Azul Airlines

The Story of Azul Airlines and David Neeleman

CCC Final Case, Tue-Thus 11:20, Box 567

Chandrasekaran, Larson, McCready, Modi, Pavanelo

Introduction It was late February in Sao Paulo, Brazil. As the entire country was

recovering from another great Carnaval week, David Neeleman, a serial

entrepreneur, sat back in his chair at his office to reflect the successes and

challenges from the last two years in his quest to launch a low-cost airline in

a market that had never hosted such an endeavor. As Neeleman stared into

fizzing cup of Guarana, his thoughts revolved around such questions as:

What strategies have worked so far in Brazil? What didn't work? How could

cross-cultural issues of running an American low cost airline in Brazil be

better handled? How can he ensure that the low-cost model continues to

grow?

The bubbles and smell from the Guarana was stimulating his right brain as

he lost himself in thought.

Who is David Neeleman?

David Neeleman,former CEO of JetBlue and now CEO of Brazilian Azul

Airlines, has been tied to Brazil and the airline industry practically since

birth. He was born in Brazil to American Latter-Day Saints (LDS) parents

because his father was working in Brazil at the time. His large family, which

included eight children, soon moved back to Salt Lake City, Utah. The family

no doubt proved beneficial to Neeleman’s future as an entrepreneur and

successful businessman. It is said that he was first attracted to aviation

when his parents placed a red airplane on his second birthday cake.

Neeleman’s future seemed to be on an interesting path of an energetic,

disciplined young man with an affliction to the aviation industry.




Upon his high school graduation from Brighton High School in Cottonwood

Heights, Utah, Neeleman followed many LDS adolescents and attended the

nearby University of Utah. After two years at Utah, his LDS faith again led

him to Brazil for missionary work. Neeleman served in his birth town of Sao

Paolo, Brazil. It was then that Neeleman found his love for the Brazilian

people and their whole-hearted way of life. Neeleman returned to the

University of Utah with a desire to again return to Brazil one day. After only

one more year at the University of Utah, Neeleman dropped out and sought

a job in the airline industry.

His first job was Customer Service Director for a start-up charter airline

called Morris Air. Morris Air was started by a wealthy businesswoman, June

Morris, who needed expertise and entrepreneurship, like Neeleman offered,

to make her airline a success. Although he lacked a college degree,

Neeleman soon moved into a leadership position at Morris Air. From 1984-

1988 Neeleman served as an Executive Vice President of Sales and Customer

Service. By 1988, he was President of the airline and was turning the airline

into a huge success. In 1993, Morris Air was acquired by Southwest Airlines

for $130 million. Neeleman earned $20 million from the acquisition. After

the acquisition, Neeleman stayed on with Southwest for to serve on their

Executive Planning Committee. During this critical time in his career, he was

able to see the blue print and the way that Southwest Airlines operated. It

was this experience and his new fortune that would continue to fuel his

successes as an entrepreneur in the airline industry.

For the rest of the 1990’s, Neeleman would work to build a new online touch

screen start-up company called Open Skies. His obvious appreciation of how

technology positively affected the airline industry was evident in his ability to

turn Open Skies into a large player in the booking and check-in portion. In




1999, Hewlett Packard acquired Open Skies and Neeleman again faced the

challenge of starting something from scratch. It was at this time that he

worked to form the beginnings of JetBlue.

JetBlue Days

As Neeleman set out to establish a new airline, his goal was to take the

popular and successful Southwest airline model, but add his own touch to the

airline. Neeleman was able to generate an enormous amount of venture

capital to help add the luxury touch he desired when forming JetBlue.

JetBlue began operations in 2000 and was able to secure a home location at

John F. Kennedy International Airport in New York City. At first Neeleman’s

goal was “to bring humanity back to air travel.” With this motto in place,

Neeleman was off and running towards his goal of building a better

mousetrap, or airline in this case.

On February of 2000, JetBlue flew its first flight from JFK to Fort Lauderdale,

Florida. The flight cost just $79, one-way. A week later, they opened their

second route, a flight to Buffalo from JFK for $49 each way. By the end of

2000, the airline offered routes to ten destinations. The company's strategy

was to fly point to point, avoiding major city airports to keep their costs

lower. Their continued success seemed to take the best parts of Southwest

Airlines with Neeleman’s touch. For example, to save money, the 300 call

center employees responsible for taking reservations were allowed to work

from home.

