Docstoc

Slide 1 - Amazon Web Services

Document Sample
Slide 1 - Amazon Web Services Powered By Docstoc
					American Airlines
             By


         Aniruddha 3007
      Ankur Agrawal 3009
        Ashish Jain 3011
       Ashwani Sahu 3013
           Kiran 3025
    Kishore Chandwani 3026
      Madhur Bhatia 3027
        Manish Goel 3029
      Mayank Kumar 3031
     Sanjeeta Kumari 3050
Flow of presentation
   Background
   Focus
   Leading issues
   Appraisal
   Learning




                     ECO Group 6   2
Background
 Competition between American
  Airlines (AA) and several smaller Low
  Cost Carriers (LCCs) on various
  airline routes centered on Dallas-Fort
  Worth Airport (DFW) from 1995 to
  1997




                 ECO Group 6               3
Background (Contd.)
 American Airlines (AA)
   Largest airline in the world in terms of total
    passengers-miles transported and fleet size
   Second-largest airline in the world in terms of
    total operating revenues
   In 2005, the airline flew more than 138 billion
    revenue passenger miles (RPMs)
   Serve more than 250 cities in more than 40
    countries with approximately 3900 daily flights



                      ECO Group 6                     4
Background (Contd.)
 Low Cost Carrier
   A low-cost carrier or low-cost airline
    (also known as a no-frills or discount
    carrier/airline) is an airline that offers
    generally low fares in exchange for
    eliminating many traditional passenger
    services.
   How do they do it? – Different business
    model

                    ECO Group 6                  5
Background (Contd.)
 LCCs created new market dynamics
  charging markedly lower fares on
  certain routes with increased
  passengers
 American responded
 LCCs failed to establish itself (low
  market presence, moved operations,
  ceased existence) in each instance

                 ECO Group 6             6
Background (Contd.)
 In 1995, American commanded
  premiums in DFW of 31% and yet
  served 70% of the passengers
 American also has high costs per
  flight, or per available seat-mile
  (ASM). Cost per ASM was 8.54 cents
  while LCC comparable cost at 4.32
  cents

                ECO Group 6            7
Background (Contd.)
 AA’s advantages
   AA’s competitive advantages lie in its
    hub complementarities. For ex American’s break-even
     fare level (or load factor) for the Wichita spoke was low even though its cost
     per ASM is much higher than a LCC

   AA’s internal accounting tools (like
    FAUDNC) for routing and scheduling
    decisions took account of the hub
    complementarities


                                 ECO Group 6                                      8
Background (Contd.)
 AA’s performance measures
   Fully allocated earning measure
     FAUDNC : Fully Allocated Earnings plus Upline/Downline
         Contribution Net of Costs
      FAUDNS :         Fully Allocated Earnings plus Upline/Downline
         Contribution Net of Spills
   Variable earnings measures
     VAUDNC : Variable Allocated Earnings plus Upline/Downline
         Contribution Net of Costs
      VAUDNS :         Variable Allocated Earnings plus Upline/Downline
         Contribution Net of Spills
   Government’s
     VAUDNC-AC :           Variable Allocated Earnings plus
         Upline/Downline Contribution Net of Costs + Aircraft costs



                                ECO Group 6                                9
Focus Of The Case
 How did AA faced the challenge of
  LCCs at its main hub at DFW?
   AA responded to the low cost carriers by
     Reducing its own fares
     Increasing the number of flights
   AA chose to match the fares of its
    competitors rather than lose substantial
    market share, with increase in passenger
    demand

                  ECO Group 6             10
Focus Of The Case (Contd.)
  After LCC ceased operations, AA
   generally
    Reduced number of flights
    Raised air fare
 roughly to previous levels
  AA earned “reputation for predation” and
   succeeded in
    Driving out the competition
    Forced new entrants to re-think their
     business strategy

                 ECO Group 6              11
Issues
 Issue central to this case is litigation
  against AA in year 1999 for
   Alleged “predatory pricing”
   Alleged intention to recoup its losses
    through “supra-competitive” pricing by
    monopolizing or attempting to
    monopolize four routes from DFW




