A decades-old dream of many low-cost carriers to break into the market for long-haul flights has also been a long-standing nightmare for executives at full-service airlines, who earn their corn chiefly on such routes.
Norwegian Air, the airline that roiled Europe, encounters some turbulence
Investors are questioning Norwegian's strategy to turn to long-haul flights.
By Economist
July 17, 2017 at 10:07PM
So a series of setbacks for Norwegian, the latest low-cost carrier to try its hand at long-haul flights, has set off a round of Schadenfreude at established airlines across Europe.
Last week, Norwegian revealed a disappointing set of results for the three months to June. A week earlier its chief financial officer of 15 years, Frode Foss, resigned with immediate effect, sending the share price down by 8 percent. Over the past year the shares have lost a third in value, as investors grow nervous.
The worries go back to Norwegian's decision to begin long-haul flights. Founded in 1993 by Bjørn Kjos, still its CEO and biggest shareholder, it took over some domestic routes in Norway from a bankrupt charter airline, Busy Bee.
Then in 2002 it went into short-haul flights in Europe, becoming the continent's third-largest low-cost carrier. After a few years of decent profits, in 2012 Norwegian ordered 222 new planes that together cost several times its own value, and announced its new "no-frills" long-haul routes to the United States and Asia.
Investors were skeptical. Many low-cost carriers have gone under trying to enter the long-haul market, or had to admit defeat. The pioneer of no-frills transatlantic flights in the 1970s, Sir Freddie Laker, could not make his ventures work. Kjos sees Laker as an inspiration; this spring Norwegian painted his face on one of its jets.
Yet changes in aircraft technology, consumer tastes and workers' benefits mean that the long-haul low-cost model has a better chance of working today. Andrew Charlton of Aviation Advocacy, a consultancy, notes that new, fuel-efficient aircraft, such as the Boeing 787 and 737MAX aircraft purchased by Norwegian, mean it is now possible to fly smaller numbers of passengers over long distances at relatively low cost.
Passengers have grown accustomed to low-cost carriers — which fly more than two-fifths of all passengers within Europe each year — and are more willing than in the past to try out no-frills airlines on longer routes, too. A third factor helping low-cost long-haul travel is that airlines are less encumbered by generous labor contracts and unfunded pension costs than before. Low-cost carriers such as Scoot, owned by Singapore Airlines, and Jetstar, owned by Australia's Qantas, are using similar tactics to Norwegian to build their networks of low-cost long-haul flights.
In the case of Norwegian, however, investors worry that the investment it has made in its long-haul business could swamp its balance sheet, said Ross Harvey of Davy, a stockbroking firm in Dublin. It is more highly leveraged than other European airlines — shareholders' equity accounted for 11 percent of its assets last year, compared with 35 percent for Ryanair, Europe's largest LCC, and 49 percent for easyJet, the second-biggest. It also has relatively low cash reserves and fairly thin profit margins.
That may make it difficult to withstand the shocks that regularly beset the aviation sector.
An approaching crunch over the next year, when Norwegian has to pay for 19 new A320neo jets that it cannot currently use or lease because they have engine problems, may explain the CFO's sudden departure, said Bjorn Fehrm of Leeham Co., a consultancy. "He would not want to be around to sort this mess," Fehrm said.
Kjos said it was understandable that Foss would wish to concentrate on "other tasks" after 15 years at Norwegian.
If Norwegian gets into trouble, there is at least an obvious solution: a takeover by a rival with deeper pockets. Ryanair and easyJet are not interested because they do not want to complicate their business models. But Willie Walsh, the boss of IAG, a London-based group made up of several flag-carriers, seems eager to take on Kjos in the low-cost long-haul market.
British Airways, one IAG airline, has started to run cheap long-haul flights on the same routes as Norwegian from London's Gatwick. In March, IAG launched Level, a long-haul LCC, in Barcelona, to fight off Norwegian's new long-haul hub there. The gossip among analysts is that IAG is readying itself to snap up its rival if it weakens further.
If full-service airlines can't beat low-cost carriers, the answer may be to join them.
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