Etihad Empire

There is something else most people forget. Investing in partner airlines isn’t all about raking in dividends on your shares. For Hogan it is a strategy that has allowed a small Gulf airline which only launched operations in November 2003 to become a real force in global aviation with a virtual passenger and cargo network of nearly 600 destinations through its 197 interline and 49 codeshare partnerships. Last year that strategy delivered five million passengers and US$1. 4 billion in direct revenues to Etihad, not to mention the huge savings achieved through significant cost synergies. It’s 2015 earnings of US$103 million was its fifth consecutive year of net profitability. And its partners are reaping significant benefits in return, through passenger feed, group purchasing, shared training facilities and a host of other efficiencies.

As Hogan put it in an April address to The Wings Club in New York, in an industry dominated by legacy airlines and with such high barriers to entry, no new network carrier could hope to compete effectively on its own.

“Global air travel is a business with incredibly high barriers to entry – not just in terms of cost, but in market access, infrastructure requirements and the challenge of competing against such entrenched mega-carriers. The highest barrier is network. You can’t build a global network overnight – in fact, you’d need decades, and billions of dollars, to build networks that could compete against the major airline groups. ” That’s where partnership comes in, he said. “From day one, we’ve taken an open partnership approach, working with scores of airlines on codeshare agreements. Then we took that a step further with minority equity investments in strategically important airlines. Together, we have been able to create a new competitive choice for air travellers in key markets around the world. That’s good for consumers, good for tourism and good for trade. ” Hogan himself doesn’t ever describe the group of airlines in which investment is involved as an alliance. That is mere semantics. In fact, it is the seventh largest airline group in the world and between them these carriers – Etihad itself, Jet Airways, Alitalia, airberlin, Virgin Australia, Air Serbia, Etihad regional (Darwin Airlines in Switzerland), Air Seychelles and NIKI (airberlin’s Austrian subsidiary) – have a combined fleet of more than 650 aircraft and about US$25 billion in annual revenue. The real point is that even those airlines which are still losing money, such as Alitalia and airberlin, are actually delivering benefits to other members of the group.

“We have a two-pronged approach,” explains Hogan. “From a strategic level, we are looking for the equity partners to bring network connectivity, generate additional revenues and create economies of scale. All our partners are delivering on this level. Each partner then has its own business plan, which is the responsibility of their own management and boards of directors. Many of these, such as Air Serbia, Air Seychelles, Jet Airways and Virgin Australia, are now delivering on this level too. We are supporting the restructuring of businesses that require it, such as Alitalia and airberlin. ” So, how is the recovery side of the strategy progressing? Firstly, a key has been Hogan’s ability to find the right people to turn failing businesses around. The best example is fellow Australian Cramer Ball, a former manager of strategic corporate programs for Qantas and commercial sales manager for Ansett Australia, later Etihad’s general manager Australia and New Zealand, based in Sydney and regional general manager, South-East Asia based in Bangkok.

Ball has become Etihad’s go-to man, the recovery specialist who has shown he can deliver the goods. Sent to run loss-making Air Seychelles, he stopped the red ink flowing there before moving on to take charge of Jet Airways, where he did the same. In December he was appointed chief executive of Alitalia, an airline that was one of Europe’s basket cases having suffered more losses over the years than Italy has had governments.

When Etihad bought in to its 49 per cent Alitalia stake for some US$750 million in 2014 it was a carrier mired in debt, flirting with bankruptcy, dysfunctional, rudderless and reportedly losing US$2. 3 million a day. The overall deal also included US$690 million of debt restructuring and US$346 million from Alitalia’s wide array of smaller shareholders. While the need for that level of cash input showed just how bad things were, at the time Hogan said even though Alitalia was “a poor business financially”, it was a strong airline.

Ball took charge in December last year and in April confirmed the Italian carrier is on track to become profitable by next year. In 2015, its first full

We are looking for the equity partners to bring network connectivity. JAMES HOGAN

year under a three-year turnaround plan, it had a net loss of US$229. 5 million. But that was a big improvement on the US$669 million loss it suffered the previous year. It has been a remarkable turnaround, though not yet complete, in such a short time.

Again, partnerships – Alitalia is also a member of the SkyTeam alliance – have played a critical role, with a contribution to its revenues of more than US$270 million from codeshares. Since January 2015, Alitalia and Etihad Airways have shared more than 450,000 passengers between their networks, while more than 1. 2 million passengers have been shared between Alitalia and Etihad Airways Partner airlines. Its relationships with both SkyTeam and Etihad has allowed it to achieve significant synergies, operational efficiencies and cost reduction across all areas of the business as a result of increased scalability, systems integration, joint procurement, and the implementation of best practice with its partners.

