Wallaby route

“It has been a very effective duopoly for many years and I think today for both the carriers it’s the most lucrative route they have, obviously since Qantas got Pacificed out,” Centre for Asia Pacific Aviation chairman Peter Harbison told Australian Aviation, referring to the once lucrative Pacific routes which are now generating losses thanks to four-way competition on it.

Foe a number of years now, traffic between Australia and South Africa has been growing steadily. According to the International Air Services Commission (IASC), between 2005 and 2008 traffic grew by an annual compound growth rate of 8.4 per cent. BITRE figures for July also show that loads for SAA and Qantas’s services were an impressive 82 and 91 per cent respectively. Annual figures for 2008 show seat utilisation on SAA’s flights was a healthy 87 per cent, while Qantas was even better at 89.4 per cent.

Unlike other most other international air routes out of Australia, the Wallaby Route operates as a true duopoly, with SAA and Qantas operating from separate ports (Perth and Sydney respectively) and codesharing on each other’s services. While that agreement does not permit them to coordinate on pricing so as to preserve some form of competition, the current arrangement has given neither an incentive to cut fares and stimulate demand.

However, that codeshare agreement has looked increasingly under threat. In recent years, The Australian Competition and Consumer Commission raised concerns that demand is being artificially constrained by the two carrier’s cooperation. Nevertheless, concerns that the two carriers argued that without the agreement they would reduce their services. That argument has consistently won out with the IASC, which has currently approved it until December 2010.

As with the Pacific until recently, competition has been constrained as there has been a lack of alternatives to Qantas or SAA. The only practical competition comes from carriers such as Singapore, Malaysia Airlines, Thai Airways and Emirates which offer connecting services via their respective hubs. While these carriers tend to offer lower airfares than Qantas and SAA, they are at a disadvantage due to the extra transit time compared to the direct services.

In spite of the lack of competition and resulting high fares, traffic on the Australia-South Africa has continued to grow, primarily from Sydney and Perth has been driven primarily by the large expatriate communities in the two cities which have increased in recent times due to the opportunities for those involved in the mining industry. Tourism has also helped to sustain a high level of patronage.

As a result of the growing demand, the Australian and South African governments agreed in 2008 to increase the maximum number of services able to be operated between the two countries from five to ten per week on each side. Accordingly, SAA boosted its services to Perth from five to seven per week in September this year, while Qantas now operates six weekly services from Sydney.

While data is not yet been released since the carriers added their additional frequencies, it appears that the increase in capacity is unlikely to dilute either carrier’s loads or yields. The latter appears to have been strong; the IASC notedg in its 2008 decision on the SAA/Qantas codeshare agreement that based on confidential information provided by Qantas the route is “highly profitable”.

Nevertheless, the entry of V Australia onto the Melbourne-Johannesburg route could change the dynamics of the Wallaby Route. While it will face no direct competition flying from Melbourne, and its parent carrier already enjoys a relationship of sorts with SAA, the additional capacity could see fares come down, particularly from the East coast.

As expected, with the commercial launch of the twice-weekly services in August, V Australia announced a promotional return fare of $1189 return from Melbourne, significantly lower than those offered by Qantas via Sydney.

Speared Springbok?

South African Airways’ Australian services have been a shining light during the last few tough years, although he company has been starting to turn around. For the 2008 financial year (ending March 31, 2009) the carrier was able to turn around a net loss of ZAR1.08bn (A$163.3m) in the previous year into a profit of ZAR398m (A$60m).

In announcing the profit results locally, SAA’s head of Australasia, Thevan Krishna noted that the market has been particularly important for the airline. “We are particularly pleased with the way the Australia to South Africa route is performing, even with increased competition and price-cutting by other airlines. We have seen significant fare competition from other carriers.”

Most of that competition is understood to have come from Asian and Middle Eastern carriers, and as such has probably not been as detrimental to the carrier’s direct services, particularly from Perth, where SAA now operates daily services. It has also increased capacity by upgrading to the larger A340-600, in place of the smaller -200s and -300s which previously operated on the route.

Despite the turnaround in SAA’s bottom line, Harbison says that the carrier is not out of the woods yet, and as such it could be prone to some irrational behaviour when dealing with new competitors, particularly on the strong performing Australian route. “One of the problems with South African Airways at the moment is it’s a beleaguered airline and in those circumstances cash becomes king. The airline can behave quite irrationally when a new carrier comes onto the route and that’s always a concern.”

As such, V Australia may have been discouraged from competing directly against SAA’s services form Perth for fear that it may drop its yield.

SAA also finds itself in an interesting position with regards to its alliances. It is now a full member of the Star Alliance, and gives it vital coverage in the African market, yet its key relationship on the Wallaby route is with key oneworld partner Qantas. SAA also has a codeshare agreement with Virgin Atlantic on the latter’s London Heathrow-Cape Town services. Added to that, in April it signed an interline agreement with Virgin Blue, which could transform into a codeshare agreement in future – although to do so would likely raise the ire of Qantas.

In the case of the latter relationship, it may signal that SAA is preparing for an end to its current codeshare agreement with Qantas once the current permission expires in 2010. As such, starting a relationship with the Virgin Blue group could deliver it some benefits, but would place it at a disadvantage on its Sydney services, which have been solely operated by Qantas for some years now.

A Virgin Safari

V Australia’s launch of twice weekly Boeing 777-300ER services on the Melbourne-Johannesburg from March 2010 came as little surprise to the industry given it had previously applied for an allocation of five five weekly services on the South Africa route on July 16 2008. However, what was surprising was that it chose to start services from Melbourne, rather than Sydney as it had originally said in its IASC filing.

