Abstract
The purpose
This paper examines the benefits that the domestic and international airlines draw from the formation of strategic alliances with other international carriers. Therefore, the purpose of the paper is to explore the significance of code sharing arrangements that most carriers have with other international carriers. However, the paper will narrow its focus on the strategic alliance between Etihad and Virgin Blue of Australia.
Methodology
Much of the data are obtained from the secondary sources mostly from the individual airline business reports as well as other important sources of literature. Some of the data are also obtained from the international aviation organizations such as the Australia Competition and Consumer Commission (ACCC).
Data such as the approval of interlink of both airline customers in all the airline destinations are obtained from ACCC. The data such as the alliance patterns as well as the RPMs (revenue passenger miles) together with other load factors are obtained from both the airline business data bases.
Findings
The study indicates that the code sharing arrangements between the two airlines, Etihad and the Australian Virgin Blue, will result in increased revenue passenger miles (RPMs), the market share and the passenger load factor (PLF). However, in the long run these benefits will erode as more players in the industry enter into more alliances thereby increasing competition.
In fact, strategic alliance was formed as a competitive strategy for the two airlines. Therefore, the code sharing arrangements between the two airlines are done at the right time so as to benefit from the initial increased RPMs. The effect of the alliance on the market share will be consistent and explicit throughout the alliance period.
The study also indicate that the airline, Etihad, have an equity investments relationship with this international carrier. Though most of the literatures reviewed do not indicate any positive influence of this relationship on the RPMs, PLF and the market share, the analyzed data seems to support this hypothesis in this alliance.
Interestingly, the result indicate that the size of the alliance partners have a greater influence on the three most observed benefits, RPMs, PLF and the market share. The result also support the hypothesis that in situations where the alliance partners are not equal then the domestic airline may not be in a position to benefit from the alliance, for instance, increase its load factor, RPMs and the market share.
Therefore, it can be concluded that the airlines that form code sharing agreements must be large enough and almost equal in order to continuously benefit from the strategic alliances. That is to continuously increase benefits such as increased RPMs, PLF and the market share. This report reveals that carriers that enter into code sharing agreements early enough in the competition will always benefit. However, these benefits tend to reduce in the long run.
Introduction
The noticeable trends in most industries currently are the development and popularity of the alliances among the competing firms and even within the supply chain members. This trend has largely been attributed to the current world economic order, globalization and the liberalization of most of the industries, particularly, the aviation industry (Rajasekar & Fouts 2009, p.93).
Therefore, studies on what drive firms towards this cooperation have remained to be an interesting topic to most researchers. Several empirical studies have documented exceptional development and growth in popularity of inter-firm alliances or cooperation’s in various industries. Majority of companies are looking for alliances in various aspects of their operations (Rajasekar & Fouts 2009, p.95).
The aviation industry is not left behind in this new era of inter-firm cooperation. The aviation industry is vital in the development of the world economy, enhancing exchanges among the world countries as well as stimulating and facilitating the economic relations internationally. With the liberalization of the industry, the air transport has exposed itself to a new dimension of competition and the client orientations (Ladki & Misk 2009, p.73).
The result is that most of the airlines have revised their growth and competitive strategies that includes the cost cutting measures, better revenue management tools and most importantly strategic alliances. These competitive and growth strategies will not only ensure their survivability but also prosperity in terms of increased revenue and market share.
Strategic alliances are normally formed by most airlines in order to enter the constrained global networks and operate within the limits of the current air services bilateral agreement systems (Flores-Fillol & Moner-Colonques 2007, p.428). In most cases, major carriers enter into the bilateral code sharing agreements in order to increase their network coverage.
In addition, alliances are used by airlines to attain the global services networks, gain access as well as establishing their presence in new markets without having their aircrafts. Moreover, airlines use strategic alliances to provide services which would be costly and unprofitable if operated singly (Merkert & Morrell 2012, p.857).
Alternatively, consumers have indicated their preference for large airlines with increased service networks in order to minimize their travel costs, get better services and take advantage of the more attractive frequent flyer programs. Further, alliances increases access to the airports that are congested with landing restrictions and lacking slots for take-offs (Merkert & Morrell 2012, p.859).
