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Case 2-1

JetBlue Airways: Managing Growth


Teaching Note
The JetBlue case gives students the opportunity to apply concepts in
cost leadership. At the time of the case, JetBlue has enjoyed a
meteoric rise to success in the airline industry by coupling a low-cost
strategy while giving customers the sense that they are actually
providing better features to their service (e.g. leather seats, satellite
TV). Essentially, the company must figure how to grow and its
adoption of the E190 to go along with its fleet of A320s suggest that
the companys managers believe that they must moderate their lowcost approach in some ways in order to find new ways to grow. More
specifically, David Barger, the new CEO of JetBlue faces some
important challenges:

Softening demand
Increasing fuel prices
Managing the departure from the classical low cost carrier (LCC)
approach of limiting its fleet to just one aircraft
Determining how the reduction in new plane deliveries should be
distributed across the E190s and A320s?
How should JetBlue position itself to counter the competitive
challenges that it faced in 2007?

The case provides some data that students can use to assess the cost
structures of JetBlue and the major players in the industry. This is a
valuable exercise for students. Combined with the suggested exercise
below of having students collect and compare JetBlue and competitors
prices on a single route will give them experience is looking at the
fundamental issues in cost leadership.
Study and Preparation Questions:
1. What is your assessment of the attractiveness of the airline
industry?
2. Choose two routes that JetBlue flies. (Compare their fares versus
competitors that fly the same route.) Internet sites such as
Expedia or Orbitz should make this go quickly.
3. Using Exhibit 2, do a thorough analysis of the costs of JetBlue
and its competitors. How does JetBlue compare to its leading
competitors on costs? What factors drive cost differences in the
industry?
4. What is your assessment of the E190 decision?

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Part II

5. What recommendations would you make to JetBlue on how to


allocate their aircraft purchases between the E190 and the A320?
Defend your recommendations.
6. What lessons can we draw from this case about the challenges of
pursuing a cost leadership strategy?
Airline Industry
It can be helpful to begin with a discussion of industry structure. The
case does not develop this explicitly, but many, perhaps most,
students are familiar enough with the airline industry to discuss some
of the key issues.
What are the substitutes? Automobile travel for trips under
approximately 600 miles. Trains may serve as substitutes in the
Northeast U.S. At one time, buses might have been more
popular substitutes, but their price/performance profile has been
unappealing to most travelers in recent years. Buses did not
enjoy enough of a price advantage to offset the enormous
differential in time, particularly when the total cost of traveling
(e.g. meals while travelling on a multi-day cross country trip).
For most long trips, there were no viable substitutes.
What about rivalry? Why do travelers choose one airline
over another? Here, I may ask students how they chose their
carrier on their last commercial air trip. Most report that they are
unwilling to pay extra for brand or amenities (e.g. food,
entertainment). They may do so for frequent flier miles,
particularly if their employer is paying.
Are there any buying power issues?
o Buyers are very price sensitive and they are well informed
on fares, but they are extremely fragmented.
o For most airlines, supplier power is an issue for both labor
and equipment. The legacy airlines and Southwest are
unionized. While Southwest has had friendly relations with
its labor force, the other legacy carriers have long histories
of labor strife. There labor costs were substantially higher
than non-unionized airlines. The market for long-haul
planes is dominated by the duopoly of Boeing and Airbus.
Both sides of this market are somewhat concentrated and
Boeing and Airbus compete vigorously for new sales.
What implications does the division between legacy and
LCCs have for industry competition?
Two types of carriers: legacy and LCCs.
Legacy carriers were hub and spoke systems.
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Case 2-1

o The advantage of the hub and spoke approach was that an


airline could transport passengers across a broad network
of cities with a minimal number of transfers.
o Hub and spoke systems require huge investments in
terminals and gates as well as extensive operations in hub
cities. This increases the barriers to entry for potential
entrants who are considering broad national route
networks. (Of course, most potential entrants are not
contemplating such systems. Instead, they are looking for
some attractive point-to-point routes where they can
cherry pick some of the more profitable routes.
o The disadvantages were that problems such as weather
delays could permeate the entire system. Perhaps more
importantly for day-to-day operations, arrivals and
departures in a hub needed to be coordinated so that a
large number of planes arrived in a small window of time.
The arrivals would be followed by another small window of
time where many passengers would depart. Essentially,
hub and spoke airlines had to be prepared to manage two
peak periods a day. This required airlines to have the
resources to handle these peak periods. However, these
resources (people, equipment, etc.) were underutilized
during the rest of a day.
Why were the legacy carriers unsuccessful in establishing
LCC subsidiaries?
The case does not really address this question that much. So, it
might be better to ask students to speculate on the reasons. A
key reason why many could not respond was that they were not
willing to abandon their hub-and-spoke systems.

