David's Harp / Israel With Open Skies and Without El Al

Liberalizing aviation will certainly bring more tourists, but don't assume the national carrier will be around to enjoy it.

Can you imagine Israel without El Al? As a national icon, it stands beside Tnuva cottage cheese, drip irrigation and Bar Refaeli as a source of identity and pride. The airline brings a little bit of Israel to its countrymen in far-away places with the battery of intrusive questions at check-in ("Did you pack your own bags?"), passengers wandering into business class to look for a friend they know is on the flight, the ad hoc minyans in the aisles and the applause that breaks out when the plane touches the tarmac.

But this week's cabinet decision to open up the aviation market to more competition under the Open Skies accord with the European Union is fatal for El Al as we know it.

The critics are right to portray the Israeli aviation market as a relic from the era of heavy-handed government regulation and big union, all presided over by sclerotic management. When El Al CEO Eliezer Shkedi says he is not opposed to competition but that he needs more time to get ready or that El Al is a national security asset that flies in times of war, it rings hollow. He isn't wrong about flying when missiles are too, alas, but in the debate over Open Skies, Shkedi's utterances sound like the last refuges of a monopolist.

Against that, there has been a lot of talk this week about the beauties of unfettered competition. It will lower airfares, add flights and improve service, thereby attracting more tourists and creating more jobs at hotels, restaurants and in the knick-knack industry. El Al, which was privatized in 2003, may lose market share but it will have a bigger market. In the meantime, it just needs to streamline itself.

That gauzy vision is from the free-market playbook about visionary entrepreneurs who build thriving, ever-growing businesses that hire more and more workers, and create limitless prosperity for all.

But, of course, in the real world the free market has losers, too. Not all entrepreneurs are visionary and some of the ones who are actualize their vision by cutting costs and destroying industries (creatively, of course).

Let's be honest, if they are going to emerge at all, El Al and its smaller rivals Israir and Arkia aren't going to necessarily emerge stronger from Open Skies.

A bloated workforce flying moldy jets

Right now, El Al is not in a position to compete. It operates an aging fleet of jets that are fuel inefficient at a time of high and unpredictable energy prices. Its workforce is bloated.

The German low-cost Air Berlin carrier, for instance, operates 155 planes with 9,300 employees. El Al runs 40 planes with a staff of 5,780.

El Al's method of operation is not conducive to competing with more efficient carriers. Departure times and the type of aircraft used on the same route vary from day to day, which deters business travelers who fly frequently, pay dearly and want consistent service.

Unlike its rivals, El Al loses one out of every seven days of business because it doesn't fly on Shabbat. Its home market is tiny, with no domestic segment to speak of. Its entire business can come crashing down in a matter of days by a war or a terror attack. Its jets can't overfly most of the Arab world, forcing it to take longer and costlier routes to many destinations.

Changing all this will require time (which El Al has because the Open Skies agreement gives it five years till the full brunt of competition hits), money (which it doesn't have: El Al, which has averaged $114 million a year in cash flow over the past three years, has $340 in debt coming due over the coming three years) and excellent management (which it has never had).

The government has helped solved some of the money issue by undertaking to cover nearly all of the Israeli airlines' heavy security costs. Also, FIMI, the private equity fund that  had planned to buy a controlling stake in El Al before the Open Skies business but hasn't yet completed the deal, may also help some of El  al's cash woes. But the fact is El Al will have trouble financing an upgrade of its existing fleet, much less expanding and improving it to meet an onrush of tourists from Open Skies.

But an even bigger hurdle for the carrier is executing a new business strategy.

Loyal followers who don't matter much

As the skies open, El Al will be squeezed on the bottom end of the market by low-cost carriers like easyJet and Air Berlin, which have huge fleets, rock-bottom costs and flexible labor practices. At the top end, it will likely lose business passengers to the blue-chip European carriers that offer more destinations, consistent service and better creature comforts. El Al can count of its Haredi clientele to remain loyal – so long as it imposes on itself the extra costs on itself of not flying on Shabbat and holidays -- but that's a small market.

One solution would be for El Al to go the discount route as have many European airlines. According to a study published last month by Airline Disclosures Handbook, the euro-carriers have done this not by cutting wages (which unions have fought tooth and nail) but by doing things like charging for baggage, in-flight meals, window seats and throwing frills like in-flight magazines overboard.

The other way is to go Gulf by mimicking airlines like Dubai-based Emirates and others that are serving the burgeoning Europe-Asian air corridor.

It's a tempting target: Traffic volume between Europe and Asia is growing by 7%, and that routed through the Middle East by 20% between 2011 and 2012, according to a report last week by the travel consulting group Amadeus. The three Gulf airports in Doha, Abu Dhabi and Dubai now serve about 15% of all air traffic going from Asia to Europe, it estimates.

The catch with either of these strategies is that they demand an unusually talented and dynamic management team, attuned to changes in the market and flexible enough to adapt to them. From the workforce, they require disciplined organization and/or attention to service, two qualities Israelis have never excelled at.

In the low-cost market, El Al could be competing with industry veterans who know the business inside out. The Hungarian carrier Malev collapsed last year under the pressure. On the other hand, if El Al were to try and complete on the Asia-Europe route it would be going up against carriers whose governments see aviation as a national priority are investing billions in their airlines and massive state-of-the-art airports.

The free marketers, of course, are right. Airfares will be cheaper and hotels will fill up. But for El Al, Open Skies looks pretty gray.

Reuters