Viewpoint

The low-cost puzzle for long-haul trains
Will we see low-cost carrier models in rail?

Long-haul (high-speed) rail has been gaining popularity globally in recent years – especially in Western Europe and EastAsia. Due to the growing popularity among travelers and branching out of incumbent operators, it is likely that we will see
diversification of business models in the near future. The airline industry saw such diversification in the late 1990s. Here,
low-cost-carrier models have been particularly successful. Recently, the low-cost movement has also started to transformthe coach industry. Could rail be next? First indications are shown by operators launching low-cost carrier models in Franceand Belgium and an unconventional player entering the market in Germany. This article examines the current status quo
and outlines the low-cost carrier model as it is known in the aviation industry, before inspecting current low-cost models
and evaluating whether spread is likely.

Status quo – Growing demand and rising popularity
With increasing mobility demand and evolving mobility needs,
the transportation industry has drastically evolved from a single
point-A-point-B routing system to interconnected networks
encompassing road, rail and airways. Long-distance (crossregional) railway networks have especially flourished under
this trend. As technological advancements allowed higher
speeds and populations grew increasingly urban, long-distancepassenger rail travel became an attractive mode of transport toinvest in during the second half of the 20th century.
Today, governments are attracted to the high capacity and safety
features, which can reduce traffic congestion, limit the strain on
the environment and promote urban sprawl. Simultaneously,consumers (especially commuters) are attracted to potential
time savings in door-to-door travel, as well as the comfort andfreedom (free movement on board the train, possible entry
and exit at every station). In Europe, the cross-border interconnectedness will be further extended by the development,expansion and integration of Trans-European Transport
Networks and adoption of the new signaling standard andcontrolling system European Train Control System. EuropeanHSR track length will double – currently 11,100 km worth of trackis in planning mode, compared to 9,200 km in operation and
1,700 km currently under construction (UIC, 2018).

Differentiating long-haul (high-speed) rail systems –Special tracks, signaling systems and rolling stock
Although long-haul trains are not necessarily synonymous withhigh speed, long-haul trains – at least for passenger travel – have
only gained their popularity status by significantly reducing travel
times between urban destinations. The common threshold
which separates “normal” rolling stock from “high-speed”
is 200 km per hour. The first system capable of this speed
went operational in 1964 in Japan, with the 210 km-per-hour
Shinkansen connecting Tokyo and Osaka. Today, (commercial)high-speed trains travel at speeds of up to 350 km per hour.
High-speed rail systems are independent train systems due tothree requirements that classical train systems do not meet:
1. Special tracks: High-speed tracks have different curvatureand layout requirements from those of conventional tracks,
as well as an ingenious power supply, including overheadlines/catenary and current collectors.
2. Special signaling systems: In-cab instead of trackside
signaling (unobservable at high speeds).
3. Special rolling stock: Full train sets are required, rather thanconventional train sets. These consist of locomotives and(passenger) cars, due to technical constraints (aerodynamics,power-to-weight ratio, safety features, etc.).

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High-speed rail investments – Soaring capital
expenditure

Case study: The low-cost carrier (LCC) model inaviation – rapid spread, limited market share

Extraordinary capital investments in track, stations and rollingstock are required. Even before the construction of tracks
begins, the cost of land appropriation, environmental studies,and time required to reach political consensus accumulate tobillions and years. Difficult topography and terrain requiring
bridges or tunnels adds to the already-high cost of tracks.
In Europe, the average cost per 1 km of track is 15–40 m €(UIC, 2018). Moreover, traditional train stations have to bereconstructed if they are to allow stoppage of rolling stock andincreases in passenger traffic. Thus, investments usually occur
on public rather than at private levels.

Budgeting is in fashion. Consumers today demand fast,cheap and convenient services. The LCC model, as it’s
known in the airline industry, caters to this demand. Here,LCCs work under the principles of keeping costs low andpassing the cost savings on to the customer in the form ofless expensive prices. Price, after all, is the most importantfactor influencing modal choice.

Cost drivers for operators – Inverse relationshipbetween share of cost and ability to influence cost
To access railway infrastructure, operators buy licenses. In
Germany, for example, track access costs 4+ €/km, and station
access costs 5+ € per stop. This already balances a significant
portion of the 28 €/km revenue (Bundesnetzagen-tur, 2016).
New rolling stock costs approximately 35 m € for one 350-seat
set, with maintenance costs of 5 percent (1.75 m €) per annum,assuming mileage of 500,000 km (UIC, 2017). The licenses androlling stock result in two-thirds of all operator costs being fixedand independent from rolling stock load factor (travel volume).