Theoretically, alliances are believed to increase economies of scale leading to the reduced costs associated with marketing, operations, training and the ground maintenance. Moreover, alliances reduce the redundancies and duplications in the overall airline operations. Therefore, the aim of any alliance in the air transport industry is seen as enhancing each of the partner’s competitive advantage as well as attaining greater profitability (Rajasekar & Fouts 2009, p.95).
This study aims at establishing the benefits accrued or not accrued when two international airlines forms a code sharing agreements. In this case, the study will be focusing on the benefits that are accrued or not accrued in the alliance between Etihad and Virgin Blue of Australia. The term benefit is defined in this study as the increased RPMs, PLF and the market share. The reason is that these three variables are normally used to measure the productivity and the profitability of the airline.
The paper will first provide the background information of the two airline companies, aviation industry in UAE and the reasons for the formation of the strategic alliance. The paper will then provide broad literature review on the benefits of strategic alliances in the aviation industry followed by research methodology, research findings, and recommendations before making conclusions of the study.
Background information
Etihad airways
The airline is currently boasting of 81 destinations in almost 51 countries. The available seat kilometers on the airline network grew by 51% in the previous financial year while revenue passenger kilometers grew by 16%. The airline also increased its flights by 7% in the same year.
Generally the airline recorded growth in its entire operation segment. The airline growth projections indicate an overall 7% growth in the next two years. This growth trend has largely been attributed to its competitive and growth strategies that include the formation of alliances with other major international carriers.
The airline has pursued an effective strategy of forming strategic alliances with other international carriers to enhance its network and marketing strategies. The strategic alliance has enabled the airline to access most of the competitive market.
The code share deals the airline has with other major airlines have generated a wide-ranging effective network providing customers with easy access to destinations not directly served by the Etihad airways fleet. These code share agreements have also contributed to the considerable revenue growth of the airline.
Comprehensive code share agreements include the reciprocal frequent flyer programs, code share flights, access to lounges together with other customer services. All these depend on the type of the agreement partner.
The alliance with Virgin Blue of Australia means that the virgin Australia will be operating its own flights to Abu Dhabi and code share across each others networks. The benefits that the two airlines will get are reciprocal. The two companies are currently offering the most comprehensive rout networks both in and out of Australia.
In relation with the government, Abu Dhabi government believes that aviation industry is critical in its plan for the 2030. The reason behind this belief is that running a successful airline will form a solid foundation for free market commercial activities in large scale to strengthen diverse economy while at the same time attracting further investments.
Against these backdrops, Etihad is playing a crucial role in ensuring that these economic goals are achieved. In other words, Etihad is critical in driving and supporting economic growth in UAE.
The economic contribution of the airline has been categorized into four major groups including direct, indirect, induced and catalytic. The direct economic benefits are what the airline contributes directly to the economy of Abu Dhabi. In 2011financial year the airline contributed approximately $1.46 billion, 2.1% of non-oil contribution to the GDP and 0.8% of the total GDP.
In the same financial year the airline contributed $830 million indirect benefit to the Abu Dhabi GDP through the purchase of fuel, investments in marketing, ICT as well as maintenance and repair, airport landing and rental fees. Also included in the indirect economic contribution is the generation and supporting of 15,000 jobs.
Generally, the current airline projections indicate that the airline is likely to contribute over $10.7 billion to the Abu Dhabi economy with a growth arte of 7% in the next two years. This encompasses all the contributions even that of the tourism sector.
Virgin Blue of Australia
The company was incorporated into the Australian market in the 2000. The airline expanded rapidly during its first year of operations and by mid 2001 the airline has launched 14 routes within the national domestic network. The airline has continued to grow and expand in the subsequent years through the formation of strategic alliances with other airlines.
The airline expansion strategies have enabled it to become one of the top competitors in the Australian aviation industry. Its code sharing agreements with other airlines have enabled its accessibility to some of the Asia pacific markets as well as the increased revenue for growth. The airline has operated in the Australian market for only ten years but have experience a tremendous growth momentum.
The strategic alliance the airline entered with Etihad is expected to enable the airline gain access and increase its market share in Middle East. The agreement means that virgin blue will be operating its own flights to Abu Dhabi among other code sharing agreements benefits including providing customers with better services. This strategy has been seen as not only increases its competitive advantage but also essential for its growth and expansion globally.
