Poor Alex Cruz, CEO of British Airways, is having a hard time of late.
Barely a week goes by without a negative news article or comment piece in the British press (the latest from Victoria Coren-Mitchell in Sunday’s Observer) lamenting service cut backs on British Airways.
Alex Cruz, who arrived at the airline last year from Barcelona based low cost carrier Vueling, has become a lightening rod for criticism that the airline is hell bent on becoming no different to Ryanair.
The catalyst for this was the introduction of Buy on Board catering (with significant teething problems) on short-haul flights earlier this year.
This was one of the first decisions made by Alex Cruz (though it had been considered many times before his arrival). After grumblings online a number of newspapers have picked up on other service cut backs and there is now a clear PR narrative of cut backs and decline.
On long-haul it’s also been criticised for service cut backs (such the offer of a single solitary chocolate bar as the second meal service on long-haul economy and premium economy flights to the East Coast of the USA) and for doggedly sticking to its 2006 Club World business class seat whilst other airlines which were once light years behind BA (notably American Airlines, Delta and United whose products former BA CEO Willie Walsh once dismissed as “frankly crap”) have leapfrogged BA. The airline is also due to switch from 9 to 10 across seating in economy on many of its Boeing 777s.
This isn’t the first time BA has made cut backs to its service. After the events of 11 September 2001 and the collapse of Lehman Brothers which triggered the global financial crisis, BA reduced cabin crew numbers on flights and made substantial cut backs to in flight catering and amenities.
But BA is not losing money. It’s profitable. Last year it made a record operating profit in excess of £1.4bn. It’s also expanding, carrying 44.5m passengers last year.
So what’s going on?
Well, BA as we knew it doesn’t exist any more.
BA is no longer in control of its own destiny.
BA is a merely operating subsidiary of its parent company International Airlines Group (“IAG”).
BA is now one of five airline brands (alongside Aer Lingus, Iberia, Level and Vueling) that has to compete for investment by IAG.
This means that certain decisions are no longer of its own making.
BA cannot order its own aircraft. These are now placed by IAG who will decide which airline will receive new toys to play with when they are ultimately delivered.
Not only that but aircraft deliveries are now standardised so that if IAG decrees, a new Airbus A320 can be switched from BA to Iberia (or Aer Lingus or Vueling) in a matter of weeks. IAG claims that the savings from this are in the region of €500,000 – €1,000,000 per aircraft.
And whilst BA may still have its own pilots and cabin crew many back office functions are now carried out not at its Head Office near Heathrow but at IAG’s central accounting function in Krakow, Poland. We understand that every single purchasing decision is now overseen by IAG.
Significantly, IAG has imposed a target return on invested capital on BA of 15%. If BA cannot deliver this it will not receive new deliveries of aircraft. They will go elesewhere. Not only that but one part of the business can not cross-subsidise another. Profits from BA’s long-haul flights are irrrlevant in determining whether BA should receive new short-haul aircraft.
A significant factor in meeting this target is “densification” (which means squeezing more seats on to aircraft) and extremely tight cost control.
Will negative press coverage and complaints about service cut backs make a difference?
BA has weathered bad press before (witness the chaotic opening of Terminal 5 in 2008, fines for price fixing with Virgin Atlantic and a very public industrial dispute with its cabin crew in 2010) and the brand has proven resilient. IAG’s pugnacious CEO Willie Walsh would no doubt dismiss press commentary as noise and is unlikely to be swayed by it. Willie Walsh is also pleasing shareholders with a return of €1bn of cash this year through dividends and share buy backs.
BA has a strong and expanding route network (Santiago, New Orleans, Oakland and Fort Lauderdale are additions this year), the lion’s share of slots at London Heathrow, powerful joint-ventures notably with American Airlines, and its Avios frequent flyer currency is valuable in terms of partners and redemotion options, as its membership of the Oneworld alliance.
In BA’s defence, there are also areas of investment.
Last year BA took delivery of 12 new long-haul aircraft. New lounges have opened this year in Boston and London Gatwick with New York JFK to follow. BA is also due to open a new “First Wing” check-in area at London Heathrow Terminal 5 early next month. There is also a promised £400m investment in Club World (though we’ll reserve judgement on that until we see it). BA is also due to switch on high speed WiFi on many long and short-haul aircraft.
Alex Cruz is also insistent that BA must be able to compete against its rivals (notably Norwegian) on price.
Will BA whether the latest PR storm?
Ultimately, there are two tests:
1. Hard passenger numbers in the form of revenues from forward bookings.
If passengers vote with their feet and these go down, BA will respond.
2. The next industry crisis.
After the last two crises (11 September 2001, and the Great Financial Crisis) BA was in a considerable position of weakness and had to fight a rearguard action with deep capacity cuts.
The rationale for IAG’s disciplined approach to capital investment is that the airline industry must end the trend of making money in good years, only to burn through cash during a downturn. If in the next crisis (which given the current geopolitical situation could be just around the corner) IAG is in a position of strength and is able to make long term investments its disciplined approach to capital will be vindicated.