An interesting report caught my eye the other day. The Wall Street Journal carried a story on a report from the French export credit agency Coface that suggested Europe’s airlines may be preparing for what it described as a new “US-style merger round”. After the earlier round of mergers – Air France combining with KLM and Martinair; British Airways with Spain’s Iberia, BMI and Vueling; and Lufthansa with Swiss, Austrian and Germanwings – Coface says yet another round of consolidation, mirroring that which has taken place in the US, is “probable”.
The problem with the earlier round of consolidation is that while it gave the three groups a better critical mass, a number of market factors have stunted the higher profitability that such mergers were envisaged to foster. Both Air France-KLM, the region’s largest carrier and Lufthansa issued profit warnings this year amid ongoing weakness in global cargo markets, labour unrest and overcapacity in key markets that put severe pressure on returns. The airline groups have also faced intensified competition from discount carriers, particularly on their short haul routes and have struggled against rapidly intensifying competition from Middle East carriers, the likes of Emirates, Qatar and Etihad.
The Coface report’s authors go on to say that this Middle East competition “is already undermining the entire European air transport industry a little more every day.” The report clearly echoes complaints long made by European carriers as to what they see as an uneven playing field on which they compete with the Middle East carriers. The idea behind another wave of consolidation would be to create what Coface describes as “EU super players”. The report posits that “the emergence of the EU super players will make it possible to confront the foreign competition.”
Indeed a vocal proponent of such an idea is the typically outspoken IAG chief executive, Willie Walsh, who has long been a staunch advocate of more consolidation while bemoaning that airline ownership rules limit the ability to strike deals across markets.
As the report rightly notes, neither of the big three groups are likely to undertake and consolidation anytime soon due to the fact they are inwardly focused on getting their own houses in order. Air France-KLM chief executive Alexandre de Juniac last month unveiled a new restructuring programme, Perform 2020, aimed at boosting returns and trimming debt but has invoked the wrath of pilots in the process. Similarly his new Lufthansa counterpart, Carsten Spohr, is seeking to overhaul both short- and long-haul operations at the German carrier. The most recent opportunity for a further bit of consolidation in the European industry came in the form of Alitalia’s most recent S.O.S. Ultimately AF-KLM passed on both maintaining, or increasing its stake in the beleaguered Italian carrier, which then opened the door for Etihad to move in and take a 49 per cent stake in the carrier.
This most recent move by Etihad clearly shows the Middle East carrier is taking the competitive fight to the European airlines in more ways than one. Coface does note that the next viable opportunity for any of the three carriers to enlarge would likely be in IAG’s court, should TAP Portugal come up for sale.
As to what impact further consolidation would have on the cargo end of the business remains unclear as two distinct models appear to be evolving: A more traditional combination model with full freighters and belly capacity for Lufthansa and a move away from freighters towards bellies in the case of IAG particularly, but also AF-KLM. Whether competition authorities would give their blessing for any further significant consolidation also remains to be seen.
