Qantas set to float Jetstar

Background, by Eureka Report editor James Kirby: Faced with low-cost Asian airlines on one side and Chapter 11-protected US airlines on the other, Qantas chief executive Geoff Dixon has decided to fight back through Jetstar, his successful low-cost subsidiary run by Alan Joyce.

In today’s video interview with Robert Gottliebsen*, Dixon explains that Qantas '” which has 20% higher costs in the domestic market than arch-rival Virgin '” will get smaller in the coming years as the company is increasingly segmented and costs are extracted from the business.

However, Dixon says shareholders will be amply compensated by the growth of Jetstar, which he says will increase fivefold in size from today. Dixon says Jetstar will eventually list separately on the ASX. He also expects Qantas will make more acquisitions in the freight market after its recent acquisition of Star Track Express, the freight company built by entrepreneur Greg Poche.

Despite the difficulties faced by Qantas, Dixon is one of the most admired chief executives on the local market and he also recently joined the board of the Packer family’s PBL group. Today he talks frankly about the future challenges of running an airline as fuel prices escalate and international travel faces a difficult future.

The interview

Robert Gottliebsen: Geoff, what happened in the world airline industry over the last 18 months that has forced these big changes in Qantas?

Geoff Dixon: Well up until 18 months ago, Robert, I think Qantas had a very competitive cost structure compared to like-minded carriers, ones which were providing a high level of service (three classes and that). But then there was a couple of distinct things: one is that more and more of the American carriers '” where 60% of the world’s airline industry is in the United States '” went into Chapter 11 bankruptcy protection. United was already in but '¦ they’ve been in for about three years.

What they do in Chapter 11 is have massive changes to their cost base. They’re able to abrogate their pension benefits and hand it over as a matter of fact to the Government and under court-mandated situations they slash wages, salaries '¦ you name it, and what they’ve managed to do is to go from being one of the biggest loss-making industries in the world to all of them now starting to make money on the basis of taking up to $US4–5 billion of cost out of their business and that has made them overnight much more competitive to carriers like Qantas.

Now you’ve also got another situation, whereas in this part of the world we have been, say, Qantas never allowed to consolidate. Even we were not even allowed to take over Hazelton, which is a small carrier in New South Wales whereas KLM and Air France have been able to, as an example, to merge. They’ve become the biggest carrier in the world by revenue and I’ve spoken to both their chief executives, that is KLM and Air France, quite regularly over the recent years and they are making massive savings as a result of that.

Lufthansa is now back on the warpath after taking over Swissair so they’re getting real benefits. More recently Cathay Pacific, which is one of our biggest competitors, has been able to take over the only other airline in Hong Kong '” the passenger airline Dragon Air, which had all these great rides to China and have also tied up with Air China in a 20% equity.

How far do you have to reduce your costs to meet this?

It’s very difficult at this stage to say how much we’ve got to reduce our costs because they’re not coming at us as quickly as all that, but what we do know that any seachange like that in the industry means that we must make sure that our key points of cost disadvantage '” meaning in a lot of areas people '” matches the competitors and that means pilots, flight attendants, engineers. It means everybody. It means management. Everybody.

In the domestic market, how much higher are Qantas’s costs than Virgin’s?

Our costs on Virgin are around about '¦ could be on any given day, some areas it’s about 8%, others it’s over 25%. We average it out around about 20%, but as I think I’ve said to you and other people before, that the costs of Jetstar, our other domestic carrier at the moment, are lower than Virgin’s and we know we are in a different space.

In other words, we go for a different market than Virgin and we’d get a lot more for our ticket so that is still a very good position for Qantas, but I do have a fear that, seeing that Virgin is coming after the corporate market, that unless we can get our costs down as they’re putting costs in and converge at some stage, if they are successful in their marketing we will have some real issues to confront in two or three years time.

So what will the Qantas traditional business look like by 2010?

Traditional business? The traditional business, I think, will be smaller. It will be very similar if you mean the traditional airline, yeah certainly, it will be still very high quality. I mean we have a reputation of being one of the top three airlines in the world every year for the last three or four years and I think it will be very similar, but it will be smaller and it will be slicker and it will be a lower cost. It must be, otherwise we won’t be competitive.

But what will Jetstar look like in 2010?

