Finnair looks to Asia market for expansion

Mika Vehvilainen has been CEO of Finnair only since last year, but he is under no illusions about the challenge facing airlines today

“Most airlines have never made a return on their investment,” he says. “Airlines are in a bad place in the value chain. Their inventory is under price comparison on the web 24 hours a day, yet further up there are only a few suppliers of aircraft, and very few suppliers of airports and fuel, and so that creates profound problems for both pricing and costs.”

The costs are particularly important, as shown in Finnair’s interim second quarter results for 2011. Turnover was up 13.9%, but the operating result was a €25.2m loss. Vehvilainen comments accompanying the results didn’t mince words

“Our profitability has not matched expectations, even though our costs, excluding fuel, have developed according to plan. Our industry has changed radically during the last couple of years: increased competition, new service innovations and more efficient business models have entered the market... The situation faced by our mainline business, particularly European feeder traffic, is challenging. In the long term, our cost structure compared with many of our competitors is simply unsustainable.”

It finished with a call to action.

“In order to build a sustainable future Finnair, we must improve our operational efficiency. We are now therefore seeking a permanent reduction of €140m in our cost level by the year 2014. We will begin the planning of these savings and initiate discussions with personnel group representatives.”

It’s a situation many legacy carriers have found themselves in, particularly those with small domestic populations (Finland has a population of five million) and high labour costs. Yet despite these challenges, Vehvilainen finds cause for optimism,

“Aviation is a huge growth industry, particularly in Asia, but also in other regions such as Latin America, and Africa. Europe is also growing, but is more challenging, particularly on price. So there are opportunities.”

Finnair’s strategic aim – and it has been in place for over a decade now – is to take advantage of its position in Scandinavia to become the premier boutique airline for business travel between Europe and Asia.

“To begin with this will be Europeans travelling to Asia, but we also must look on ourselves as Asian companies travelling into Europe, and from our hub in Helsinki they can travel onwards to over 60 European destinations. The trick is to offer those connections more smoothly than anyone else.”

Vehvilainen identifies some 30 million passengers travelling between Asia and Europe, but with 15 million of those going hub to hub, it is the other 15 million he is targeting. In 2001-2 the airline had 10 flights leaving for Asia each week. That is now 74 and the aim is for 140 by 2020, with Finnair doubling its Asian revenue by that date (currently 65% of the airline’s revenue is from its Asian pperation, including the feeder traffic for those flights).

“Clearly we can’t achieve this without a strong European network, and we must think of ourselves not as a European airline flying to all these destinations in Asia, but also as an airline that offers over 60 European destinations from all these flights originating in Asia,” Vehvilainen said.

For this to work, however, the airline has to move from the red into the black financially. How can this be achieved?

“We certainly have an issue on cost effectiveness,” Vehvilainen admits. “It’s especially noticeable in our short haul European traffic and that’s where we need to act. We compete in two different categories – long haul where the competition benchmark is Air France KLMKoninklijke Luchtvaart Maatschappij (Royal Aviation Company) the flag carrier of the Netherlands and a good example of how acronyms can aid simple discourse. and Lufthansa, and in short haul you compete with the low cost carriers which have a completely different business model. But we need to be much closer to them in terms of cost and that requires us to address all our cost points. We’ve done a fairly exhaustive analysis and have now embarked on the cost savings programme.”

Vehvilainen identifies four main areas. Firstly, the aircraft: the cost of the planes, the lease rates, the realisation of the aircraft, the fleet size. Secondly, crew cost and labour productivity. Thirdly, maintenance costs – Finnair has its own in-house operations, and finally, sales and marketing. This last also includes GDS and travel agent distribution methods.

“We have many points of sale with our China operation and we also do a lot more GDS travel agent business compared to our competitors.  For lower yield customers we need to look at that and change it to online sales.”

For the connections to work, the cooperation with Helsinki airport is all-important, but Vehvilainen says their aims are completely aligned

“The growth for the airport operator is the transfer passenger to and from Asia, which is our strategy as well, so we work closely to improve the processes and the cooperation is very good – we define processes, we measure KPIs together and it’s in both of our interests to make it as smooth as possible.”

Finnair’s recently announced joint venture with the UK carrier Flybe is another way of outsourcing services to Finnair’s advantages. The new venture sees both feeder traffic being supplied to Helsinki for the long haul operations while Flybe uses its expertise on regional flights to run a successful operation where before there were substantial losses. Further afield, there is also the wider marketplace, where consolidation is finally occurring, something Vehvilainen welcomes, drawing parallels from his previous employment with Nokia.

“Aviation in Europe is like telecommunications was in the 1990s, and what happened there was that they have consolidated and no longer have government ownership or interest. Airlines could do this, but until then, there are arrangements such as the one we have made with Flybe for domestic traffic, large alliances, code shares and of course the joint business agreements across the North Atlantic, where the large alliances (Finnair is a member of the oneworld alliance)have ensured they share costs and revenues.”

So will Finnair join Iberia and British Airways in IAGInternational Airlines Group - the parent company of British Airways and Spain's Iberia which was created by the merger of the two carriers in 2010?

“Joint ventures are important to us, and it’s something we would look at. There is nothing active going on but I see no reason why we wouldn’t consolidate, but I’d rather go in from a position of strength for the negotiation.”

But bluntly it means that Finnair should concentrate on getting back to profitability and not be distracted by consolidation.

Finnair is also one of the lead customers for the A350, and is waiting for the arrival of those aircraft before it retires its A340 fleet, along with the angled lie flat seating on them.

“The A330s we have fully flat beds, and we won’t replace the A340s until the A350s come in whcih is 2014, as far as we know. Our business class seat in the A340s is entirely comparable to what any of the key competitors can offer today. It is interesting that the Asian airlines have been quicker to turn into fully flat beds and I’m surprised our competitors have not done the same

Vehvilainen also rejects any idea of offering first class, even if it were to help in the positioning of the airline towards its self stated aim of being “the boutique airline choice between Europe and Asia.”

“Most airlines are taking out first class, and cancelling orders for it”, he said. He also rejects the argument for premium economy, not only because it complicates the airline’s offering, and causes potential problems when passengers transfer onto a two class short haul product, but also because “the arguments go both ways”

“They say you have people upgrading from economy to premium economy and you make revenue from that, but you also have people downgrading from business to premium economy and we don’t want that.”
Vehvilainen also makes the point that his understanding is many airlines have three or even four class configurations because of weight and load issues, combined with the length of sectors.

“We can have a denser configuration and put a lot more weight in our planes because we are closer to Asia. Some of the configurations of three classes are dictated by the weight limitations those carriers have. They can’t put as many passengers on because they have to fly further, we are closer so we can.”

There’s no doubt the future will be challenging for Finnair, and the financial guidance is for the airline to return to profitability in the second half of 2011, but still make an overall loss for the year because of “...euro market uncertainty, weakness of demand in travel to Japan, and unrest in the Middle East and North Africa” as well as fuel costs.

Vehvilainen’s previous company – Nokia – is hardly having an easy time of it at the moment with its failure to develop a successful smart phone, but compared to the airline industry, it must seem to be a walk in the park.