But as Harbison notes, in choosing Melbourne V Australia appears to be keen on growing the market on a new route, rather than stealing market share away from the existing carriers flying from Perth and Sydney. “You look at the way that Virgin has gone onto routes with their 737s on the shorthaul, particularly on routes like Brisbane to Fiji, Vanuatu etc. It’s entered the market and has a whole different style of pricing. It’s much more aggressive, looks to stimulate the market as opposed to just milking it as much as possible without growing it which is pretty classic thinking for full service carriers.”

Although the lack of an established market could represent risk to some, Harbison notes that it still remains a good strategy. “To go on to routes where there isn’t the same direct competition and to grow those, you’re pretty much starting with a guaranteed base. It’s a pretty good strategy in a lot of ways. Whether there will be a response from Qantas and South African, who knows?”

It is expected that V Australia will utilise the Virgin Blue domestic network to offer feed, which may give it some penetration into the Sydney market, particularly if it is able to offer fares lower than Qantas and SAA’s direct service. It also appears that the carrier may pick up on some traffic which would otherwise travel through Singapore, Kuala Lumpur or Bangkok.

Further to that, there lies some potential in being able to offer trans-Tasman connections to serve the growing South African community living in New Zealand. This would likely come from Pacific Blue, while the recent codeshare agreement between V Australia and Emirates could even see passengers use that carrier’s trans-Tasman services to connect through to South Africa via Melbourne.

Still, Harbison believes that the majority of growth is expected to come from the home market. “A much higher proportion of Melbourne-Johannesburg traffic will actually be original traffic as opposed to diverted traffic, I suspect.”

As noted earlier, the V Australia will launch its services next year in the context of an existing interline agreement between Virgin Blue Group and SAA which may develop further in the future. Ironically, the agreement has led to a situation where a passenger may be able to step off from a domestic Virgin Blue flight at Sydney and onto the codeshared SAA service, which is operated by Qantas.

From the outside, it also appears that there may have been a larger strategic play between Virgin Blue and SAA in V Australia’s original decision to examine services to South Africa. V Australia’s original filing for five weekly services from Sydney, which was made in 2008, would have matched Qantas’s frequency on the route, and came three months after SAA sealed the interline agreement with Virgin Blue.
As such, it may be that the original plan was a backup solution should the IASC have withdrawn its support for the Qantas/SAA codeshare, as the ACCC has campaigned for previously, while as Melbourne is currently not served directly, it could leave the door open for SAA to pursue a codeshare deal on the service if the market proves attractive.

However, Harbison does not believe that SAA has influenced V Australia’s decision to operate its services from Melbourne, but rather there are other strategic links in play. “I don’t think there is anything there. I think probably quite the contrary because assuming they can work it through, V Australia should link up with Virgin Atlantic over Johannesburg and provide a very effective way through to the UK. That’s a route that is very much bread and butter to SAA and Qantas and BA have also used very effectively.”

With it currently holding authorisation to operate five services per week to South Africa, V Australia does have some scope to increase its services, albeit dependent on aircraft availability. Harbison says that this may happen sooner rather than later depending on the outcome of its wrestle with Qantas over its plans to fly to Fiji. “If they can’t use the 777 on Fiji then I wouldn’t be surprised if it went on to South Africa because there aren’t that many other routes they could use it,” he said.

Qantas

With the once profitable oasis of the Pacific market now fading, the South African market appears to be one of the few high yielding routes left for Qantas, and is not expected to let that yield slip as it also tries to recover profitability in its international operations.

Given the constraints under previous bilaterals, Qantas has for a number of years been restricted to operating five weekly services to South Africa. This changed last year with an increase in the number of permitted services, and the airline has since added a sixth weekly service between Sydney and Johannesburg. It had also indicated that it planned to bring the services up to daily from October 2009, but this service has not yet eventuated.

Compared to likely responses by South African Airways, Harbison claims that Qantas would be unlikely to introduce irrational pricing to try and undercut V Australia. Given the carrier has not moved to launch its own Melbourne-Johannesburg services utilising spare Boeing 747-400 capacity, it appears to be content to let V Australia build the market – at least for now.

“I think Qantas is much less likely to behave irrationally and Qantas does have in the medium term the option to use Jetstar on those routes,” he said.

However, the latter would not be until 2013 at the earliest when Jetstar receives its first Boeing 787-9. So far, Qantas has not given any indication that it has plans for Jetstar to fly to South Africa, and due to the strong yields on the route would only do so as a competitive response in order to protect its yield.

Breaking the hold

With V Australia staking its claim for a share of the traffic between Australia and South Africa, it appears that competition has entered what is effectively one of the few remaining duopolies in Australia’s international travel market, and airfares appear poised to fall.

“Generally speaking when you have three carriers instead of two, the competition multiplies algebraically, so you do tend to have more price competition,” said Harbison. “Whether that will be the case here really depends on how much suppressed demand there has been due to the high yields that the carriers have been able to maintain.”

The competition comes at an interesting time, particularly given the increase in traffic expected for the 2010 FIFA World Cup which will be staged in South Africa duringJune and July, which V Australia has used as a point of promotion for its own services. If it can use that event to build its reputation and regular demand from Melbourne, it may reap some valuable rewards.

Much will also rest upon the long-term future of the SAA/Qantas codeshare agreement. Recent rulings from the IASC seem to indicate that fostering competition on the route has become an increasing concern for it and the ACCC. In such a case, there may be potential for SAA to switch partners and pursue a greater relationship with the Virgin Blue Group, as it has with the other Virgin-branded airlines.

While much growth is expected in the market, it appears that the Wallaby route is set to become the next battleground between Qantas and V Australia, albeit largely indirectly. Still, passengers can expect fares to come down, possibly opening up greater traffic between Australia and South Africa.