ANALYSIS: Has Emirates-Qantas been a game-changer?

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Official views are positive, but many outside of Qantas and Emirates wonder if their alliance is alleviating or perpetuating the problems that Qantas faces in Europe. Outside of the two airlines themselves, no one really knows.

The revenue generated by the alliance – a key measure of its success – remains a well-guarded secret, while the method used for sharing that revenue is much-debated. Some Australians fear, either because of revenue issues or the sheer size of Emirates, that Qantas will gradually be squeezed out of Europe. And the scramble among rival carriers along the Kangaroo Route continues. For any airline that may be eyeing a long-haul venture, Qantas-Emirates poses more questions than it answers.

“Seismic shift” is how Alan Joyce, chief executive of the Qantas Group, described the alliance last year after competition authorities cleared it for an initial five years. Unquestionably, the deal represented an about-face for Qantas, which had been a vocal critic of Emirates and had relied on British Airways or its own metal to serve Europe.

But, gradually, that network kept shrinking. Qantas toyed with launching Jetstar-operated Boeing 787s to Rome and Athens, a move that might have restored two long, thin routes. Finally, however, it realised that its European strategy was failing and it needed a new approach. Its alliance with Emirates was the answer.

The alliance brought big changes. Qantas moved its hub for European services from Singapore to Dubai. It ended its 17-year partnership with British Airways, stopped codesharing with Asian airlines from their hubs to Europe, and dropped its own flight to Frankfurt. The only European city Qantas now serves in its own livery is London. Except for Finnair, because Emirates does not serve Helsinki, Qantas codeshares exclusively with Emirates on flights to Europe, the Middle East and North Africa.

Qantas long-haul network April 2012

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Qantas long-haul network April 2014

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Source: Innovata Flightmaps Analytics

Neither airline holds equity in the other, but they share revenue and co-ordinate operations, including schedules and capacity, marketing, distribution, pricing and frequent flyer programmes. Looking ahead, they talk of new routes, joint purchases and maintenance, and shared handling and lounges. From a network standpoint, the deal gives Emirates codeshare access to almost every airport in Australia and expands the Qantas network on a codeshare basis from two European cities to 31.

During the first year of this alliance, Qantas reported a leap in sales to these new European destinations, plus a three-fold boost in Emirates bookings on Australian domestic flights. Joyce described the early signs as “good”, but warned “there is still a lot of work to do bedding down the partnership”. He predicted “by FY2015 we expect to see the full commercial benefits flow”. He called the alliance “the most important” part of a five-year strategy to return the Qantas international division to profit by 2015.

That goal has proven too optimistic. First half results for this year show a blow-out in international losses from A$91 million ($83 million) a year earlier to A$262 million.

Joyce now admits that Qantas international will miss its 2015 break-even target. Some analysts blame the alliance for this poor result, but they have no way to know how much it has helped or hurt. Without the alliance, results might have been worse.

Emirates president Tim Clark says he is “very happy” with the alliance. Simon Hickey, chief executive of Qantas international division, also says he is “extremely pleased” with the first year of joint operations. “In 12 months, more than 1 million passengers have travelled through Dubai and onwards,” he says. “We saw a surge in bookings when the partnership went on sale,” Hickey says, “and bookings continue to be very strong.”

Hickey does not distinguish between Dubai traffic volumes before and after the alliance, but even if he did, the increase would only be a rough measure of success. Tony Webber, former chief economist at Qantas and now managing director of Sydney-based Webber Quantitative Consulting, says: “It’s no use just looking at passenger volume pre and post the alliance, because that is just half of the question.” The other half is revenue, and on this, he says, “no one knows except the airlines.” Predictably, Hickey will not disclose this data.

Alliance partners rarely reveal their revenue-sharing terms, and Qantas and Emirates are no exception. Last year the Australian Competition and Consumer Commission encouraged Qantas to reveal those terms. Qantas declined, releasing instead a summary that it said was all the public needed to know. From that summary and what the commission itself revealed in its decision, it appears that Qantas and Emirates share revenue in two ways.

On so-called “trunk routes”, where both airlines fly – Australia-Dubai and Dubai-London – they pool revenue and share it. The sharing is on a net benefits basis, which appears to measure how much more each airline earns on these routes than it did before the alliance. Hence, it requires some before and after analysis. Qantas claims this creates a “metal neutral” outcome where neither airline has an incentive to favour its own aircraft over the other’s.

On routes that only one of the carriers flies, the operating airline keeps the revenue but pays a commission to the non-operating airline that booked the passenger. Critics claim this favours Emirates because it has a much larger network, so that Qantas codeshares on many more Emirates flights than vice versa. This is especially true of flights from Dubai into Europe.

John Thomas, manager director at Boston-based LEK Consulting and head of its global aviation and travel practice, recently co-authored with Brett Catlin a study on airline joint ventures. Entitled Reaching new heights together: how airlines can maximise the value of joint ventures, it reviews different revenue-sharing approaches, and poses such questions as whether to share revenue or profits, what routes to include in the venture, how to adjust for baseline or pre-alliance profit, how to reflect changes in relative capacity, and so forth.

Thomas worries that the terms of the Qantas-Emirates alliance “marginalise” Qantas. Before this alliance, a passenger flying from Sydney to, say, Amsterdam could fly Qantas all the way to London, with a short connection from there to Amsterdam on British Airways. Now, Qantas delivers that passenger to Emirates at Dubai, and only receives a commission on the codeshared Dubai-Amsterdam sector flown by Emirates. This yields less revenue for Qantas than under its prior routing.