Neeleman’s technological influence pushed JetBlue’s online booking option,

which now resulted in 40 percent of their business. JetBlue’s low-fare airline,

much like Southwest, but luxury flight experience kept passengers coming

back. JetBlue offered their customers leather seats, more legroom, large




overhead bins and televisions with satellite connections for each individual.

Passengers were able to enjoy a low cost flight with the luxuries of most

airlines first class section. This model would prove to be an enormous

success in the US market.

After a February 2007 winter storm related incident, David Neeleman was

ousted from JetBlue. And yet again, he was left with the challenge of starting

over.

Azul Airlines

Neeleman’s departure from JetBlue sent him on a conquest. He would move

on to combine his love of aviation, entrepreneurship, and Brazil and attempt

to take his JetBlue “mousetrap” to Brazil, a never before attempted

challenge by an American businessman.

Azul Linhas Aereas was established on May 5th, 2008. The airline is based in

Barueri, Brazil and began operations on December 15th, 2008. After only

year of operations, the airline ranked fourth in domestic market share

(4.16%). The airline first offered initial routes to Campinas, Salvador, and

Porto Alegre. As of the end of January 2010, the Azul fleet is composed of

fourteen Embraer jets, flying twenty routes to sixteen cities. Azul plans on

adding seven more aircraft in 2010.

Azul employs the same philosophy as Neeleman did with JetBlue in the

United States. They focus on smaller airports and cities that people are not

as accustomed to flying to. Much of their customer base is made up of first

time flyers. Azul touts the highest percentage of seats sold of any Brazilian

airline at 85%. They continue to tap into the expanding middle class within

Brazil. It was the first airline on record to have two million passengers in its




first twelve months of operations. Azul is estimated to turn their first full

year profit in 2010.

Brazilian Industry & Cultural Background The Brazilian Airline Industry

Entering the Brazilian airline industry would pose several challenges for

Neeleman, but seemed to be ripe for innovation. Despite lingering

infrastructure problems, the Brazilian Airline Industry made a comeback in

2008, growing 19% over the previous year. This exceptional performance is

explained by a booming Brazilian economy, increased competition, and

excess capacity in the country’s airports. The Brazilian transportation market

is expected to reach sales of 30 billion USD by 2013, which translates to

growth of 27% between 2008 and 2013.

The challenges that Azul had to overcome to successfully enter the market

were many, and it seemed that an American CEO would not have the

business knowledge and connections to make such an innovative model

work in Brazil. The differences between the American and Brazilian industry

were the following:

1. Low-cost model: This model had not been attempted in Brazil before,

and was targeting a consumer market that had not been considered by

other airlines. By not focusing on Brazil's elite and focusing on middle

and lower middle class, they were taking a big risk.

2. Operations: The American model was extremely different than

Brazilian airlines in that the American model focused on empowering

their employees and building trust by close relations between the top

executives all the way down the food chain. How would those

employees on the lower end react to this change in power distance?




3. Bribes: Most of the time, competitors pay bribes to Infraero, the

Brazilian airport authority, employees to keep new entrants out of the

main airports.

4. Corruption: The government requires bribes and actively complicates

business operations for non Brazilians who wish to start business in

Brazil. Unfamiliarity with these unspoken laws poses as a major barrier

to entry.

5. Security: In July 2007, an aircraft from TAM Airlines crashed killing 199

passengers due to a lack of maintenance of the Congonhas airport

runway. Due to the lack of alternative airports the maintenance was

postponed to keep the flow of flights at maximum capacity. This lack

of attention to security in Brazil would affect the airline's ability to

ensure passenger safety.

6. Fuel: Fuel for this industry is highly taxed by the Brazilian government.

In many cases the price per liter can be 20% higher or more than other

countries as a result of such taxation.

7. Taxes: Any company that wants to participate in the market will pay

more than 100 different types of taxes to federal, state, and local

governments. Another issue is the cascade effect. Companies face

double, or even triple taxation which makes this industry less

competitive in Brazil than in many other countries.

8. Customs: Many airlines have trouble getting last minute equipment for

unexpectet repairs to its aircraft. This is because equipment can spend

days, or even weeks, in Customs waiting for simple stamps. The many

steps needed to release the equipment delay maintenance and

decrease revenue.