In Europe, the LCC model has been very successful and, as
can be seen from the figure below, now accounts for over
one-third of the seat capacity offered by airlines. Ryanair isthe prominent success story, and now the biggest brand interms of passenger numbers, having serviced 130 million
passengers in 2018 (Ryanair, 2018). LCCs have been so
successful that they initially crowded out powerful playersthat had been the “top dogs” for decades. The incumbents
responded by setting up their own low-cost offerings, suchas Lufthansa with Germanwings and Eurowings.
LCC market share in Europe (in seat capacity)
+52%

24%

27%

2009

2012

32%

36%

Operator cost drivers

3Easy

SG&A

20%

Hardware &maintenance35%

Medium2HardInfrastructure(tracks & stations)

Ability toinfluence

145%
Share ofcostSource: Arthur D. Little

The figure above illustrates the three cost drivers that train
operators face – as well as their ability to influence these drivers;
the relationship is inversely linked. The extent of influence on thelargest cost driver, infrastructure, which makes up 45 percent ofoverall cost, is extremely limited. Operators must pay licensing
fees for track and station access. The second-largest cost
driver, hardware and maintenance, which makes up 35 percentof overall cost, can only be influenced to a certain degree.
Operators can opt to use standardized, stripped-down trains,
optimize efficiency and elongate usage times. Nonetheless,significant investments still have to be made. Ultimately, thesmallest cost driver, selling, general and administrative costs,
which makes up 20 percent of overall cost, can be influenced
the most. Depending on how overheads are structured andemployee labor conditions are set up, as well as the degree
to which marketing and sales take place in a brick-and-mortar,
click-and-mortar or pure-play environment has a significant effecton cost.
2The low-cost puzzle for long-haul trains

2015

2018

Source: OAG schedules

LCC key success factors are:
1. Using low-price infrastructure; for example, positioning
airports outside cities or buying starting and landing
slots at non-peak times.
2. Using standardized aircraft (one make or model) toseize purchasing discounts and enable standardized
maintenance and servicing processes.
3. Optimizing turn time and increasing usage efficiency bymaximizing the time spent in the air.
4. Employing young, minimally trained personnel on lowwages to perform a multitude of tasks.
5. Offering a no-frills service and profiting from ancillary
revenue, i.e., forcing customers to pay for every productand service that is not included in the fare.
By employing these tactics, LCCs have been able to achievea 25–50 percent cost advantage in servicing short-haul
flights, and 15–30 percent for mid- to long-haul flights –which has been eyed with envy by other players and industries (ADL, 2018). However, if seating density on the aircraft
were to be taken out of the equation, the cost advantage
would shrink significantly.

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LCCs mainly target tourists (rather than business customers
and commuters), for whom price, rather than time, is themost important decision-making factor when booking
flights. Notably, the LCC model works best on short-haul
flights. This is because with longer travel times, customers
consider the no-frills service less favorable. For long-haul
flights the value proposition of offering more comfort
becomes in-creasingly welcome.
Recently, the LCC model has also transformed the European coach industry after its liberalization in the early 2010s.
The demand for coach travel had been dormant and only
played a marginal role, but the newly opened highly competitive market quickly showed that coach travel was a viable
alternative to rail and car. The most successful company
excelling in the market is FlixMobility, which now hasover 90 percent market share in Germany and around thesame load factor as the Deutsche Bahn (DB) – 50 percent(FlixMobility, 2018). Surprisingly, in 2018 FlixMobility
entered rail.

The French and Belgian cases – Minimize service,
maximize convenience
Even though we have yet to see the same impact from low costin rail as we have seen in aviation, first moves have been made.
In France and Belgium, two operators have added the businessmodel to their existing offering portfolios.
In 2013, France’s SNCF launched the low-cost brand
Ouigo. Using standardized, older-model TGVs witha no-frills approach, it started servicing a route from
Paris to the south of France. Since then, the brand has rapidly
expanded and added new routes, and now services most majorroutes in the country.
Ouigo services secondary train stations outside city centersand maximizes capacity in its rolling stock – just like LCCs inaviation. Trains are solely equipped with second-class seating, nobuffet wagons and minimized storage space. Due to optimized
departure and minimized turning times, as well as nighttime
maintenance, the rolling stock covers twice as many kilometers
as the TGV (Ouigo, 2017).
Further distinguishing features include:nn

Operating in a closed system, which means access to andfrom trains is granted by a special ticketing check.

nnStandard pricing is far below average TGV prices.
Reservations, electrical sockets and large luggage
allowances cost extra.

nnSales and customer service costs are kept to a minimum byconducting all activities over the internet.

nnLabor costs are kept low by hiring young employees (lowerHR costs) to perform a multitude of tasks and fulfill theirstatutory resting times in special resting rooms on board,rather than at destinations.