                   ECO Group 6               12
Appraisal
 Economy Factors at work at DFW
     Predatory pricing
     Economies of scale and scope
     Entry barriers
     Pricing strategy
     Monopoly
     Sunk costs



                    ECO Group 6      13
Appraisal (Contd.)
 What is Predatory Pricing?
   Occurs when a firm cuts prices
    (Sacrifice) to prevent entry or drive a
    competitor out of the market, so that it
    can charge monopoly prices
    (recoupment) later
   Predation requires recoupment of profits




                   ECO Group 6             14
Appraisal (Contd.)
 Evidence of predatory pricing
   Test 1. Whether incremental cost exceeded
    incremental revenue
   Test 2. Whether long-run (18-month) AVC
    [average variable cost] exceeded price
   Test 3. Whether price was below American’s 18-
    month cost measure (persistent negative
    profitability) and
   Test 4. Whether incremental cost exceeded price



                     ECO Group 6                 15
Appraisal (Contd.)
 AA prices were never below route-
  level average variable cost
 Routes in question remained
  profitable, it had at most matched,
  not undercut, the entrants’ prices and
  “recoupment” was imagenary



                 ECO Group 6           16
Appraisal (Contd.)
  Many economists doubt that predatory
   pricing is a rational strategy:
    It involves selling at a loss, which is
     extremely costly for the firm
    It can backfire
  Illegal under antitrust laws, but hard for
   the courts to establish when a price cut
   is predatory and when it is competitive
   and beneficial to consumers


                     ECO Group 6               17
Appraisal (Contd.)
 Difficulties in establishing predation
   American’s Productive capacity in the present
    action cannot be considered in isolation
   Sacrifice is not always anti-competitive. For ex
     sacrifice in one product can be immediately recouped (often quite
     legitimately) because it boosts profits in a complementary product
   Measuring average variable cost can be tough
   Meeting competition isn’t illegal
   Rule of reason: Business justification




                             ECO Group 6                             18
Appraisal (Contd.)
 Economies of scale at DFW
   Hub operation provides economies of
    traffic density that lowers the costs on a
    per-passenger basis and/or permits the
    hub operator to increase frequency
   Entrants considering entry into hub
    routes have to anticipate operating
    losses during initial periods of operation



                    ECO Group 6              19
Appraisal (Contd.)
 Economies of scope
   Largely from hub operation, in particular
    from the sharing of flights by passengers
    who are flying different routes. For ex An AA
    flight from Wichita to Dallas carries not only passengers traveling
    from Wichita to Dallas but also those from Wichita to Los Angeles




                             ECO Group 6                              20
Appraisal (Contd.)
 Entry barriers at DFW
     American’s frequency dominance
     Frequent flier programs
     Travel agent commission incentives
     Government certification
     Access to gates and airport facilities
     Corporate discount contracts



                     ECO Group 6               21
Appraisal (Contd.)
 Pricing strategy
   American generally enjoys higher margins where
    it does not face low-cost competition.
   Fares on routes where American competes with
    other hubbing major airlines are generally
    higher than on comparable routes where
    American competes with LCCs or Southwest.
   AA Believed that lack of response to LCC entry
    shall lead to loss of market share
   AA viewed LCC strategy as investment


