SAS to increase leisure share under ‘4Excellence’ strategy


SAS has unveiled "4Excellence", the group's new strategy that replaces its successful "Core SAS" turnaround programme, which will be brought to an end in 2012. 4Excellence will build on the foundations of its predecessor by concentrating the group's resources on four key areas: commercial, sales, operational and people excellence. SAS has staged a remarkable turnaround in recent years under the Core SAS programme, which culminated in a strong 1H2011 (six months to 30-Jun-2011) performance from the Scandinavian carrier, outperforming the majority of its rivals.

  • SAS has unveiled its new strategy, "4Excellence", which will focus on commercial, sales, operational, and people excellence.
  • The strategy aims to achieve sustainable profitability by 2015 through further cost reduction and revenue gain.
  • SAS has successfully turned around its performance under the previous "Core SAS" programme, outperforming its rivals in the first half of 2011.
  • The new strategy will target the leisure market, which is dominated by efficient operators like Norwegian Air Shuttle and Ryanair.
  • SAS plans to retire its aging and inefficient fleet and replace it with more fuel-efficient aircraft, such as the A320neo.
  • The management team has been restructured to oversee the implementation of the new strategy.

The target areas of 4Excellence - commercial, sales, operational and people excellence - have been identified as areas for either further cost reduction, revenue gain, or a combination of both. 4Excellence will take SAS through to 2015, by which time SAS plans to have achieved "sustainable profitability".

For years SAS suffered from various disadvantages. Most notably, the group was weakly positioned due to excessive LCC exposure, convoluted ownership, an ageing and inefficient fleet, a highly unionised workforce and major bases in some of the world's most expensive countries. Unsurprisingly, SAS had a high fixed cost base, which left the reeling at the hands of more efficient operators.

4Excellence follows on from the success of Core SAS, which was launched in 2008. The group's hard work became truly evident only this year when the airline surged back into profitability in the first half for the first time since 2007. SAS' drastic cost reduction coincided with strong growth in passenger numbers and yields to deliver one of Europe's top results. SAS's return to profitability is even more impressive in light of the spiralling fuel costs, sluggish economic growth across much of Europe and the Middle East/North Africa crisis, which saw its larger rivals Air France-KLM and Lufthansa Group report heavy losses.

Cost reductions to continue

4Excellence will continue the hard work that SAS has done on the cost side under Core SAS, although the aggressiveness of the cost reduction will be less going forward. The group's unit costs have been reduced by 23% since the launch of Core SAS in 2008, or almost 7% per annum over the period.

Naturally, cost reduction is still considered an important prerequisite to sustainable profitability. Under 4Exellence SAS aims to further reduce unit costs by 3-5% per annum until 2015. This will be achieved through a strengthened focus on productivity improvements, including rolling out the quality and efficiency program LEAN, a maintenance operational excellence goal, across all parts of the organisation.

SAS has passed through aggressive cost cuts, particularly in the years 2009 and 2010. The global financial crisis aided cost reduction efforts, but the vast majority of reductions were structural adjustments made throughout the company aimed not only at containing, but reducing costs. Over the same period, RASK has also fallen, although not as sharply as costs.

Cost reduction under 4Excellence will not be as sharp as those in Core SAS. Importantly, SAS paints a rather bleak picture for forward RASK, which is also expected to be on a downward trajectory throughout 4Excellence. But due to unit cost reduction efforts that should outpace unit revenue declines, the gap, or margin, between the two, is expected to grow, allowing SAS to reach the elusive goal of sustained profitability.

SAS Group CASK and RASK performance, actual and forecast, 2008-2015

4Excellence targets more leisure passengers

A major part of 4Excellence is the widening of SAS' target market. This expansion is the central feature of the group's new "commercial" focus. Leisure passengers, who are well served by the numerous LCCs now operating in Scandinavia, will now be targeted more directly.

