WestJet’s plan to crush Air Canada - Macleans.ca

WestJet’s plan to crush Air Canada

The rivalry is intense and it’s personal. Now WestJet sees a chance to become the country’s new dominant airline.

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WestJet’s plan to crush Air CanadaOn March 31, WestJet announced a promotion that tapped into the uncertainty many struggling consumers feel today. Tickets bought over the ensuing week came with an innovative price guarantee. If the same seat later went on sale, customers could get a credit for the difference. It was a remarkable promise in an industry that constantly tweaks its prices, driving customers mad, and it was made all the more remarkable by its timing. A day earlier, Air Canada had fired its CEO and the papers were full of speculation that the national carrier would soon have to file for bankruptcy protection for the second time in less than five years. WestJet’s ad wasn’t just marketing. It was a message, part of a long-term strategy that’s quickly coming into focus. It said, none too subtly: WestJet is out to crush Air Canada.

The price guarantee was just one front in an expanding battlefield between these two companies, whose rivalry is as long as it is ferocious. WestJet has already seized a large swath of the Canadian airline business since its launch 13 years ago. By 2013 WestJet aims to control as much as half of the domestic market, up from 36 per cent today. Recently, it has taken aim at Air Canada’s lucrative transborder and international business, signing deals with Southwest, Air France and others to sell international tickets under its own name.

Now comes the culmination of the plan, a new campaign that emphasizes value and service, and takes aim squarely at the yawning gap between the two companies’ reputations. The full details of WestJet’s latest pitch weren’t finalized when Maclean’s spoke with the company last week, and in fact were being tweaked right up until the last minute for a planned announcement on April 21. But Bob Cummings, head of Guest Experience and Marketing, provided a sneak peak at some of the highlights behind WestJet’s aggressive strategy. An upcoming advertising blitz will spell out roughly 30 promises to customers and the consequences to the airline if it fails to meet them. Many are services WestJet has quietly offered all along, such as a promise never to overbook fiights. Others are new, ambitious, and reveal the lengths the company is willing to go to inflict damage on its rival. You won’t hear WestJet execs spell it out in such stark terms. But the company is seizing this moment to force Air Canada into a corner from which it will be nearly impossible to escape intact.

Consider WestJet’s brash new rules around cancellations. The company will now let customers cancel or change flights up to 24 hours after booking, complete with full refunds, at no extra charge. In an industry that lives and dies by confirmed bookings, allowing passengers the chance to back out is an astonishing display of mettle. WestJet will also tackle the thorny issue of passengers being trapped on delayed flights. Last Christmas, Air Canada faced scorn after a snowstorm led to massive cancellations and delays, with some customers left sitting on the tarmac for hours. From now on, if a WestJet flight sits at the terminal for more than 90 minutes and no departure is imminent, passengers will be given the option of getting off and waiting in the lounge until the flight is ready to depart. “We’re putting those promises and consequences out there in black and white for folks to see,” says Cummings. “We’re actually taking our service to another level as opposed to cutting it.”

Cynics will dismiss the latest move by the airline as marketing gimmickry, but that assessment overlooks one salient fact: it’s working. Cummings says the price guarantee sparked WestJet’s bestselling week of the year so far. What’s not clear yet is how many of those customers were stolen from Air Canada. In June, after the guarantee period expires, the company will decide whether to make it permanent. Either way, it has already served its purpose. “That price guarantee was a profound statement of strength on their part,” says Vaughn Cordle, an analyst at AirlineForecasts in Washington.

Last fall, when it became obvious the economy was in serious trouble, WestJet executives gathered in a series of tense meetings to chart a new course. Cummings and others pored over 30 years of airline data. They canvassed the company’s board of directors, made up of executives from fields as diverse as banking and energy. And they did something that many companies would never consider: they met with employees to seek out their opinions. Every company pays lip service to the idea that their people are their strength. But at WestJet, employees are also among the company’s biggest owners thanks to a generous stock purchase plan. Workers are potentially the most crucial weapon in WestJet’s customer service arsenal, and they are among the biggest potential beneficiaries of the company’s success.