                     ECO Group 6                22
      Appraisal (Contd.)
        AA’s Price movements
                                American Airlines                                    Market               % Share
                                    Local
                    Avg Fare    Passengers/m       Total Seats        Avg Fare         Passengers/Qtr                             Remarks
                   Min Max       Min    Max       Min      Max       Min Max            Min     Max       Min   Max
DFW-ICT (Dallas - Wichita)
06/1994 - 05/1995 $ 99 $ 108     3,932    5,557   21,314    32,109   $ 105   $ 115     16,420    19,390 72% 86%        Before LCC Entry
06/1995 - 09/1996 $ 52 $ 75      5,166    7,578   30,528    34,664   $ 60    $ 68      35,140    37,460 44% 61%        LCC entry, AA's Low Response
10/1996 - 12/1996 $ 58 $ 61     10,076   11,041   44,798    47,588   $ 55    $ 55      38,650    38,650 78% 86%        AA's strong response
07/1997 - 06/1998 $ 88 $ 102     7,019    8,373   29,939    33,790   $ 94    $ 99      20,840    24,590 100% 100%      After Exit of LCC
07/1998 - 06/1999 $ 100 $ 123    5,744    8,257   25,891    33,651   $ 105   $ 120     19,610    23,200 88% 100%       2nd year after Exit of LCC
DFW-MCI (Dallas - Kanas)
01/1994 - 12/1994 $ 107 $ 117   14,831   19,306   61,489    69,092   $ 108   $ 115     66,190    71,860   67%    81%   Before LCC Entry
02/1995 - 12/1995 $ 77 $ 98     19,269   34,528   58,903   106,996   $ 79    $ 88      94,520   103,610   61%   100%   LCC entry
01/1996 - 09/1996 $ 108 $ 147   24,435   31,568   74,404    92,534   $ 110   $ 128     83,740    98,900   88%    96%   LCC stopped non-Stop service
10/1996 - 05/1998 $ 76 $ 102    29,312   43,303   85,890   106,992   $ 74    $ 96     104,870   128,580   84%   100%   LCC Operated, AA responded
06/1998 - 09/1999 $ 93 $ 126    27,222   40,026   72,644   100,503   $ 96    $ 113    110,690   126,430   74%    95%   After AA's response
DFW-COS (Dallas - Colorado)
06/1994 - 05/1995 $ 141 $ 178    2,740    4,373   21,533    29,479 $ 114 $ 158         11,490    23,310   72% 56% Before LCC Entry
07/1995 - 10/1997 $ 73 $ 110     9,088   24,673   36,385    80,304 $ 75 $ 102          45,800    86,090   60% 86% LCC entry
04/1998 - 03/1999 $ 120 $ 156    7,536   12,487   32,607    41,334 $ 131 $ 139         25,550    40,120   88% 93% LCC Exit
DFW-LGB (Dallas - Long Beach)
02/1997 - 01/1998 $ 83 $ 118     6,615   24,997   21,128    34,472 $ 94 $ 107          59,210    75,000   34% 100% LCC and AA coexist
07/1998 - 06/1999 $ 142 $ 177   13,513   25,309   21,866    33,739 $ 141 $ 164         60,200    77,360   67% 98% LCC Exit
                                                                ECO Group 6                                                                 23
Learning
 Recognize price war warning signals
     over capacity
     low differentiation
     high fixed costs
     Quick responses
 Avoiding price wars
   differentiate
   make price comparisons difficult?
   Simplify pricing

                     ECO Group 6        24
Learning (Contd.)
 Market scenario emerging from the case
   leader-follower scenarios (oligopoly)
   understanding pricing
   understanding competitors
 Pricing
   what a firm receives for each unit of product or
      service?
   Also has other roles
       Signal to customers
       Signal to competitors
       Discriminate between customers
    Pricing can be an excellent tool for generating profit
       high prices for inelastic business travellers
       low prices for leisure travellers to increase yield

                            ECO Group 6                       25
Learning (Contd.)
 Pricing has a strategic role
   AA’s value pricing
   Looks like a rationalization of an overly
    complex system
   simplicity, equity, value




                    ECO Group 6                 26
Learning (Contd.)
 Pricing is a signal for AA’s competitors
 AA needs to predict the competitor’s
  reactions
   how do they interpret your action?
   what is a competitor’s motivation to
    react?
   what is a competitor’s capability to
    react?


                   ECO Group 6             27
Summary
 Understanding competitors
 Price Cuts  Price Wars  Losses
 Markets that are vulnerable
   extra capacity, high fixed costs, low
    differentiation
 Tactics to prevent price wars
   differentiate, make comparisons
    difficult?, etc..
   or “necessary evil”?

                   ECO Group 6              28
ECO Group 6   29

				
DOCUMENT INFO
Shared By:
Categories:
Tags:
Stats:
views:3
posted:9/6/2011
language:English
pages:29