Hub-and-spoke networks play a crucial role in today’s transport of passengers and air cargo over the globe. Other network types play a minor important part these days. Various reasons determined the liberalisation of the aviation market in Europe. Carriers, but also their home governments, are dealing with setting up hub-and-spoke networks after the deregulation in the US with the ultimate goal to gain air traffic. Freedom rights of the air are both multilaterally and bilaterally agreed. Both types of rights are arranged on governmental level. Also air carriers are dealing with mutual agreements in the form of pooling and royalty agreements to obtain more traffic rights and ultimately more traffic to transport. Sometimes agreements reach further and change into acquisitions and alliances.

Alliances lead sometimes to unexpected forms, at least never thought of by the air industry ten years ago, like Lufthansa is buying an equity stake in DHL. This with the intention to have a partner who is aimed at the express parcel and documents market and to extend their market reach. Via DHL, Lufthansa is able to offer time-guaranteed services for the smaller shipments to more destinations in the world. These world-wide destinations are linked via an extensive network of hubs and spokes. Hub-and-spoke networks on itself stimulate the air cargo and passenger market enormously. For the research topic, insight in the air cargo and express market is therefore required to understand how both markets operate, but also to indicate the differences between the combination carriers’ and integrators’ operation. The integrators’ way of operation is an obvious example of how to exploit a hub-and-spoke network for the distribution of small express packages and documents. They meet the requirements of shippers in contrast to the combination carriers. Is the way in which integrators operate, the appropriate manner for combination carriers to start up their own dedicated air cargo hub-and-spoke network?

2.2 Types of network

Three different types of network can be distinguished. The linear, grid and hub-and-spoke network. The pioneer of the latter network was Federal Express Corporation (FedEx), one of the major integrators which mainly delivers express freight. The hub-and spoke system was later adopted by the passenger airlines.

2.2.1 Linear network

The linear network, carries origin-destination traffic on non-stop routes, but also through and local origin and destination traffic on multiple-stop routes (Holloway, 1997, p. 250).

The second network type is the grid network which can be characterised by its short-and-medium-haul flights in mainly domestic markets.

2.2.3 Hub-and-spoke network

The third type of network is the hub-and-spoke network. The main purposes are the precise timing of banks of arriving flights to offer a seamless onward transfer to banks of departing flights and to maximise the number of attainable connections for incoming passengers and to keep at the same time the connecting times within defined and acceptable limits (Holloway, 1997, p. 251). Two major types of hub-and-spoke networks can be discerned, the hourglass and hinterland networks.

Through an hourglass hub, flights come in from one region, are consolidated at the hub and diversified in the opposite direction. A hinterland hub uses spokes, short-haul flights, to feed the hub and consolidate for long-haul routes (Hanlon, 1996, p. 72).

In the literature many definitions of the phenomenon hub, hubbing or hub-and-spoke network have been given, more or less all come down to the same meaning. The below written definitions characterise aforementioned phenomena.

(Ocran, 1984, p. 100)

Spokes and rim airports are the ‘smaller’ airports which are at a short-haul distance of the main airport and have a feeder function for the hub.

The hub-and-spoke networks have become a very important strategic tool in every airlines’ business as well for the transportation of passengers as for air cargo. This can be boosted by the utterances of Mr. Althen, chairman of Lufthansa Cargo.

(Gallacher, 1996, p. 28)

Having explained what a hub-and-spoke network is, the next sections will focus on the ‘origination’ of the hub-and-spoke network in the US and Europe.

2.3 Deregulation and liberalisation

The deregulation and later the liberalisation of the aviation industry in respectively the US and Europe lay the foundation for the birth of the hub-and-spoke networks.

2.3.1 Deregulation in the US

With the Airline Deregulation Act of 1978, signed into law on October 24, airlines in the US were free to develop their own route networks (Bania et al., 1997). Before this period, aviation was strictly regulated by the Civil Aeronautics Board (CAB). In particular the CAB practised tight control over entry, routes and fares during the regulated period of modern air cargo industry (Meyer et al., 1981). For the existing domestic trunk, supplemental and all-cargo airlines, regulation appeared very well during the first two decades (1938 - 1958). The development of domestic and international trade and income growth contributed to the industry’s expansion. Only in the early 1970s the regulation was incapable of adjusting to the geographic shifts in demand, increase in jet fuel and changes in the air cargo services of passengers and commuter air carriers (Carron, 1981). In the mid 1970s, aviation policy began to change in the direction of less government control, because it was recognised that government control had led to inefficient operations by the airlines and to higher-than-necessary fares for the public and shippers. After 1978 airlines began to develop hub-and-spoke networks by acquiring other incumbents following the experiences of FedEx (Taneja, 1989, p. 128).