“There is still much to do to reach our long-term goals, but this year has seen our team achieve many significant milestones,” said Ball. “As an airline, we face many macro-economic challenges. However, the Alitalia of today is ready to face the challenges, moving forward as a commercially successful business. While investment is a key part of our strategy, our management will continue its forensic focus on cost and leverage every opportunity to achieve further efficiencies on our journey to profitability. ” The other most troublesome family member is airberlin – Etihad has a 29 per cent stake – which reported a US$515. 3 million loss for 2015, some

Despite the losses there are underlying signs of improvement.

16 per cent worse than the previous year. But there were extraordinary circumstances. Headed by German-born Stefan Pichler, a former chief executive of Jazeera Airways, Fiji Airways and once a senior executive with Virgin Australia, the carrier was hit by fuel hedging losses, tough competition in its home markets and restructuring costs. Its fuel hedging transactions, coupled with a sharp decline in the US dollar, meant a missed opportunity amounting to more than US$230 million. With that now behind it, airberlin expects to profit from low fuel costs this year to the tune of around US$280 million. It also suffered from geopolitical events, such as terrorist attacks in Paris and Egypt. A court case over codeshares with Etihad – the arrangement was ultimately approved – also cost it US$46 million in lost or cancelled sales in the fourth quarter of 2015 because the codeshares couldn’t be operated while the case was proceeding.

Despite the losses there are underlying signs of improvement. “airberlin made good progress in its operational and commercial performance in 2015 with revenue per available seat kilometre, yield, load factor, operating seat cost and ancillary revenues all improving,” said Pichler.

“Although we reported a significant net loss… the underlying fundamentals of our business are now trending in the right direction, and we can look forward to further improvements in our trading performance, especially in the second half of this year. ” Hogan talked up the benefits airberlin brough to Etihad, and vice versa.

“Even with an investment such as airberlin, where it has taken longer than expected for the airline to reach sustainable profitability, we are seeing incredibly strong returns directly into our business, far in excess of our original expectations. We have already received more than US$500 million in direct revenues to Etihad Airways and airberlin today delivers more than US$150 million a year in direct revenues, as well as wide-ranging cost synergies which have already reached more than US$100 million. In addition, the airberlin relationship is delivering a contribution of more than US$630 million a year to the Abu Dhabi economy. This is why we remain committed to the restructuring of that business as it moves forward,” Hogan said.

Ball’s departure from Jet to take over at Alitalia hasn’t set back the progress being made at the Indian airline. In February it announced a record quarterly net profit of US$70. 5 million, helped by lower fuel costs, which were down 27 per cent, higher passenger numbers and the partnership with Etihad, which took a 24 per cent share in the airline in 2013 for US$379 million. Combined, Jet and Etihad now have the largest share of India’s international traffic.

Jet’s chairman Naresh Goyal attributed the strong quarter to improvements in productivity and efficiency. Jet said its partnership with Etihad has strengthened further, underpinning a surge in codeshare traffic, which grew by 86 per cent.

Hogan, who is vice chairman of Jet, said: “We remain committed to providing solid support and driving further synergies between the two partners. ” Abu Dhabi is now a hub for Jet’s international flights.

Though smaller, with a fleet of just 20 aircraft, Air Serbia is also proving a success. Etihad took a 49 per cent stake in 2013 when the carrier was re-launched from the ruins of the former failing government-owned JAT Airways. Its chief executive is Dane Kondic, who holds dual Australian and Serbian citizenship. He formerly worked with Qantas and Malaysia Airlines as well as with several travel companies including Sabre, Abacus, Travelport and Kuoni Travel China.

Air Serbia is due to launch flights from Belgrade to New York in June, the first non-stop service between Serbia and the United States in 24 years.

It currently serves more than 39 destinations in Europe, the Mediterranean and the Middle East directly from its hub at Belgrade’s Nikola Tesla International Airport with passenger and cargo services.

Air Serbia announced in May it had recorded a second year of profit in 2015, with net income of US$4. 5 million, up 44 per cent on the previous year, with passenger numbers increasing 11 per cent to 2. 55 million. Fulyear revenue was up 16 per cent to US$348 million.

The increased revenue and profits were a direct result of an unwavering focus on lowering costs, raising productivity and building on product and service offerings.

“We continue to grow not just in revenue and passenger numbers, but more importantly also in reputation, performance and maturity, emerging as a regional industry leader in a relatively short period of time,” Kondic said recently.