9. Financing: It may seem unbelievable, but it is actually cheaper for a

company operating in Brazil to lease an aircraft outside the country. In

Azul’s case, it flies Embraer planes made in Brazil, and, because of the




high taxes, it is still cheaper to lease them from the US and bring the

aircraft to Brazil.

10. Aiports: Infraero administers a total of 67 airports. Due to this

government control it can take months to get all approvals for a new

flight in any one of these airports.

The Brazilian Business Culture

Brazil was a Portuguese colony from the 1500 to around 1830. It was from

the Portuguese the Brazilians inherited massive bureaucracy. This

bureaucracy can make more opportunties ‘interesting’, but gives Brazil a

huge disadvantage in terms of doing business. The steps to start a new

typical business venture in the US can take a matter of days, but in Brazil to

open a similar business will never take less than a month and requires a

couple of months to get all the licenses to begin operating. Another big

issue is corruption. Attempting to do business without bribes significantly

delays the process. This situation has changed in the last few years but is

still an issue that national and international entrepreneurs have to deal with.

It is also worth mentioning typical business practice for Brazilian top

executives. They lead from the top of their ivory tower. They command

respect from all employees below them. And they most certainly enjoy

eating the finest food, private jets and helicopters, and exclusivity. Being

born into the right family and knowing the right people is everything for the

Brazilian executive, especially in the airline business.

Multicultural Challenges




In the airline industry, the way of doing business is much more based on

relationships with the right officials in order to get government and business

approvals in a short time. For example, if you have relationship with the

Infraero’s president, your company can start operating in the airports faster.

If the company does not have relationship it can hire a third person as a

“consultant” and get all approvals by paying the consultant to use their

influence. This type of business practice is not the case in the US.

In an interview with Neeleman, the journalist asked how he would deal with

the corruption in the government to get all approvals to start Azul Linhas

Aereas. He answered, “I do not see any corruption in Brazil’s government

sector, so I do not need to worry about this issue.” This was a clear message

that he would not tolerate any illegal deal to take advantage for his

company. On the other hand, Neeleman hired Adalberto Febeliano, not as a

third party, but as the director of institutional relations to deal with

government issues. Febeliano was the president of the Brazilian Aviation

Association (ABAG) and had excellent relationships with the federal

authorities.

New Business Model

Neeleman has been criticized by specialists on the viability of his business

model for Brazilian Aviation Industry. Neeleman's model is based on point to

point flights between medium and big cities without using hubs. This model

is a success in other companies as RYAN Air in Europe. Even Neeleman’s

former company, JetBlue, used JFK airport as a hub for its flights. This

business model was new in Brazil and no other company had tried it before.

He discovered that to succeed in this model Azul only needed to achieve a




50%-55% utilization rate, or the equivalent of 60 passengers on each flight,

to cover operational costs. Its Embraer 195s and 190s have 118 and 106

seats respectively, while aircraft from Brazilians competitors, TAM and GOL,

range from 144 to 180 seats.

Azul also focused on a new market segment, lower income travelers in

smaller cities, as well as business travelers. This target meant that they

would have to entice travelers who didn't have means of getting to an airport

and preferred taking a long bus ride instead of catching a plane. This market

was significantly different from the US market, which had plenty of people

who were eager to spend their disposable income on vacation and travel.

Neeleman adjusted his model to appeal to the segment by providing their

customers with bus service from remote towns to the airports, which helped

to change the Brazilian mentality around travel. Also, Azul offered restricted

fares at bus prices to these low-budget leisure travelers who book ahead;

and provided services like leather seats and TVs to attract business travelers

who buy expensive tickets at the last minute and flies direct routes to

secondary airports opening new markets.

Neeleman's Central Issues

Why Neeleman left the US markets:

JetBlue Airways was created for one purpose: to provide low cost American

flights with superior concentration on customer service. JetBlue’s most

valuable differentiation between all other airlines, to place the customer first

and above anything else. And on one stormy day in February 2007, none of

that was considered as an advantage and their reputation was severely

tarnished. An ice storm caused the cancellation of almost 1,700 flights,




stranding more than 130,000 passengers and exposing massive

organizational failings. This led to Neeleman's abrupt removal from the CEO

role at JetBlue - the company which he founded in year 2000 and grew to

revenues of around $2.5 billion per year.

