26-Jun-2013 5:15 PM

Etihad partnership strategy evolves further as joint purchasing with airberlin and Jet is pursued

Analysis

Etihad Airways is looking to take its alliance and partnership strategy another step forward by negotiating a potential joint aircraft order. The joint purchasing of aircraft and other smaller products such as seats on the new 787 could provide some of the carriers that Etihad has invested in an economy of scale that otherwise would be unobtainable.

Etihad currently has codeshare partnerships with 43 carriers. Joint purchasing will likely be limited to some or all of the five carriers that are now partially owned by Etihad. So far negotiations with aircraft manufacturers have included airberlin, Air Seychelles and Jet Airways with Aer Lingus and Virign Australia potentially joining the discussions later. Other airlines that Etihad buys into in future could also join later but for now Etihad is not looking to expand its investment portfolio.

Etihad has emerged as a leader in building up partnerships outside the main global alliances. The Etihad alliance and similar initiatives by other non-aligned carriers have become a viable alternative to global alliances. A joint aircraft order would provide an example of the Etihad alliance even providing a significant benefit that global alliances have so far not been able to offer.

Summary

Etihad Airways is negotiating a potential joint aircraft order with some of the carriers it has invested in, including airberlin, Air Seychelles, Jet Airways, Aer Lingus, and Virgin Australia.
The joint purchasing of aircraft and other products could provide economies of scale for these carriers.
Etihad's alliance and partnership strategy has become a viable alternative to global alliances, offering significant benefits that global alliances have not been able to provide.
Global alliances have struggled to come to agreements on joint aircraft orders due to the size and loose structure of the alliances.
The potential joint aircraft order with Airbus and Boeing would be the first successful example since 1998 when Latin American carriers LAN, TAM, and TACA jointly ordered 90 A320s.
Etihad's focus is turning towards India and Jet Airways, with the potential for increased traffic rights and connections between Abu Dhabi and 23 Indian destinations.

Joint aircraft order with Airbus and Boeing is in the works

Over the years the three global alliances have all talked up the concept of joint aircraft orders and other types of joint purchasing. But so far very little has come to fruition. Even relatively small initiatives for aircraft seats and IT platforms have resulted in participation from a minority of members.

The reality is global alliances are too loose and too big for members to be able to come to an agreement on product specifications. A smaller group of closely aligned carriers presents a much easier proposition for joint purchasing. Perhaps the only successful example of a joint order was placed in 1998, when Latin American carriers LAN, TAM and TACA got together to order 90 A320s.

The three carries are now part of Latin America's two largest airline groups but at the time they were too small to have much leverage in aircraft negotiations. Etihad, airberlin and Jet Airways are relatively big and are of similar size. But all have local rivals which are bigger - and in some cases much bigger.

Combined, the trio has a fleet of 276 aircraft with another 192 on order, according to the CAPA Fleet Database. This provides a scale that only the world's largest airlines and airline groups can enjoy. Air Seychelles is particularly tiny, with a fleet that consists of only two jets and five small turboprops.

Etihad CEO James Hogan revealed during a media briefing at the IATA annual general meeting in Cape Town in early Jun-2013 that Etihad is in the "early days" of discussing a potential joint aircraft order. Talks with Airbus and Boeing involving executives from Etihad, airberlin and Air Seychelles took place at Cape Town.

The four carriers are looking at a wide variety of types for deliveries starting in 2020 and going through 2040. Mr Hogan said Aer Lingus and Virgin Australia are aware of the discussions and "if they wish to engage they can".

Etihad, airberlin and Jet Airways forge joint contracts related to 787

The possibility of a joint aircraft order follows airberlin and Jet Airways joining Etihad in several supplier deals related to Boeing 787s. Mr Hogan says the three carriers have come together to forge joint deals on seats, in-flight entertainment systems, engines and maintenance. The three carriers will also share a simulator in Abu Dhabi and pool rotables and components.

The deals give airberlin and Jet access to economies of scale they would not otherwise have on the 787, thereby reducing costs. airberlin and Jet have only 15 and 10 787s on order, respectively. Etihad has a larger order for 41 aircraft, with deliveries starting in late 2014.

