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Mexico Discovers Low-Cost Airlines Government Authorizes 5 Budget Carriers to Start Services

Posted on: Wednesday, 10 August 2005, 12:00 CDT

Though low-cost air carriers from India to Central Europe to Brazil have begun to democratize flying, it seemed that life went on as usual in Mexico.

For a decade, the Mexican government has had a virtual lock on domestic air travel through two state-owned airlines. Fares have been kept high enough that only the well-off could afford to fly, condemning the poor to interminable bus rides.

That is about to change. The government is selling the two national airlines, Aeromexico and Mexicana, this year, offering them separately to create competition between them for the first time in more than a decade. It is also authorizing as many as five budget airlines to begin operations, which should open air travel to millions of Mexicans.

The shake-up in the industry has attracted the telecommunications mogul Carlos Slim Helu, one of the world's richest men, whose Banco Inbursa announced two weeks ago that it would invest in a start-up budget airline called Vuela ("fly" in Spanish). And as Slim's reputation for spotting profitable business opportunities is legendary here, his word was taken as received wisdom that budget airlines would soon thrive in Mexico.

The demand is certainly there. Mexicans make more than 55 million trips inside the country by luxury, long-distance bus, but only about 18 million by plane. They also make about 2.25 billion trips in less comfortable buses, but few of those passengers are likely to switch to air travel in the near future.

Competition and lower fares could increase air travel by 15 million trips a year, officials estimate.

Still, a lot has to happen first. To start with, the government needs to sell the airlines in the face of new low-cost competition. Andres Conesa, the chairman of Cintra, the airlines' holding company, says competition will not keep bidders away from the two flag carriers.

"We are prepared to compete," said Conesa, a former Finance Ministry official who took over at Cintra last December and who plans to remain with the airlines until they are sold. In a recent interview, he argued that the rush to invest in budget airlines was a sign that the market could support several more competitors. "If this did not have a future, there would not be so many businessmen interested in it," he said.

One of the new investors is a Brazilian low-cost carrier, Gol Linhas Aereas Inteligentes, which has about a quarter of the Brazilian market after only four years. Gol grew using the low-cost model of carriers like Southwest Airlines in the United States and Ryanair in Europe, which use their planes more efficiently, making quicker turnarounds that allow them to log more flight time than traditional carriers.

"Obviously, there is going to be fierce competition," said Fernando Chico Pardo, a prominent Mexican investor who is Gol's local partner. He predicted that this competition would increase the air travel market in Mexico even more quickly than in Brazil, though ultimately only a couple of the budget airlines would be left. "Everybody is really going to go after these people with advertising, publicity and marketing," he said, referring to prospective new passengers.

Cintra has a head start on the competition. It introduced its own low-cost airline, Click, in July. Click's round-trip fare between Mexico City and the beach destination of Ixtapa-Zihuatanejo, a distance of about 480 kilometers, or 300 miles, is about $230, compared with $463 on Aeromexico and Mexicana

Click will be sold as a package with Mexicana. Aeromexico is being sold with a regional carrier, Aerolitoral. Cintra will let bidders know in several weeks whether they qualify, and Conesa hopes to receive offers by the first week of November. Foreign investors are limited by law to 25 percent stakes in each airline.

Getting Aeromexico and Mexicana into shape for a sale has been a long project. The government took them over in 1995 after fare wars and mismanagement had forced both into bankruptcy-court protection. Between them, they now have about two-thirds of the domestic market and the power to set prices. But even without much competition, they did not break even until last year, when Cintra reported a profit of $51.4 million

Rising fuel prices have made it harder for Cintra this year, but it managed a profit of $6.2 million in the first half

Conesa said that to end the losses, the airlines reduced excess capacity and eliminated duplicate flights on many routes. New planes reduced fuel consumption, and he expects to save $50 million this year on other costs like purchasing, information technology and insurance.

Given the growing air traffic between the United States and Mexico, the industry had long expected a U.S. carrier to take an interest in the privatization. But, struggling themselves, no airline north of the border has publicly expressed interest.

Only Iberia, the Spanish carrier, has said it intended to bid.

Robert Mann, an independent airline analyst in Port Washington, New York, said the emerging competition in the Mexican market would make it harder to sell the airlines. "No third-party capital provider is going to pay a lot for these guys because of the natural competition between them and the low-cost carriers," he said.

Mexican airline unions are also worried that the new competition could drive off buyers and end in a repetition of the fare wars of the early 1990s. The Communications Ministry "is handing out concessions left, right and center," said Jorge Sunderland, the spokesman for the pilots' union. "We understand that there should be competition, but we should reorganize first and then allow the new players in."

But others argue that Aeromexico and Mexicana, which have reputations for good service and punctuality, have strengths that will make them attractive to investors. They also have a coveted asset that the new budget carriers, with the exception of Click, will not be able to match: landing slots at Mexico City's crowded airport.

The low-cost start-ups will be largely relegated to an airport about an hour's drive from Mexico City's western suburbs in Toluca. The authorities have long tried to promote Toluca as an alternative to ease congestion in the capital.

"The road infrastructure is very insufficient" in many parts of Mexico, said Frank Aguado, a spokesman for Banco Inbursa, which is investing $25 million in Vuela. "There are no trains. The bus takes a very long time. There's a need for air travel, but it is very expensive."

Vuela will start with $100 million, contributed in equal parts by Inbursa, Slim's bank; Grupo Taca, a Salvadoran airline group; the private equity fund Discovery Americas I; and Grupo Televisa, the Mexican media conglomerate. The airline, which will aim for business travelers, expects to start service in the first half of 2006.

Miguel Aleman, the grandson of a former president of Mexico, is planning to start another carrier from Toluca, Interjet ABC, by the end of this year. Two other ventures, A Volar and Aerolineas Mesoamericanas, are also being introduced by Mexican investors.

Source: International Herald Tribune

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