In the Indian Ocean, tiny Air Seychelles is also doing well. In May it reported its fourth consecutive year of profitability with income of US$2. 1 million in 2015. Its passenger numbers were up 22 per cent as, during the year, it launched non-stop flights to Paris.

Etihad’s partnership strategy isn’t just about creating a global passenger network. By combining aircraft fleets and networks, Etihad Cargo is now the fifth largest cargo operator in the world by working in close harmony with Jet Airways Cargo, airberlin Cargo, Air Serbia, Alitalia and Air SeychellesCargo. Etihad Cargo generates more than US$1 billion in annual revenues. With a fleet of five Boeing 777Fs, three Boeing 747s, and four Airbus A330Fs (a fifth will arrive next year) it accounted for 88 per cent of cargo imports, exports and transfers at Abu Dhabi International Airport in 2015.

Delivering the opening address to more than 1,200 delegates attending the World Cargo Alliance (WCA) Conference held at the Abu Dhabi National Exhibition Centre recently, Hogan pointed out the Middle East region continues to outperform global growth rates for cargo and plays an increasingly important role in the flow of world trade and goods, with its geographical importance enhanced as traffic shifts from traditional and established markets to emerging commercial centres in the Middle East, Asia, South America and Africa.

“Etihad Cargo has grown into a billion dollar business and represents a significant part of our business by focusing on dedicated services and innovative products to provide a winning customer proposition. By working with our partners, we will continue to maximise the profitability of each carrier by combining resources, networks and capabilities for the benefit of all of our customers. ” As for Etihad Airways Partners, Hogan doesn’t have to do much to defend his strategy.

“Our mandate is to build a sustainably profitable airline. A fifth year of net profits, with our best annual financial performance to date, shows that we are delivering against that goal. Our profitability clearly demonstrates the success of our business strategy, based on organic growth boosted by our partnerships. As well as operating profitably, we are building enterprise value across the airline and its many additional business streams. ” Etihad carried a total of 17. 6 million passengers in 2015, an increase of 18. 9 per cent year-on-year, exceeding its capacity growth and outperforming regional market growth, which has actually seen a decline in load factors since mid-2014. Last year it added six new destinations: Kolkata, Madrid, Hong Kong, Entebbe, Edinburgh and Dar es Salaam and increased capacity on 16 existing routes with bigger aircraft, more frequency and improved seat occupancy. Its fleet increased by 11 aircraft, including four Airbus A380s and four Boeing 787-9 Dreamliners, to a total of 121 at year end. With an average age of 5. 8 years, the fleet is one of the youngest in the industry. The A380 was rolled out on the Sydney and New York routes, and inducted on a second daily flight to London Heathrow, while the 787 began commercial operations between Abu Dhabi and Zurich, Brisbane, Washington DC and Singapore.

Hogan says that, combined, the equity partners fly more than 100 million guests worldwide. “The strategy has contributed to a large increase in sales across Etihad Airways’ global network, delivering revenues of US$1. 4 billion – an increase of 22. 1 per cent on 2014 figures – and more than five million passengers onto Etihad Airways’ flights. In addition, the airline and its equity partners have been able to identify and develop significant business synergies and cost savings. ” He says the airline’s return on its equity investments into the seven partner airlines has been “many times” more than the money it had spent.

“For an investment smaller than the cost of three new aircraft, we have been able to build our global network, attract five million new customers and US$1. 4 billion of revenues, and share massive cost synergies. That’s smart business.

Hogan says growth continued across all the group’s business streams, including cargo, MRO, catering and ground handling, and the frequent flyer program.

In the airline business things aren’t going to go well all the time. Some plans will proceed without a hitch while others will take longer to progress than others. There will undoubtedly be challenges, such as the ongoing squabble between Gulf operators and major US carriers over alleged subsidies – in many eyes a case of the pot calling the kettle black given the big American operators exist today only because they were able to hide behind the shield of Chapter 11 bankruptcy protection when they were in deep financial trouble.

Something else to keep in mind. As a global hub, the Gulf also faces future challenges. The biggest airport project in the world isn’t in the Middle East or China. It is Turkey’s Istanbul New Airport, currently under construction and estimated to cost some US$36. 2 billion by the time it is fully completed in 2028.

When the first phase is finished by the end of next year it will have the world’s largest terminal under one roof, with a gross floor area of nearly 11 million square feet and the ability to serve 90 million passengers a year. Completed, it will have six runways and an annual capacity of 200 million passengers, all aimed at making Istanbul a major global hub and a match for the Gulf.

But in the scheme of things there is little doubt now that many of Hogan’s detractors have been wrong and Etihad has forged a new and workable way of doing business in the air.