Jetstar will be much bigger. Jetstar could be, in 2010, four or five times bigger than it is today. It starts flying internationally in November this year and we are going to aggressively grow Jetstar, particularly when the new 787 Dreamliner comes into service in 2008. We will quickly put the first 15 of those aircraft into Jetstar. Three-hundred seaters '” it will give them a big cost advantage on top of the cost advantage they really have now.

Will you float the Jetstar business?

Yes we would, but that is not the plan at the moment, Robert. The plan at the moment is to make sure that it is a very successful, 100%-owned subsidiary; but if the reasons came about or we thought it was better for the group, yes, we’re not against doing anything like that.

Are you going to make the Qantas freight business a lot larger?

Yeah. We intend to try to make our freight business a lot bigger. By organically growing it, because we’ll almost certainly put some of our 747 aircraft into long-haul freighters, reconvert them into that. We want to try and grow the businesses in the time-definite freight market, which we’ve got now: that is Star Track.

We’ve got Australian Air Express but we are looking at the general freight area and we certainly believe that Qantas has the opportunity and, indeed, the skill base to become an integrated freight company or transport company within Australia, and that’s our aim.

Will you link with Lindsay Fox and challenge Toll?

Well, Lindsay and I have had quite a few discussions about this over the years over a nice bottle of red and you can’t really say no to anything like that. He’s a very astute business person and we are talking to a lot of people. We don’t see anything on the horizon straight away because I think people are paying a little bit too much for what’s out there at the moment, but we’re open to discussion and obviously we approach people as well. I think there’s a lot of things to happen in the general freight area in Australia in the next 12 to 18 months before it becomes clear where the next big competition’s going to come if, indeed, it is going to come to Toll.

Freight could be a separate public company?

We would intend and would like if we were over-executed to certainly have a separate company with our freight assets that we’ve got now and any freight assets that we can bring to that particular group, and provided we can get the right management we believe we could float something off and be quite an attractive company.

So we’re going to end up with a series of separate Qantas businesses?

We must do that as a matter of fact, because what we’ve seen '” we call it segmentation. We started to segment this business about four years ago, principally in the initial stages to try and really get a better handle on our costs. I mean we’re just one big airline with everybody servicing. That enabled us to do that. Over the last three years, we’ve got a much better handle on our cost.

We now believe to get even further into the business and to take out waste and also to make sure if there’s areas in the company that are really not carrying their weight, we’ve going to a greater depth of our segmentation and that will inevitably result in most of our various areas having their own P&L and could result in quite a few of them either exiting the company in one way or another. Either you close down and you bring outsourced help in or you float it off or indeed if you want to, you can keep it as one part of the group.

How much are you going to spend on aircraft between now and 2015?

Well from 2000 to about 2015 we’re planning to spend about $A30 billion, which, I suspect would make us the biggest spender of capital of any company in Australia, which is unfortunate but it’s a necessity. From around about now, it would be over $20 billion I think until 2015 '” principally on the A380, the super jumbo that comes in next year and, most importantly, on the Dreamliner, the carbon-fibre, new-generation aircraft coming from Boeing.

Will you lease or buy them?

It will be a combination of both. We have, up until around about three years ago, been principally buyers of our aircraft. We’re now changing that and we’re having a mixture of leasing and buying. We’re leasing more and we’re finding that gives us flexibility as well as a better way of managing our balance sheet.

So what will you do with your spare cash?

Well certainly if we were able to execute a further inroads into the freight business, that would without a doubt cost a billion dollars or so and I’m quite sure we’ll find ways not to waste it but we do need also, given that this is an airline in a business that is being buffeted by world record oil prices and security and terrorism issues, that having a very strong balance sheet is not a problem.

Do you think Qantas is going to be an income stock rather than a growth stock?

It could be. I’d like to see it to be a growth stock, I must say, but we always talk about this internally and one of the issues here of course is that Qantas is so dominant as an airline in Australia that '¦ and we regard it as an industrial stock at the moment and that’s why we believe we don’t trade quite as well and one of the reasons we really do want the 49% foreign restriction on foreign equity taken off because we’re a much more attractive stock to foreigners than we are to the Australian markets by the looks of things.

Thanks, Geoff.

Thank you very much, Robert.

* Robert Gottliebsen is a national business commentator with The Australian.