Dear readers,

Earnings calls reveal three types of chief executives. Some barely speak, handing off each question to an underling. Others chime in on every question with a word salad that might sound interesting but shares no new information. Only a select few use earnings calls for something else: a masterclass in airline economics, with nuanced detail about their company and the industry.

Air France-KLM CEO Ben Smith is firmly in the third camp, which might explain why he receives so much positive coverage, particularly from the international and trade press. On the company's earnings call last week, Smith told analysts about upcoming structural changes to Air France's Paris hub to make it more profitable and easier to operate. For nerds like me (and probably you) this is interesting stuff — far better than the usual earnings call drivel.

Smith wants Air France’s Paris hub to work more like London Heathrow and less like Munich. Think about Heathrow’s secret sauce. Yes, if you come from the Americas or Asia, you can connect at Heathrow to almost any city in Europe. But that's not why Heathrow is so profitable for British Airways. During good times, Heathrow is a cash cow because London is a O&D1 market, filled with deep-pocketed business travelers and an endless stream of tourists and other visitors. Add this to a slot system that keeps new entrants out, and you have an unusually strong market.

Paris might be the only other city in Europe with a similar demand profile. But Smith said over time, Air France has come to rely more on connections and a little less on the local market; in 2019, about 50 percent of passengers were connecting. That percentage is probably too high, Smith said, because Paris is a wealthy city with near-endless tourism.

"You will see us reduce the number of connecting customers to focus on higher-yielding customers," he said. "Because of the unique Paris market, we've been able to attract not only business customers, but also something that is very unique and has gone up in a big way, and that's premium leisure."

Operational challenges

Paris Charles de Gaulle wasn't built as a modern connecting hub, so Air France’s focus on connecting passengers has come with operational challenges. Mornings have been particularly challenging, with early arrivals from North America, Africa and Asia that put "enormous pressure" on the airport team, Smith said. Travelers from all those markets — and their bags — need to make connections to flights across Europe.

A380s produced connections Air France didn’t need. Photo: Eric Salard/Flickr

Smith said that crunch in Paris was one of the many reasons Air France-KLM retired its Airbus A380s2 earlier than planned and resisted the urge to bring them out of retirement to meet post-pandemic demand, even as other airlines did exactly that. The A380s were bringing to Paris a lot of lower-yield connecting travelers that the airline didn’t necessarily want.

"When you bring in an A380 — with the exception of peak, peak periods, to fill that plane, you need a lot of connections," Smith said, and with fewer connecting passengers now, the whole process should be a lot more seamless.

Andrew Nocella, United's chief commercial officer, once told me that I should view airline hubs as factories that manufacture connections. By that standard, bigger is usually better, because travelers originating from Los Angeles want to be able to reach every major European, African and Middle Eastern destination through Paris, with short connection times. By leveraging massive scale, Delta built the world's largest (and probably most profitable) airline hub in Atlanta.

But airline CEOs need to play the hand they're dealt. Smith argues Paris is a unique market that will produce better margins with more local travelers. "Local O&D flights usually provide more profit, because you don't have double takeoffs, and double landings, and you don't have the big cost that we have to transfer customers at CDG."

He said the local traffic is a major advantage over Lufthansa Group, with its hubs in less inspiring cities that have less O&D traffic. Amsterdam also might be included in that group, making the city a better place for flow traffic than Paris.

"With the big catchment area of Paris — unlike Frankfurt, unlike Munich, unlike Zurich — we have this tap of or this pool of customers that we believe we can better penetrate and get a larger market share with," Smith said.

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Here are a few other things Smith said that I find interesting:

He remains interested in acquiring Tap Air Portugal but said he's not disappointed to see that ITA, the Italian airline, is moving closer to Lufthansa Group. He likes Tap because it could beef up the group’s offerings in Brazil, but ITA may be more trouble than it's worth. "We have enough to manage in our two other airlines when it comes to labor relations," Smith said.
India demand is booming for a simple reason: U.S. carriers have trouble flying there nonstop because many routes rely on Russia overflight.
Air France-KLM has its own issues with Russia overflight as Europe-to-Asia routes typically fly over Russia. Today, flight times are longer but not more expensive to operate because Russia overflight is so costly. "The charges we were incurring were just astronomical," he said.3
Chinese airlines are returning capacity to Europe without any restrictions on Russia overflights, but Smith said he expects the most loyal — and most profitable — Air France-KLM customers will not defect for a shorter flight time. He said customers on these routes have a "strong preference" for Air France-KLM.
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1

An industry term for origin-and-destination traffic, or people who start or end their journey at Heathrow rather than using it as a connection point.

2

Smith has famously hated the A380 for a lot of reasons — this is just one of them.

3

Governments charge for overflight rights and sometimes it is very expensive.

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