Under Core SAS, corporate and premium travelers were targeted, an aim which was largely successful. SAS has topped not only European, but also global punctuality rankings in recent months and claims about 55% of corporate travel in the Nordic region, giving it substantial reach and pricing power in Scandinavia. This figure is down from the 63% market share SAS enjoyed in 2006, reflecting the additional capacity added by rivals to the south and a change in tack by LCC competitors to target business travellers.

Core SAS was largely aimed at the high-yielding business passenger, a sensible strategy for an airline with high costs. However major cost reduction efforts by SAS, ongoing intense competition in the Nordic region and a changing travel profile of Nordic travellers will see the new strategy focus on all passenger types.

SAS believes that in the Scandinavian market, the strongest growth in the medium-term will occur at the back end of the plane. Over the next nine years, SAS expects the Nordic market to growth to 134 million passengers, or 4.8% per annum. Within that figure, however, leisure segment is expected to grow nearly twice as fast as the corporate sector. Understandably, a more aggressive move into this market segment will be a key feature of SAS' new agenda.

Heavyweights Norwegian Air Shuttle and Ryanair, two of Europe's most efficient operators, dominate the Scandinavian leisure market. SAS' move into this market will bring into focus the need for even sharper cost reduction efforts. SAS, which is predominantly a short-haul operator, is heavily exposed to LCC competition, most notably from Norwegian Air Shuttle, Ryanair and easyJet. Rapidly-expanding Norwegian Air Shuttle has shown the inefficiency of the previous SAS model and has been the group's largest catalyst for change.

About 70% of SAS' revenue is exposed to LCC competition, the group estimates. Norwegian is the group's biggest pest, competing for about 60% of SAS' short-haul revenue. Ryanair is next on 15%, followed by British Airways, easyJet and Cimber Sterling on about 7%.

Importantly, the Nordic market has become accustomed to LCCs over the past decade. LCCs are responsible for almost all the growth in capacity (ASKs) in the period.

Capacity (ASKs) from, to, within Scandinavia. Change from 2001 to 2011

The Europe-Nordic market has growth 126% in since 2000 and it is very clear where that growth has come from. LCCs are responsible for about 90% of growth in that period (including Air Berlin's capacity growth, which was an LCC for most of the past decade). What is also noteworthy is that SAS does not appear on the graph, at least not in the airlines reporting strong growth. SAS has contracted substantially over the past ten years as a result of its ongoing troubles. This strong LCC growth was a major reason for SAS' troubles, and the trend reflects the changes that needed to be made at SAS. The group stated that it recognises that customers will determine the price, and it is up to SAS to ensure that that price is above cost.

As SAS realises, there is still some way to go before it can match the efficiency of rivals. SAS' unit costs are still substantially above Norwegian's, the airline's largest rival. While this will almost certainly always be the case, with a 40% unit cost differential, there is clearly still room to drive through further cost reductions at SAS. As expected, SAS enjoys a substantial RASK and yield premium relative to Norwegian. (It should be noted that in 2Q2011, SAS' operating margin was 8.1% and Norwegian's was 2.7%.)

Key metrics in EUR cents, Norwegian Air Shuttle and SAS Group, 2Q2011 (three months to 30-Jun-2011)

SAS's new value proposition

While SAS has been somewhat light on detail regarding the areas of "excellence", the group said its strengthened leisure offering will be facilitated though improvements to the network, lower headline fares, more efficient distribution and online sales, and an increased focus of ancillary services.

On the sales side, EuroBonus, the group's loyalty programme, will be changed and become "the most attractive loyalty programme in the market", the airline says. New corporate programmes will be developed and the group's website will be improved, most likely to encourage online purchases to cut down on distribution costs. Ancillary items are also likely to feature more heavily on the "improved" website.

A key plank in achieving "operational excellence", which SAS has already announced, is a major change to its fleet. SAS has placed a firm order for 30 A320neos, a move that signalled the acceleration of its fleet renewal programme and its intention to address one of its major weaknesses: its ageing and relatively inefficient fleet. SAS' high operating costs, due in part to its maintenance-intensive and fuel-inefficient fleet, have crippled its efforts to compete against younger, more flexible and more efficient airlines.

