Infratil Update September 2006

9 S E P T E M B E R 2 0 0 6 Wellington Airport - taking an active role in the debate over the proposed airline cartel Air Market Transtasman www.Infratil.com Good air services and WELLINGTON AIRPORT REVENUE AND PASSENGER FLOWS 130 passenger numbers matter 125 for the region’s economic 120 performance and are key 115 drivers of the Airport’s x 110 Inde business. 105 100 95 90 2003 2004 2005 2006 Total Revenue Aero Revenue Total Passengers When the Commerce Commission found that the Air New Zealand and Qantas alliance proposal of 2003 was harmful to New Zealand it was hoped the matter would go no further. Instead, the airlines have found a loophole in New Zealand’s consumer protection laws to push ahead with a cartel on the Tasman. As a reminder, the Commerce Commission rejected the airlines’ alliance application because they found annual detriments of $195m significantly outweighed potential airline annual cost savings of $40m. The Commission decided that the alliance would result in higher airfares, meaning that each year 189,003 fewer New Zealanders would take an overseas trip while a net 133,414 fewer overseas visitors would come to New Zealand each year. There are compelling reasons for Wellington businesses to take an active role in the debate over the proposed airline cartel. ISSUE 24 Wellington’s aeronautical charges are determined on a per passenger basis. It gains no income from 2 empty seats on aircraft. Terminal services income is also a function of passenger numbers. Because of its role as the region’s gateway and the income link with passenger numbers, Wellington Airport spends millions of dollars every year to promote travel to and from Wellington. It has partnered with tourism agencies and airlines to stimulate travel volumes and is committed to continuing to do so, as long as airline markets make growth genuinely possible. INFRATIL UPDATE INFRATIL It Matters Wellington Airline competition drives Market Market Structure Passenger Growth 2004-2006 innovation, efficiency, Air NZ Dominant Regional -4% enhanced services and (now a monopoly) lower cost fares. Domestic Trunk Air NZ Dominant 3% Modest Transtasman 6% Competition The New Zealand market illustrates the direct relationship between competition and travel growth. Competition- Good air services and WELLINGTON AIRPORT REVENUE AND PASSENGER FLOWS 130 Aspects Jointly Managed and Agreed Proposed Air Share Seat Blocks Freesale “Code Share” (Old Tasman) Eg: Air NZ/JAL Eg: STAR passenger numbers matter 125 Retail Pricing X for the region’s economic 120 Routes X X performance and are key 115 Frequency X X Aircraft Type X drivers of the Airport’s x 110 Inde Capacity X 105 business. Available Seat Kilometres X X 100 Net Revenue X 95 Revenue Risk Sharing X Defined Blocks of Seats (limited) X X 90 Freesale of Seats (unlimited) X X Code Shares Typical 2003 2004 2005 2006 Wholesale Price or Pro-rate X X Total Revenue Aero Revenue Total Passengers There is nothing normal about the “code share” proposed by Air New Zealand and Qantas. The airlines intend to establish a committee to meet weekly to jointly set prices, determine which routes should be flown, how often they should be operated, what aircraft will be used, what service standards will apply and to share the revenues in a pre-determined manner. In their own words, they seek to operate as a “joint business” and make decisions “as one”. They want the Commerce Commission to have no say whatsoever. It is quite unlike any other code share currently in operation or proposed in the past. A comparison of the current proposal with more typical “code shares” is provided in the table above. Airline jargon sometimes clouds the proposal, so a hypothetical analogy with another sector is informative. In the example below, we use grocery retailing. ISSUE 24 Supermarkets to Share Customers 3 Today, New Zealand’s two dominant supermarket chains announced plans to jointly set prices, product ranges, opening hours, service levels and store locations. They also agreed to jointly determine payment terms to suppliers. “It is madness that we both have stores across the road from one another, and open pretty much the same hours and sell the same products”, said a spokesperson. The supermarkets have UPDATE INFRATIL in name only advised that their stores are on average only 20% full of people across the course of a week. “It makes sense to close some of the stores, reduce the number of lines carried and reduce opening hours to get efficiencies. Of course, those savings will be passed on to consumers. And when there is only one store, we will be able to offer customers longer trading hours, better service, a better product range and more access to our loyalty programme.” The two supermarket companies will set up a joint committee