2.3.2 Liberalisation in Europe

The liberalisation process in Europe can be compared to the deregulation in the US, but in contrast to the US it has been introduced stepwise and relatively slow. In the period from 1987 until 1993 three packages of measures, agreed in 1987, 1990 and 1992, were introduced to liberalise the aviation within Europe. The main issues in the introduced packages were: Fare deregulation and no more market access control (Dodgson, 1994). Since 1993, the third package is running, no distinction is made between international and domestic operations, nor between scheduled and charter operations, nor between passenger and freight operations. Free pricing is allowed by all the airlines but with provisions for the states and/or commission to intervene against exaggerate normal fares or fare dumping. Additionally, airlines have full access to routes inside the EU since 1997.

The main difference with the US is that each national airline is tied up to its own national airport with its outputs subjected to bilateral agreements. This implies that each EU country, with its national air carrier, already operated a radial network (hub-and-spoke network) before the liberalisation process started, because of the small home markets compared to the US. Also the shorter distances within Europe will remain air route density limited as opposed to the US. Due to these shorter distances and high density of road and rail networks, these are more attractive than other transport modes (Berechman and de Wit, 1996).

But this does not prevent European airlines from developing more effective and seamless hub-and-spoke networks, driven by the necessity to reduce operating costs and increase the connectivity of their route networks. This in preparation for further global liberalisation (Cranston, 1996, p. 14) in possible open skies treaties between whole continents. This will give equal opportunities to airlines to transport air cargo and passengers all over the world and offer shippers and passengers a reliable, cost effective and time-guaranteed service.

2.4 The driving forces behind the hub-and-spoke network

The driving forces behind the development of hub-and-spoke networks in the US and Europe differ to a certain extent. In the US the inefficient operations and the higher-than-necessary fares for public and shippers under the regulation regime of the CAB were the motivations for the industry to urge the CAB to deregulate the airline industry. After deregulation of fares, route control and entry of routes, incumbents merged to obtain advantages of more attractive route networks. Also the reaction to new entrants substituted to the development of hub-and-spoke networks. This concentration led to substantial economies of scale and/or scope (Hanlon, 1996, p. 39), an increase in profitability and cost savings for airlines. Other advantages are the increase in city-pair coverage, density of traffic and the becoming of self-sufficient in meeting demand by exploiting a hub-and-spoke network.

When comparing Europe to the US the driving forces behind the development of a hub-and-spoke network are from a different order. The main factor for developing hub-and-spoke networks in Europe is to attract traffic from other countries to become and stay viable, because each country has its national airport and airline with in most cases a too small home base to operate viable.

Viability can be guaranteed by means of closing different types of agreements or different kinds of co-operation with the ultimate goal to attract traffic which is among others needed to be successful in the air cargo industry.

2.5 Freedom rights of the air

After signing the Paris Convention in 1919, in which states agreed on sovereignty rights in the air space above each state territory, direct government intervention became inevitable (Doganis, 1991, p. 26). Gradually an incomplete pattern of bilateral agreements between countries’ airlines were signed to obtain rights to fly to or through their respective countries. Before the second world war was over, 52 states from all over the world came together to ponder about multilateral agreements in three critical aspects of international air transport. One of them is the exchange of traffic rights or the so called ‘freedoms of the air’.

Two other aspects, but of minor importance in this research, are:

• Control of fares and freight tariffs, and;
• the control of frequencies and capacity.

In general, the more bilateral agreements governments could conclude the more traffic for their respective home carriers can be attracted. The underlying concept is reciprocity, of an equal and fair exchange of rights between countries different in size, and with airlines of varied strengths.

2.6 Pooling and royalty agreements between airlines

Besides the governmental multilateral and bilateral agreements, airlines amongst themselves conclude formal or informal agreements. This is most of the time the case in a duopolistic market and when one of the designated airlines is weaker than the other airline. These are called pooling agreements. When a carrier can not get the fifth freedom right under current bilaterals, it can sometimes obtain such rights via paying royalties to an airline of that particular country.

2.6.1 Pooling agreements

A pooling agreement, in case of a weak and strong airline, is a way of guaranteeing a certain share of capacity and revenue for the small airline. In case carriers are of similar strength, pooling is a way of pushing up load factors by removing frequency competition (Doganis, 1991, p. 30).

Two main types of pooling agreements are:

• Revenue-cost, and;
• revenue-share.

