On the up

The shake-up of its ownership structure, similar to Ansett’s in the 1990s, is designed to allow foreign investors to buy into the airline’s domestic operations while ring-fencing its rights to fly international routes as a designated Australian carrier.

The result is an unlisted entity for Vir-gin’s international operations, Virgin Aus-tralia International Holdings, which will have a separate board. Existing sharehold-ers will gain a stake in the international arm through an in specie dividend.

Virgin’s move is another ace for CEO John Borghetti, who has engineered a virtual airline through a series of alliances with Etihad Airways, Air New Zealand, Singapore Airlines and Delta Airlines.

The new ownership structure opens the way for some of those players to take equity in Virgin Australia, which until now had been near its foreign ownership cap of 49 per cent.

It is thought that Etihad was close to taking equity last year when Air New Zea-land took a 14. 99 per cent stake in Virgin Australia, later increased to 19. 99 per cent in September.

At the time of the increased stake Air New Zealand CEO Rob Fyfe said that the airline had no intention of making a takeover bid for Virgin Australia.

“Our increased investment in Virgin Australia continues Air New Zealand’s strategy to develop scale and reach in this region. The trans-Tasman alliance with Virgin Australia was the first step in this strategy, followed by our initial investment in January of this year,” Mr Fyfe said.

“This increased investment demonstrates our continued belief in the strategy that Virgin Australia is pursuing and our confi-dence in the Virgin Australia management team to deliver this strategy.

“As we noted at the time of our original investment, our stake in Virgin Australia also provides us with an interest in the num-ber two airline in Australia and, through this, access to opportunities in the growing Australian domestic market. Air New Zea-land has no intention to enter the Australian domestic market in its own right. ” Another serious player could be Singapore Airlines, which has tried many times to take a stake in the Australian domestic market.

The Sydney-based CAPA – Centre for Aviation noted that while Borghetti would not name potential investors, Etihad’s CEO James Hogan said in early February that he was interested in taking a stake in Virgin if one became available.

Good Investment

The recasting of the ownership structure came wrapped in an excellent result that saw Virgin Australia post a 118 per cent improvement in its statutory net profit after tax of $51. 8 million for the six months to December 31 2011. The airline reported an underlying net profit before tax of $96. 1 million – a 34. 4 per cent improvement.

Mr Borghetti was lyrical: “Today’s finan-cial results demonstrate that our strategy to reposition the business is having a material impact on the company’s financial position ahead of schedule.

“We have made significant progress in diversifying our revenue sources with an 81 per cent increase in corporate and govern-ment revenue, an increase of more than 100 per cent in interline and codeshare revenue on our underlying profit before tax. ” The airline’s revenue lifted 18 per cent to $2 billion, fuelled by strong yield growth in domestic business of 13. 7 per cent with 11. 5 per cent growth across the group.

Interestingly, and flagging that Virgin Australia has moved well away from the budget end of the market, Mr Borghetti claimed that Virgin gained nothing from the five-week grounding in July last year of Tiger Airways, saying: “There was no uplift at all. Effectively zero. ” On the uplift from the two-day ground-ing of Qantas Airways in October 2011, he said: “In terms of profit outcome, it was in the single digit millions, and for that matter mid-to-low single digit mil-lions,” effectively placing a figure of about $3-7 million.

Virgin increased its liquidity to $506 million of unrestricted cash, and $851 million total cash balance. Its international operations improved significantly by 39 per cent to deliver earnings before interest and taxes (EBIT) of $35 million.

Part of the international turnaround came from a 121 per cent increase in high-yield fares and the completion, ahead of schedule, of the comprehensive interna-tional network with alliance partners and the re-jigging of the airline’s own network.

Virgin said the system-wide lift in high-yield fares was also driven by improvements in fare class structure, network and product offering as well as the ATR regional opera-tions, with Skywest delivering higher than expected seat factors and yields.