In addition to resulting in lower costs for the three carriers, the deals will give airberlin, Etihad and Jet a common on-board product across their 787 fleets. Etihad is using the 787 and A380, which it will also start taking in late 2014, to introduce a new premium product that over time will be introduced across its entire fleet and is aimed at setting a new standard in the industry. To be able to share this product with two of its most important partners will give Etihad a potential advantage in attracting corporate customers, particularly given the importance of Etihad's virtual network.

Having Etihad, Jet and airberlin offer a standard long-haul product is also important from a passenger experience perspective given the extensive codesharing between the carriers and the fact that airberlin and Jet operate alongside Etihad in Abu Dhabi. Etihad also recently wet-leased three Jet widebodies and is looking at how to re-deploy assets across the group depending on the time of year as each carrier has different peak seasons.

With the interior, including seats supplied by B/E Aerospace, airberlin and Jet are leveraging a product which Etihad worked three years to define. Within just a few months airberlin and Jet were able to join Etihad with the same interior. Negotiating such deals at the global alliance level would have taken years and been challenging to conclude.

Etihad partnership strategy has evolved rapidly

The rapid progression to joint purchasing comes less than two years after Etihad began to cement partnerships with equity stakes. Etihad's first move in its investment strategy came in 2011, when it purchased a 29% stake in airberlin. A 40% stake in Air Seychelles, 3% stake in Aer Lingus and 10% stake in Virgin Australia followed in 2012. Etihad's latest and perhaps most important move to date came in Apr-2013, when the carrier acquired a 24% stake in Jet Airways.

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Aer Lingus is a less likely participant in the potential joint order given the smaller partnership and much smaller equity stake Etihad has with the Irish carrier compared to the others in its investment portfolio. Virgin Australia participation is complicated by the fact that Etihad now has smaller stakes in the carrier than Star Alliance members Air New Zealand (ANZ) and Singapore Airlines (SIA).

In recent months SIA made moves to increase its stake in Virgin Australia from 10% to 19.9% while ANZ increased its stake from 20% to 23%. Etihad's stake in Virgin Australia is now slightly less than 10%.

Etihad's focus turns to India and Jet Airways

Etihad previously stated a desire to increase its stake in Virgin Australia to about 20%. But ANZ and SIA swooped in as Etihad was rightly focused on completing its deal with Jet, which Mr Hogan said took several months to negotiate.

"Sometimes you need to make choices in business. The focus on India has been very important for us," he says. "Strategically the Jet Airways deal is important".

Indeed the potential synergies with Jet are far greater than with Virgin Australia. India is a huge market for Etihad and the deal with Jet came with a breakthrough bilateral agreement that will open up more traffic rights for both carriers. Etihad now only serves nine destinations in India but the new Etihad-Jet combination will link Abu Dhabi with 23 Indian destinations, opening up several fast growing and under-served secondary cities.

India is a particularly big market for Etihad from the US. This market will become even bigger as Etihad adds more Indian destinations as a result of its partnership with Jet and as a US customs pre-clearance facility opens in Abu Dhabi.

US pre-clearance facility at Abu Dhabi gives Etihad (and Jet) huge advantage

Pre-clearance, which enables flights from Abu Dhabi to land in the US as a domestic flight, will give Etihad a competitive advantage as it will be the only such facility in the Middle East or Asia. It is such a big advantage that competitors have been lobbying against the facility opening, claiming it creates an uneven playing field. But Mr Hogan is confident the facility will open in Dec-2013 or Jan-2014. "It makes the hub even more attractive," he says.

Etihad currently serves three US destinations - Chicago O'Hare, New York JFK and Washington Dulles. These are all big markets for traffic to and from India. The Abu Dhabi-Chicago and Abu Dhabi-New York markets will see a big boost of capacity as Jet starts to route its US flights via Abu Dhabi instead of Brussels. Mr Hogan expects Jet to begin operating Abu Dhabi-Newark in late 2013 followed by Abu Dhabi-New York JFK and Abu Dhabi-Chicago O'Hare in 2014.

