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Consolidation & Alliances in Latin America

Airline Leader

Latin America's matrix of airlines and partnerships has changed drastically during the last decade, driven by the mergers of Avianca and TACA and LAN and TAM.

The unsurprising, yet critical, decision for LAN to pull TAM from the Star Alliance to oneworld in 2013 occurred just as Latin America's economy weakened, driven by a recession in Brazil.

But even as Latin America until recently suffered in the throes of an economic free fall, airlines based in, and serving, Latin countries worked feverishly to forge new partnerships and adapt their strategies to ensure they capitalise on the significant potential still inherent in the region.

Through the merger of LAN and TAM, which now operate under the brand LATAM Airlines Group, those two airlines have leveraged their leading positions in Brazil and other strategic markets to hold an almost 30% seat share in Latin America (excluding the Caribbean) as of Aug-2017. LATAM's prominence in the region and its membership in oneworld, have resulted in the alliance representing 32% of the region's seats.

However, 38% of Latin America's seats are deployed by unaligned airlines, and one of the largest airlines operating outside an alliance is Gol. Latin America's first LCC represented 31% of Brazil's system wide seats and 36% of the country's domestic seats as of late Jul-2017.

Although Gol has steadfastly adhered to its strategy of operating outside the traditional global alliance structure, the company has deep ties to SkyTeam partners Air France-KLM and Delta, both of which hold equity stakes in Brazil's largest airline. When Gol undertook a significant financial restructuring in 2015, Delta doubled down on its financial commitment to Gol, upping its stake in the airline and guaranteeing a USD304 million loan goal secured by Gol as it worked to stay financially afloat. Although SkyTeam represents just 4% of upper South America's seats, clearly the alliance exerts more influence than those numbers indicate. SkyTeam anchor member Delta holds a seat on Gol's board, and is unabashedly hands-on with all the airlines it has invested in during the last five years - Virgin Atlantic, China Eastern and Aeromexico.

Seat share in Latin America*

ALLIANCE

CAPACITY (seat share)

Unaligned

38%
Star 20%
oneworld 32%
SkyTeam 9%

Alliance seat share of Latin America's three largest markets*

COUNTRY CAPACITY (seat share)
Brazil Unaligned 52%
Star 14%
oneworld 32%
SkyTeam 3%
Mexico Unaligned 54%
Star 10%
oneworld 8%
SkyTeam 28%
Colombia Unaligned 18%
Star 61%
oneworld 19%
SkyTeam 3%

Delta's commitment to Gol reflects the company's strategy of ensuring it has a solid presence in important geographies, and shows Delta is willing to endure short term pain in order to build leverage in Latin America. In turn, Gol's prominence in Brazil gives it a certain level of clout to remain independent, maximising partnerships across all spectrums to bolster revenue. Gol has 12 codeshare partners and numerous interline agreements.

Brazil's other airlines have also worked to forge partnerships outside the traditional alliance structure. The country's third largest airline, Azul, now has a codeshare with TAP, the largest airline operating between Brazil and Europe, after Azul's founder and chairman David Neeleman led a consortium to obtain a 45% stake in TAP, finalised in 2016. Azul also codeshares with United after the US airline invested USD100 million in the Brazilian carrier in 2015. Azul has also forged a codeshare agreement with jetBlue, which gives the Brazilian airline numerous connections at jetBlue's strategic South Florida focus city of Fort Lauderdale. Azul serves Fort Lauderdale from its largest base and headquarters at Campinas Viracopos and launches Belen-Fort Lauderdale service in August.

Additionally, China's HNA Group owns a 24% stake in Azul, and also has a stake in TAP. HNA's partnership with Azul allows for connections from Asia into Latin America through Portugal on routes served by Azul, TAP and Beijng Capital Airlines. TAP operates to numerous Brazilian destinations while Azul offers trans-Atlantic flights from Campinas to Lisbon.

For all the benefits that exerting their leverage in Brazil brings to independent airlines Gol and Azul, LATAM's dominance in Latin America and the changes it is trying to initiate in the region's alliance structure are a force to be reckoned with. In late 2016, LATAM upped the partnership ante in the region by outlining plans to form JVs with fellow oneworld members IAG and American Airlines. In essence, LATAM and its potential JV partners will be operating as a single airline, coordinating on pricing and scheduling and sharing revenue. In theory, each side is even more incentivised to maximise revenue from a deeper relationship than revenue benefits delivered through a typical codeshare.

