Two tribes

Australia's regionals have had to learn to live in a market dominated  by a single network carrier and a major low-cost competitor

Ansett's collapse in September 2001 was a defining moment for Australia's mature regional airline market. Before then, the industry had been divided into two camps - Qantas and Ansett - with subsidiaries and affiliates reasonably matched on both sides.

Today the market is dominated by Qantas, with low-cost challenger Virgin Blue providing its major domestic competition. Ansett's subsidiaries reappeared after administration with new owners, but in a much changed landscape. The two largest - Hazelton and Kendell - merged to form a new airline called Regional Express, or simply Rex, while Skywest and the tiny Aeropelican have both continued with new investors.

As far as Qantas is concerned, Ansett's demise allowed, perhaps even forced, it to strengthen its regional presence. It has done so through its own subsidiary on larger routes, plus an array of independent affiliate carriers on smaller ones. From Ansett's collapse, Qantas has emerged far more dominant.

Virgin Blue challenge

Virgin Blue has replaced Ansett as Australia's number two airline but as a low-cost carrier it has only one interline agreement with a regional - nothing like the network Ansett once maintained. At least three regional carriers have followed Ansett into liquidation. Within the past eight months, three others have come under common ownership. Start-ups may keep the roll call of airlines just as long, but all are small. Collectively they do not offset a gradual trend toward consolidation.

Geography has a major effect on regional carriers. Australia has one of the lowest population densities on Earth, and most of its 19.6 million residents live around the edges. Head inland and you quickly progress from bush to outback as the land becomes desert.

Only around the south-east corner of the country is this transition slower, permitting the existence of inland towns as big as Canberra, the nation's capital. Australia's population continues to drift toward the coasts, adding to the woes of smaller airlines that struggle to serve inland communities built around farming, grazing or mining. Four or five of them lose scheduled service each year.

Qantas started strengthening its regional network before Ansett's collapse. Two months earlier, Qantas merged four subsidiaries into one regional airline called QantasLink. Narendra Kumar, who oversaw Qantas subsidiaries and then became executive general manager for regional airlines, says QantasLink was formed in July 2001 to bring operations under a common brand and provide more efficient management. Three Qantas subsidiaries already operated Bombardier Dash 8 turboprops, and two flew BAe 146 jets, so integration was a logical step.

Ansett's collapse disrupted what might have been a more orderly process. Overnight, QantasLink was forced to add 22 interim routes that lost air services when Ansett's subsidiaries were grounded. Some Ansett units struggled to keep flying under court supervision, but QantasLink provided the only flights for many communities. Because it also had its own routes to serve, it was compelled to grow fast. Kumar estimates that QantasLink added 69% capacity during that period, mostly with leased aircraft.

Once the former Ansett regionals emerged from administration, QantasLink withdrew from all but four interim routes. But on routes it had previously shared with Ansett subsidiaries, during the Ansett crisis QantasLink had become a symbol of stability in communities where regional air service is their lifeblood.

It may have relinquished interim routes, but QantasLink's growth has been permanent. With 10 new Dash 8s ordered in the past 12 months, it is replacing leased aircraft. When this refleeting is complete later this year, it will have 16 36-seat Dash 8s and 16 50-seat Dash 8s.

One of QantasLink's early moves was to upgauge and standardise its fleet on the Dash 8s. Out went the smaller turboprops it had inherited. Larger aircraft meant frequency cuts for some 19-seat markets, illustrating a dilemma that Kumar fully recognises. "We are always trying to balance frequency with capacity."

QantasLink also operates 10 BAe 146s and here the line between regional and mainline services is blurred. Most 146s serve smaller coastal cities, with their only rural routes to tourist destinations such as Alice Springs. Qantas has taken over some of those BAe 146 routes with its own Boeing 737s.

The third tier in the Qantas group is the affiliated regionals that Qantas does not own, but which it hosts in its reservation system and which often belong to its frequent flyer programme. Besides the clear advantage of traffic feed with Australia's biggest airline, many of these affiliates also enjoy through check-in and shared ground handling with Qantas. They serve communities too small for QantasLink. As Ian Mitchell, RegionalLink chief executive, explains: "We fill in the gaps where they don't fly."

