Air New Zealand acquires ‘substantial’ stake in Virgin Blue; step towards fuller alliance

Virgin Blue shares jumped 10% in late trade close on 20-Jan-2011 following the announcement, after substantial falls in the previous two sessions on a downgraded profit outlook by Macquarie Bank. Air New Zealand stated the purchase of the shareholding was completed from existing cash resources.

Air New Zealand stated it had obtained Australian Foreign Investment Review Board approval to purchase up to 14.9% in Virgin Blue, within the statutory limit of 49%. Companies are generally considered to be substantial shareholders when they hold 5% or more of a company. The acquisition makes Air New Zealand Virgin Blue's second-largest shareholder behind the UK's Virgin Group, which holds a 26% stake. Under Australian law, only another 9% of Virgin Blue shares can be held by foreign entities. Air New Zealand CEO Rob Fyfe stated he would not ask for a seat on Virgin Blue's board for at least six months and noted that any representation would be a decision for Virgin Blue and its shareholders.

Announcing the acquisition, Mr Fyfe commented: "The investment in Virgin Blue is part of Air New Zealand's strategy to develop scale and reach in this region. The (recently approved) Tasman alliance with Virgin Blue was the first step in this strategy. This investment cements the emerging relationship between our two airlines and demonstrates the confidence we have in Virgin Blue both as an entity and as a partner for Air New Zealand."

He separately told Stuff.co.nz: "This is simply an investment in Virgin Blue that reinforces Air New Zealand's strategy to grow its business in Australasia which is continually evolving as a single aviation market. The Tasman alliance with Virgin Blue was a key step in this strategy ... The investment provides us with an interest in the number two airline in Australia and, through this, access to the opportunities in the growing Australian domestic market. Air New Zealand has no intention of entering the Australian domestic market in its own right."

On 12-Jan-2011, Air New Zealand signed a codeshare agreement with Virgin Atlantic covering services between the UK and New Zealand, expected to become effective on 28-Feb-2011, after the relevant government approvals. The agreement follows interline cooperation between the airlines and a reciprocal frequent flyer partnership agreement. Virgin Atlantic passengers will be able to connect on a range of Air New Zealand services.

Last year, Air New Zealand and Virgin Blue received approval from the Australian Competition and Consumer Commission (ACCC) and from NZ Transport Minister Steven Joyce to cooperate on trans-Tasman (Australia-New Zealand) operations. The alliance covers three areas of cooperation:

• A broad free‐sale codeshare arrangement covering all Tasman sectors and domestic sectors forming part of a connecting Tasman journey;
• A revenue allocation agreement supported by a joint Trans‐Tasman Network Planning and Revenue Management Team;
• A reciprocal frequent flyer and lounge access agreement.

A necessary and valuable combination

Today's announcement of another step in the relationships between Australia's second airline and the New Zealand flag carrier bears considerable logic. It will progressively evolve into a partnership where the two are able to compete on an equal footing with Qantas in each country. At present, the Qantas/Jetstar combination has a substantial advantage over the smaller airlines in that the Qantas Group is effectively represented in both countries, able to generate huge efficiencies and a comprehensive traffic feed.

With this initiative, Air New Zealand will gain much more effective entry to Australian traffic flows, domestic and international and Virgin Blue becomes capable of a true Australasian (Australia and New Zealand) operation. As both airlines seek to capture some of Qantas' 90% stranglehold on Australia's corporate market, this will not be a positive development for the Australian flag carrier. However, Qantas is so well entrenched that it will not be quickly - or easily - usurped. One in every two households in Australia has a Qantas frequent flyer membership.

Apparently a win for Star Alliance

Air New Zealand's apparently friendly acquisition - assuming it gains the necessary approvals - must surely be a positive move for the Star Alliance, which has been keen to re-establish in Australia, after Ansett Airlines' collapse in Sep-2001. Air New Zealand is an active supporter of the alliance and it is hard to see how there would not be an overflow from this deal into something that will support Star activities in Australia. There are numerous competition regulatory hoops to jump through before more extensive cooperation is possible, but it is hard to see this being rejected, given the current balance of competition.

A newly fortified United, keen to stamp its credentials in Asia and the Pacific, could also benefit from a more effective Australian presence. US airlines have full traffic rights to fly between Australia and Japan, something that is difficult to make work at present. However, with good traffic feed in Australia, and perhaps a joint or codeshared operation with Virgin Blue, the route could become viable - in the process thickening up United's Pacific route structure, which now incorporates a wide range of former Continental Airlines operations throughout the region.

A Star Alliance role would not be altogether tidy, as Virgin Blue and SkyTeam leader Delta are currently progressing an application for a partnership on the US-Australia route; it is possible that deal will now falter, even if it gains regulatory approvals from the US authorities, still no certainty. Indeed, the Air New Zealand relationship could raise immediate doubts in the US regulators' minds.

The most valuable position for Virgin Blue would be to continue with both relationships, something that might be workable in the short term. But, as frequent flyer programmes and network connectivity with Air New Zealand grows, more complications arise. It is difficult to see how, for example, Virgin Blue could cooperate intimately with Star and SkyTeam head-to-head operations between Australia-New Zealand and the US. This could be a setback for Delta, which will rely on Virgin Blue for its traffic feed.