Founded in 1919, KLM Royal Dutch Airlines is the oldest scheduled airline in the world. It operates worldwide from its European homebase with a network of routes covering 164 cities in 75 countries. The group’s core businesses are passenger and cargo transportation, and engineering and maintenance. In the fiscal year 1997/98 KLM employed an average workforce of 26,923 and carried 14.7 million passengers and 620,919 tonnes of cargo.
Strategic positioning KLM’s focus on its core business and core competencies steadily proceeds to maintain and create shareholder value. In August 1998, KLM bought back all common shares held by the State of the Netherlands; a transaction which completed the privatization of the company. KLM CFO Rob Abrahamsen said of this transaction: “In a time period of 18 months, KLM has returned approximately Fls2 billion ($1 billion) to its shareholders while reducing the number of outstanding common shares and participation certificates by a third. As evidenced once again by this transaction, the creation of shareholder value remains a top priority for KLM.”
The KLM Group continues to strengthen itself through expansion of its reach via global and regional alliances, and through participation in the fast-growing leisure segment via its charter airline subsidiaries. Divestment of non-core holdings and outsourcing of non-core competencies is a continuing process that unlocks value and ensures concentration of resources and management focus on core business.
KLM and Europe KLM has long recognized that Europe is potentially the largest single market for air travel in the world. The EU has a population of 372 million compared to 263 million of the US but the propensity to travel (average annual number of trips taken per head of population) is still only 0.9 in Europe compared to 2.3 in the US. The number of US passengers (population multiplied by propensity to travel) is just over 600 million, and increased by 3.5% between 1996 and 1997 while the number of European passengers, albeit lower at 335 million, increased by 8.8%. Clearly, though the European market is smaller it is growing much more quickly and it is also the most fragmented market. This means there is room for further consolidation through strong alliances such as those created by KLM and its partners.
KLM and the Netherlands have been setting the trend for deregulation since as far back as 1983 when the Amsterdam to London route was deregulated. This landmark event was followed by the open skies agreement between the Netherlands and the US in 1992. Both were firsts in the airline industry. Given this backdrop, European unification and the introduction of the euro will both serve to accelerate this trend: in 1993 intra-EC traffic was liberalized; in 1997 domestic traffic was liberalized and distribution via the internet was introduced; and as of January 1 1999 suppliers and clients have the choice of making transactions either in the euro or their domestic currencies.
So what has KLM done to react to these developments and secure European single market growth opportunities at an early stage? First, the business growth strategy was redesigned in the early 1990s to pay particular attention to European regional alliances and second, the European network and hub operation at Schiphol were restructured in 1996. KLM used to have three connect banks (time slots at which flights arriving from Europe can connect to outgoing intercontinental flights) and it now has six. In a bold move to expand its European operations by nearly 20% the company managed to capture a large share of premium business markets and realized a significant increase in utilization of its narrow-body fleet. Yields (total passenger traffic revenues over total passenger kilometres flown) were maintained at close to 100% and there was significant growth of alliance partner feed into the hub. KLM’s market share on Amsterdam to Europe routes increased by 4.6%, connectivity Europe to intercontinental was up 29% and Europe to Europe connectivity increased by 57%.
With regards to the marketing approach, KLM has focused on its structural market position in the extended home market, recognizing three main market categories: maintenance markets (where KLM is number one in terms of market share and at least three times greater than that of the number two carrier), focus markets (where KLM has a market share greater than or equal to one third of the number one carrier) and opportunistic markets (the rest). The alliance markets in Europe are mainly focus markets and therefore regarded as part of the homebase where market share should be increased. Various marketing strategies were embarked on to achieve that position, for example North Rhine Westphalia and the UK, where market shares increased significantly. Marketing strategy was aimed at increasing market share without any significant yield erosion, focusing on product as opposed to price competition. Focus market strategy was integrated with alliance partners who have a lower cost structure than KLM so market position and margins in focus markets have increased significantly.
Alliances A key component of KLM’s growth strategy is to maintain its solid position as an independent airline while building on the strength of its global alliances. In an industry where mergers are not legally possible, KLM is looking for the most advanced level of integration in order to achieve maximum synergies, both in terms of revenue and cost. This is achieved both at a global and a regional level.
Globally, KLM has created one of the most successful alliances in the industry with its US partner Northwest Airlines. The alliance now operates as a full joint venture on all the routes across the North Atlantic, plus some routes into India. The alliance was forged in 1989 and in 1996 the airlines reinforced their commitment by entering into a thirteen-year commercial agreement. Since then the alliance has grown exponentially, delivering synergies in the area of $200 million to $250 million and surpassing expectations in the industry. The first route the alliance operated was to Minneapolis in 1992 – a route that previous market studies had show to be financially unviable – and today it ranks among the more profitable routes. KLM and Northwest Airlines were also the first two companies to obtain anti trust immunity for their alliance – they can operate as if they were a single, fully-merged company.
Along with the benefits of alliances, there are also some risks and KLM experienced this with the Northwest Airlines pilots’ strike earlier this year. KLM has learnt from these risks and is looking at ways of eliminating them in future alliances with other partners. However, in this case, as KLM said in its November half-year release, the benefits of the alliance far outweigh the one-time negative impact of the strike.
The other significant global partner for KLM is Alitalia with whom a Master Cooperation Agreement was announced in November 1998. For the time being the agreement covers business both on the passenger side and the cargo side in all regions except the domestic markets. The airlines are still working on the financial details of the transaction but these are expected to be finalized in time for the start of the company’s new fiscal year in April 1999. With their “One ticket to the world” alliance, the partners are confident that they have combined the best of both worlds. KLM president and CEO Leo van Wijk says: “Italian drive, style and creativity have been combined with the pragmatism, business sense and sober-sided attitude of the Dutch. Surely, these are the ingredients for a highly successful alliance!”
The alliance is expected to reach its first level of maturity in about three years’ time, by which time the benefits should be in the region of $380 million a year in terms of operating margins for passenger operations and $65 million per year for cargo. Not included in these estimates are the substantial potential synergies from engineering, maintenance and information technology.
KLM’S other alliances are at a regional level – divided into Europe and the rest of the world. In view of the unification in Europe, KLM has adopted a so-called “clover leaf strategy” in order to build on the relatively small homebase of the Netherlands. Regional alliances have been forged with airlines in the four main European markets: KLM cityhopper (Netherlands), KLM uk (formerly Air UK), Braathens (Nordic region), Eurowings (Germany) and Regional (France). The first two are both fully owned by KLM while Braathens is 30% owned. KLM is also adding alliances in other areas of the world but these are more at arm’s length and less focused on securing full integration. One exception is Kenya Airways in which KLM has a 25% stake. This alliance has increased the number of flights between Amsterdam and Nairobi to twice daily, a considerable amount for a market as small as Kenya. It is also a very profitable and competitive market and some competitors had to cease their operations on the same route because they could no longer compete with the combination of KLM and Kenya Airways.
Alliance market strength The market strength built up as a result of combining operations is considerable. KLM uk offers more connections from internal UK points other than London into Amsterdam and the rest of the world than British Airways is able to offer via London Heathrow. At a global level KLM, Northwest Airlines, Alitalia and Continental Airlines make up an alliance which continues to gain greater global market share. In the intra-Europe air traffic market, the KLM alliance ranks second in terms of market size with a share of 15%, equal to that of the One World alliance (British Airways, Iberia, American Airlines, Qantas and Japan Airlines). This marks an increase of eight percentage points compared to when KLM operated alone. The strategy that KLM has in Europe is to focus on scope rather than scale, in other words, the KLM alliance ranks %2