Commentating on the result, CAPA noted in a client report that the airline’s underlying EBIT of $127. 5 million was nearly twice that of competitor Qantas mainline. It said: “Virgin’s EBIT was also 60 per cent of the combined Qantas-Jetstar EBIT despite Virgin Australia having 28 per cent of Qantas-Jetstar’s capacity.

“The Virgin Australia group’s margin (underlying EBIT) climbed 2. 2 percent-age points to 6. 4 per cent compared to Qantas Group’s 3. 4 per cent margin. Virgin Australia’s domestic operation had a 6. 2 per cent margin while international, including short/medium-haul 737s and long-haul 777s, had a 6. 4 per cent margin. ” Mr Borghetti praised his staff and their commitment to the airline’s Game Change Program in delivering the result: “While we have continued to see high fuel prices and an uncertain economic environment, the . . . strategy has helped us to improve earnings stability and achieve growth during this half.

“Key to this success has been the abil-ity of our team to embrace and drive the program of change and innovation. Their commitment to becoming the airline of choice in Australia is evident in increasing customer satisfaction levels. ”

Financial And Operating Performance

Mr Borghetti said that over the past six months the business had been focused on diversifying the revenue base and driving yield growth in order to build a more stable financial future.

“We have made significant progress in this area, particularly in the high-yield corporate and government market. This important segment now makes up close to 17 per cent of our total revenue, up from 13 per cent in the 2011. ” CAPA noted that Virgin’s share of high-yield fares, defined as business class, premium economy, and flexi economy fares, represented 25 per cent of revenue in December 2011, up from 11 per cent in July 2010.

Its report pointed out: “The 17 per cent share corporate and government accounts represent is approximately the same as hav-ing a 17 per cent share of total corporate and government market in Australia, Mr Borghetti says. He has set out in August 2010 to double Virgin’s share to 20 per cent over a three-year period, with most gains made in the past 6-10 months. Virgin will likely surpass 20 per cent ahead of schedule and target further growth. ” Virgin Australia won 35 new accounts during the period and maintained all previ-ous ones, the vast majority of which were renewed with increased spend and pro-duced corporate and government revenue growth of 81 per cent on the previous corresponding period.

“We continue to see yield improvement following the restructure of our fares in May 2011 and the enhancement of our product and network, with high-yield fare revenue increasing by 121 per cent due in large part to the popular take-up of the new flexi fares,” Mr Borghetti said.

“Furthermore, during the first six months of operating our Airbus A330 coast-to-coast service between Sydney and Perth, we carried triple the number of business class guests compared to sales of premium economy in the prior corresponding period.

“Following the implementation of busi-ness class across our domestic network on January 18 2012, early indications are very positive and we will provide an update on our progress at the full year results. ” CAPA commented that while the growth was undeniable and further vindi-cates the carrier’s decision to drop premium economy and introduce business class, the figures for business class were skewed given large-capacity increases with the A330s.

The Virgin report said business class seats were selling at a higher rate than premium economy seats and noted: “This is particu-larly impressive as its workhorse 737-800s used to typically have 12 premium economy seats but now have eight business class seats, indicating demand is growing despite premium seat supply decreasing. ” And the success has been bullish enough for the airline to commit to intro-ducing business class to its fleet of E-190s in a 2-1 configuration.

Mr Borghetti told Australian Aviation that the most popular business class seat on Qantas’s internationally configured 767s is the single window seat in the 1-2-2 configuration.

A key to producing higher margins has been the commitment to maintaining a tight control on costs. “Even with our investment in product and brand enhance-ments, including establishment costs, we have contained costs, with underlying CASK growth (excluding fuel) of 4. 7 per cent for the half. Consequently we saw a 10 per cent improvement in underlying operating margins during the half,” Mr Borghetti said.

“We also introduced a new tiered hedg-ing policy which provides us certainty in the short term and enables us to manage medium-term risk, which has helped us to manage in the continuing high fuel cost environment. ” The airline grew capacity by 5. 3 per cent, which was in line with guidance of between four and six per cent. “We have focused capacity increases on high-yield routes such as the Sydney-Melbourne-Brisbane trian-gle, the trans-continental routes between Perth and the east coast and key regional centres in Western Australia, Queensland and New South Wales,” said Mr Borghetti.

