For Asian Airlines, Small Is Beautiful

A handful of upstart carriers is raking in the cash

As the plane lands in the ancient Thai capital of Sukhothai, you might wonder why someone built the runway right next to a temple complex. The answer becomes apparent when one disembarks and clambers onto an open-air shuttle with a big brass bell. Turns out that the cluster of buildings with the graceful tile roofs is in fact the terminal. Inside are ceramic elephants, elaborate wood carvings, lush gardens, and ground staff proffering free fruit, drinks, and snacks. You can even check your e-mail at a kiosk with a free Internet service. "It's like an extension of my holiday," gushes Canadian passenger Lyn Hikida. "The whole experience is terrific."

In an era when most airlines are cutting perks just to stay aloft, Bangkok Airways' service is positively indulgent. But the approach seems to work. The airline has carved itself a profitable niche serving Thai tourist spots, growing an average of 20% a year since it launched regular service in 1989. Building on its success at home, it now offers service to Cambodia, Laos, and China.

Bangkok Airways is one of several success stories in Southeast Asia, where a handful of small, gutsy airlines are quickly gaining altitude. Barely seven years old, Cebu Pacific Airways claims to have 30% of the Philippines' domestic market. In Malaysia, a former recording executive in December relaunched money-losing Air Asia as a trendy, no-frills operation. In Thailand, other upstarts include PBAir and Air Andaman, while Siem Reap Air has recently taken flight in Cambodia.

The emergence of these challengers comes as national flag carriers struggle to stay in business. Last month, the Malaysian government announced it was taking Malaysia Airlines private and spinning off its money-losing domestic service. Thai Airways International, meanwhile, is grossly undercapitalized, has been without a CEO since last fall, and provides service that even the Thai Prime Minister has said "sucks." Philippine Airlines' international operations are moribund; after all, who wants to fly to a nation with a reputation for lax security?

As these besieged national carriers abandon unprofitable domestic routes, the smaller players are flourishing. With lower overhead, smaller planes, and freedom from the politics that dog flagship airlines, the private fly guys make money on routes where the bigger airlines can't.

It's too soon to say whether the new carriers will keep climbing. But for the time being, Bangkok Airways is doing fine, thank you. Originally barred from competing domestically with Thai Airways, the carrier's founder, former surgeon Prasert Prasarttong-Osoth, devised a novel solution. In 1989, he opened an airport on the island of Koh Samui, helping transform it from a remote backpacking haunt to a premier destination. Today, Bangkok Airways operates as many as 35 flights per day to and from the island despite a relatively high round-trip ticket price of $160.

The concept worked so well that Prasert, 63, built a second airport, at Sukhothai, 440 kilometers north of Bangkok. Opened in 1996, it now functions as a hub for destinations in northern Thailand, Laos, and China. A third airport is due to open later this year in the southeastern province of Trat, directly opposite Koh Trang, an island Prasert deems another Koh Samui. Prasert's strategy is simple: Build the airport, develop the routes, and avoid competition. "We never duplicate routes with other airlines," he says.

Even though Bangkok Air enjoys a monopoly on all its routes, it offers premium service--free espresso and newspapers in the departure lounge, hot meals and wine even on one-hour flights. And yet it makes money, reporting earnings of $2.7 million last year on revenues of $85 million, up 33% from 2000. Prasert expects sales to top $100 million this year. To get there, he is launching in July a $990 airfare-and-hotel package from Bangkok to four UNESCO Heritage sites: Angkor Wat, the ancient Vietnamese capital of Hue, Luang Prabang of Laos, and Sukhothai.

Although the government lifted restrictions on airlines competing with Thai Airways, Bangkok Airways will stick to routes where it is sole operator. "We have no intention of fighting a giant," says Marc Kirner, a company vice-president. With foreign tourists accounting for more than 90% of its business, it hardly needs to.

The Philippines has never been a tourist magnet like Thailand, but that hasn't hurt Cebu Pacific. Founded in 1996, it caters to Filipinos by offering domestic fares up to 15% lower than those offered by PAL. While Cebu Pacific models itself on no-frills Southwest Airlines Co. (LUV ) --no hot food, coach-class only--it appeals to Filipinos by offering such in-flight diversions as karaoke and bingo, and by being punctual. The airline keeps costs down by selling many of its tickets online and operating out of uncongested Cebu City, where delays can be kept to a minimum. Last year, Cebu Pacific carried nearly 1.6 million people, five times more than in 1997, and made $4 million on revenues of $73 million.

One issue for all these carriers is what to do when they have saturated their domestic markets and need to find new customers to grow. Cebu is about to find out. Faced with stagnant growth at home, the airline recently started flying twice daily from Manila to Hong Kong, a route dominated by Cathay Pacific Airways Ltd. To defray the cost of Hong Kong's high airport fees, Cebu is flying larger planes that carry more passengers. It has acquired a Boeing 757, a costly move requiring specially trained pilots and a warehouse of spare parts. It also has added business-class service and hot food, anathema to no-frills carriers.

Industry-watchers say the plan could backfire. "These carriers shouldn't try to go head-to-head with Thai Airways, Malaysian Airlines, or Philippine Airlines," says Tom Ballantyne, chief correspondent of Orient Aviation magazine. "There's no distance in it for them." Cebu's departure from the low-cost concept could even prove fatal. "Either you do it right and stick 100% to the model or you will fail," says Martin Mueller, Singapore-based aviation consultant with McKinsey & Co. Even Lance Y. Gokongwei, Cebu Pacific's president, seems wary. "It's clear that what brought us success domestically was the Southwest formula, and now we are deviating from it in international," he says. "Perhaps I didn't let my own instincts dictate."

The other upstart carriers will be watching Cebu's experiment closely. Some of them vow they will never deviate from the low-cost model, no matter what another carrier does. "We'll always remain true to the gospel of Ryanair (RYAAY ) and Southwest," says Air Asia President Tony Fernandes, 37. To the former Virgin Records Ltd. and Warner Music International exec, cost is a religion. That means no in-flight freebies--not even peanuts or water--though flight crews are encouraged to peddle snacks by keeping a percentage of what they sell. They also are required to disembark passengers and clean the planes at the same time, reducing manpower costs and ensuring a quick turnaround. Being frugal means Air Asia can afford to undercut Malaysia Airlines. For example, it offers a one-way ticket from Kuala Lumpur to the resort of Kinabalu for $39. MAS charges $171 for the same trip.

While Fernandes is determined to emulate Ryanair and Southwest, he also looks to Virgin Atlantic Airways for inspiration on how to create a strong, funky brand. Flight attendants wear polo shirts, dockers, and Ray-Ban sunglasses. In-flight Muzak is out. "There's no Kenny G," jokes Fernandes. "He's taboo." Flying by the seat of your Dockers isn't tough when you have just three planes in the air and a fourth on order. Fernandes' real challenge is to orchestrate sustainable growth. The same goes for Southeast Asia's other fledgling carriers.

By Frederik Balfour in Sukhothai

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