Etihad global strategy in trouble after Air Berlin bankruptcy

Etihad’s grand plan for global domination looks to be in deep
trouble.

In July, the Abu Dhabi, United Arab Emirates-based aviation giant
announced a staggering $1.87 billion loss for 2016. This after
posting a $103 million profit the previous year.

Etihad blames $808 million of losses on financial exposure to
partner airlines such as Air Berlin and Alitalia.

Now things have gone from bad to worse.

On Tuesday, Air Berlin entered into
administration
, declaring itself insolvent and initiating a
major restructuring. Air Berlin’s financial implosion happened
just three months after Alitalia’s bankruptcy in May.

Together, Etihad’s total financial exposure to the two troubled
European carriers edges north of $4.5 billion.

“Etihad had a very ambitious and creative but very risky
strategy, which was to invest in airlines in different countries
to gain a proxy presence as an airline group, and two of its
riskiest investments were Air Berlin and Alitalia,” Henry
Harteveldt, a travel analyst for Atmosphere Research Group, told
Business Insider.

In July, the chief architect of the plan, former Etihad CEO James
Hogan, exited the company he
helped build


REUTERS/Fabian Bimmer

Going global

Over the past few years, Etihad embarked on an equity-acquisition
spree that has seen the carrier take substantial ownership stakes
in a series of “partner airlines.” This includes 49% of Alitalia;
29.2% of Air Berlin; 49% of Air Serbia; 24% of Jet Airways; 21.8%
of Virgin Australia; 40% of Air Seychelles; 49.8% of Niki; and
33% of Swiss-based Etihad Regional. But Etihad sold its stake in
Etihad Regional in July.

Last September, these partner airlines along with Etihad Airways
and its accompanying subsidiaries were reconfigured to form
Etihad Aviation Group.

In theory, Hogan’s partnership concept makes a tremendous amount
of sense. Investing in or taking over struggling airlines in
advantageous markets for pennies on the dollar while
simultaneously growing Etihad’s global reach is strategically
sound. The approach also allows Etihad to enter potentially
hostile markets free of political opposition and without the need
to launch an operation from scratch.

In practice, the partnership strategy is much more complex. Some
have worked out well for Etihad. For instance, Air Serbia has
relaunched and become a solid feeder into the Etihad network. The
investment in Jet Airways has helped Etihad unlock the
potentially lucrative Indian market. And Virgin Australia has
become a viable competitor for Qantas.


Airbus A330 Air Serbia
An Air Serbia Airbus
A330.

AP

At the same time, Germany’s Air Berlin and Italy’s national
carrier, Alitalia, have not fared so well. Both airlines were
acquired to help Etihad increase its reach into the prized
European and transatlantic markets, and to a certain extent they
have done exactly that. Operationally, though, Air Berlin and
Alitalia have continued to bleed money.

On the face of it, the $2.35 billion Alitalia investment seemed
like a solid deal. For the cost of a few Airbus A380 superjumbos,
the company acquired a major airline with a fleet of 100 planes,
Hogan told Business
Insider in 2015
.

The same goes for the Air Berlin deal. 

“Air Berlin, on paper, looked like it would be very beneficial
for Etihad,” Harteveldt said. “It gave Etihad access to a major
European market that’s arguably the strongest in terms of
economic strength and demand for air travel.”

So what happened?

“These two investments have turned out to be sort of Etihad
biting off more than it can chew,” Airways senior business
analyst Vinay Bhaskara told Business Insider.

What went wrong

According to Bhaskara, there are two types of reclamation
projects that tend to succeed in the airline industry. The first
is an airline that is underperforming simply because it is
“making boneheaded strategic errors” to the point the airline is
essentially its own worst enemy. These are easier to fix because
they tend to be in good markets with good fundamentals. So a
management change should do the trick, Bhaskara said. Jet Airways
falls into this category.


AlitaliaAP

The second is an underperforming airline that is government-owned
or struggling with an incredible amount of internal dysfunction.
These turnarounds can be successful if an outside force such as
Etihad is “handed the keys to the kingdom” to tear down and
rebuild the airline after making wholesale changes. This is
exactly what Etihad was able to do at Air Serbia, Bhaskara added.