Literature review
Reasons for the strategic alliance
The aviation industry has experienced a number of changes since its deregulations in the mid 80s particularly in the USA and Europe. According to Flores-Fillol & Moner-Colonques 2007, major airline carriers have seen a substantial decline, increased reorganization of routs leading to the major hubs as well as the spoke networks and more recently the formation of strategic alliances between the major international carriers.
In fact, the formation of strategic alliances symbolizes the modern and significant innovation in the aviation industry. Most major airlines today form strategic alliances for various reasons. However, these alliances are driven by the current world economic trends and fierce competition in the industry (Ladki & Misk, 2009). Currently, almost every major international airline belongs to one or two strategic alliance. Industry observers assert that with the increased number of the air travels, fierce competition is likely between these alliances.
There are several types of alliances that the industry players make. The most common is the complementary alliance. The complementary alliance is where two major international airlines link their existing networks and come up with a new networks that offers the interline services to their clients (Rajasekar & Fouts 2009, p.97).
Complementary alliance permits the competing carriers to have their networks extended since they rely on each other to serve those destinations in which they have no market. However, interline trips have numerous inconveniencies.
In order to reduce these inconveniencies, complementary alliances provide passengers with almost perfect services through the proper management of flight schedules, guaranteeing gate access and bringing together the recurrent flyer programs (Adler & Gellman 2012, p.25). On the other hand, the major competing airlines can form a parallel alliance where they collaborate on the major rout or destination.
Whether in complementary or parallel alliances, the major carriers in a strategic alliance are immune to antitrust that exists in the autonomous ventures, absorbs the negative externalities arising from double marginalization observable in independent pricing as well as set the airline fares. According to Adler & Gellman 2012, the resulting corporative interline fare should cost less than the non-corporative fare.
This assertion is also supported by a number of empirical evidences. This point supports the fact that complementary strategic alliance among the major carriers is beneficial to the passengers (Ladki & Misk, 2009). In situations where competition is limited or absent, the complementary strategic alliance also benefits the allied airlines. This is due to the elimination of the double marginalization that has been mentioned (Adler & Gellman, 2012).
Further, Brueckner (2001) in Flores-Fillol & Moner-Colonques, 2007 argues that formation of complementary alliances among the major aviation players enables reduction of interline fares while at the same time increasing the travel volumes. Moreover, the joint pricing within the interline trips do away with double marginalization while the existence of economies of scale results in increased profitability of the alliance parties (Ladki & Misk, 2009).
Brueckner (2001) in Flores-Fillol & Moner-Colonques 2007 further observes that even though these outcomes are expected of the alliance agreements, the result is not always the case. This is due to the increasing competitive environment which appears to hurt the rivals. To the competing rivals, the alliances reduces the interline fare and travel volumes.
The reduced interline fair among the allied partners put downward pressure on the rivals interline fare. In the presence of intense competition and less product differentiation, the result is the general reduced interline fare both for the alliances and the rivals. However, the allied parties will benefit due to the increased travel volumes (Adler & Gellman, 2012).
Essentially, in situation where there is intense competition and less product differentiation, the formation of alliances seems to be more beneficial that acting independently (Rajasekar & Fouts, 2009).
Industrial players argue that the circumstances currently being experienced in the aviation industry present a situation where the formations of alliances are the only way through which the major carriers can survive (Rajasekar & Fouts, 2009). The reason is that most of the airlines are now offering almost similar products, in fact, travelling to the same destination and squeezed market size resulting into intense competition for few customers.
If a domestic airline goes into a code sharing agreement with an international airline, the earlier reaps the benefits of increased Revenue Passenger Miles (RPMs), market share as well as Passenger Load Factor (PLF). These three factors are used to determine the profitability and productivity of a particular airline (Flores-Fillol & Moner-Colonques, 2007).
Though the increased RPMs may be eroded in the long run, it is advisable for a domestic airline to form a code sharing agreement with an international airline as early as possible. However, the market share advantage remains consistent throughout the agreement period..