Qantas has 10 affiliates, including RegionalLink, which itself is made up of three more. Ironically, two former Ansett subsidiaries now belong to this group, although Qantas may be forcing Skywest out because it competes on too many routes.

Brian Candler, chief executive of the Regional Aviation Association of Australia (RAAA), explains the dilemma facing these smaller carriers: "It's a double-edged sword. To get the on-carriage you must be in the Qantas booking system. Virgin doesn't have the same scale of infrastructure as Qantas - travel agents and so on. If your choice is to affiliate with Qantas or Virgin, you really don't have a choice."

Rex is the leader of the non-Qantas camp. With a fleet of 21 34-seat Saab 340s and seven 19-seat Fairchild Metro 23s, it serves 29 destinations across four states in south-east Australia. QantasLink, by contrast, serves 37 destinations nationwide with Dash 8s and another 12 with BAe 146s.

Alliance and Skippers are the only other independent regionals of any size and they operate only in their home states. Five other smaller independents fly niche markets mostly in Tasmania or tropical Queensland.

Market challenges

The issues facing all Australian regionals, both in competitive terms and other challenges, vary greatly from one seat-size market to another. In the 50- to 100- seat range, for instance, QantasLink BAe 146s face almost no rivals. Alliance and SkyWest both operate Fokker 100s on a few routes, but the Qantas group is more preoccupied with whether to upgauge these routes to larger jets flown by Qantas or its low-fare arm JetStar.

QantasLink also has the 50-seat market almost to itself. Skywest offers limited competition in Western Australia, and hence may lose its status as a Qantas affiliate, but otherwise the 50-seat city pairs are all Qantas territory.

The real competition is in the 30-seat market. These are the smallest aircraft QantasLink operates and the largest flown by most rivals. Two of the four in this group, however, are Qantas affiliates and thus not really rivals. That only leaves Rex in south-east Australia and Skippers in Western Australia to challenge Qantas in this important size class.

Rex blames a tough first year on QantasLink's grip on this market. Following Ansett's collapse, not only did QantasLink boost capacity to fill the vacuum, but it also lured away much government and corporate travel. "Qantas was getting the high-profit business passengers and Rex was trying to get the leisure stuff," recalls Hans van Pelt, Rex's executive commercial manager. "It took a good 18 months to turn that around."

Rex did turn it around and now enjoys a market share on competitive routes that equals or exceeds its capacity share. It did this with a stable presence and an innovative appeal to the local governments that operate regional airports. In exchange for their agreement to cut fees, Rex agreed to pass on the savings in the form of lower fares. In this way, says van Pelt, "we could test the elasticity of these markets".

"It's been an outstanding success in almost every case," he says adding that discount fares were suddenly below the A$100 ($70) mark. "That was an important psychological point. Passenger numbers jumped by as much as 40-50%." Rex now has long-term agreements with 15 regional airports that have given both it and the local communities a boost.

Its other innovation - interlining with Virgin Blue - has had less impact. "The feed traffic between Rex and Virgin is relatively small," says van Pelt. "It would be only a fraction of the 15% feed that Kendell and Hazelton had when they were owned by Ansett."

Low-fare limitations

Shortcomings in the Rex-Virgin interline typify the problems regionals face when low-fare carriers replace legacy airlines. Their computer reservation systems do not connect, hence no through bookings and no prorates. And low-cost carriers lack the network and hence the feed that an airline such as Qantas can offer. As QantasLink's Kumar explains: "QantasLink operates as a profitable business in its own right, but it also makes a network offering, such as London to Longreach. We offer a seamless transfer and frequent flyer points to ensure that the reach of the Qantas network is as wide as commercially sustainable."

One of the biggest challenges independent regionals face is the volume discounts that Qantas can offer to major clients and travel agents. "They meet with Qantas and get a gross financial offer based on rebates and volume targets that bundle together regional, domestic, and international travel. It's very much David and Goliath," says Rex's van Pelt. "We've lost accounts where we were actually cheaper on the regional part. In one case I could have offered the client free travel on Rex and they would still have been worse off."

Geoff Breust, Rex's chief executive, agrees: "Qantas has got itself into such a dominant position in the domestic market that it is extremely difficult for anybody else. All we want is a fair go at the market. And we don't believe we're getting that at the moment."

