rd Shop Visit $ spent $/Engine SV $/Engine Flight Hour Time On-Wing Cost Breakdown 26
Environmental Effects on Engine Maintenance Environmental effects can impact both time-on-wing and shop visit costs Dependent on route structure and frequency Sand Dust Pollution Compressor Blades Compressor Vanes Combustion Chamber Turbine Blades Turbine Vanes Sand Dust Pollution North America Seasonal South America Europe Seasonal Seasonal Source Van Donkelaar, A., et al., Global estimates of ambient fine particulate matter concentrations from satellite-based aerosol optical depth: Development and application, Environmental Health Perspective, 2010, Volume 118, Issue 6 North Africa/ Middle East China India Source 737NG/CMF567B WTT Meeting, May 22-24, 2012 27
Navigation Fees Drivers of navigation fees include: Airplane weight Distance Country flown over 2 M 29 T
Navigation fees vary from country to country Operating Aircraft: 777-300ER Navigation fees defined by each country. Common range: Cameroon 102.06 Belarus 39.20 Nepal $152.75 to 305.50 USA $15.94 to 33.72 Japan 89,000 China $1.50 to 4.66 per km Drivers of navigation fees include Airplane weight Distance Countries flown over JFK Frankfurt $4,079 Canada $655 Misc charges $304 Euro Control UK $1,283 Ireland $653 Belgium $850 Germany $334 Total $4,079 LHR CDG $689 LHR SVO $4,348 30
as do landing fees Operating Aircraft: 777-300ER Landing fees defined by each airport authority. Typically function of MTOW Also may include: Lighting surcharges Parking charges Terminal Navigation Aid charge Noise charges Security Various taxes Drivers of landing fees include: Airplane weight Noise Emissions Landing fee examples for a 777-300ER with a Maximum Take Off Weight (MTOW) of 750,000 pounds. Tokyo $ 8,553 London $ 2,109 Madrid $ 5,307 Moscow $ 5,210 Paris $ 4,970 31
UNDERSTANDING INTRODUCTORY AND TRANSITION COSTS 32
Ownership Costs Non-Recurring Airplane Investment Introductory Investment Airplane spares Engine spares Maintenance tooling Initial crew training Ownership Introductory Investment Introductory Investment (10-25%) Introductory Investment 10-25% Tooling & Training (5-30%) Tooling & Training 5-30% Ownership CAROC Airplane Investment (75-90%) Airplane Investment 75-90% Spares 70-95% Spares (70-95%) 33
Commonality and airplane families Single Aisle Family Twin Aisle Family 100% Engine commonality 100% Flight Deck commonality 737-900 747 Common ground support equipment 737-800 777 98%-100% common airframe spares Common ground handling 737-700 737-600 Operational commonality Flight deck commonality Speed Range 787 Parts commonality where it makes sense 34
Commonality can reduce provisioning costs Initial provisioning, $ Airplane with no commonality Airplane with partial commonality Savings Commonality reduces provisioning costs for increased fleet sizes Airplane with total commonality Existing airplane fleet Fleet size 35
Commonality eliminates labor duplication New Deliveries New Subfleet 767-200ER 737 MAX 737NG Fleet 737NG Fleet Fleet Supported by Fleets Supported by 737 Chief Pilot and staff 737 Technical Pilots 737 Pilot Trainers (TRE/TRI/LTC) 737 Line Crews & Reserves 737 Chief Pilot and staff 737 Technical Pilots 737 Pilot Trainers 737 Line Crews & Reserves 767 Chief Pilot and staff 767 Technical Pilots 767 Pilot Trainers 767 Line Crews & Reserves Duplicate set of pilots 36
UNDERSTAND KEY ENVIRONMENTAL ECONOMICS ISSUES 37
Options for managing fuel prices Financial hedge New airplanes Non-traditional solutions % fuel need 100% 80% 60% 40% 20% 0% 100% 80% 20% 60% 20% 40% 20% 20% 20% 20% 24M 18M 12M 6M 0M Fuel burn (kg) / seat 40 35 30 25 20 15 1960 1970 1980 1990 2000 Entry into service 1 Aviation biofuels Vertical integration Forwards Spot 1. Short- to medium-range jets based on 500 nmi. Similar trajectory for long haul planes. 38
Carbon beginning to be priced Carbon pricing systems ICAO? EU ETS Australia 39
Aviation s Global CO2 Emissions Emissions by sector, 2000-2030 Millions tons CO 2 equivalent/year 60,000 50,000 Air Other transport Forestry 40,000 Buildings 30,000 Agricultural and waste 20,000 Industrial 10,000 Power 0 2000 2005 2010 2015 2020 2025 2030 40
CO 2 Emissions Boeing Strategy for Reducing Emissions Sustainable fuels Baseline 2005 Carbon Neutral Timeline 2050 41
Sustainable Aviation Biofuel Development Expand biofuel supply to 1% of global jet fuel demand by 2015 Develop based on sustainability principles Support R&D on feedstock and fuel-processing technologies Collaborate on action plans in key regions Advocate for supportive government policies 42
Boeing supports drop-in Meets fuel performance requirements biofuels Requires NO change to airplanes or engines Requires NO change to infrastructure Can be mixed or alternated with today s Jet-A fuel 43
Status of aviation biofuel industry Technically viable In demand Sufficient supply ASTM and Def Stan approved High quality standard Airline support Over 1,500 commercial flights Continued military interest Refinery capacity small Price premium Limited sustainable feedstock 44 44
Select the right airplane by analyzing options from an airplane cost perspective 45
Ways of looking at operating costs 737NG Cost per trip Cost per seat-mile 747-8 Each cost component is important to understand and will lead to different decisions based on how the airplane is used 46
Relative seat-mile cost, % The fan chart Cash Operating Costs 20% 747-200 used 10% 767-200ER MD11 used 767-300ER 0% 767-400ER 777-200LR 747-400 used -10% 787-8 777-200ER -20% 787-9 777-300ER 2 Engines 747-8 4 Engines -30% -20% 0% 20% 40% 60% 80% 100% Relative trip cost, % 47
Exercise 2 The fan chart challenge Each table will be assigned one question to answer Take 2 minutes to discuss the answer One person from the table will answer the question by pointing it out on the chart 48
Exercise 2 The fan chart challenge Questions: 1. Which axis represents risk and which represents reward? reward? 2. Which area of the chart is most desired and why? 3. Name 1 airplane that is less attractive cost-wise and why? 4. If the MD11 was new where would it be found? 5. If a global carbon tax is put in place, which airplanes will benefit most? 6. If you add more seats on to the 777-300ER where would you find it? 7. Where would the 787-10 as a simple stretch of the 787-9 be found? Bonus What about if you increased its range? 8. What cost, if included on this chart, may make the 747-400 more attractive to operate, relative to new airplanes? 9. Where would a 250-seat, Mach 0.98 Sonic Cruiser be found? 49
WRAP-UP 50
Key takeaways Profitability always includes cost control Right airplane fleet will minimize costs Fuel, maintenance, and fees are key costs Environmental costs are increasing, but addressable Fleet commonality provides benefits Fan Chart will tell you where you are and where you can be Environmental impact offset by new airplanes, fuel alternatives, and operating practices. 51