Two starkly different paths emerged, each with its own payoffs, but also huge risks. The easy choice would be to hunker down, they observed. WestJet could simply conserve its cash and ride out the storm, confident its strong finances would see it soundly through to the end. There was even talk at one point of following the herd by charging for phone reservations and cutting back on snacks. But the ramifications of this duck-and-cover approach were too great to ignore. WestJet was built on a customer service ethic. In some ways it owes its existence to widespread discontent over the indignities of air travel. The airline made casual, friendly service its calling card—first-time passengers were often surprised to hear flight attendants tell jokes over the intercom—and it thrived. To turn stingy now would risk undermining everything it had built.

Even harder to ignore, though, was the momentous opportunity this recession presents. If WestJet were struggling, it could be sure Air Canada would suffer even more. In short, this wasn’t a time to be cautiously conservative; it was a chance for WestJet to step on its rival’s windpipe. In the end, at a lengthy board meeting on Nov. 7, the company opted to bank with the headwinds. “We looked at all those nickel-and-dime options, but at the end of the day our cost structure gave us the flexibility to take the route we’re taking,” says Cummings. While other airlines are concerned with just surviving this downturn, WestJet has chosen an aggressive plan to dominate Canada’s skies. “When we looked at 2009 it became the year we had to steal market share from the competition while positioning for the longer term.”

This is no small leap of faith. The recession has crippled the travel sector. Companies have drastically cut back on business trips, and consumers are saving their pennies. The International Air Transport Association recently warned the industry faces a tougher market than after 9/11. The IATA estimates airlines will lose US$4.7 billion this year, driving under some struggling companies. Last week, tour operator and charter carrier Conquest Vacations became the latest casualty in Canada’s bare-knuckles airline battle. Conquest shut its doors after nearly 40 years in operation, partly blaming competition from companies like WestJet, which jumped into the packaged vacation market in 2006.

It’s looking increasingly likely that Air Canada could be among the victims.Even before this latest bout of turbulence, Air Canada was in dire straits. Last year, the company lost $1 billion on revenue of $11 billion. A trip through bankruptcy protection earlier in the decade did little to fix the underlying problems facing the airline. Most of the changes amounted to financial gerrymandering, shifting assets around and spinning off subsidiaries. The fact is, Air Canada can no longer afford to compete in its current form, says Cordle at AirlineForecasts, who recently completed an analysis of Air Canada for a large U.S. institutional investor. (Last year, WestJet’s employee association hired him to value their company.) Air Canada’s overall costs, when measured against available seat miles, are 36 per cent higher than at WestJet.

For one thing, Air Canada’s employee pension plans suffer from a $3.2-billion deficit. Cordle estimates the company will need to come up with at least $800 million to close the pension funding gap this year alone. In recent years Air Canada has chipped away at employee salaries and benefits, bringing them more in line with WestJet’s. But when the staggering costs to plug the pension deficit are added to the mix, the average full-time Air Canada employee costs the company nearly $214,000. By comparison, the average employee cost at WestJet totals just $75,700. Instead of a pension plan, WestJet’s non-unionized employees can put 20 per cent of their paycheques into a share purchase plan, which the company matches. The plan reduces the amount of cash it pays out, making the gap with Air Canada even wider. At the same time, Air Canada’s labour contracts have mushroomed into massive documents that dictate many facets of how the business is run, such as scheduling, pricing and even what kinds of aircraft it can buy. According to Cordle, Air Canada’s contract with its pilots runs to around 500 pages. (The company did not reply to a request for verification.) WestJet’s pilots agreement is just 30 pages long.

With revenue declining and costs soaring, analysts believe Air Canada is on the verge of breaking an agreement with credit card processing companies that requires it to maintain a minimum of $900 million in cash. (The company had $1 billion in cash as of the fourth quarter of 2008.) If cash levels drop too far, card companies could withhold payments. “Air Canada has no room to manoeuvre,” says Cordle. “In order to keep enough cash to pay their bills, they have no choice but to stem the gushing red ink by cutting and slashing markets. They’re in a downward death spiral that’s very hard to pull out of.”

Hence talk among analysts of the need to cut costs, and the arrival of Calin Rovinescu as CEO last month, barely five years after he helped pilot the company out of bankruptcy protection. Just how much should Air Canada cut in order to remain viable? Jacques Kavafian, an analyst with Research Capital, paints a grim picture. Air Canada should scrap half its fleet of 333 aircraft, axe half its routes and get rid of 6,000 jobs. “Bankruptcy is inevitable,” Kavafian said in an interview. “It’s better to be proactive and initiate it so you can be in control of the restructuring.”