Technically, Air Berlin and Alitalia should have gone into this
second category. But Etihad was never given the chance to
implement the same type of full rebuild as Air Serbia.

With Alitalia, Etihad brought in new management, revamped its
product, and improved its service. Many of the old problems that
plagued the “Old Alitalia,” however, still plague the “New
Alitalia” today. Bhaskara said one of the major issues the
airline ran into was the powerful labor unions that prevented
Etihad from making drastic changes that could have made the
airline profitable.

In April, Alitalia entered into
administration after workers rejected a
management
-restructuring plan that would have cut salaries
and jobs at the airline.

According to the Financial Times,
the last time Alitalia generated an annual profit was in 2002 —
one year before the founding of Etihad Airways.


Air Berlin Airbus A330
An Air Berlin Airbus
A330.

Andreas Wiese /
airberlin


Air Berlin’s situation is different than Alitalia’s but equally
dysfunctional. 

Air Berlin’s downfall

According to Harteveldt, Air Berlin faced myriad issues ranging
from a delayed airport to a disjointed product strategy. First,
the airport. Even though Berlin is one of the largest and most
important cities in Europe, it doesn’t actually have a
world-class airport. The state-of-the-art Berlin Brandenburg
Airport was scheduled to open in 2010. But delays have now pushed
to as late as 2020. 

As a result, Air Berlin hasn’t been able to develop the mega hub
it had hoped for in its hometown. Instead, it has to settle for a
smaller hub, in Dusseldorf. But that pales in comparison to the
hubs Lufthansa has in larger markets like Frankfurt and Munich,
Harteveldt told us.

At the same time, Air Berlin has been facing stiff competition
from low-cost carriers like RyanAir, EasyJet, WizzAir, and other
carriers. And then there was the airlines own “basket case”
business strategy.

“Air Berlin just didn’t have a clear strategy,” Harteveldt said.
“It was a low-cost, bare-bones airline for its short-haul
European flights, but it tried to be a traditional full-service
airline on its long-haul flights. It didn’t accomplish either
objective very well.”


Etihad Airbus A380Airbus/Etihad

Even though the labor situation at Air Berlin was less
contentious than Alitalia, it still plagued the airline.

“In Europe, airlines are high-profile industries that are highly
unionized, and the unions work very hard to protect their
workers’ jobs,” Harteveldt said. “Compared to the United States,
for example, it very difficult for an airline in Europe to gain
the labor efficiency that it needs, whether that be wages or
productivity or anything else.”

So where does that leave Air Berlin?

What’s next for Etihad’s partners

While Etihad is willing to explore commercial opportunities with
the airline, it has made it clear that after $2.3 billion in
investment its coffers are now off limits to Air Berlin.

“You can hear the sound of Etihad wiping its hands of Air Berlin
all the way from Abu Dhabi to California,” Harteveldt said.

Although Harteveldt believes the Alitalia will likely fly on, the
analyst thinks Air Berlin is effectively done as an airline. But
Bhaskara believes it’s still too early to say whether Air
Berlin’s fate is sealed.


An Alitalia crew member walks past Alitalia employees who take part in a strike at Fiumicino international airport in Rome, Italy April 5, 2017. REUTERS/Remo Casilli
An
Alitalia crew member walks past Alitalia employees who take part
in a strike at Fiumicino international airport in
Rome.

Thomson
Reuters


Air Berlin CEO Thomas Winkelmann has spoken out publicly to
ensure his customers that the airline’s flights will operate as
usual with the help of a bridging loan worth $176 million.

All is not lost for the Etihad partner airline strategy.

“In some cases, it looks like Etihad bet on some winning horses,”
Harteveldt said. “Alitalia is still on the track and so we can’t
call that race yet.”

While it seems as if the Etihad partnership strategy will
probably live on to fight another day, Air Berlin and Alitalia
have proved to be two painful and expensive speed bumps along the
way.

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