During congestions at the airports, alliances overcome such hurdles as landing restrictions as well as inadequate landing and take-off slots. This is because the alliances are associated with wider clientele and sometimes monopoly. Membership to an alliance is considered a critical tool by airlines sales team as it is not only attractive to potential customers but easier to sell.
A great significance is recorded in the increase of Revenue Passenger Kilometres (RPKs). According to Rajasekar, as cited in Iatrou , 2005 alliances between airlines result in a 9.4 percent increase in RPK. There is also significant increase in market share as well as traffic volume for airlines that are in alliances
Alliances offer learning opportunities to member airlines thus enabling individual firms to access embedded knowledge of fellow partner. As a result, these firms acquire a potential to internalize capabilities and skills. This is known as grafting-a process where organizations increase their level of stored knowledge by internalizing knowledge that was previously unavailable to the organization (Rajasekar & Fouts, 2009). However, this may not happen to small firms when they strike partnership with bigger firms.
Alliances in airlines
Alliances refer to those networks that bear loose collections of firms with contrasting interests and abilities. When selecting an alliance partner it is advisable to do so with care, so that necessary skills are provided to the whole alliance (Flores-Fillol & Moner-Colonques, 2007).
This is because the coalition nature among members of an alliance drives the competitive nature of an alliance set-up. Other than reshaping rivalry, alliance networks assist in the creation of collective competition. This means airlines within alliances achieve a competitive advantage over individual airlines.
However, the dynamics and the new structure of competition depend on the joint performance of the linked firms. This means that the number of airlines in an alliance affects the performance as well as the competition advantage of the whole alliance as a single entity in the market. While a large alliance network may enable it to access an extensive range of capabilities, the same may hinder the alliance from uniting towards a common strategy (Adler & Gellman, 2012).
This is because decision making procedures may be lengthy leading to failures to come to an agreement. These alliances can only succeed if there is an advantage that results from the combination of capabilities of two or more airlines (Adler & Gellman, 2012).
Thus, each member airline must be incapable of developing internally unless it is within an alliance. The capability to develop must be offered by another airline within the alliance. In a nutshell, the total value generated by these capabilities must be exceeding the value of capabilities if used separately.
The size of alliance has a great effect on the benefits reaped by alliances. Broader alliances benefit the members with additional traffic as well as extra revenue. However, this happens at the expense of other airlines. These broad alliances permit member airlines to explore and reach wider destinations as well as benefit from hub-and-spoke efficiencies. Although each member airline remains independent in the partnership, the alliance is viewed as a single entity so as to attract more customers (Rajasekar & Fouts, 2009).
Formation of multiparty alliances has resulted in the utilization of new programs that help to rationalize fleets, plan flights, electronic ticketing, workforce utilization as well as optimal determination of route and fare structures. These alliances have helped individual airlines in the provision of profitable services on several routes which they are incapable of if left alone.
Nevertheless, this advantage can only be realized by ensuring there is a partner feeding traffic via a hub hence producing many advantages (Ladki & Misk, 2009). This includes a stimulation of traffic. Other than lowering the airline’s operating costs, this strategy also helps to reduce fares as well as increase the frequency of flights without having to invest in extra aircraft. In summary, multiple airlines result in increased RPMs as well as market share to the domestic airline as compared to airlines forming alliances with only one partner.
Equity orientation is associated with international alliances while domestic alliances adopt a contractual nature. This is because domestic alliances are created in a common environment hence equity control is of less significance in monitoring agreement (due to the short distance). International alliances on the other hand are less familiar with the behavior of member airlines and therefore must adopt a strategy of equity control. Moreover, it is easy to establish a contract in a familiar environment as compared to an unfamiliar one.
While complementary alliance involves two airlines linking their existing networks and building of a new system to provide interline services to their clientele, parallel alliances involve teaming up of two airlines which compete on one route.
Complementary alliances are wider and they usually allow airlines to extend their networks through partners that serve as destinations where these airlines lack route influence (Ladki & Misk, 2009). Complementary alliances are more effective as they reduce inconveniences caused by interline trips by synchronizing flight schedules, merging regular flyer programs as well as ensuring gate closeness.
