Air France-KLM’s New Strategic Plan, Explained

Air France-KLM controls two of the world’s most iconic airline brands, but like most of Europe’s legacy holding companies, it faces intense pressure, not only from discounters in Europe, but also from the three powerful Gulf airlines, who have poached some of their most lucrative passengers and depressed average coach fares on key segments.

Like its two major competitors, International Airlines Group, owner of British Airways, Aer Lingus, Vueling and Iberia, and Lufthansa Group, owner of Lufthansa, Swiss, Austrian and Eurowings, Air France-KLM is wrestling with how to remain relevant and profitable in a changing European airline landscape.

On Nov. 3, new Air France/KLM CEO Jean-Marc Janaillac announced a turnaround plan for the company. Janaillac has worked in transportation and tourism for decades, and most recently led bus and train operator Transdev. Earlier this year, Janaillac, who worked at Air France in the 1980s and as senior executive at a smaller French airline in the 1990s, replaced Alexandre de Juniac, now head of the global airline trade group IATA.

Janaillac’s charge: To make his legacy airline company more competitive.

“With other European airlines, we pursue the same goal  — which is to reduce our cost structure by different ways in order to be able to compete against Gulf carriers and the European low cost carriers,” Janaillac said Wednesday on Air France-KLM’s third quarter earnings call.

Here’s what Air France-KLM is facing, and how the company plans to improve its fortunes.

What’s the Problem?

Air France-KLM is being squeezed on all sides.

Like most major European airline holding companies, it long ago realized that it needed a low cost product to compete with discounters like Ryanair and EasyJet. The problem is that Air France-KLM’s low cost subsidiary, Transavia, has nowhere near the scale or name recognition of Europe’s most popular budget airlines. Its French and Dutch operations combined have about 70 aircraft.

Then there’s the challenge from three Gulf carriers, Etihad, Emirates and Qatar. In many cases, the trio can provide customers with a better product at less cost to the airline. It’s not so much a problem for nonstop routes — travelers almost always will fly Air France from Paris to New York, or Tokyo or Shanghai — but it is an issue for itineraries requiring a stop. A traveler going from Nice to Mumbai could connect in Paris, or that person could connect in Dubai instead. Either way, for the passenger, it’s one stop.

There are no easy fixes, because neither discounters nor Gulf airlines are going away. But Air France-KLM will do what it can to fix the problem.

What’s the Plan?

It’s an unusual one, and it seems to be more of a test rather than a full-fledged strategy shift.

Air France-KLM is creating its an airline-within-an airline that is internally calling, “Boost.” By 2020, the new long-haul airline should have 10 aircraft, making it tiny compared to both Air France and KLM.

The company says the new airline will allow it to more effectively grow into otherwise marginal or loss-making markets. It could fly to the United States and Asia, among other places.

“It will be focused on ultra-competitive markets and will enable the group to go on the offensive by opening new routes, re-opening routes closed due to their lack of profitability and maintaining routes under threat,” Air France/KLM said in its announcement. About 30 percent of the airline’s routes will be new.

That’s ambitious plan, and the company said little this week about how it will work, or how the airline will be branded. It did promise investors it will be a “a simple, modern and innovative offer” and will not necessarily be a low cost airline. It also said Air France pilots would staff the new airline, but the company will hire new flight attendants. (And almost certainly pay them less than Air France cabin crews.)

Does Air France-KLM Fear Other Long-Haul Airlines?

Yes. On Thursday’s earnings call, Janaillac also referenced Norwegian Air, a low cost airline adding point-to-point routes between the the largest cities in Europe and the biggest markets in the United States.

“The long-haul is a market growing at percent per year and we are confronted too with the growth of the traditional Middle Eastern and Asian airlines with more favorable cost structures,” he said. “We are under attack from these players but we have a very strong strength, especially [our] network between Europe and the rest of the world.”

Will It Work?

We don’t know enough yet. It’s hard to believe an airline with 10 planes with massively disrupt the airline industry and shift Air France-KLM’s fortunes.

But what is intriguing is Air France-KLM’s plan to use the new airline to promote change at Air France and KLM. The company promises the startup airline will take chances that a legacy airline cannot.

“The new company will also serve as a laboratory for the Group’s innovative ability in terms of products, digital and technology, catering, cabin design, services and the customer experience, as well as for working methods,” it said.

If the new airline produces innovation that can be used by the parent airlines, Boost might be considered a success, even it doesn’t really challenge Etihad, Emirates or Qatar, or even Norwegian.

What About Other Low-Cost Strategies?

Here, Air France-KLM will continue to play it safer.

Transavia will grow but will focus on core markets in France and the Netherlands. The company said it will position Transavia not only as a tool against low cost carriers, but also as a strategy against train operators.

This is a different strategy than Lufthansa Group is using for its low cost subsidiary, Eurowings. That airline will be growing across Europe, and even on long-haul routes.

Will This Strategy Worry the LCCs?

Absolutely not. With major operations in only two countries, Transavia will remain a relatively small, niche airline. It will help Air France-KLM maintain share on some routes, but not that many.

One thing the strategy shift will do is allow Air France and KLM to focus on shuttling passengers to and from their hubs in Amsterdam and Paris. Transavia and another Air France-KLM subsidiary, Hop!, will handle most of the non-hub, point-to-point routes.

Why Didn’t the New CEO Bo Big With a Short-Haul Plan?

Well, the last CEO tried that, and it did not go well.

Two years ago, de Juniac tried to grow Transavia and Air France employees revolted, with pilots striking for two weeks in September 2014. At the time, the company had wanted to expand Transavia across Europe, but it scaled back after the labor action.

This is more muted strategy shift, along the lines of what de Juniac proposed after the company decided not to add flights elsewhere in Europe. But time will tell how labor groups respond to both the plans for Transavia and the new long-haul subsidiary.

Still, Janaillac, the new CEO, said the company has no choice but to adapt.

“We shall be fighting back on every front,” he said. “Our strength lies in the fact that we are challengers. The status quo is not an option. We must launch a new dynamic to return to a leadership position in our markets.”