Austrian Airlines provides link to the future for Iraq

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ERBIL, Iraq -- Upon hearing that Austrian Airlines has launched scheduled passenger service to the Kurdish city of Erbil in Iraq, the inevitable first question everyone asks is: "Why?" Sometimes "in heaven's name" precedes the question, or "in the world" follows.

The answer offered by Josef Burger, the airline's chief commercial officer, depends on who is asking. He may say, "We are building a sky bridge between Kurdistan and the world," or "Austria and Kurdistan have many historical connections," or, "There is a lot of interest in investing in Kurdistan from the Austrian business community; we're opening markets, facilitating exchanges."

All true, but none of these answers is complete.

Since the early 1990s, Austrian, the 13th largest airline in Europe, has been stalled at the borderline of profitability, its viability in question. Many of its woes can be traced to its diverse fleet, filled with a variety of Boeings, Airbuses, Fokkers and Bombardiers (described as "a butterfly collection" by one critic). This lack of fleet standardization has driven up its maintenance and operational costs.

Austrian has, for more than a decade, been viewed as a weak player. Since the millennium, it has sometimes eked out a percentage point or two of profit margin, sometimes not. The airline has been involved in various merger talks  and has inspired rumors of merger talks. (Since taking his position last May, Austrian CEO Alfred Otsch was observed traveling to Paris frequently, sparking conjecture that he was in meetings with Air France/KLM.)

In this context, opening a route to Iraq might be viewed as an act of desperation. It may well be, but it is also consistent with Austrian's articulated growth strategy.

The airline is betting its future in part on what Burger calls "the first-mover strategy." Its short- and medium-haul services have shown consistent profitability, but its losses in long-haul markets have more than canceled them out. It cannot expect to see growth in its long-haul business from Austria's relatively limited and stable population, nor can it easily compete for long-haul international service in European skies crowded by much larger, stronger, volume-driven players.

The concept behind the first-mover strategy is to identify traffic from second-tier cities, mostly in Central and Eastern Europe, that have no point-to-point service to airports offering transatlantic flights. Austrian then enters these markets and connects them to long-haul routes through its Vienna hub.

Since Vienna is the easternmost of Western European capitals, operational costs to serve these Central and Eastern second-tier markets are relatively advantageous for Austrian, compared with costs for carriers based in countries farther west.

Moreover, by looking mostly east for feeder traffic, it can reach out to markets that are beyond the preferred operational range of low-cost carriers such as EasyJet and Ryanair.

As a result, Austrian's route map has recently added red lines connecting Vienna to cities such as Timisoara, Romania; Podgorica, Montenegro; Lvov, Ukraine; and Chisinau, Moldova.

It carried 7.1% more passengers in 2006 than in 2005. In that same time frame, load factors rose 0.2%, revenue passenger kilometers were up 5.6% and scheduled availability grew by 5.3%.

All increases were to record levels, and Austrian ended the year ranking fifth in terms of passenger traffic growth among European airlines. But additional passengers do not necessarily result in profitability. The airline had not released its economic results for 2006 by press time, and Burger would only say that Austrian performed "better than in 2005," a year in which it lost money. Lack of fleet standardization, Burger noted, is still a drag on the airline.

Burger outlined a future in which the airline would address the fleet standardization problem to reduce cost while boosting yields through the first-mover strategy. It is no coincidence that Austrian has targeted countries whose own national carriers -- the only real rivals for international traffic originating from the second-tier cities -- do not have service standards as high as Austrian's. As long as that's true, Austrian can extract a premium fare from business travelers, and the plane doesn't have to fly full.

Burger said that this low-demand, high-yield strategy to feed traffic to long-haul flights is working.

"Out of the 44 destinations in Central and Eastern Europe, we pioneered a third as first-mover," he said. "Sixty percent of our business is now transfer traffic [through Vienna], and of that, 56% is from secondary markets."

The transfer numbers are expected to be even higher to Erbil, which falls into the first-mover category because Austrian's only real competition there is from a Royal Jordanian Airlines charter that will not interline baggage for connections out of Amman (not even with scheduled Royal Jordanian flights).

But the move into Erbil also fits Austrian's "focus east" strategy, which seeks to take advantage of its location nearer the Middle East than other Western European carriers.

It can also leverage its neutrality. It has, for instance, codeshare arrangements with both Libyan Arab Airlines into Tripoli and with El Al into Tel Aviv.

When asked if the political volatility of the region made shareholders nervous, Burger replied that the region accounted for only 6% to 7% of Austrian's traffic and that when, in the past, it had pulled out of markets because of political instability, as occurred last year in Beirut, the financial impact was negligible.

Austrian flies the Middle East routes at night, tapping capacity that would otherwise be sitting overnight in European airports. (Erbil, currently a day flight, will switch to night traffic later this year.)

Burger is encouraged enough by demand for Erbil that he will increase service from twice to three times a week in March. He hopes to increase frequency again in 2008. Austrian has secured the rights for daily flights, should demand rise significantly.

Increasing the frequency may also give pause to would-be competitors.

"There's nothing to prevent access [to Erbil] for other carriers, but with three flights, we're trying to close the shop," Burger said. The farther a competing carrier's hub is from Erbil, "the more difficult it gets" for the carrier to enter the market, he added.

Burger said he anticipated that 80% of the passengers to Erbil would be transfer traffic, with 25% originating in Scandinavia, where a large expatriate Kurd population lives; 40% from the rest of Europe; and 15% from overseas, particularly from the U.S.

To be profitable, Burger said that flights to Erbil must average 70 passengers in a 130-seat Airbus A319, a target he predicted the airline would easily reach by the end of March. "We're here to make money," he said. "We'll break even the first year. I have no doubt."

He added that the traffic was diversified: a third from ethnic markets, a third business and a third institutional, both government and nongovernment.

And what percentage does he believe will be international tourists?

"We are not anticipating any tourist traffic," he said.

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