Fifty percent of customers switched from the classical TGV andSNCF plans, which increased Ouigo market share to 25 percent
of its high-speed offering (SNCF, 2018).
In 2016, three years after the launch of Ouigo, Thalys
started servicing the Brussels-Paris route using TGVs.
Similar to Ouigo, it offers a no-frills service in capacitymaximized trains, employs little personnel, and conducts all
sales activities via the internet. However, Izy differs from Ouigo
in two aspects: (1) it services primary rather than secondarytrain stations at its destinations, and (2) routing is carried out on
conventional, non-high-speed tracks. Thus, “normal” stop fees
and lower track fees are incurred.
According to Thalys’ CEO Annes Ogier:“All studies confirm that most people prefer thecomfort and speed of Thalys to driving. We have anew solution. Reducing the speed and simplifying
onboard service to a minimum enables Izy to offer ajourney at a low price, but one which is still faster,safer, more sustainable and more comfortable thanby car.” 			
(Railway Gazette, 2016).
The German case – Network effect and low-asset
strategy
In March 2018, FlixMobility launched its
brand FlixTrain, servicing a route from
Cologne to Hamburg with an aggressive starting price of 9.99
€ for the 400+ km ticket. For the first time ever, the DB (99percent market share on long-haul routes in Germany) is facing
competition. While there have been various operators trying
to service routes throughout the years, none have managed
to attract the customer threshold or comfortably position
themselves in the asset-heavy industry. FlixTrain will prove
to be a different player, as it can incorporate train routes into
an existing network of bus routes, and has powerful financial
investors and an established brand. After the launch, the DB
responded by expanding its own array of low-cost tickets andincluding free add-ons, such as public transport city tickets, withexisting offers.
FlixTrain applies a low-asset strategy by investing in neither
infrastructure nor hardware. It solely acts as an overarchingsales arm, leaving operations to independent operators thatprofit from the successful brand name. The success on its threeroutes means the target of 500,000 passengers per annum is
not out of reach. To achieve this goal, the routing offering is to begreatly expanded in 2019 (FlixTrain, 2018).

First learnings – Rail mirroring airlines
In the three use cases, operators mirror the airline LCC businessmodel using the same means to cut costs and up revenue.

The low-cost puzzle for long-haul trains

3Viewpoint

Contacts

Operator similarities: Buy side
Minimize all cost
Cutcost Focus on cost drivers that are easiest to influence Minimize SG&A costs by conducting all face-to-customer
activities through the internet
 Minimize hardware and maintenance costs by using
standardized rolling stock/aircraft

Limit infrastructure investments

Middle East

Belgium

The Netherlands

China

NorwayCzech Republic

Russian Federation

FranceSingapore

Germany

Spaintaga.karim@adlittle.com
vanaudenhove.f@adlittle.com
pell.russell@adlittle.com

 Limit infrastructure costs (licensing charges) in one formor another by accessing less favorable tracks/routes orsecondary stations/airports
Source: Arthur D. Little

Operator similarities: Sell side

brabec.dean@adlittle.com
bamberger.vincent@adlittle.com

Maximize (profitable) usage
 Maximize load factor by enhancing capacity
 Minimize idle time of rolling stock/airplanes
 Service high-frequency routes at times of high demand

Austria

Uprevenue

baron.ralf@adlittle.com

kuruvilla.thomas@adlittle.com
eikelenboom.martijn@adlittle.com
thurmann-moe.lars@adlittle.com
ovanesov.alexander@adlittle.com
mori.yonoshin@adlittle.com
guzman.rodolfo@adlittle.com

India

srinivasan.srini@adlittle.com

SwedenAttract new customer segments
 Attract customer segments that might not have opted forthe mode of transport otherwise (compete with car, ridesharing, coach)

Italy

Switzerland

Japan

TurkeyKorea

UK

Latin America

USA

Source: Arthur D. Little

Unfortunately, no public record of profitability exists for the threeuse cases individually, as the brands are listed as part of theoverall operations of the holding companies. However, the lowcost service is bound to be of use to the holdings in general. It isa way to broaden their customer reaches and link new customer
segments to their brands.

Conclusion – Change is imminent, but complete
disruption is unlikely
The first operators to enter this area have shown that the LCC
business model can be of interest on long-haul, high-speed
routes, and it is likely that we will see further spread throughout
Europe. It is, however, highly unlikely that we will see major
disruption in the market. Until the underlying cost structureof rail radically transforms, most changes will be seen on themarketing side and from the customer’s vantage point, rather
than on the business side and from the operational set-up.
For a railway operator to achieve the 25–50 percent costadvantage seen by airlines, at least, is unrealistic. Nonetheless,the low-cost segment in rail will undoubtedly bite into othersegments. In contrast to airlines, for which 36 percent market
share is made up of many individual LCCs (of which only someare owned by full-service carriers), in rail it will be existing
monopolistic players cannibalizing their own market share.
Perchance the trend will further stimulate the debate onwhether track fees should be lowered or the monopoly
ownership of incumbents in both infrastructure and servicingof the infrastructure should be split up. A decrease in trackfees and loosening of tight market regulation could lead tofurther technical democratization, and the resulting increasein competition from possible new entrants would benefit thecustomer. However, even if this is not the case, the rise incompetitive pressures from mobility providers will certainlycontinue to facilitate the possibility of diversification of businessmodels.

caldani.saverio@adlittle.com
harada.yusuke@adlittle.com
lee.kevin@adlittle.com
guzman.rodolfo@adlittle.com

kilefors.petter@adlittle.com
baron.ralf@adlittle.com
baban.coskun@adlittle.com
beard.marcus@adlittle.com
guzman.rodolfo@adlittle.com

Authors
Alexander Hensler, Michael Zintel, Ralf Baron

Arthur D. Little
Arthur D. Little has been at the forefront of innovation since1886. We are an acknowledged thought leader in linking
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