Despite his genuine, and well-received, YouTube apology and the creation of

a Customer Bill of Rights, JetBlue's board dismissed him. Publicly, Neeleman

agreed with the board's decision - "Great, let's do it," he said at the time -

but he now admits that the episode left a deep wound. "I had no notice," he

says. "The way they did it was all wrong." This set the stage for him to

pursue new challenges, as any serial entrepreneur would.

Opportunity in Brazil:

Neeleman, always wanted to return to Brazil since the time he had left the

country. With his dual citizenship, he later spent two years as an LDS

missionary in northeastern Brazil and learned Portuguese, which greatly

impacted his love for the country and his understanding of the people and

culture. His birth right advantage, American business knowledge and

successes, and his Brazilian cultural understanding were the main reasons

he was able to pursue the Brazilian airline challenge.

As Neeleman once said “The reason I’m starting an airline in Brazil is that

I’ve put in $10 million of my own money and I want to let my new investors

know that I’m serious, I’m dedicated, and I’m not straddling two worlds”. But

probably the real reason was the opportunity Neeleman saw in South

America's fastest-growing economy. Even after all this development going on

the country still had a great business prospect in terms of the airline

industry, as only 5% of the country's 200 million people flew--and despite

that, planes are at capacity, airports are jam-packed and flights are

frequently delayed or canceled. Because most Brazilian flights require




passengers to change planes at hubs, Neeleman's airline, Azul, which is

Portuguese for Blue, used the strategy to appeal to higher-end travelers by

offering more non-stop flights. On the lower end, it will offer fares only

slightly more expensive than bus tickets, hoping to not only take market

share from Brazil's existing carriers, but to attract people who don't normally

fly.

Business Challenges

According to Mr. Neeleman, the working culture and situation was a lot

different than what he had experienced in the United States. A lot of things

that companies need, from capital to telephone lines and computing

expertise, were indeed more expensive in Brazil than in America. Labor is

also not much cheaper when taxes are taken into account. The corporate tax

rate is lower than in America but Azul needs a huge number of employees

especially accountants to pay it timely and correctly. Customers in Brazil

have less access to credit than Americans do, so Azul has had to perform

some of the services of a bank, offering interest-free credit for ten months,

and so on. But the weak scenario of competition and growing market

compensate for this. "America has an excess of everything: cars, credit,"

says Mr. Neeleman. "Down here people are getting their first car, first credit

card, owning their first home. It feels like the beginning of the cycle."

Mr. Neeleman is also lucky that Brazil's aviation infrastructure may soon

improve. The country has many airports which were built by the military

regime that ruled the country from 1964 to 1985. But the majority of them

are in poor shape and the concerned state company in charge of them,

Infraero, has been poorly run. A low point came in 2007 when a TAM plane

skidded off the end of a runway in Sao Paulo, killing 199 people. But the

government feeling that the industry can be much bigger than what it is




currently has put new managers in place at Infraero and plans to renovate

Brazil's airports before the country hosts the World Cup in 2014. Neeleman

expects to triple the Brazilian air travel market, to 150 million flights a year,

by working from the JetBlue play book.

Lessons Learned Lead by Example

As CEO of Azul, Neeleman acted completely different than CEOs of other

Brazilian airlines or any other company. He was the guy that rolled up his

sleeves and worked along side employees at the service desks, in the call

centers and on board the flights. Neeleman led by example, and this was

not a commonality for Brazilian leadership. Brazilians have a high power

distance between executives and employees which is not questioned.

Normally CEOs maintain a very formal distance between themselves and

their common employees and customers. Employees respect their CEO but

rarely interact with that person. Neeleman decided that this cultural norm

would not work for him and that he would not deviate from his JetBlue

corporate culture model in Brazil, and it worked!

He was able to inspire employees by this example and create a company

loyalty by creating this new type of corporate culture. He would often be

seen eating lunch with the non executive employees, playing soccer and

even flying on passenger flights along side other passengers. He did not use

fear tactics or the ivory tower to look down upon his workforce. This

strategy, uncommon in Brazil, fostered the type of environment he wished to

recreate from his JetBlue model.