Also on the growing list was the airline’s on-time performance which Mr Borghetti claimed was the best among the major air-lines. “On time performance is also a strong focus for our team and we are pleased that the Bureau of Infrastructure, Trans-port and Regional Economics (BITRE) figures show that, at 82. 8 per cent, we have achieved the best on time performance among the major carriers for the first half of financial year 2012. While our January performance was affected by a number of factors, including the introduction of our new business class catering, we are now back on track in February and we remain committed to maintaining the industry leading position over the long term,” Mr Borghetti said.

Not surprisingly Mr Borghetti spent time discussing the success of his interna-tional strategy. “The company is con-tinuing to benefit from the rollout of our network and alliance strategy. Internation-ally, our Abu Dhabi service continues to develop well in line with expectations as awareness grows of its seamless onwards connections to Europe with alliance part-ner Etihad Airways. ” While Mr Borghetti would not disclose financial details of the alliance gains, ac-cording to CAPA Etihad said its partner-ship with Virgin Australia saw a 700 per cent increase over what Etihad achieved with Qantas, although this too was from a low base.

Mr Borghetti said that the “Air New Zealand alliance was launched in July 2011 and has driven strong growth in passenger numbers on our trans-Tasman services, de-spite a challenging environment. We expect to see further growth in response to our newly aligned schedule and the operation of the first trans-Tasman aircraft in Virgin Australia livery next month. ” Mr Borghetti said that its operations to the US had been enhanced by the launch of the alliance with Delta Air Lines in late 2011. “The joint venture has allowed us to offer three trans-Pacific services per day, improve our connection times and expand our network with access to 250 destinations across North America. We are also now able to leverage Delta’s distribution strength in the US to draw passengers onto our international and domestic services. ” Yet to impact the financial figures is the airline’s linkup with Singapore Airlines which received final approval in December.

Singapore Airlines began codesharing on Virgin Australia’s domestic services in February and Virgin Australia will launch codeshare on Singapore Airlines interna-tional services across Asia and beyond in the next few months. From Perth Virgin Australia will also codeshare on Singapore Airlines to London.

Mr Borghetti also noted that the airline’s Boeing 737 services to the Pacific Islands and South-East Asia are also performing well. “We have added further frequencies on these routes, including extra services to Indonesia and Vanuatu and will continue to forge niche alliances to cover other key in-ternational leisure and business destinations. ” Off the radar somewhat is the airline’s codesharing with Hawaiian Airlines to Hawaii from October and from March codesharing with Virgin Atlantic to Hong Kong. Those two destinations cover 19 out of the 20 most popular international desti-nations from Australia says Mr Borghetti.

The combination of all the initiatives and alliances has seen the airline grow its share of international traffic connecting onto its short-haul international and domestic network by more than 100 per cent.

On domestic routes Mr Borghetti said that the airline has focussed on shifting capacity to strategically important corpo-rate and leisure routes where there has been strong demand and strong yields.

“Our new ATR 72 turboprop aircraft have enabled us to grow our regional network, with the launch of new services to Emerald, Gladstone and Port Macquarie. These services have been very popular and are already among our best performing re-gional routes. There are currently four ATR aircraft operating on our network and the fleet will grow to 12 by the end of the 2013 financial year,” said Mr Borghetti.

Also on the domestic front Virgin Aus-tralia received interim approval from the ACCC to expand its alliance with Skywest to offer integrated schedule and charter operations to meet the growing demand from the resource industry. However, a key battle to win a major contract from Perth-based Fortescue Metals Group worth almost $100 million was unsuccess-ful with the tender going to Qantas and Network in early March. Skywest had held the contract.

In-flight Product

Mr Borghetti made special note that the airline had made great strides in developing its “seamless, first-rate experience” for pas-sengers both in the air and on the ground. “Key to this progress is our people, and we have invested significantly over the half [year] in staff training, as well as growing our frontline workforce. For example, over the past 12 months, over 1,800 of our cabin crew have completed an intensive “Elevate” development program, designed to take our service levels to even greater heights in line with the new brand and business class offering,” Mr Borghetti said.