The planned oneworld JV in Latin America are poised to bolster the alliance's already dominant positions in some of the region's leading hubs - Sao Paulo Guarulhos, Santiago and Lima, three hubs where oneworld already has commanding seat shares of 40%, 67% and 56%, respectively.

Latin America's other large airline group, Avianca, is not resting on its laurels while LATAM works to bolster its dominance through oneworld JVs. In mid 2016, Avianca sought a strategic investor, and Delta and Copa were reportedly interested in taking a stake in the airline. Eventually, Avianca revealed plans to deepen its partnership with fellow Star partner United. The two airlines aim to establish a JV, but it remains unclear if United is actually making an investment in Avianca.

Alliance seat share in Latin America's largest hubs*

HUB ALLIANCE CAPACITY (seat share)
Buenos Aires Ezeiza Unaligned 18%
Star 14%
oneworld 29%
SkyTeam 39%
Santiago Unaligned 21%
Star 6%
oneworld 67%
SkyTeam 6%
Lima Unaligned 21%
Star 18%
oneworld 56%
SkyTeam 5%
Bogota Unaligned 12%
Star 65%
oneworld 21%
SkyTeam 3%
Mexico City Unaligned 45%
Star 7%
oneworld 5%
SkyTeam 44%

Avianca and United's plans to create a JV are a natural defence against LATAM's efforts to create a fortress in the North American and trans-Atlantic markets. LATAM is working to shore up oneworld's presence between Latin America and Western Europe and maintain the alliance's dominance between Latin America and North America. oneworld holds a 43% seat share from upper South America to North America, and a 62% share from lower South America to North America.

Avianca and Star hold a commanding influence in Latin and Central America's third largest market, Colombia, where domestic passenger growth more than doubled between 2008 and 2016 from roughly 10.7 million to 26.5 million annual passengers. Annual international passengers in the Colombian market during that same time period jumped from six million to 12 million.

Star's system seat share for the Colombian market was 61% in early Aug-2017, driven by Avianca's 55% share. Avianca's efforts to join forces with United will not match the scale oneworld will achieve with its Latin American JV, but should sustain Star's fortress in the important Colombian market, which is forecast to have stable GDP growth in 2018 after a more tepid 2% increase in 2016 and projections of similar growth in 2017.

Delta's reported interest in Avianca reflects the continued rising importance of traffic growth, to, from and within Colombia and Avianca's strength in Latin America. The interest also exemplifies Delta's readiness to reach outside the confines of the SkyTeam alliance to achieve its network goals.

The company's financial backing of Gol and large equity stake in Virgin Atlantic are other examples of Delta's willingness to cross alliance boundaries in order to carve out strength in key global markets - Brazil and London.

Delta has also worked to exert a stronger influence in the Mexican market by increasing its stake in Mexico's largest airline Aeromexico from 4% to 36% and forging a transborder JV with its SkyTeam partner. Delta and Aeromexico control roughly 25% of Mexico-US capacity, compared with roughly 20% for American and United, neither of which have an anchor alliance partner in the key Mexican market.

Passengers travelling between the US and Mexico jumped 54% from 2010 to 2016, and grew 13% for the first five months of 2017 against a backdrop of anti-immigration sentiments from the US Administration of President Trump. Combined, Delta and Aeromexico held a 23% share of seats deployed between the US and Mexico in late Jul-2017 compared with 20% for American and United. Aeromexico's Mexican rivals Volaris and Interjet held seat shares of 11% and 7%, respectively.

Delta and Aeromexico's moves in the Mexican market help each airline leverage their respective strengths to sustain and grow SkyTeam's 28% seat share (as of late Jul-2017) in the overall Mexican market.

Alliance seat share upper South America to Western Europe*

Alliance seat share lower South America to Western Europe*

Alliance seat share upper South America to North America*

Alliance seat share lower South America to North America*

But unaligned airlines represent 54% of Mexico's systemwide seat capacity, reflecting the rapid rise of low cost operators Volaris, Interjet and, to a lesser degree VivaAerobus, during the last decade. Among those airlines, Volaris has been more aggressive in pursuing transborder growth, and in late Jul-2017 held a 11% seat share between the US and Mexico. Among Mexican airlines, Volaris had a 25% passenger share in the US transborder market for the first half of 2017, and Grupo Aeromexico commanded a 55% share.