Mr Hogan says Etihad also plans to launch a fourth US destination in 2014. Etihad currently has a smaller network in the US than rivals Emirates, Qatar and Turkish Airlines. But the new pre-clearance facility and its new partnership with Jet gives Etihad two reasons to focus more on US expansion as it more than doubles its fleet over the next seven years.

Etihad's US codeshare partner, American Airlines, will also benefit as domestic connections at American's New York and Chicago hubs become more appealing following the opening of the pre-clearance facility. Etihad currently codeshares to more than 50 American-operated destinations from Chicago and to about 20 American-operated destinations from New York JFK.

American dropped service to India in 2012, leaving an opportunity for the strong Etihad-Jet duo, with American providing important offline access to destinations throughout North America. American is Etihad's second biggest codeshare partnership after Virgin Australia in terms of number of destinations.

India and South Asia is not the only market which will benefit from the new pre-clearance facility. Quick connections are already available from Etihad's Americas network, which also includes Toronto and now Sao Paulo, to Southeast Asia, Africa, the Middle East and the Central Asia/CIS region. Etihad currently serves over 30 destinations in Asia-Pacific, 13 in the Middle East and nine in Africa, according to Innovata data.

Etihad network summary: as of 26-Jun-2013

Australia remains important to Etihad

Mr Hogan says Etihad has even seen an influx over the last couple of years of passengers travelling between Australia and New York via Abu Dhabi. He expects the US pre-clearance facility will lead to a further increase in Australia-US traffic, including to Washington Dulles which Etihad launched in Mar-2013.

Etihad has attracted Melbourne/Sydney-New York passengers even though it is faster to fly via the US west coast partly because Abu Dhabi is an easier hub to transit. The addition of the pre-clearance facility will makes for even easier connections between the two markets.

Western Australia to the eastern US can be faster via the Middle East than Los Angeles. But Perth is not currently served from Abu Dhabi.

Australia is an important market for Etihad but India is of much more strategic significance. About 13% of Etihad's capacity is now allocated to South Asia, a figure which will grow significantly as the Indian network is expanded. Australia in comparison accounts for less than 5% of Etihad's seat capacity.

Etihad capacity share (% of seats) by region: 24-Jun-2013 to 30-Jun-2013

Etihad currently only serves three Australian destinations and only two non-stop from Abu Dhabi, Melbourne and Sydney. Brisbane is still served via Singapore, which puts Etihad at a disadvantage as Emirates serves Brisbane non-stop as well as operating a second flight to Brisbane via Singapore. Emirates also serves Perth and Adelaide - two markets not yet served by Etihad.

Etihad serves Perth via a codeshare with Garuda. But this provides a less competitive two-stop product from Europe and North America. Mr Hogan says Etihad will eventually serve Perth on its own but for now is content with the Garuda partnership.

Etihad also has no plans to serve Brisbane non-stop. Etihad leaves the rest of Australia as well as New Zealand to connections with Virgin Australia.

The carrier remains bullish on the Australian market, pointing to its average 80% load factor on Australian routes and saying that it has seen no impact on bookings following the implementation of the new Emirates-Qantas partnership. In fact Etihad sees the Emirates-Qantas partnership helping further educate Australians about the faster and larger number connections to Europe available via the Gulf.

So far Etihad has seen stronger inbound traffic to Australia from Europe, leveraging its large European network and codeshares with multiple European carriers (all of which use Etihad to serve Australia). Stronger point of sale traffic in Australia will develop over time but for now Etihad has no problem filling up its Australian flights primarily with Europeans.

Africa and Latin America are latest focuses in Etihad's drive for more partners

Etihad is not as big and ambitious from a network perspective as Emirates. It is also much younger, which explains Etihad's smaller size. But Etihad has come a long way in building global reach through partnerships, some of which it has cemented with equity stakes.

Etihad has looked at equity stakes in other carriers, including Virgin Atlantic Airways. Mr Hogan says Etihad "came close" to acquiring a stake in Virgin Atlantic Airways during six months of negotiations with the Virgin Group. But for now Etihad is content at focusing on further building its partnership network, with new and existing partners, without making additional investments.