“We believe that our people are our greatest asset and they are a key driver of our customer satisfaction. Guests continu-ally tell us that it is our people and the pride they take in delivering excellent service that differentiates Virgin Australia in the market. ” Mr Borghetti said he was thrilled about the rollout of the airline’s business class product. “Feedback has been excellent and forward bookings are ahead of our expectations which really demonstrates the market is readily embracing our move to bring competition back to the domestic business class market,” Mr Borghetti told Australian Aviation.

Mr Borghetti believes that the busi-ness class on the E-190s will be a big hit. “This will provide premium passengers space and privacy on services to important business destinations such as between Canberra and Sydney. ” And from April, business class fliers on the Boeing 737 and Embraer fleets will have Samsung Galaxy tablets loaded with television shows, movies and audio. By the end of 2012 the airline also will be introducing a state-of-the-art in-flight entertainment system on the 737 that uses Wi-Fi to deliver content to passengers’ own hand-held devices.

Virgin Australia continues the rollout of new lounges across Australia in centres such as Mackay and the Gold Coast as well as enhancing lounges in Sydney, Adelaide and Perth.

Mr Borghetti said: “To improve the experience for passengers at Sydney and Melbourne domestic airports, we will be expanding and refreshing terminals over the next 18 months, including building ad-ditional aerobridges at both airports for our widebody Airbus A330 aircraft. ” The airline also is rolling out dedicated premium valet car parking and check-in at Brisbane to be followed late this year with a similar service in Melbourne.

Mr Borghetti says the next major mile-stone will be the refit of the international long-haul Boeing 777s with new designer interiors before the end of FY 2012.

The airline said there had been impres-sive growth in its frequent flyer program since last August’s relaunch with 500,000 extra members, reaching the three million mark in the past six months.

Mr Borghetti also announced the airline would be moving to a Sabre IT reservations system: “Many of the Game Change Pro-gram initiatives completed so far have been centred around repositioning the business to ensure it is on the right course. Now that these foundations have been laid, our key strategic focus is on enabling the growth of the business.

“The new Sabre IT reservation system will act as one of the key enablers. In order to drive growth, we need to enhance our ability to provide seamless domestic and in-ternational travel experiences for our guests across our global network and enhance our global distribution capability. ” He said the program would enable integration of the airlines with one system and a single designator code, improve cus-tomer recognition and experience, provide integrated, seamless travel with alliance partners and access a more efficient in-dustry standard global distribution system process. Sabre also would work to improve interactions with travel management com-panies and travel agencies worldwide.

He expects implementation of the Sabre system in the final quarter of this calendar year.

Fleet Growth

According to CAPA, the Virgin Aus-tralia fleet numbered 98 as of December with 29 scheduled deliveries balanced by the return or retirement of 15 aircraft. By June 2013 the fleet is expected to be 108.

The workhorse 737NG numbers 68 with 17 on order to be offset with 14 returns from lease. The airline has five 777-300ERs, 18 E-190s, two A330s and four ATRs.

Two new A330s were due this April and May with two more early next year, and the two existing ex-Emirates A330s will be brought up to the new interior standard.

According to CAPA, Virgin is believed to be working in the medium term towards a fleet of upwards of 20 A330s, saying: “Given recent fluidity in delivery schedules and available used aircraft, Virgin may see further A330 expansion prior to June 2013.

“The aircraft will continue to be deployed on domestic trunk routes – Sydney-Mel-bourne-Perth, Sydney-Melbourne and later Brisbane-Perth but also used to open new destinations in Asia. ” Reflecting tough times, Virgin Australia said the outlook remained strong with the company forecasting a full-year improve-ment over its results in 2011. Citing volatil-ity, it would not give guidance.

By any measure, the makeover of Virgin Australia has taken off. Now we are likely to see the rise and rise of Virgin Australia as Mr Borghetti proves once again that nothing succeeds like success.