What was JetBlue's strategy?


What was JetBlue strategy when it started? How did it
compare to Southwest?
JetBlue clearly started as an LCC. The company chose the Airbus
plane, the A320, because of its fuel efficiency. Like other LCC's, it
relied on just one plane in its fleet to save cost on training,
service, and maintenance. JetBlues reliance on the web and its
mostly part-time reservation agents for ticketing also contributed
to its lower costs. It flew its A320s at an average of 13.4 hours a
day. The case does not give us comparisons, but that is high
relative to historical norms in the industry.
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Part II

However JetBlue differs from Southwest in some respects. It used


assigned seating in the planes had leather upholstery and
satellite TV. It is important to note that it added these features
while maintaining lower costs than its competitors. What is not
clear is whether passengers were really willing to pay more to fly
JetBlue because of these features. It is possible, perhaps likely,
that such amenities made capacitors more likely to choose
JetBlue as long as fares were comparable.

Another important difference between Southwest and JetBlue


was that Southwest focused much more on short-haul flights.

What is your evaluation of JetBlues strategy?

JetBlue succeeded where so many LCCs failed, so it is hard to


argue that this was not a successful strategy. Interesting
questions arise, however, as to what its limits are. One way to
get at this is to ask, If you were Southwest, how would you
have responded to JetBlue in 2005? If you were Delta,
how would you have responded to JetBlue in 2005? In
2005, most of JetBlues routes focused on travel to or from five
cities: Boston, Fort Lauderdale, Washington, D.C., New York (JFK),
and Long Beach. There was relatively little overlap between
JetBlue and Southwest. Like most LCCs, JetBlue avoided direct
competition with Southwest. It is not clear that Southwest needs
to respond to JetBlue at this point. Delta faces more of a threat
from JetBlue. If JetBlue continues to increase its scale of
operations, then it might require Delta to confront JetBlue more
directly. It is possible, though, that during JetBlues early years
that Deltas most profitable response was accommodation. For
example, lowering its prices might have a more negative impact
on its profits than letting JetBlue fly 9 round trips from JFK to
Orlando a day. The other problem that Delta had was that it had
higher costs, so engaging in a price war with JetBlue could only
work if it was part of a war of attrition that it expected to win
because of deeper pockets than JetBlue.

What does Exhibit 2 tell us about competition in the industry?


This exhibit is really the heart of the case as far as learning to apply
cost analysis. I use follow-up questions such as the following: (it may
make sense in some classes to divide the class into small teams to
address these questions)

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Case 2-1

How should we evaluate cost differences in this industry?


What measures make sense?
How does JetBlue compare on costs to its competitors?
What factors drive cost differences?
o Scale?
o Diseconomies of scale?
o Experience differences and learning-curve
economies?
o Differential access to low-cost inputs?
o Technological advantages independent of scale?
o Policy choices?

If scale were driving differences then we would expect the larger


firms to have lower costs. This is clearly not the case. Students
may then consider diseconomies of scale as a possible driver.
JetBlue

Sthwst

Contintl

Delta

Amrcn

United

Oper Rev

1701

7584

11208

16191

20657

17304

Oper Exp ($
millions)
Oper Profit ($
millions)
Net Income
($millions)
EPS

1653

6764

11247

18192

21008

17529

48

820

-39

-2001

-351

-225

-20

548

-68

-3836

-892

-21036

-0.13

0.7

-0.96

-23.75

-5.21

428

2702

2649

5058

6173

4014

438

1342

2443

4271

5080

4032

Passengers
(thousands)
Rev passenger
miles (millions)
Avail Seat Miles

14729

77693

44939

118856

20200

60223

71261

119954

138374

114272

23703

85172

89647

156659

176112

140300

Passenger Load
Factor %
Breakeven Load
Factor %
Employment
Fleet

85.2

70.7

79.5

76.5

78.6

81.4

Wage, benefits
(millions)
Fuel/oil ($ millions)