The JV between Aeromexico and Delta will serve to bolster Aeromexico's standing in the market, allowing Aeromexico to launch five new US destinations in 2017. Three of its new markets are Delta strongholds - Atlanta, Detroit and Seattle - and the remaining two cities - Portland and San Jose - are airports where Delta is the third largest airline by seats measured. More importantly, Aeromexico and Delta have the benefit of marketing numerous beyond connections from hubs including New York, Atlanta, Detroit, Seattle and Mexico City. Aeromexico has been working to strengthen the attractiveness of Mexico City's connectivity, and the added benefit of tacking onto Delta's vast North American network will accelerate Aeromexico's goals of building up Mexico City as an attractive connecting point from the US to Latin America.

Latin America's airlines are racing to forge JVs with their respective airline partners. This is raising questions over how airlines operating outside those prospective entities are positioning themselves. Ultra low cost and LCCs including Volaris and VivaAerobus eschew alliance membership, believing they can capitalise and profit from the stimulatory opportunities inherent in Latin America.

One of the lingering questions emerging from the JV jockeying occurring in Latin America is the role Panama's Copa Holdings will play as the groupings evolve. Copa has consistently been one of the most profitable and fast growing Latin American airline groups, producing 20% operating margins in 2010 and still posting a respectable 12% margin in 2016 as it faced tough economic conditions in the region.

Copa has harnessed the favourable geographic position of its hub at Panama City to leverage connections into both North and South America. Copa has deep, historical ties to Star Alliance partner United. Prior to the United-Continental merger, Continental at one point had an equity stake in Copa, and the current iteration of United has a codeshare and reciprocal frequent flyer partnership with Copa.

It does not appear that Copa has held any formal discussions with Avianca and United regarding joining their proposed JV. United could look to create a separate JV with Copa and possibly Azul, but for now it seems the tie-up with Avianca will take priority. Copa will continue to enjoy codesharing benefits from its relationships with both Avianca and United, but being shut out from creating a deeper partnership with its fellow Star airline could create challenges for Copa over the long term as Avianca and United could potentially operate as essentially one airline between the US and South America to maximise revenue and compete more effectively with LATAM.

As members of oneworld, SkyTeam and Star evolve their partnerships in Latin America by creating JVs, there is a caveat. Regulatory approval of those proposed tie ups is likely to take longer than anticipated, and be accompanied by stiffer concessions than those included in previous JV endorsements.

Some consumer groups and US airlines jetBlue and Hawaiian Airlines mounted stiff opposition to the market concentration created by alliance JVs in the trans-Atlantic market. It was this that arguably led to US regulators requiring Aeromexico and Delta to divest 24 slot pairs at Mexico City Juarez and four slot pairs at New York JFK before granting antitrust immunity. Additionally, the immunity between Aeromexico and Delta is lasting only five years, a condition suggested by jetBlue as it pushes for higher levels of scrutiny of immunised JVs. Once the five year term ends, the airlines need to re-apply for immunity.

It is unclear if the Administration of US President Trump will lend a sympathetic ear to the concerns about joint ventures expressed by smaller airlines. However, Brazilian authorities have reportedly expressed concerns over the potential increase in market power enjoyed by LATAM and IAG Group on certain routes to Europe -particularly Sao Paulo-Madrid, where Iberia and LATAM Airlines Brazil held a 73% seat share in late Jul-2017.

On a larger scale oneworld's seat share between upper South America and Western Europe is 28% in early Aug-2107, compared with 33% for SkyTeam and 34% for Star. But concerns by Brazilian regulators over a high concentration on specific routes will likely be echoed by other governments within Latin America, resulting in definitive concessions LATAM and IAG must adhere to in order to forge their deeper network connections.

Members of the longstanding oneworld and SkyTeam alliances are attempting to accelerate the maturity of Latin America's aviation market through the establishment of immunised JVs that have been the mainstay in North American trans-Atlantic markets for nearly a decade.

It has been more than a year since LATAM Airlines Group outlined plans to forge anti-trust immunity with fellow oneworld members IAG and American, and the proposed partnerships will no doubt come under close scrutiny. But all the airlines working to transform alliance structures in Latin America appear prepared to withstand the careful regulatory reviews and ensuing concessions in order to carve out a strong position in what remains one of the world's most promising aviation markets.