The only presence Qantas maintains in markets under 30 seats is through its affiliates. Rex insists the 19-seat market is still worthwhile, but everyone agrees that anything smaller is in peril. The challenge in the smaller markets is not competition but economics. Australia has no counterpart to the US essential services subsidy. Indeed, RAAA chairman Terry Wesley-Smith claims aviation charges, taxing policies, and unneeded regulations combine with declining rural economics to make business unbearable for small carriers.

Grim outlook

The RAAA's Brian Candler makes a grim forecast. "What we're already seeing is that, as the Piper PA-31 Navahos, Chieftains and the Cessna 402s get beyond an economic life, operators are consolidating into larger airplanes, and that immediately cuts out communities that won't support a 19-seat aircraft. Within the next decade we will reach that same point where the 19-seaters are beyond their economic life. Operators will consolidate into 38-seat airplanes, and service will drop off to further communities."

Michael Bridge, Air North's chief executive, points to the underlying problem. "Except for the Dash 200, no one is producing small turboprops anymore. For those of us operating 19- or 30-seaters now, we wonder what we will fly in 10 years' time."

Bridge is backing a partial solution as managing director of RegionalLink, the carrier that recently bought Air North and two others. He and RegionalLink chief executive Ian Mitchell are offering RegionalLink franchises to other beleaguered carriers that could benefit from common branding, marketing, purchases and back offices. Mitchell foresees five such franchisees within the next 12 months. The RAAA takes no position on franchising, but Candler is of the opinion that "anything that brings overhead down has to be good for the industry".

Whether it be government support, franchising or both, the small regionals unquestionably need help. The larger ones are still adjusting to a major loss of competition, and no one is sure how or whether it will ever return.

AUSTRALIA'S MAJOR REGIONALS AERO-TROPICS - Cairns: Operates a fleet of 14 twin-engined piston aircraft and a single Fairchild Metro within the Thursday Islands of tropical Queensland. AIR LINK - Dubbo: Serves rural New South Wales with a fleet of small piston aircraft and the Raytheon 1900. Affiliated to Qantas. ALLIANCE - Brisbane: Formed in 2002 from the assets of defunct Flight West Airlines. Alliance currently flies three Fokker 100s out of Brisbane and coastal Queensland cities, also serving Norfolk Island. MACAIR - Cairns: Queensland's largest regional and a Qantas affiliate. The fleet includes 12 Fairchild Metros, two Saab 340s and a single Saab 2000. The assets of defunct Horizon Airlines were acquired last year and added New South Wales coastal routes to its network. QANTASLINK - Sydney: Brings together wholly owned Qantas subsidiaries: Airlink, Eastern Australia and Sunstate Airlines. Largest regional in Asia-Pacific, it carried 3.5 million passengers last year on a nationwide network. It flies a streamlined fleet of 42 aircraft made up of 10 BAe 146s and 32 Bombardier Dash 8s, split between the 32-seat Q100/200 and 50-seat Q300s. REGIONAL EXPRESS ("REX") - Sydney. The largest independent regional. Formed from the merger of ex-Ansett carriers Hazelton and Kendell. With 21 Saab 340s and seven Fairchild Metro 23s, it is biggest QantasLink rival. REGIONALLINK - Brisbane: Formed in March with the takeover of Airnorth, Emu and Airlines of South Australia. Offering franchise to other small regionals. Airnorth has extensive network in the Northern Territory and Western Australia. Airlines of South Australia and Emu fly solely within South Australia. SKIPPERS AVIATION - Perth: Western Australia's largest independent, flying a fleet of 13 turboprops, including six Fairchild Metro 23s, five Embraer EMB-120s and two Bombardier Dash 8 Q100s. The carrier was recently approached by Singapore investors. SKYTRANS - Cairns: Serves remote parts of tropical Queensland with a fleet of 18 small twin-engined piston aircraft, mostly Cessnas. SKYWEST - Perth: Ex-Ansett subsidiary now operates five Fokker 50s and one Fokker 100 throughout Western Australia and launched an international flight to Bali this year. Singapore investors are seeking a takeover. It has a shaky affiliation with Qantas. TASAIR - Hobart: Operates a fleet of small Cessna and Piper piston aircraft within Tasmania.

REPORT BY DAVID KNIBB IN BRISBANE

 

Source: Airline Business