The 526 seats Lufthansa Airbus 380

Lufthansa A380 are configured with 526 seats

We re conducting a review comparing Air France-KLM and Lufthansa Group, Europe’s two largest airlines with global impact. We will analyze aspects of their strategy that are likely to further their success such as the critical function of their global hubs, the incorporation of the Airbus 380 in their fleet and we will provide revenue forecast for the year 2010.

Air France-KLM and Lufthansa Group (now comprising Swiss, Austrian Airlines and British Midland) respectively number one and two airlines in Europe are engaged in battle for control of western European global air travel gateway. Earnings for 2010 will underscore recovery in the global air travel industry (subsequent to the 2009 collapse) however spikes in oil price are likely to wipe out carriers net profits for 2011. As the industry outlook improve further (IATA forecast of 5.6% global passenger demand growth and 6.1% for the cargo industry for 2011) both groups strategies put them in direct confrontation in every respect.

The European Hub Model For Global Domination

Air France-KLM dual hub integrates two airlines’ networks.

In its hub model document Air France-KLM recognized the hub model as a very efficient system to increase point-to-point flight opportunities in order to capitalize from the 5.5% projected growth in intercontinental traffic. Particularly Air France’s Paris-Charles DeGaulle hub was already seeing a majority of intercontinental passengers (60%) making flights connections. The 2004 merger with KLM was a decisive step in that direction by actually incorporating the route networks of two global airlines with mature operations at two of the world’s busiest airports Paris Charles De Gaulle and Amsterdam Schiphol. Both Air France-KLM and Lufthansa Group are relying on their European Global Hub model because they can generate very high traffic density primarily from arriving medium haul aircraft feeding passengers to intercontinental long haul destinations. Customarily the Paris Air France hub would see two banks of medium haul arrivals and long haul departures connecting passengers within a two hours time window especially in the 9:00 am to 11:00am slots. The 59 medium haul aircraft feeding connecting passengers to the 21 long haul aircraft also corresponds to a 1,239 origin-destination connection opportunities. The high ratio of almost 3 medium haul aircraft to 1 long haul aircraft during that operation is indicative of very high passenger density at this hub. In 2010 Air France saw an average of 110,000 daily passengers connecting at a rate of 56.4%.With the addition of the KLM Amsterdam hub along with the carrier’s already mature network of global destinations, the two airlines growth strategy has been articulated by applying the two following principles:

1.using the versatility afforded by two hubs to serve a given destination NON-STOP from either one of the two hubs.

2. Enhance that service by increasing the frequencies (optimally ONE DAILY flight) to that given destination even if flights must alternate between either one of the two hubs. The Air France-KLM integrated 2 hubs network operation is critically linked by up to 15 daily shuttle flights services between Paris-CDG and Amsterdam Schiphol. These synergies have allowed the implementation of a 33,000 weekly connections opportunities across a network of 225 destinations served in 2010.

The Lufthansa Group’s Hubs

Lufthansa has espoused a similar dual hub strategy starting in 2005 when acquiring a full 100% equity investment in Swiss International Air Lines of Basle Switzerland. The bigger Lufthansa has remained the main workhorse airline of the group by far relying extensively on its traditional operating base of Frankfurt International airport. The Munich hub has been playing a secondary role in support of Lufthansa route network while the Zurich hub exclusively supports the operation of SWISS. The Lufthansa Group is increasingly posing a threat to Air France-KLM favorable position. With 90,173,000 passengers and 2,021,000 tonnes of cargo transported in 2010 that grew at spectacular 17.2% and 18.0% respectively in comparison to 2009. Increasingly we will see that Lufthansa systematically positions itself to undercut Air France and KLM advantages.

Fleet optimization and the introduction of the Airbus 380

Both airlines are among a group of 5 currently operating the Airbus 380 ‘Super Jumbo’ along with Singapore Airlines, Emirates Airways, Qantas. Air France intentions on the A380 type became known on July 24th 2000 and firm orders were signed on June 18th 2001 with first delivery to the airline taking place on October 30th 2009. To date Air France operates 4 aircraft with 8 more deliveries expected. Daily service to Washington,DC is planned beginning June 6th, 2011, alongside daily service to Montreal beginning April 22nd 2011. These 2 destinations are complementing the three weekly services to Tokyo, the daily service to Johannesburg and the 6 weekly flights to New York already in place.

