Putting Alitalia & Qantas Out of Their Misery

Who's next to join Swissair in the Great Hangar in the Sky?

IPE Zone readers of a certain age remember a time when having a flag carrier was a de rigueur symbol of nationhood. In the decades since, we've learned a lot about the management chops of different nations and their favored commercial interests. Even the mighty have fallen: Swissair used to be regarded as the "flying bank" due to its sterling safety record and financial solidity. By 2005 it was sold to Germany's Lufthansa.

Today, let us consider some more cash-hemorrhaging airlines. As a general rule, airlines do not make much if any money in this day and age of skyrocketing fuel prices, but these two are interesting for different reasons. Consider Alitalia. Because of their favorable locations in between Europe and Asia,  Middle Eastern carriers have been among the few profitable carriers--think Emirates, Etihad ans Qatar Airways. As it so happens, the perennially cash-strapped Alitalia and its equally broke nation are considering a sale to Etihad. Despite the logical extension it would make for the Abu Dhabi-based airline's network, there is still said to be only a "50-50" chance the deal will push through in the coming months:

[Etihad] is not hurrying into a deal with Alitalia, which is struggling with its more than 800 million euro ($1.1 billion) debt and growing competition. Asked in an interview how confident he was at this stage of the deal going through, James Hogan said: "It's 50-50...[w]e had also entered into due diligence with other airlines in the past and walked away."

Hogan said the deal could only go ahead if Alitalia met Etihad's criteria on costs, profitability, restructuring, the airline's network and strong management. He did not provide further details. Talks between the airlines intensified last month and sources close to the matter said Etihad might be interested in buying a stake of up to 40 percent in the Italian carrier.

A deal with the Italian airline will allow the Etihad access into Europe's fourth-largest travel market. For Alitalia, this would bring in resources it needs to invest in a new strategy based on long-haul routes. Sources have said Etihad wants heavy restructuring of Alitalia's debt and was also asking for job cuts at the Italian airline. "I have not commented on job cuts," Hogan said when asked if job cuts were needed at Alitalia. 

Spoken like a true businessperson. Etihad itself is profitable even if it is not making money hand over fist. The question is whether the advantages of acquiring Alitalia's Italian routes--supposedly Europe's fourth-largest travel market--will be outweighed by taking on "legacy" costs mostly related to labor: overstaffing, pensions and accumulated debt.

Another once-proud carrier fallen under hard times is Qantas. With losses mounting, it announced 5,000 layoffs earlier this year. Still, it continues to bleed. Unlike Alitalia, though, it cannot simply be sold since there are Aussie laws limiting the possible share of foreign ownership in it to 49%. To its chagrin, its strongest competitor in Oz, Virgin, does not have this limitation and has bolstered its resources by, among other things, selling ownership stakes to Etihad:

Qantas has been making heavy losses on its international business. Now its once lucrative domestic business is under pressure and Qantas is in a loss making war to maintain its 65 per cent market share over Australian skies. Its chief rival, Virgin Australia - which began as a cut price airline in the wake of the Ansett collapse - is now enticing corporate customers to come on board.

Standard & Poor's downgraded its credit rating to "junk" on the day Nelson Mandela died, meaning Qantas can no longer claim to be the only "investment grade" airline left in the world. So how did Qantas get into this mess? The most obvious answer is that "this the free market" and the forces of supply and demand are at work. And after all, Qantas is listed on the share market as one of Australia's top 100 companies by market value - though getting close to the tail end of that list.

But the other more complex part of the story is that Qantas remains shackled by government regulation through the Qantas Sale Act of 1992 which restricts foreign ownership to 49 per cent. Virgin, on the other hand, has been able to attract significant foreign investment and lists three state-owned airlines as its top three investors - Air New Zealand, Etihad and Singapore Airlines. Combined, they own more than 60 per cent of Virgin stock and have signalled interest in maybe buying more. Qantas has been furiously lobbying the Federal Government to have the Qantas Sale Act repealed or amended so it can compete on a level playing field with Virgin.

So, is Qantas all in on letting the free marketing reign? Er, no. It has also sought government protection in terms of guaranteeing its borrowing so the cost of being a junk borrower are lessened:

But the messages became mixed when Qantas also urged the Government to provide a standby debt guarantee - where Qantas would use the government's sovereign credit rating for borrow at a more attractive rate than "junk". The proposal sparked a national debate over whether any flavour of government should risk potentially owning the debt if Qantas ever defaulted.

Can these guys make it in the rough-and-tumble airline industry? I wouldn't bet against at least one going to the way of Swissair. Already, Aussie unionists are claiming (debatable) safety concerns if another 10,000 jobs are shifted abroad to lower costs for Qantas.