that will meet each week to decide what products will be offered, the price for each item, which stores will be closed, what hours the remaining stores will be open and how many check-out and stocking staff will be rostered. Responding to fears of price increases from the price-fixing arrangement, a spokesperson said that there are thousands of convenience stores in New Zealand. In fact, it is one of the most intensively competitive in the world and the major supermarkets cannot compete with small convenience store operators, often recently arrived in New Zealand, who do not properly cost their own time. Acknowledging that not all towns have a convenience store, a spokesperson said that people in those towns can take comfort from the fact that there are lots of convenience stores in Auckland. “If we put up prices, restrict discounted items or cut service in small towns, people will no doubt go to Auckland to shop.” While the total number of stores is expected to be reduced from more than 260 to 218, a spokesperson for the supermarkets insisted that customers will in fact have more choice of store. “Customers will now be permitted to go to both supermarket chains instead of just one”, he said. “Code Share” There is no financial case for an airline cartel on the Tasman. In their code share submissions to the Australian version of the Commerce Commission, the ACCC, the airlines concede that they face no financial crisis. Many people reflexively sympathise with Air New Zealand, the National Flag Carrier, and the airline naturally promotes that emotion. No Need for a Cartel But if there are no numbers to support the case, the cartel should not be approved by Government. ISSUE 24 ISSUE 24 5 4 INFRATIL UPDATE INFRATIL INFRATIL UPDATE INFRATIL There is no financial case for an airline cartel on the Tasman. In their code share submissions to the Australian version of the Commerce Commission, the ACCC, the airlines concede that they face no financial crisis. Many people reflexively sympathise with Air New Zealand, the National Flag Carrier, and the airline naturally promotes that emotion. But if there are no numbers to support the case, the cartel should not be approved by Government. ISSUE 24 ISSUE 24 5 4 INFRATIL UPDATE INFRATIL INFRATIL UPDATE INFRATIL No Need for a Cartel ISSUE 24 6 Speaking in the Australian Financial Review in May, former Air New Zealand Managing Director, Ralph Norris, described Air New Zealand as “one of the strongest in the world from a financial perspective”. That sentiment has been supported following the recent announcement by Air New Zealand of its year end results. It would be INFRATIL UPDATE INFRATIL fair to summarise analyst responses as, not a perfect result, but pretty good for a year when the airline says it is absorbing higher fuel prices, unusual one-off costs of restructuring and new fleet capacity. Air New Zealand’s EBITDAR return on assets was 14.4%, and return on equity before tax and unusuals was 9.7%. This is not enough in the long run. However, the airline faces a number of potential upsides and most commentators anticipate an easing in fuel prices, at least over the medium term. Not only are the two airlines in good shape, but the Tasman itself has all the elements for a profitable operation: • There is limited competition on most routes, restricted mainly to that between Qantas and Air New Zealand. • High levels of customer loyalty through corporate travel, frequent flyer programmes and the dominance of Australian and New Zealand travellers. • Other airlines, including Pacific Blue and Jetstar make money on Tasman routes. • Very high utilisation of aircraft. Aircraft flying on the Tasman can operate 13-14 hours per day, which is very high for short haul operations. In Europe, Ryanair, the world’s leading low cost fare airline, achieves 12 hours per day. • In addition to dedicated fleet, both Qantas and Air New Zealand also use the downtime of long-haul aircraft on Tasman services. • Both airlines have low cost subsidiaries which they can deploy on lower yielding routes. • Public information suggests that yields and load factors on the Tasman are similar to those in other profitable markets. Load Factors It has been a principal premise of the airlines’ case that there is unusual “excess” capacity on the Tasman. They have quoted the impressive figure of 6,300 empty seats per day, implying that it is possible to expect 100% seat occupancy or something close to it. Put in context, it is clear that Qantas’ and Air New Zealand’s load factors on the Tasman are perfectly normal. The following graph compares Tasman load factors with those of other routes in and out of Australia for 2005, using data from the Australian Bureau of Transport & Regional Economics and the airlines’ submissions to ACCC.

Load more