Lufthansa followed Air France very closely committing to the A380 on December 6th 2001 and signing firm orders on December 20th 2001. Delivery of the first A380 occurred May 19th 2010. The newest destination for the aircraft is set to be San Francisco with daily service set to begin May 10th, 2011 in addition to the airline already serving 5 other destinations with the type; New York, Beijing, Tokyo, Johannesburg and San Francisco. In anticipation of the delivery of 4 additional A 380 during the first half of 2011 (out of a total order of 15, with 11 planned to be delivered in 2011 alone), the airline will introduce the following services increases on its five A380 routes: daily service to Johannesburg (beginning February 16th 2011), New York (beginning April 10th 2011) in addition to the daily service to Tokyo and the 3 weekly rotations to Beijing (Tuesday, Wednesday and Saturday).

A380 seating capacity and fleet sizing

A recent article on Airways magazine pointed out that amongst the 5 current A380 operators, Lufthansa and Air France were the airlines operating the A380s with the largest capacity. Emirates and Singapore Airlines in keeping with their strong market brand identity have introduced full arrays of innovative passengers amenities including complete passenger suites with actual beds thus limiting overall seating capacity on the giant planes to below 400 passengers. Lufthansa on the other hand went ‘mass transit’ on their A380 double deck with 526 seats configured in three classes, actually followed by Qantas with 450 seats and Air France with 449. Qantas choice of higher seating density supports the notion that the Australia-based carrier does not necessarily operates under the marketing pressure of Emirates or Singapore Airlines. In fact with Qantas playing in its home court,Singapore Airlines and Emirates are constantly under pressure to refine its products in order to attract new customers and build brand loyalty.

As for Lufthansa A380, the uncharacteristically ultra high passenger density configuration of 526 seats has pushed some to notice that it is actually 2 Airbus 340-300 in capacity. We actually think that Lufthansa has anticipated extreme passengers pressure at its hub stemming from an expanded global network, a larger core fleet as well as the improving air travel economic outlook in which even modest upswing tend to produce significant surges in passengers (according to IATA, world air travel has began to experience one such cyclic upturn). These compounded trends are inherent to the nature of the global European hub model operation and we are certain that Air France and Lufthansa planners bet on the A380 solely in order to cope with this phenomenon. We can not think that competitive pressure would have induced Lufthansa into following in Air France steps and acquire the Super Jumbo.

We already observe the hub feed ratio of 3 arriving medium haul aircraft for each departing long haul aircraft. This is exacerbated by the fact that many carriers use Airbus 330-300 ( Lufthansa flight 567 employs an Airbus 330 while Air France flight 535 even uses Airbus 340-300 on the 5 hours trip) and Boeing 777-200 on medium haul destination (these are much larger that Boeing 737 or Airbus 320 family type of medium haul aircraft). We also notice that neither Air France (see our last Air France Boeing 777-300ER article) nor Lufthansa (Airways Magazine October 2010) have introduced new business class products to their A380.

New Air France  Boeing 777-300ER with newer Business Class

Problems of a political nature are also contributing to the escalation in passenger density at global hubs. Open Sky agreements as signed between the US and most western Europe nations have promoted competition by giving carriers virtually unlimited landing rights to signatories nations in Europe and America. Air France 14 weekly flights to Washington,DC and Montreal, along with the 42 flights to New York (JFK and Newark) exemplify routes where additional capacity can be economically difficult to undertake. The introduction of very large aircraft(s) (A380) in replacement of large aircraft(s) (Boeing 777-300ER) become the optimal solution. (It is no accident that Air France is introducing A380 on those 3 routes). This problem is compounded by the difficulties and extra cost of requesting additional landing slots at already congested airports. These effects are also felt at carriers home base. Air France growing number of Boeing 777 (around 60 and growing) shows the tendency an augmented long haul fleet to become increasingly costly to park even at a carrier home base. The opposite political posture of limiting landing rights to stifle competition is also incidentally pushing carriers to adopt A380 as way to maximize passenger revenue on each landing opportunity. Generally Airbus 380 will find a place wherever carriers must add capacity without increasing number of flights. This approach solves efficiency and cost issues on one end and circumvents the absence of additional landing rights and slots on the other end.

The African Odyssey; the Air France monopoly

Recent IATA forecast for average traffic growth for 2010 was 4.5% , and 5% for the next four years. The forecast predicted that some region would actually see sustained growth rates of 6% such as in Asia-Pacific and the Middle East-Africa. Although Airbus has put sub-Sahara Africa at a 4.2% yearly growth rate and Boeing at 4.6%, it is clear that the African continent has become a strategic goal for the Lufthansa Group. In fact up to very recently Air France was generating 13% of its destination revenues from African destination and 7% of its sales per region (2004-2005). While a surging Lufthansa is increasingly likely to attribute its success to deliberate advances in the continent.

