Qantas Faces Domestic Price War as Overseas Losses Widen

Qantas Airways Ltd. (QAN), Australia’s largest carrier, slumped 21 percent in two days after forecasting a wider loss on international routes. Domestic operations may be next to feel the pain.

Fares within Australia are falling as Qantas adds flights to protect its 65 percent market share amid rising competition from Virgin Australia Holdings Ltd. and Tiger Airways Holdings Ltd. (TGR) The price war and slower economic growth threaten earnings on domestic routes even as Qantas Chief Executive Officer Alan Joyce tries to revive international services set to lose at least A$450 million ($444 million) in the year ending June.

“Domestic is really the bigger concern,” Peter Harbison, executive chairman of CAPA Centre for Aviation, said by phone from Sydney. “The question becomes, who is prepared to lose the most blood?”

Qantas plans to add 25,800 seats a week between the nation’s biggest cities, as Virgin (VAH) Australia rolls out business- class services to lure corporate fliers and budget carrier Tiger Air ramps up flights for leisure travelers. The competition may have already caused Sydney-based Qantas’s domestic yields, a measure of fares, to fall for the first time in 15 months in April, Macquarie Group Ltd. said in a May 31 note.

After suffering its biggest-ever drop of 19 percent yesterday, Qantas fell 2.6 percent to A$1.125 at the close in Sydney. Virgin Australia, backed by billionaire Richard Branson, slipped 1.2 percent to 41.5 Australian cents. The S&P/ASX 200 index gained 0.3 percent.

“When supply and demand is unbalanced you do see this impact on yield,” Qantas Chief Financial Officer Gareth Evans said on a conference call yesterday. An index of restricted economy fares on Australian domestic routes fell to its lowest- ever level in February.

Etihad-Virgin

Virgin Australia also won renewed support for its push to challenge Qantas as Etihad Airways PJSC announced that it had accumulated a 4.99 percent stake. The Abu Dhabi-based carrier said it may eventually increase this to 10 percent. The deal cements a partnership that helps Virgin extend its marketing and sales reach overseas.

Tiger Air is challenging Qantas’s budget arm Jetstar by opening a second Australian base in Sydney next month. The carrier is rebuilding operations in the country after halting services for six weeks last year and then cutting its timetable following safety violations.

Qantas plunged yesterday, wiping out about $600 million of market value, after saying underlying profit may slump to as little as A$50 million this fiscal year. That’s a drop of as much as 91 percent. The carrier attributed the decline to the international unit and fuel costs rising about A$700 million to a record A$4.4 billion.

Domestic Earnings

Jet fuel has averaged $127.50 a barrel in Singapore trading since June 30, 19 percent higher than a year earlier. Prices have fallen about 18 percent over the last two months.

On domestic routes, Qantas and Jetstar expect earnings of more than A$600 million in the year ending June. That’s a “near-record,” according to Joyce. Still, yields have begun to fall, the airline said in a statement. The carrier aims to protect its market share as this is the most profitable level, it has said.

“The strategy is working,” Joyce said. “If we didn’t maintain our 65 percent market share, in the long run this profitability would be under threat.”

Emirates, Etihad

On international routes, Qantas is contending with slower travel demand in Europe and competition from Middle East carriers including Emirates Airline and Etihad. These airlines are able to offer a wider range of one-stop flights to the continent as their hubs are better placed than Qantas’s.

Virgin has also begun cooperating with part-owner Air New Zealand Ltd. on flights across the Tasman Sea, as well as with Singapore Airlines Ltd. and Delta Air Lines Inc.

The relative strength of Australia’s economy has further increased competition by prompting international airlines to shift planes from European destinations to routes serving the country, said Joyce, who took over as CEO in 2008.

“Europe looks like a big basket case” he said. “People have mobile assets and they’re moving their assets into the Australian market, which is increasing capacity here.”

Joyce has cut unprofitable overseas routes, slowed the addition of new planes and formed a stand-alone international unit in bid to return the operations to profit by 2014. The CEO has also cut engineering jobs and announced plans to consolidate heavy maintenance to pare servicing costs that Qantas says are about 30 percent higher than competitors.

‘Structural Problems’

“He’s got some structural problems in Australia with the high cost base,” said Jason Beddow, chief executive officer at Argo Investments Ltd. (ARG), one of Qantas’s 20 biggest shareholders. “They’re competing globally and you’ve got other airlines coming in with different cost bases.”

Given the challenges on international routes, Qantas may have to fight to maintain its 65 percent share on domestic services even if it cuts into profit, said Harbison.

“It is important to maintain that share, but there are going to be short-term implications,” he said.

To contact the reporter on this story: David Fickling in Sydney at dfickling@bloomberg.net

To contact the editor responsible for this story: Neil Denslow at ndenslow@bloomberg.net

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