The wake-up call Qantas needed

It's interesting that Qantas chairman Leigh Clifford described the failed private equity bid for the group as a source of distraction that slowed reform of Qantas' international business at today's annual meeting – and the global financial crisis as a catalyst for the tough decisions to restructure the group that are now underway.

While there is little doubt that the $11 billion bid in 2006 by Airline Partners Australia did distract the board and senior management for some time, Qantas' problem pre-dated that controversial saga and in some respects, having seen how private equity would have managed the business, has helped inform and energise the group's subsequent strategies.

As Clifford said, pre-2006 the Middle Eastern and Chinese carriers were already emerging as important players within the global and Australian markets. Low-cost regional players were also starting to have an impact.

Qantas had recognised the threat to its own domestic business of the low-cost-carrier model that Virgin Blue deployed in Australia and Geoff Dixon had responded by creating his own LCC, Jetstar.

Jetstar wasn't just a defensive play. Qantas had long been frustrated by the myriad of legacy arrangements with its staff struck during the protected era before the Australian skies were liberalised and creating Jetstar, and transferring routes to it, was a way of circumventing the strait-jacket and costs imposed on it by those arrangements.

The Jetstar brand was also a way of creating a differentiated, low-cost regional presence and therefore a growth option for an ‘'end-of-the-line,'' or point-to-point international business that Dixon had long recognised was vulnerable to the Middle Eastern hub players.

While there is no doubt that the creation of Jetstar has protected Qantas' dominant and highly profitable domestic position, it didn't address the core issue of the unsustainable position of the Qantas-branded full service international business, which was virtually put in the ‘'too hard'' basket until the group was ultimately forced by the global financial crisis and the continuing changes to the global industry landscape to confront it.

With its unsustainable cost structures, an ageing fleet and a network that had become anachronistic in the new world of hub carriers it was generating losses consistently, which made it difficult for the group to justify investing in it.

The private equity bid was something of a wake-up call but the financial crisis, which plunged the global aviation industry into crisis and intensified the pressure on the traditional international carriers, forced Qantas into the kind of radical surgery the condition of the international business and the environment in which it operates had long required.

Last year's extraordinary confrontation with some of its unions, which ended with the grounding of Qantas' entire fleet, was a sign of the new determination within Qantas not to do as it had in the past and back away from the issues.

There has been management failure within Qantas – a failure to convince many of its own employees that without radical change, and significant pain, the survival of the group's international business and the stability of the entire business was at stake. There are significant cultural issues within Qantas that its management hasn't been able to address and that may, given how entrenched positions have become, be insoluble.

Qantas had been continuously cutting costs under Dixon. Alan Joyce last year began what he plans as a five-year transformation program by re-drawing and shrinking the international route network and announcing 1000 job losses but it wasn't until after the confrontation that it embarked on a fundamental restructuring of its maintenance and catering operations and its work processes.

Shrinking and cutting costs on their own won't save the international business, which is why Qantas has announced an alliance with Emirates that, if approved by the competition authorities, will transform its international business by routing its flights to Europe through Dubai, opening up access to all the major European ports. It will also enable Qantas to reconfigure its Asian flight schedules – now governed by its Kangaroo route timetables – to suit travellers within the region.

With the continuing weakness in the global economy, the continued strength of the Australian dollar, the ramping up of the presence of new Asian carriers and a repositioned Virgin Australia attacking its domestic franchise (with the backing of a number of its major international competitors) Qantas has no option but to continue making tough decisions. It has to change the nature of its business to reflect the very different industry in which it now operates.

Both Clifford and Joyce referred to the financial year passed as one that was challenging, which is an understatement, but also as one in which great strides had been made repositioning the group so that it could have a sustainable future.

With an investment grade credit rating, $3 billion of cash and positive net cash flows Qantas – not currently paying dividends -- does at least have the financial position to take a five-year view on returning the international business to something approaching profitability.