Current airline industry status
Various changes have hit the air transport industry since the US deregulated its industry. This occurred around 1980s. The deregulation of the European industry that occurred in the 1990s also played a part in these changes. Consequently, the number of major carriages has declined sharply and the reorganization of itineraries into hub-and-spoke systems has intensified as well (O’Connell 2011, p.340).
More strategic alliances are being formed among international airlines in order to reap the benefits of economies of scales associated with these alliances such as reduced costs of operation as well as wider target clientele.
The first significant international alliance was formed in early 90s between KLM and Northwest. Since then, more alliances are mushrooming increasingly. Several alliances including Sky Team, Star Alliance and One world have been formed. Almost all airlines in the globe belong to either of this.
Due to increase in the number of alliances and expansion of international travel, a competitive battle has ensued among the airlines and is likely to continue and intensify in future (O’Connell 2011, p.340). Though the alliance revolution has been adopted by majority of the airlines, there are some carriers that are still reluctant to join alliances. These include; China Airlines, Air India, Japan Airlines, and SN Brussels.
Competition in the airline industry
Membership to an alliance by an airline offers it a competitive advantage over airlines that do not belong to any alliance. Through the shared code agreements airlines achieve global service networks, establish and access new markets without having to provide aircrafts as well as services that would result into unprofitability if they were operated alone (Gross & Luck, 2011).
These new markets help to fetch higher profits through increased passengers and reduction of costs. The reduced costs occur as a result of economies of scale linked to joint maintenance, training, ground facilities, computer reservation systems as well as marketing.
Another factor that has led to reduction of costs in these alliances is the removal of redundancy and duplication in operation (Cerimagic 2011). Moreover, the shared code agreements attract a wider clientele as most consumers prefer airlines with a wider service network to ones with a narrow service network because minimal costs, better services and attractive flyer programs are involved in the earlier. In a nutshell, alliances boost the competitive position of partner airlines as well as reap higher profits for each individual partner.
Australian and United Arab Emirates (UAE) airline industry
The Emirates Airline has recorded a significant growth rate recently. For example, in 2008, it ordered 58 of the 555-seater Airbus A380. This pioneered more orderings by other UAE airlines causing a challenge to carriers in other parts of the world. Increased passenger volumes have posed danger to the infrastructure of the industry leading to heavy investments in projects aimed at improving and maintaining this infrastructure (Vespermann et al. 2008).
The rise of air travel has also resulted in an increase in the number of carriers in UAE. UAE intends to develop into a global centre for trade and commerce and a portion of its master plan is the development of an aviation industry. To achieve this, it has began diversifying its economies and venturing into global tourism, commerce and tourism (Sundaram & Abdulrahman, 2011). Abu Dhabi and Dubai have been the central focus of the growth of aviation in the Gulf area.
UAE has concentrated in acquiring new generation aircrafts. This is of high importance as it helps in developing long-haul hubs in Middle East that will offer its airlines a competitive edge in the global market (Genral et al. 2011. These airlines have expanded their networks extensively so as to satisfy their customers fully. For example, Emirates Airlines is serving in more than 20 cities in Europe.
Research design/methodology
Sources of data
The study data are primarily from three sources. From the airline data bases while much of the data are obtained from the individual airline business reports as well as other important sources of literature. Some of the data are also obtained from the international aviation organizations such as the Australia Competition and Consumer Commission (ACCC).
Data such as the approval of interlink of both airline customers in all the airline destinations are obtained from ACCC. The data such as the alliance patterns as well as the RPMs (revenue passenger miles) together with other load factors are obtained from both the airline business data bases.
The airline data base contains all the statistics about the airlines in addition to all the airline alliance agreements in the industry, including the years in which these alliances were formed, names and the patterns of these alliances, the type of the alliance and whether the alliance were equity or non-equity. On the other hand, the individual airline data bases contains information on the individual airline flight schedules for all the destinations a round the world.
Findings and discussions
The primary research question is to establish the benefits of code sharing agreements between two airlines. The results indicate that code sharing agreements in the early stages of completion leads to increased RPMs, PLF and market share.
As can be observed from the both the virgin and Etihad data bases, the two airlines revenue have improved due to the increased market share, passenger load factors as well as the RPMs. Moreover, the mutual agreement between these two airlines have enabled them access markets in each others networks. In essence, this has led to the increased market share which in effect has led to the augmented revenue.