The effect of all pooling agreements is to reduce the freedom of action of the airlines involved and to soften any competitive tendencies.

2.6.1.1 Revenue-cost pooling agreement

In a revenue-cost pool, the traffic for a two-airline operation is not enough. Both airlines agree that only one of them is operating this particular service on behalf of all the airlines in the pool and that the costs and revenues are equally shared on a pre-arranged basis. For example the agreement between Japanese Airlines (JAL) and Qantas on the Cairns - Tokyo route launched in 1986, on which Qantas operated the service and both costs and revenues were shared (Doganis, 1991, p. 31).

2.6.1.2 Revenue-share pooling agreement

A revenue-sharing pool is an agreement in which all revenues on a route or sector are shared by the participants in proportion to the capacity they offer on the route (Doganis, 1991, p. 31).

2.6.2 Royalty agreement

A royalty agreement is obtaining fifth freedom rights by paying royalties to the concerning airline. But the concept of the sixth freedom right, which is rarely arranged in bilaterals, involves the carriage of traffic between two points, between which an airline does not have fifth freedom rights, by the use of two sets of third and fourth freedom rights (Doganis, 1991, p. 34). When using these two sets of rights, some kind of fifth freedom originates. This gives the concerning airline the right to carry traffic between two foreign countries.

2.7 Acquisitions and alliances

Alliances cover many areas e.g. joint sales and marketing, joint passenger and cargo flights, codesharing, block spacing, etc. But the utmost strategic objectives of concluding an alliance are traffic feed and access to new markets. Unlike the past when agreements were more horizontal in nature, like the revenue-cost and revenue-share pooling agreements, the alliances now have something of a more vertical nature in them. Partners are now supplying each other with traffic instead (Hanlon, 1996, p. 205). For example KLM and Northwest Airlines complement each other with feeding traffic into each others networks, from areas where the one is present and the other is not.

In general, major airlines operating trunk routes seek alliances with small regional airlines flying short haul routes and international airlines without eight freedom rights seek airlines which have access to large domestic markets in foreign countries. Airlines which are only present in one part of the world seek partners which are dominant on other continents.

The proliferation of alliances can also be accounted for the globalisation of industries and markets that requires interfirm collaboration, as opposed to the establishment of global enterprises (Hanlon, 1996, p. 207). Ohmea states:

"Globalisation mandates alliances, makes them absolutely essential to strategy".(Ohmea, 1993)

From a study performed by Hagedoorn (1993) appears that two reasons come to the fore why firms join alliances:

• Technology motives, and:
• market access and/or influencing the market structure.

Motives of airlines to seek alliances are not only of technological nature, but more seeking economies of scope by extending their networks. The best positioned airlines will have the most extensive global networks. The connection between domestic and international services is the most important marketing objective of alliances. Through forming alliances it is possible to fit two international services and to accommodate fast links at hub airports.

The international air cargo and express market are mainly characterised by an ‘allianced’ or co-operating web of companies to link international markets together and to offer the best service to their customers. But what is the international air cargo and express market exactly? Are there differences in the operation of combination carriers and integrators? Can combination carriers learn from the experiences of integrators in the set up of a future dedicated air cargo hub-and-spoke network?

2.8 The international air cargo market

Air cargo can be defined in various ways, but all come down to the same meaning. Ocran (p. 6) defines air cargo as:

O’Conner describes air cargo as follows:

Finally Banfe specifies air cargo as:

Banfe’s definition of air cargo is not up to date anymore, because the express market booms and the forecast for the year 2015 indicates that international express will have a market share of around 37 per cent of total air cargo RTKs flown (Internet, Boeing World Air Cargo Forecast 1998).

Express is a part of general air cargo and can be divided up into three broad sectors: Documents, parcels and door-to-door freight.

One of the characteristics of air cargo is that it is heterogeneous according to shape, size, density and weight. This affects both the storability in the aircraft and ground handling.

The imbalance in flows of air cargo is another characteristic. The greatest part of air cargo only flies in one direction as opposed to passengers who mainly make round trips. Where passengers want to go is not always where the cargo is needed (Noble, 1995, p. 58). On major freight routes it is common to find that the traffic in the densest direction is twice or almost twice as great as in the reverse direction, as in the case on the Hong Kong to Frankfurt route (Doganis, 1991, p. 327). This is aggravated by offering lower prices on the thinner direction and compensated with higher prices on the back-haul route.

Another characteristic is intense competition from other modes of transportation. But the most important attractiveness of air transport is its speed. The decision on transportation mode is a trade-off between several criteria including time, cost and risk of loss and damage (Chan, 1994, p. 8).