One of the lessons that he pulled from his experience in JetBlue was not to

micromanage his team. His micromanaging tendencies must be kept under

control, as he still has traces of that and gets over indulgent at times.

Adapt but don't Adopt

He was extremely fortunate to have been born in Brazil, and raised in the US.

These factors have helped him as he brought his knowledge and unique

mindset to Brazil, where he could legally run a business without the normal

hassles that international investors deal with. He has learned from his past

mistakes. He is better prepared to deal with the the complications that come

with fast growth and Brazilian culture. He has learned to deal with the less

sexy aspects of the business, which he overlooked before.

He managed to steer through numerous cross cultural issues by

understanding the people and the culture, and adapting quickly to the new

environment. He provided a great service to a new market segment, whom

are now supporting major growth for his company. His empathy and

leadership style have translated very well in the new business environment,

as he has broken down some of the barriers between himself, as CEO and his

employees. They respect him and trust him, even though he is not of

Brazilian heritage.

Regarding managing corruption, he could have played fairly in the Brazilian

market and with the government, but he decided to adopt some new

business tactics, like hiring people with influence. This has started a system

of corruption that discourages entrepreneurship and erodes values. He will

also need to know that because of his success thus far, he will need to learn

to manage some new enemies in the government and from the competition.




Room to grow

Azul has still only 3.5 market share and stiff competition from other Brazilian

airlines, so Neeleman must also focus on increasing market share. That

said, the future is only looking brighter for Neeleman in Brazil, with the

growing economy and several major world events like World Cup 2014. If he

can continue to manage the governmental requirements, safety

requirements, while balancing employee satisfaction and most importantly,

customer satisfaction the way he has been, he will continue to grow his

airline in Brazil.

Neeleman's beverage had stopped fizzing, and he was satisfied with his

reflection time. He understood that this time around, his business in Brazil

had overcome many new challenges. He provided a leadership and business

model that was different in every sense in the Brazilian culture and business

environment. He was able to accept certain truths about the Brazilian

government and airline industry, such as corruption, in order to get his

business started, but he challenged other aspects to the core.

“I think we started out with a premise that we were going to build a better

mousetrap… We created the best product in the industry, starting with our

great people, who deliver an amazing product every day, new planes, live

television, and leather seats. Also, we are going to do it with the lowest

costs, using efficiencies, using technologies. Starting with a clean white

piece of paper and take fifty years of aviation history and saying, how could

we do this better?”

- David Neeleman, 2004




References1. http://www.ocf.berkeley.edu/~rickjonh/page2.html 2. http://riotimesonline.com/news/rio-business/brazilian-airline-

azul-wins-us-investor/ 3. http://investor.jetblue.com/phoenix.zhtml?c=131045&p=irol-

newsArticle&ID=1387275&highlight= 4. http://knowledge.wharton.upenn.edu/

signup.cfm;jsessionid=a830fa25f9d674b08eb2262f143286666b61?CFID=16359876&CFTOKEN=96750204&jsessionid=a830fa25f9d674b08eb2262f143286666b61

5. http://online.wsj.com/article/SB121140727897312183.html?mod=us_business_whats_news

6. Wade, James B.; O'Reilly III, Charles A.; Pollock, Timothy G. (September-October 2006).

7. "Overpaid CEOs and Underpaid Managers: Fairness and Executive Compensation". Organization Science 17 (5): 527.

8. Datamonitor, Airlines in Brazil, Industry Profile, October 20059. http://seekingalpha.com/article/27540-jetblue-ceo-has-good-

reason-to-be-mortified 10. http://www.pinnycohen.com/2007/03/01/marketing-

wisdom/case-study-jetblue-from-meltdown-to-recovery/11. http://money.cnn.com/2009/03/19/smallbusiness/

jetblue_founder_flies_again.fsb/index.htm

http://www.ocf.berkeley.edu/~rickjonh/page2.html




12. http://www.usatoday.com/travel/flights/2008-05-09-neeleman-azul-brazil_N.htm

13. http://www.forbes.com/2008/03/27/neeleman-jetblue-airlines-biz-cz_es_0327neeleman.html

14. Euromonitor International, Transportation Brazil, Sept 2009

Azul Airlines

Documents

Transcript of Azul Airlines