The literatures of the airline business strategies also indicated a focused increase in market share in their territories. Analyzed together with other data sources, the alliance between large partners will lead to increased profitability, access to the markets as well as increased customer services. In general, the alliances between large partners provide added competitive advantage with non allied competitors while at the same time reduces competition among the allied parties.
In as much as most of the findings support the benefits of code sharing agreements between the two airlines generally in form of increased RPMs, PLF and market share, the result also indicate the initial gains will erode over time. In other word, the alliance will benefit the parties more in the initial stages.
However, as more and more competing alliance continue to penetrate the market networks, and as the fare prices continue to decrease, the gains of the alliance eventually drops. Therefore, airlines must enter into alliances or code agreements at the earliest so as to benefit from the increased RPMs. Virgin and Etihad alliances are strategically formed to benefit from this increased RPMs.
In terms of load factors, the result indicates that airlines in code sharing agreements always increase their code passenger load factors. The load factors are essential to any airline since it is normally used to measure the airlines productivity. The higher the load factor the greater the profitability of the airline.
Given that the study suggested an increased load factors for airlines that form an alliance, the code sharing agreements must be used by the airlines as a strategic tool not only to increase the RPMs but also to enhance their load factors which will eventually lead to greater performance and productivity.
As discussed before, the code sharing agreements not only results in the increase of RPMs and PLFs but also the market share of the alliance airlines. This specific finding will be essential to many airlines to adopt the strategy when they want to venture into any particular market. The common thing about Virgin Blue and Etihad is that they focuses on capturing market share instead of the profitability of their products when launching into a new market.
These airline companies understand the fact that in the long run, they will entrench themselves strongly into the market and slowly turn their dominant position into profitability as their competitors are way behind in the share of the market. This strategy has proved to be effective in situations where the competition is high and where there are numerous barriers to entry into the market.
With this reasoning, many international carriers will end up having multiple code sharing agreements around the world as can be observed with Etihad in the recent past. In the last financial year Etihad enter into code agreement with air Berlin to gain access to the European and North American market.
Previous alliances with other international airlines have been aimed primarily to gain access to the believed congested markets. In essence, the airlines have multiple code agreements in order to increase its RPMS, PLF and the market share globally. Generally code sharing agreements benefits the alliance parties profoundly not only in the increased RPMs, PLF and market share but also other economic benefits.
However, consolidating the airline market gains attracts the regulatory actions. Similar to all other forms of mergers and acquisitions, alliances have the potential of being significantly anti-competitive.
The reason is that the consolidation of the market share taking place in the airline market will eventually limit the choice of the passengers in selecting their routs. Provided that the airlines generate new services, lower cost, improve on the existing services as well as increasing efficiency for the general clientele then the alliances will not attract the regulatory actions.
Recommendations
Like any other alliances, the Etihad and Virgin airlines must make long term view; match the firm’s cultures as well as managing styles when forming an alliance. The two companies must take cognizance of each of the firm’s values, operations as well as the environments in which they want to venture.
Most significantly, the alliance must aim at improving the customer services in addition to the increased market share. Further, the alliance must define the success measures, practice and insist on the open communications. The companies must not only focus on single alliance but also pursue multiple alliances if at all they intend to succeed and sustain themselves in the current market place.
In fact, the benefits of the alliance must be distributed to all parties in a more balanced way to strengthen the alliance and built the culture of trust among the parties. All these will not only ensure successful alliance that is beneficial to all but also as a strategic tool to survive in the market place.
Conclusion
The current world economic order, globalization and the liberalization of most of the industries have led to the development and popularity of the alliances among the competing firms. This trend is more profound in the aviation industry where large carriers form an alliance with other international carriers as a competitive, growth and survivability strategies.
Airlines enter into Strategic alliances in order to penetrate the constrained global networks and operate within the limits of the current air services bilateral agreement systems. Major carriers enter into the bilateral code sharing agreements in order to increase their network coverage, attain the global services networks and gain access as well as establishing their presence in new markets. Moreover, airlines use strategic alliances to provide costly services which would be unprofitable if operated singly.
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