The profitability of air cargo is highly dependent on the unit yields (revenues), unit costs and load factors. Load factors or the revenue load factors contribute to the profitability of an airline.

Besides aforementioned characteristics, the following phenomena are distinguished:

2.8.2 Categorisation of air cargo

During the period of literature review it appeared that authors tend to categorise air cargo differently. See table 2.2.

In almost all the classifications used, appears the division in emergency, routine (perishables and non-perishables) and traffic that can be diverted. Actually there is no single way of classifying that is acceptable to all.

2.8.2.1 Emergency cargo

Emergency freight is highly sensitive to time, which implies a significant opportunity cost for the receiver if the freight is not available or delivered on time (Taneja, 1989, p. 191). This can be spare parts for machinery, medicinal equipment, but also since the last three decades documents, like business contracts, legal papers, computer disks and many others of this kind. These shipments are best handled by express parcel operators and the express couriers providing courier accompanied services (Doganis, 1991, p. 322) by exploiting their large hub-and-spoke networks. The point to make use of these networks is that point-to-point flying is too costly for a small number of emergency packages. They are consolidated in the hubs flown to another hub, sorted and distributed to the end user. In most cases the most important characteristics of emergency freight is that it is:

• Not planned, and;
• from the viewpoint of the consignee, the cost of transportation is small in relation to the opportunity cost of not receiving the goods as quickly as possible (Taneja, 1989, p. 191).

2.8.2.2 Routine cargo

Routine cargo differs from emergency cargo, because it is planned, though still time-sensitive and the price for transportation is not the prime reason for choosing a transport mode. The decision on transportation mode is based on demand and service factors.

Routine cargo can be divided in perishable and non-perishable freight. The perishability can be physical, like fish, fruit or vegetables or related to the products’ demand like fashion and magazines.

Unlike perishables, non-perishables like general, heavy and special freight are relatively more cost-sensitive. Although when shipped by air, the higher transport costs are more than the offset by saving in other elements of distribution costs. Savings can also occur in other areas whereas the inventory costs are enormously reduced, because when shipping by air the goods are not long in transit anymore, which reduces the inventory costs. Re-examining logistic chains with the aim of reducing their stock-holding to a minimum has led to the "Just In Time" (JIT)-concept. Air freighting is particular suitable for JIT logistics chains because of its speed and its independability (Doganis, 1991, p. 324).

1. 2.8.2.3 Cargo that can be diverted

Cargo that can be diverted from trucks and ships to the air mode is less time-sensitive, although more price-sensitive than aforementioned two types of cargoes. For the cargo which is diverted to air transport, either the total costs for using the air system must be less than the total costs for other distribution modes, or the shipper, consignee, must perceive some other significant competitive advantages in air shipment that must be converted into increased profits (Taneja, 1989, p. 192).

In general, two main factors stimulate air cargo growth, these are: Market development and technical development. These can be subdivided in several sub-factors. Market development is concerned with global and regional Gross Domestic Product (GDP) growth, which causes on its own 2/3 of total traffic growth. Air cargo is an indicator of wider economic trends, such as showing the way into and out of recession. Boeing forecasts airfreight growth with the following equation:

The equation implies that 1 per cent growth of GDP results in a rise in revenue tonne-kilometres of 2.54 per cent.

Refrained from GDP growth, three other major aspects cause the market development: Reduction of fares as costs decline, improvement of service offerings as routes and frequencies are added and an increase in globalisation and trade. It is indicated that the latter factor contributes for 1.5 per cent to air travel growth for each 1 per cent growth of GDP which is devoted to international trade (Internet, Boeing World Air Cargo Forecast 1998).

Another factor which is responsible for the market development is the sensitivity for costs of other transport modes.

Technical development is caused by a dedicated freight aircraft design and ground handling. The redesign of passenger aeroplanes to a wider body and nose loading such as the Boeing 747 has led to meet the shipper needs, because this type of aeroplane can handle almost 90 per cent of all the cargo size which is offered.

Still, the cargo handling needs more improvement. A combined Cargo 2000 and Unisys study concluded that the average door-to-door time is 6.3 days for loose and transhipment cargo. This shows that cargo spends less than 10 per cent in the air and more than 90 per cent on the ground. Nothing really changed compared to almost 25 years ago. At that time the International Air Transport Association (IATA) which carried out such a similar research came to the same results. Although there may be hope for better times, because of the introduction of the electronic air waybill since the 14^th of June 1998. From that day on more than 40 countries signed the Montreal Protocol 4. This states:

This means, the air waybill (AWB) is exiled by these countries (Airtrade, July 1998, p. 28). This speeds up the administrative process.