Qantas responds that this overlooks what was happening before the alliance. It was already losing Amsterdam passengers to one of several Asian or Gulf carriers, including Emirates, who could use their sixth freedoms to offer a one-stop Australia-Amsterdam service, whereas Qantas could only offer its two-stop routing through London. And if a passenger’s final destination was not Amsterdam but somewhere else in Europe, the London connection might require a big dogleg or backtrack. Hence, European passengers were already leaving Qantas. Its pre-alliance operations in Europe, per Alan Joyce, were “in terminal decline”.

Yet there are other issues apart from the possible loss of London connecting traffic. Thomas says the type of revenue-sharing between Qantas and Emirates is typical of joint ventures, and it works reasonably well where both carriers have networks of similar size. Here, however, “Qantas is disadvantaged because so much of the network is on Emirates metal.”

Tony Webber echoes this view. “They need to share all of the revenue associated with Australian travel to Europe on both carriers.”

Thomas argues that a profit-sharing model would be more equitable because the airlines would share profit on the entire network – not just “trunk routes”. Profit would be divided based on their relative contribution to each route. This would do a better job, he claims, of recognising that the non-operating carrier still contributes to the profitability of a codeshared route by adding its code and feeding traffic to the operating carrier.

“People tend to shy away from profit-sharing JVs,” Thomas admits, “because they’re complex to set up. But the benefits far outweigh the complexity.”

He cites Delta-Virgin Atlantic as a recent and successful example of such a venture. Longer term, he predicts profit-sharing ventures will gain more favour around the globe. “Alliances provide network,” Thomas concludes, “while the right kind of JV improves the economics of that network.”

Jumping on the Kangaroo route

By moving its hub from Singapore to Dubai, Qantas set off the equivalent of a gold rush among rivals on the Kangaroo Route.

They saw its move as creating a vacuum or weakness that they could exploit. Nine Asian carriers and two Gulf operators besides Emirates are adding capacity, routes or both to link Australasia over their hubs to Europe. Some see the stakes as so high that they are willing to incur heavy initial losses as the price for a permanent presence in this market.

China Southern, for instance, is offering Sydney-London fares 22% to 43% below its rivals. As part of this effort, it is asking Chinese authorities to waive the visa requirement for international passengers transiting through its Guangzhou hub. Making its own move, Cathay Pacific added two more Australian destinations in March that can feed into the five daily Hong Kong-London flights it has been operating since June. European traffic remains sluggish, but Kangaroo Route fares have dropped. No doubt this is contributing to the international losses for Qantas.

The scramble is expected to continue. Garuda Indonesia will convert its Jakarta-Amsterdam one-stop service into a nonstop on 30 May, will add a London Gatwick link to it in September, and is evaluating Paris as its next European route. In July Etihad will add Perth as its fourth Australian destination, and by year’s end will fly Airbus A380s to Sydney and Melbourne. Eventually, some consolidation is likely, but the Kangaroo Route is currently one of the world’s most dynamic and competitive.

Singapore is determined to hold its position as the key hub between Australasia and Europe. Transit passengers already account for 30% of its traffic, and it aims to grow this segment. With Changi airport’s fourth terminal under construction, work underway to open a third runway, and a fifth terminal already on the drawing board, Singapore’s expansion outpaces Kuala Lumpur, Bangkok, Jakarta, and Hong Kong – the hubs Changi officials view as their main rivals.

Airport capacity is part of Singapore’s strategy; the other is airline networks and seat capacity. Here, Singapore Airlines also dominates. Its Australian network is no bigger than that of most southeast Asian carriers – they all serve most of Australia’s major cities – but none of them match Singapore Airline’s Australian capacity, its Virgin Australia alliance or its share of total Australia-UK traffic. Over the years, Singapore has carried 12% to 15% of this traffic, twice that of its closest Southeast Asia rival, Cathay Pacific.

Singapore’s view is that Qantas metal in Europe will continue to decline. Traditionally, Singapore has been Australia’s gateway to Europe and Australians like it. By this view, according to insiders, Singapore Airlines with its Virgin Australia alliance represents “a combination that may be more powerful than Qantas-Emirates”.

Obviously, Singapore knows it is also competing with hubs in the Gulf. Travel times to Europe through all of them, including Singapore, are nearly the same and most carriers allow free stopovers, so no hub enjoys any advantage on these terms. Dubai and Abu Dhabi are well-known and formidable rivals. Qatar, by contrast, could be a sleeper. Not only is the new Doha international airport opening in June, but Qatar Airways already has the second-largest European network of any Gulf carrier. It is only starting to expand into Australasia and it lacks an airline partner down under, but Qatar could be one to watch.

Meanwhile, Singapore is not resting on any laurels. In January Air New Zealand and Singapore Airlines announced a strategic alliance over Singapore between New Zealand and Europe. From Air New Zealand’s standpoint, this may partially replace the service it dropped last year between Hong Kong and London. But for Singapore, it is another block in building what it hopes will be the biggest and best Kangaroo Route hub.

The proposed Air New Zealand-Singapore alliance illustrates a final point. It represents for Air New Zealand what the Emirates alliance is for Qantas – an intermediate hub between its home base and Europe. If approved, it will allow the carrier to serve far more cities in Europe with its Singapore partner than it could ever serve on its own. If this sounds familiar, that’s because long-haul routes everywhere face similar pressure.

John Thomas reports that in 2003 only 10% of all long-haul routes, defined as more than 2,500nm (4,630km), were served by joint ventures. A decade later, that figure had risen to 30%. In another decade, Thomas predicts, joint ventures will operate half of the world’s long-haul routes.

However one views the Qantas-Emirates alliance, it clearly is part of a growing trend.