UTA 'Big Boss' sandwiched between Air Afrique A300 and DC10

UTA 'Big Boss' sandwiched between Air Afrique A300 and DC10

In fact Air France introduction in the African continent did not begin until the 1990 merger with privately owned UTA (Union des Transports Aeriens). Up to that point French transportation policies had enforced geographic areas of exploitation to French airlines (Air France, UTA and Air Inter) in order to protect them from competing against each other. Air France the national company was flying the North America and Asia routes while UTA was strong in Africa and in the French overseas territories (Carribean and Pacific). While Air Inter was confined to the domestic market. The 1990 merger saw the end of UTA and Air Inter and their regrouping under the Air France Group which inherited most traffic rights. Prior to that UTA had made a very strong showing in the continent.

Historically France had cultivated very deep politico-economic relationships with many of its former colonies in the African continent. After 1960 when most of the colonies achieved full independence, deep commercial, political and military alliances had endured. In 1961 some 13 such former colonies established a joint continental airline under the Air Afrique banner. The airline linked various French speaking African countries and offered gateway flights to Europe and North America. At peak capabilities in the 80s the airline intercontinental services employed 2 DC-10-30 while Airbus 300-600 were linking the major African capitals. In addition to Air Afrique, Cameroon Airlines was established as the national airline for Cameroon in 1971. Gabon also left Air Afrique to found its national airline and Air Madagascar also followed suit. These three airlines became each one the owner and operator of brand new Boeing 747-200 respectively TJ-CAB (acquired 1981), F-ODJG (1979) and 5R-MFT(1979) which became regular visitors to Paris-CDG. For UTA, notwithstanding the competition with the African airlines was also rubbing elbows with other major European players, most notoriously Sabena and Swissair, but also briefly against sporadic players such as British Caledonian. UTA with DC-8 and then of DC-10s in the 70-80s later introduced the newer 747-300 ‘Big Boss’ linking Paris to most African capitals such as Brazzaville, Ndjamena, Bangui, Niamey, Libreville, Yaounde etc. A good combination of rich mineral resources and oil deposits, along with massive presence of French citizens working in those nations guaranteed strong predictable economics for UTA. After the 1990 UTA acquisition by Air France Group, Air France finally began to directly operate flights to most African countries UTA had served with Boeing 747-200 on what were then long-haul routes (Bangui, Libreville, Brazzaville, Lusaka, Lilongwe etc). By the early 2000, debt-laden Air Afrique crippled by systemic corruption and poor management could not be saved. The same fate soon befell Air Gabon (2006) and Cameroon Airlines (2008). Air Madagascar was somewhat saved by privatization. Various theories abundantly describe Air France and its backer the French government as having contributed to the demise of the struggling airlines financial positions such as the currency devaluation of January 1994 etc, the disposal of F-ODJG and the fate of TJ-CAB Boeing 747-200. In the end Air France inherited a monopoly on a network of nations where oil-extraction subsidized economies guaranteed sustained profits and growth. As new rounds oil fields discoveries occurred in mass in the late 90’s the airline pushed fares higher arguing that inadequate air transportation infrastructure in the continent brought higher operating costs. Steady flow of high yields business travelers from the oil extracting industries spurred the establishment of the Air France ‘Dedicate’ product in 2004; an 82-seats Airbus 319Long Range (configured 28 Espace Affaire seats and 54 Tempo seats) established on the Malabo, N’djamena and Nouakchott ‘oil’ destinations. With Royal Air Maroc offering only symbolic competition, Air France tickets commanded premium margins that were unheard of in any other regions of the world.

Archive 1999 Air France ticket

Archive 1999 Air France Ticket 2

Our archived Air France ticket dating back to 1999 (at a time when struggling Air Gabon was running out of resources to support its aging 747-200 F-ODJG eventually scrapped in February 2006). The fare on the round-trip Washington-Libreville via Paris Charles De Gaulle was $3,210. With inflation it would amount to $3,991.00 today. Our research establishes that today, the same ticket costs $2,094.00 with Air France and $2,071 with Lufthansa.

However let us compare fares on the New-York-Paris vs Paris-Libreville segment with both airlines:

1.Air France offers Paris-Libreville round trip costs $2,030

and NY-CDG round trip would cost $625.00: a 324.8% premium for Africa over the US.

2.Lufthansa offers a Paris-New York round trip fare of 556.42 Euro ($ 770.64) in and out of Paris (operated conveniently by Continental) or 562.99 euro ($ 779.74) with Lufthansa via Dusseldorf. The Libreville-Paris flight via Frankfurt fare is 849.88 euros ($ 1177.08).a 152.87% premium for African fare compared to US.