The use of Electronic Data Interchange (EDI), Enterprise Resource Planning (ERP) packages and the introduction of Internet which make tracking and tracing facilities possible, gives the shipper and consignee the exact information where the shipment is and when it is scheduled for arrival. This enhances the communication between all parties and reduces waiting times for picking up the shipment.

2.8.4 Combination carriers

2.9 The international express market

The international express market is subject to continuous growth. This international increase mirrors the express industry's enormous success in the USA. The market share in 1977 amounted for four per cent. From that year on a growth of, on average 25 per cent annually, resulted in a US domestic market share of the express market of about 60 per cent nowadays. The international express market accounts now for five per cent and with an expected growth of 18 per cent annually until the year 2015 a market share of approximately 37 per cent will be reached (Internet, Boeing World Air Cargo Forecast 1998). This against a projected average growth of air cargo of 6.6 per cent until the year 2015.

The growth of integrators will take a high fly, but not as high as expected as in the US, because among others combination carriers are aware of the success of the integrators (Internet, Boeing World Air Cargo Forecast 1998). Airlines, combination and/or all cargo carriers, started with offering time-definite express services, not only for express, but also for freight. A good example is Lufthansa which introduced from the 1 April 1998 time-definite services in three time-specific categories, namely td. Pro, td. X and td. Flash (Worldtrade, May 1998).

According to Althen, chairman of the executive board of Lufthansa Cargo:

Integrators offer an all-in-one door-to-door intermodal service involving pick up, transportation, brokerage and delivery of express cargo.

Globally seen there are four major integrators, known as the ‘big four’. These are:

• Federal Express Corporation
• United Parcel Service (UPS)
• TNT Express Worldwide
• DHL Worldwide Express

They have specialised from their originating moment in the carriage of express.

The last few years integrators have moved towards carrying heavier freight as well. In the journal ‘Airtrade’ of December/January 1998 was stated:

"DHL has renewed its effort to get a larger share of the heavy freight business. DHL broadened the scope of its services by introducing WorldFreight, a time-definite, international service for shipments over 220 pounds."

(Airtrade December/January 1998)

The four big integrators dominate the carriage of express by land as well as the international air express market. Intensive hub-and-spoke networks serve the world. Nowadays the big four are flying their own operated fleet of aeroplanes, except TNT and other smaller express operators, who mainly use the world-wide cargo capacity from other carriers.

*

Unknown

The majority of statistics on the integrators differ from the combination carriers, because the same data as combination carriers could not be found.

2.9.2 Critical success factors and strengths of the integrated express services

The services offered by integrators have several success factors and strengths.

The success factors are:

• Accessibility of services;
• reliability;
• quality, by making use of time-definite and value added services, and;
• standardisation of offered services.

The strengths of the integrators are:

• Single company control of shipment;
• low unit costs;
• track and trace facilities for customers by making use of Internet, EDI, and;
• a wide customer base and operate door-to-door, on a time controlled base.

2.9.3 Features differentiating express from freight

A few aspects differentiate express from freight.

The marketing of the express market has a more emphasis on the buyers side than the freight market does. Although combination carriers among others now recognise the need for more publicity for their products and try to build a close relationship with customers to their needs.

Another aspect is the night operations carried out by the express operators which consist of transportation and sorting of express required for next day deliveries. This requires quiet and reliable aircraft and results in a low utilisation of aircraft. By means of deploying high cost new aircraft to longer ranged missions, while lower capital cost freighters are deployed on short and low utilisation missions, integrators try to diminish the low utilisation rate (Ouzounian, 1998).

The integrators also exploit dedicated freighters and sorting facilities. The advantage is that all-freighters can give better scheduling to the services offered, compared to the belly-hold capacity of passenger aircrafts. Additionally higher direct operating costs are the result. This means that economies of scale are important to the express operators. Economies of scale are achieved by matching demand for certain products at specific times, by making use of their hubs and of course the frequency flown on the hubs.

Finally, express is more susceptible to electronic mail, internet and the fax as opposed to freight which is impossible to send by aforementioned media.

2.9.4 The integrators’ international operation

Integrators make use of their extended system of air hubs which are located all around the world. During day time integrators mainly use their ground and air feeder network to feed their main hubs with express parcels and documents. These are sorted and loaded into aircrafts and by midnight all these aircrafts fly to their destinations all around the world. The same process repeats itself, but then in the opposite direction, to finally deliver the parcels and documents to the ultimate customer within the guaranteed delivery time.