SAS will rationalise its short-haul fleet by retiring B737 Classics and MD-80s by 2016, leaving only A320s, A320neos and B737NGs in SAS' short-haul fleet. The fleet will be further rationalised when A320s, which will be leased to replace MD-80s retired by 2014, are in turn replaced by A320neos. SAS claims that replacing MD-80s with A320s and B737NGs will result in 20% decrease in fuel consumption and carbon emissions, two environmental initiatives that remain key parts of the 4Excellence strategy.

Cost issues resulting from hub fragmentation will also be addressed through SAS' fleet strategy. The group's resources are spread across three hubs (Stockholm Arlanda, Copenhagen and Oslo), which adds substantially to operating overheads. SAS plans to lease 17 B737NGs to operate from its Oslo and Stockholm bases while the A320s will be added only to its larger Copenhagen base. All Stockholm-based MD-80s will be replaced by B737NGs in 2013 and all Oslo-based B737 Classics will be replaced by B737NGs in 2014.

Elsewhere, SAS will have a renewed focus on "people excellence", largely a human resource initiative aimed at getting the most out of its people and increasingly employee engagement.

New senior management team

SAS Group, which includes Scandinavian Airlines, Wideroe and Blue1, has changed from a holding company to "one functionally organised airline", CEO Rickard Gustafson stated. In line with the new focus areas, Mr Gustafson has appointed four new managers to help oversee their implementation.

The senior management team will comprise Mr Gustafson as CEO and president, Göran Jansson will remain deputy president, deputy president Henriette Fenger Ellekrog will be responsible for HR and communication, Flemming Jensen will be responsible for operations, Benny Zakrisson will be responsible for infrastructure, and Mats Lönnkvist will be chief legal officer. The management group will also include a new head of commercial and a new head of sales and marketing, a position yet to be filled.

Deputy president John Dueholm will end his operational responsibility at SAS following the completion of the "Core SAS" programme. Group CCO Robin Kamark will also leave the company, but will continue in the role until the position is filled, which will be no later than Mar-2012, SAS says.

New strategy for a new SAS

SAS has made a remarkable turnaround in the past three years under the Core SAS programme. The one-time basket case of Europe, SAS has emerged, particularly in 1H2011, as one of the strongest performers in Europe.

The group has effectively recognised its major weaknesses: the inefficient fleet, the bloated cost base, the high LCC exposure, the inefficient fleet, the convoluted ownership and the unionised workforce and temperamental industrial relations, and has actively sought to address each one. Ownership remains the final hurdle, however SAS' public sector owners (it remains 50% owned by the governments of Denmark, Sweden and Norway) have been largely unproblematic in recent years. In fact, SAS is undoubtedly of greater value to the shareholders post-Core SAS than before.

One area SAS must watch out for is its move into a new, more diverse target market. SAS's resources will now be spread across both the leisure and corporate markets, where previously, the group was firmly fixed on the Scandinavian corporate market. Norwegian and Ryanair will not easily cede market share and will likely leverage their lower cost bases to offer fares that SAS will not be able to profitably match. SAS' other initiatives, such as ancillary items, loyalty programmes, punctuality, airports served, and airport and in-flight services, will be important in differentiating its service and adding value that might be unavailable elsewhere. But importantly, SAS' move "down-market" coincides with efforts from Europe's LCCs to move "up-market", in search of yield that SAS currently enjoys. They will move quickly to take up any corporate market share that SAS might cede.

2Q2011 was the airline's strongest result since 2008 and the airline has reported record load factors, punctuality and increased customer satisfaction. Unit costs are 23% below 2008 levels. The group is now on more stable financial footing compared to the precarious situation in recent years. However cash flow from commercial activities remains patchy, and is still often in negative territory, which encourages higher levels of net debt. SAS also continues to run a working capital deficiency. But despite the work to do on the group's finances, there have been vast improvements under the Core SAS programme, which leaves a solid foundation for 4Excellence, and SAS must ensure it carries on the positive momentum. As SAS stated, Core SAS was "a step on the way but far from enough".

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