Comparatively on African routes Air France charges a premium 172.47% over Lufthansa. While on US routes the trend is inverted and Air France discount is 18.83% compared to Lufthansa. These numbers illustrate the extent to which Air France profit margins benefited greatly from its monopoly on African routes during the past decade. To this day in the face of mounting pressure from Lufthansa we still see that Air France maintain a 172.47% higher fare. Although Lufthansa has been very slow in recognizing Air France-KLM seemingly uninterrupted stream of high margin revenues for the past decade it has steadily built capability into its network systematically adjusting to the market demands and to respond to Air France defensive posture. The Lufthansa Group’s African network seems to be reaching maturity with 39 destinations being currently offered on 269 flights (in cooperation with SWISS and Austrian Airlines) against 36 for Air France-KLM (210 weekly flights). Emblematically was late in opening its route to Libreville during the summer of 2009. Initially Lufthansa has used an Airbus 340-300 linking Frankfurt and Libreville via Accra. In November of 2010 Lufthansa introduced direct flight service 5 times weekly on the coveted Libreville ‘oil’ destination. It turned out that the Lufthansa LH 588/589 flight terminating in Pointe Noire ,Congo (another oil destination) is operated by Geneva based PrivatAir on behalf of Lufthansa. The flight employ a Boeing 737-800BBJ (as previously seen on Tashkent, Teheran, Riyadh ‘oil’ destinations) with blended winglets on an ACMI contract (Aircraft Crew Maintenance and Insurance) with 108 seats (24 Business and 84 Economy). The Lufthansa-decorated PrivatAir aircraft and crew is a clear attempt to offer a product similar to Air France ‘Dedicate’, the Airbus 319LR Air France flights established in 2004 to serve ‘oil’ destinations in Malabo, N’djamena and Nouakchott. In all appearances Lufthansa is determined to dislodge Air France from the African continent.

Air France-KLM forecasting model

Cyclicality in air travel demand expounds that global economic cycles and demand in air travel go in concert. With the year 2010 considered by IATA as marking a new recovery period in air travel, strong demand will likely lead to sustained growth for the remainder of this up-cycle. Our forecasting model is likely to remain valid throughout this entire current growth cycle. Our simple model is facilitated by the correlation between passenger/cargo traffic and sales. In Air France KLM, with the availability of passenger traffic for January and February, trending RPK increase of 5.0% compared to last year (it was 4.8% and 4.9% respectively for January and February 2011 for the same months a year ago). We see RPK for March 2011 at 17,667 therefore Q4 RPK will be 48,958. Our sales projection for the quarter is 5.777 million Euros (15% increase to last year Q4). Income from current operations will be between 74 and 81 million Euros for the quarter and 606 millions Euros for the entire financial year (comparing to 1.285 million Euros loss for the previous financial year). We are aware that Air France has projected below $300 million due to increase fuel price and the cost of flights disruptions in December 2010 weather upheavals. We also have not accounted for the escalating fuel bill of Quarter 4 (January, February, March 2011).

Lufthansa Group forecast

Our gamma ratio of total revenue/RSK shows stability stable for the up cycle at 0.15. It is also indicative of good unit cost control (non-fuel) with total RSK for Q4 is 45,740 then total revenue is 6.821 million Euro. Net profit on the cycle grew linearly so we fit the curve for the 3 Q because a stable model conserves linearity (total revenue, net revenue) Q1 (5758 , -298) Q2 (6827, 194) Q3 (7568, 628).With high and low gamma value the Lufthansa Group net profit is between 182 and 233 million Euros.

Overall we have had the opportunities to analyze airlines whose business model employ the European type global hub. We have seen some of the peculiarities that differentiate these carriers from Asia Pacific global carriers, the differences were actually perceivable through difference in aircraft configuration and passenger pressures at hubs. We also notice that the global European hub, a by-product of Open sky agreements and similar air transportation liberalization measures entirely supports the hub growth model as envisioned by Air France-KLM and Lufthansa Group. This model tend to generate soaring revenues during improving economic cycles. During such cycles, carriers are increasingly confronted with escalating demand in capacity as witnessed at their hub. Airbus 380 are also found to be the most efficient way for carriers to alleviate aggregate pressure on their network.Our forecast was somewhat simplified by linear growth ratio as well as stable unit cost ( attributed to positive labor agreements as well as efficient overall airline management). Fuel cost did not impact our forecast critically because the recent spikes in price (January and February) occurred after Air France-KLM 3rd Quarter (October-December) which is also Lufthansa Group 4th Quarter. Nonetheless offsetting fuel cost will be the most problematic issue during this recovery as we saw very encouraging double digits growth rate in RPK at some points in 2010. We unfortunately recognize however that IATA prediction of catastrophic collapse of net profit margin to 1.4% is realistic.



AF-KLM the hub model by Pierre Henry Gourgeon Deputy CEO

Sustainability report 2004/2005

AIR FRANCE schedule 2005/2006 (focus on South Africa and the oil destinations)

Example of the Cabin on an A319 operating an Air France Dedicate flight

Airways October 2010 issue



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