Monday, September 12, 2016

How to decrease industry rivalry

Apparently institutional investors are applying Michael Porter's five forces to the airlines industry and trying to figure out how to develop a sustainable competitive advantage.  Porter famously gave airlines as an example of an industry that does not make profit due to easy entry, strong suppliers and customers, many substitutes, and intense rivalry.

But institutional investors who own multiple airline stocks seem to be trying to convince airlines to soften competition, by raising prices or reducing capacity.  Southwest seems to be ignoring them:

The carrier won't join rivals in trimming capacity during the rest of this year, Chief Executive Officer Gary Kelly has said. Its unwillingness to take that step, which generally enables airlines to increase prices, is a disappointment to investors like Chris Terry.
"I'd like to see them boost their fares but also cut capacity," said Terry, a portfolio manager at Hodges Capital Management Inc. "That's what the market wants. That's what the market is telling everyone. Supply growth is exceeding demand growth, and I don't think that's healthy."

4 comments:

  1. Competition or rivalry amongst industries is a positive thing for consumers and benefits society overall. However, institutional investors look at competition negatively because they want to raise prices but would be a competitive disadvantage if other industries or companies are offering same service or product at a low cost. Airlines should not decrease their competition because by joining forces and increasing the price on flights/reducing capacity for consumers it will harm consumers. The Economic policy of the United States is competition and without it there would be monopolies and no protection for the public.
    Although Market competition harms some participants that do not develop competitive strategies or advantages it continues to benefit society. "I'd like to see them boost their fares but also cut capacity," said Terry, a portfolio manager at Hodges Capital Management Inc. "That's what the market wants. That's what the market is telling everyone. Supply growth is exceeding demand growth, and I don't think that's healthy."(Luke Froeb, blog dated Monday, September 12, 2016). Therefore, there is no need to decrease rivalry amongst the Airline industry and Southwest unwillingness to increase prices to avoid competition brings a positive outcome to the market. Investors will just need to learn how to adapt the competitive American market.

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  2. It’s very interesting how investors are treating Southwest. The fact that Southwest has been a strong investment in the past should instill confidence as it goes through a market correction in relation to it’s long-term view with it’s upcoming new reservation system and airline capacity. I can’t help but to think that out of the 4 major airlines, which are being investigated for price correlation by the government, that perhaps Southwest is looking to prove itself as a leader and pull away from the pack in the future. Even though having a sustainable competitive advantage is good and healthy for the market, too little competition also could have triggered a government investigation for price correlation. While it may not be monopoly because it’s not one company dominating the market, not looking to be accused of price correlation may be another reason why Southwest is not bending to the calls to reduce capacity. Customers are also benefiting big time from the cheaper tickets that are being sold. So many times, especially when gas prices where high, flyers had to pay the extra high-ticket prices. But ticket prices also remained high when fuel prices dropped which was a big insult to customers. While the airline industry may be going through a hard time, customers are sure to reap the rewards of cheaper tickets.

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  3. I find it interesting the way the investors are looking at Michael Porter’s five forces regarding the airline industry. It surprises me that investors are asking the airline companies to increase their tickets prices and reduce their capacity on flights. Consumers are shoppers when it comes to prices of flights and will use websites like Cheaptickets.com or Expedia to try to find lower flight prices versus using the airline itself. The capacity is measured by the seats per mile and all air lines should be looking to have each flight at full capacity. Empty seats on the flights are loss revenue but increases expenses. Southwest makes sure they are at full capacity on each flight and have a very strict turnaround time at airport. They have the highest loyalty rate from customers because they do offer the lowest fare possible while still offering free bags and wifi on the flights. Southwest is holding on to the competitive advantage in the industry by not following suit with the other companies. Investors should be sitting down with the board at Southwest to see exactly what their strategic plan and how they are executing it to be continuously successful.

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  4. As it is, airline tickets are very high and customer’s services is very poor. In now a day finding a reasonable ticket is nightmare especially for domestic flights. For instance, my friend booked a flight from Rochester, NY to Hawaii through Canada because it was cheaper to go to Hawaii from Canada than U.S. It is ironic but true. I can find a ticket from NY to Europe much cheaper than flight to California. Also, the security check points at the airport are not free, and the cost of them passed to passengers.
    In 2014, despite a decline in jet fuel prices of 24% and a drop in nonfuel operating costs of just under 3%, the average fare per mile increased 0.5%. Today, planes are already very packed and leave no room for airlines to reduce fares (capacity discipline). It’s ok to raise the price if customers have choice. Unfortunately, when it comes to airlines, customers have a very little choice. Raising the price or reducing the capacity is great for airline industry but not for consumers.
    Airlines may be successful in short run but not in a long run. Also, as mentioned in chapter 12 of the Froeb, if demand is hard to predict, pricing to fill capacity becomes much more difficult. With what confidence, airlines want to raise price of fare or reduce the capacity. For businesses, such as hotel and airline, adjusting the capacity is very challenging or undoable in the short run. Increasing the price, as mentioned in the case, will increase the substitutes, give more power to suppliers to raise their price, and make customers very reluctant and more price sensitive.

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