Air Canada declined comment for this story. The company referred Maclean’s to an interview between its head of communications and Rovinescu, posted on YouTube. Rovinescu denied he was enlisted to chart a course into bankruptcy protection. He said his goal was to foster a “just do it” culture, and find “creative” solutions to the company’s problems. As for shrinking the airline by half, he said that’s “absolutely, categorically not what we want to do,” adding the strategy of cutting to profitability “isn’t in the cards.”

Even so, most analysts say the company has little choice but to downsize, and that is sure to engender even more animosity among already demoralized staff. Cordle has seen it time and again in older U.S. airlines that have waged war with their unions. “Because of the bankruptcies and restructuring, employees have to work more, while getting paid less, and they’re pissed off,” he says. His firm has examined several U.S. legacy carriers and discovered that employees find subtle, almost imperceptible ways to subvert their employers when angry. For instance, pilots are more likely to lower the landing gear and apply flaps early in their runway approach because it’s easier to do so, even though it burns more fuel and drives up costs by roughly two per cent. “When you multiply that lack of enthusiasm by Air Canada’s 23,000 employees, if 10 per cent of them drag their ass a little bit, it has a major top and bottom line impact,” he says. The situation is likely to get worse. The unions representing Air Canada mechanics and pilots have both vowed to “walk the line in ’09.” The timing couldn’t be worse for Air Canada, or better for WestJet.

Not that WestJet has avoided turbulence. In February the company said its fourth-quarter income tumbled nearly 46 per cent to $41 million, on sales of $616 million. Last month, the airline’s load factor dipped, a sign of fewer bums in seats. Southwest Airlines, the U.S. discount carrier that served as the model for WestJet, has posted its first quarterly loss since 1991. Likewise, analysts say WestJet could also slip into the red. But after years of consistent profit, it has the balance sheet strength and flexibility to endure a few quarters of trouble, something Air Canada does not.

Despite the harsh downturn, WestJet plans to keep growing. This fall, WestJet takes possession of seven new planes, followed by another 43 over the next four years, bringing its total fleet of Boeing 737s to 121. As WestJet’s fleet of new aircraft grows, it will enjoy an even greater cost advantage over Air Canada. New planes, like new cars, come with warranties, meaning WestJet won’t have to pay as much for repairs. Cordle estimates Air Canada already pays 290 per cent more in maintenance costs than its western rival.

It’s a similar situation with WestJet’s younger workforce. Next to WestJet’s hangar at the Calgary airport, construction crews are putting the finishing touches on a new $100-million head office building—paid for, it’s worth noting, with cold, hard cash—to house its growing workforce. WestJet also has agreements to take over neighbouring property when space is needed for future buildings. Many of those new workers will start at entry-level pay. Yet as Air Canada shrinks, younger, lower-paid workers will be the first to go. “The more WestJet grows, the lower their cost structure becomes and the lower the fares they can offer,” says Cordle. “It’s such a competitive difference that WestJet is effectively driving Air Canada into bankruptcy.”

Of course, even bankruptcy wouldn’t end this fight. Instead, it could intensify it. David Newman, an analyst at National Bank Financial, says Air Canada would likely, as it has before, launch a price war to defend its market share. And even if WestJet surpasses Air Canada, that will present its own challenges. How long before Canadians begin to grumble about WestJet’s dominance? And how will it maintain its unique culture and cost advantages? “WestJet would prefer to have Air Canada in the market,” Newman says. “Wouldn’t you rather have a competitor that’s 30 per cent more costly than you?”

So perhaps there’s a distinction to be made in WestJet’s ambitions. The airline’s goal is to become the dominant player in Canada’s skies, but not necessarily the only player, a goal which Air Canada long pursued to self-destructive lengths. But as WestJet inevitably usurps Air Canada to become the country’s largest domestic airline, the older carrier might pause to take some lessons from its conqueror. “Without a doubt WestJet is in the top three or four airlines in the world in terms of their efficiency, profitability, culture and quality of the service,” says Cordle. “It is the airline model of the future.”