Mr Hogan points to the recent developments with new partners in Africa, which have significantly improved Etihad's virtual network in the important growth region. A codeshare partnership was forged in Feb-2013 with Kenya Airways, providing Etihad with a new hub in East Africa. A codeshare partnership with South African Airways was forged in May-2013. "Overnight that transformed our footprint in Africa," Mr Hogan says.

Etihad previously only had a partnership in place with Royal Air Maroc covering 14 destinations in North and West Africa. The new partnerships in Southern and East Africa were critical as Etihad does not have as strong of an online network in Africa as its competitors.

The carrier currently has eight destinations in Africa and the region accounts for only about 7% of its total capacity. Half of the carrier's African destinations are in North Africa. Etihad has only one destination in West Africa (Lagos), one in Southern Africa (Johannesburg) and two in East Africa (Addis Ababa and Nairobi).

Etihad network map: as of 26-Jun-2013

The Etihad Alliance is poised to next expand in Latin America. Adding a codeshare partner from Latin America is key as Etihad does not have any short-term plans to serve the region beyond its recently launched service to Sao Paulo. Etihad is also not interested in following Emirates, Qatar and Turkish in operating tag flights within South America.

Following its strategy in other regions, Etihad will rely heavily on partners and a virtual network to tap into the fast growing Latin American market. "This strategy is firstly about network," Mr Hogan says. "It's how we create reach globally."

Partnerships are key to Etihad's success

The strategy seems to be working as Etihad is again on track to be profitable in 2013, which would give the carrier three consecutive years of profits. Etihad turned a net profit in 2012 of USD42 million, three times the USD14 million profit it made in 2011.

Revenue at the airline rose 17% in 2012, to USD4.8 billion as passenger traffic increased 23% to 10.3 million. Partnerships drove a significant part of the revenue and traffic growth.

Partners contributed 19% of total passenger revenue in 2012, up from 15% in 2011. Etihad's partners delivered more than 1.2 million passengers into the carrier's network in 2012, 400,000 more than in 2011.

Etihad Airways revenue: 2007 to 2012

Etihad Airways passenger traffic: 2004 to 2012

Etihad added 12 new codeshare partnerships in 2012 for a year-end total of 41, giving it a virtual network of about 250 codeshare destinations. The addition of Kenya Airways and South African Airways in 1H2013 results in the current total of 43 codeshare partners and an even larger virtual network, which is now almost four times the size of its own network.

Among the codeshare partners added in 2012 was Air France, which previously had been an entrenched and vocal opponent of the spreading influence of Gulf carriers. The Air France deal was part of a major strategic partnership that also includes a codeshare agreement between airberlin and Air France, creating a powerful triangular network and further blurring some of the friend/foe distinctions between alliances.

airberlin has quickly emerged as particularly important partner to Etihad. During 2012 the partnership added more than 300,000 passengers shared between their networks, delivering more than USD130 million in revenue to the two airlines. Overall, Etihad Airways' partnerships delivered more than USD600 million in total revenue in 2012.

Etihad shows a new way forward with its partnership strategy

Mr Hogan is an outspoken critic of global alliances and believes Etihad's approach has significantly more value. While Etihad's codeshare partners include members of all three alliances, four of the five carriers it has chosen to invest in are also non-aligned - Jet Airways, Aer Lingus, Air Seychelles and Virgin Australia. When Etihad invested airberlin was too far down the road to joining oneworld to reverse course.

The success of Etihad and rival Emirates, which has also built a strong network of partners including its game-changing deal with Qantas, has illustrated there is an alternative to global alliances. Etihad is now taking its innovative approach to partnerships one step further by pursuing joint purchase opportunities with its closest partners.

The deals Etihad has shared with airberlin and Jet on the 787, and the potential joint aircraft order the three carriers and tiny Air Seychelles may place in the future, will lower costs and make each carrier more competitive. Once again Etihad is jolting the status quo, providing a tangible set of benefits to partners which are out of the reach of the once mighty global alliances.