86.1
6797
92

67000

87.0
91729
445

42200
356

55700
649

82.8
88400
699

57000
460

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Part II

RASM
CASM
Wage/ASM
RASM-CASM
Fuel/ASM
Passengers/Plane
ASM / Plane
ASM/Employee

0.072
0.070
0.018
0.002
0.018
160.1
257.6
3.5

0.089
0.079
0.032
0.010
0.016
174.6
191.4
0.9

0.125
0.125
0.030
0.000
0.027
126.2
251.8
2.1

0.103
0.116
0.032
-0.013
0.027
183.1
241.4
2.8

0.117
0.119
0.035
-0.002
0.029
251.9
2.0

0.123
0.125
0.029
-0.002
0.029
145.7
305.0
2.5

Some of the calculations that one can derive from Exhibit 2 are above.
The table shows that JetBlues costs per available seat mile (CASM) are
the lowest among major competitors. However, the table also shows
that their revenues per available seat mile are also the lowest. RASMCASM is positive only for JetBlue and Southwest. There are a number
of other calculations that can be performed. If I divide the class into
teams, I encourage them to generate as many meaningful measures as
they can from the Exhibit and then discuss in their team what insights
they have gained.
What is your evaluation of the E190 decision? Many pilots at
JetBlue believe, if it aint broke, dont fix it. Were doing well
financially with the A320, so why on earth would we put our
company at risk by doing this?
At this point, you may want to divide the class in to two groups: 1) one
side of the class is assigned to argue for the E190; 2) one side of the
class is assigned to argue for limiting the fleet to the A320.

The case tells us that regional airlines are quite profitable. In


general, their routes are less contested by competitors than the
routes of legacy carriers. Exhibit 5 shows that regional
enplanements are growing.
Growth opportunities in the long-haul market are likely to invite
more direct and hostile competition from legacy airlines and
other LCCs, particularly Southwest.
The CASM was projected at 34% less than a typical regional jet
but 12% more than the A320.
The E190 offered JetBlue the opportunity to operate more like a
hub and spoke carrier by feeding passengers to focus cities like
New York.
The E190 had a lower break-even point for each flight, which
JetBlue managers thought would make it easier to break into new
routes.

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Case 2-1

It introduces internal political challenges since pilots would view


a shift to more E190s as unfavorable. As a result, managers at
JetBlue believed that they needed to add A320s at a rate at least
as high as it increased E190s.
The E190 would likely increase costs in multiple ways. It would
be a departure from the single plane model that LCCs used to
minimize maintenance and training costs. Given the short-haul
emphasis, E190s are likely to spend more time on the ground
than the A320s. There are subtle unanticipated consequences
such as the non-skid floors in the baggage areas of the E190s
that increase costs.
Operating complexity increased by having two aircraft. There
were fewer standard parts, more variety in engines and avionics
and different suppliers to manage.
Short-haul flights were likely to involve a higher proportion of
business customers who had much higher expectations for ontime performance and were more difficult to keep happy.

What lessons can we draw from this case about applying a cost
leadership strategy?
JetBlue has achieved lower costs than its competitors while
having less scale and experience. They have achieved lower
costs by doing things differently. Much of this difference involves
achieving lower labor costs, but legacy airlines and even
Southwest will find many of these practices difficult to imitate.
Thus, reconfiguring the value chain in ways that are valuable and
difficult to imitate can be a source of sustainable competitive
advantage.
Many growth opportunities come at a cost of strategic
coherence. The market served by E190s looks appealing when
considered in isolation, but it adds complexity to JetBlues
operations that will make it difficult to keep its costs as low as it
typically has. This does not mean that JetBlue should not go
after the E190 market, but they should be aware of the danger of
at least some of their cost advantage eroding.
Implementation and political concerns can undermine what is
otherwise an economically sound strategy. Even if the E190 is
the way to go, the political issues raised by pilots present
problems. JetBlue believes that it has to add A320s at least the
same rate. This may dilute the potential competitive advantage
that it might have in the regional planes (where returns appear
to be higher).

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