Virgin Atlantic: the equity changes subverting the alliance model
Frequent flyers and investors alike woke up to the news that Air France-KLM had acquired a 31% equity stake in Virgin Atlantic, with the UK airline's existing joint venture with Delta extending into the European carriers. Whether this is spun by the media as a savvy purchase by Air France-KLM, or as Sir Richard Branson ceding control of his flagship airline after a turbulent financial period in the wake of the Brexit referendum, there is no doubt that his move shakes up the current state of airline alliances as we know them.
We’ve seen trends over the past few years of more and more airlines creating partnerships and codeshares across and outside alliances, so this development is nothing new. But simultaneously to today’s deal, we’re also seeing China Eastern and Delta looking to each acquire a 10% holding in Air France-KLM, equating to approximately €750m investment in total, further strengthening the bonds between the parties in this JV. However, with these investing airlines being three of the largest players within the SkyTeam Alliance, has Virgin effectively ingratiated itself into the SkyTeam network across North America, Europe and potentially even China and the rest of Asia, without the complexities of actually joining an alliance?
We’ve seen this attempted before, and not necessarily successfully, with the launch of Etihad Airways Partners in 2014. After Etihad’s investment in a number of regional carriers spread across the world, including Air Serbia, airberlin and Seychelles Airlines, it allows them to now offer unified loyalty benefits to their frequent flyers across the ‘network’. The significant barrier to that success is, I feel, Etihad's strategy to extend the spokes of its route network from Abu Dhabi by investing in less profitable airlines in otherwise fairly unrelated destinations for the majority of travellers. Those airlines really aren't big enough or successful enough to have an impact for Etihad on the market in each region. As announced this week, Etihad Airways plunged to a $1.9bn loss last financial year, with the poor performance of a number of these airline investments plaguing the Gulf carrier.
So, what makes Virgin different?
As a member of Virgin Atlantic’s Flying Club, I received an email last highlighting the changes with messages from Branson, and also Oli Byers, who heads up loyalty at the airline.
The core focus of the message was on deepening Virgin’s place in the skies within these partnerships, and marketing this as a highly strategic move to fight back against the recent “stranglehold” of British Airways and IAG’s growth as the email puts it. All while still maintaining the strong brand and core customer experience associated with Virgin Atlantic.
Despite the obvious advantages of financial backing, Branson and Byers were absolutely correct and this move could significantly change the balance of power in the European airline market. Due to the lack of short haul routes, Virgin has a very different business model to any other airline in Europe, carrying far fewer passengers much longer distances. They’ve proven that focusing on the quality of the experience is a successful strategy to differentiate themselves from both legacy and low-cost competition, to counteract the lack of short-haul traffic, and therefore ensure the high brand equity that they have.
In the new structure, they need to make sure they maintain the customer experience that earned that brand equity in the first place, despite having less direct control in their brand.
As an example, I’d not want to see the quality of their premium cabins reduce under the new ownership. For price-conscious travellers, choosing airlines and cabins is often a trade-off between subjective value and objective cost. With only a three-cabin structure at Virgin, it gives more scope and stretch for the premium cabins – premium economy and ‘upper class’ – to offer a better experience than their four-cabin competitors on a like-for-like basis. They do this well and I personally place a much higher value on the premium cabin experience for Virgin flights – catering, lounges, cabin design, plus consistency across all jet types – in comparison to BA, as well as their own partners in Delta, Air France and KLM for the price point. It’s areas like this that could be a major advantage for all parties within this new joint venture.
What's the opportunity for Virgin's new investors? And will it work for Virgin too?
In acquiring a stake in Virgin, Air France-KLM have bought themselves access to the UK short-haul market in a more serious way through a partnership with a significant UK airline. Simultaneously, without the full alliance formalities, Virgin Atlantic can now interact with the 23 million or so members who belong to the Flying Blue FFP, to whom they can offer a better long-haul flying experience and boost their revenues.
Until now, the basic options for outbound European flights from the UK were either British Airways, the airline from the country you were flying to, or a low-cost carrier; for the frequent flyer, all three of those options never overlapped within one alliance structure. Under that assumption, it made most sense for regular European travellers to join the Executive Club as you were most likely to earn BA Avios on the most regular basis. Now if you're a long-haul Virgin Atlantic flyer, your options for earning may have suddenly doubled for your short-haul flights to much of Europe.
There’s a chance Virgin will eventually bite the SkyTeam bullet and become a full alliance member. However, with reciprocal earning, redemption and tier benefits planned across the various loyalty programs, the options across the Atlantic and beyond have now been opened up for frequent flyers, both for SkyTeam and for Virgin members without the need for an alliance. The advantage for Air France-KLM is twofold. If Virgin grows, they'll reap the benefits through their equity stake. More pertinently perhaps, there is scope for Air France and KLM to also become preferred carriers for existing Virgin customers flying from the UK to Europe, using the brand equity of their new partner to attempt to take market share away from their mutual competitor in British Airways.
Instead of torn loyalties between Virgin and BA, as many UK business travellers suffer because of the short- vs long-haul dynamic, this move could provide a big boost to Virgin Atlantic and to Air France-KLM, but an even bigger threat to British Airways.
On an even larger scale though, this move could potentially sound the death knell for alliances in general. If this joint venture succeeds in making the waves that it might, the ripples could undermine alliances as we know them, and potentially have even bigger consequences for smaller airlines who rely on those alliances for success.