Inside Air NZ’s divorce from Virgin

Air New Zealand's surprise split from Virgin Australia shows yet again why culture eats strategy for lunch. Nikki Mandow details the five factors behind the divorce.

You can imagine the scene. Air New Zealand senior management turn up in Brisbane for a meeting with Virgin Australia officials. They sit around the table; there are (presumably) coffees, water, small talk. And then the two Air NZ executives drop the bombshell. Sorry, but we won’t be renewing our vows in October.

We’re going it alone.

The reaction was swift. As with many business deals (and quite a few failed celebrity marriages), things got competitive. Virgin Australia quickly mooted launching its low-cost arm Tigerair Australia on trans-Tasman flights. In return, Air NZ announced two new trans-Tasman routes to start in December, plus an additional 15 percent seat capacity on all its Tasman routes.

As the headline on global aviation newsletter The Blue Swan Daily read last week: “Virgin dumped. And now for war? There will be blood.”

So what happened? Why did Air New Zealand cut off an Australian partnership which seven years ago it was desperate to see approved?

And why did it risk the trans-Tasman aviation version of Donald Trump’s trade war by dropping a commercial relationship that was seemingly trucking along pretty well?

There are more than simple commercial interests at stake. Cultural issues were significant in the way the two airlines operate on and off the ground. As management guru Peter Drucker is reputed to have said: "Culture eats strategy for lunch." And there were serious clashes at senior leadership level.

The top five factors behind the split:

1) All out of love. The two CEOs didn't get on. Australian media suggest the two leaders haven’t been in the same room since March 2016 when Air NZ CEO Christopher Luxon, then a Virgin Australia board member because of Air NZ’s 25.9 percent shareholding in the company, made an unsuccessful bid to oust Virgin CEO John Borghetti. Luxon then quit the board and the shareholding (losing millions on the deal).

Air New Zealand chief executive Christopher Luxon

It’s not clear where the original animosity arose, although airline bosses worldwide are renowned for their egos, and the two men are very different characters. On the Australian side is a smart-dressing, fast car-driving guy, a lover of nice things, an individualist. As one commentator says: “John Borghetti is a John Borghetti kind of guy. He is his own island, nation, stylist - immaculate, meticulous, methodical.”

Virgin Australia chief executive John Borghetti

On the other side of the ditch, Luxon is an equally strong operator, but totally different. He’s a devout Christian, a non-drinker, a man who “wants to live and breathe the culture of his organisation”, the commentator says, a man who has employed a diversity manager at Air NZ to review the salaries of female staff members and try to eliminate pay gaps.

The bad blood between the two men is significant, says Sydney-based Peter Harbison, executive chairman of CAPA-Centre for Aviation, and the author of the Blue Swan Daily article.

“If you don’t have a good relationship, a deal like this is going to come to an end,” Harbison told Newsroom. “If Chris Luxon was playing golf each week with John Borghetti, you’d have a partnership still.”

2) Different sides of the tracks. There isn’t a rich versus poor angle, but there are cultural clashes between the two organisations, both on and off the ground. One comes from the fact Borghetti is a career airline man, bringing a traditional airline approach.

Luxon, by contrast, comes from a fast moving consumer goods background - having worked for years at Unilever in North America. And those two cultures lead to different ways of running the business, including different decisions, different executive appointments. Potential problems may have been signalled early with Luxon’s comment to aviation reporter Grant Bradley soon after he became Air New Zealand CEO in 2013:

"[The airline business] is complex and addictive and people stay for a long time, but the danger of that is that you get a group-think and a mode of thinking that might need a bit of shaking." 

Perhaps more important are cultural differences at a business level. There’s been plenty written about the importance culture plays in the success of mergers and acquisitions, not least this 2017 KPMG study.

And culture is a critical factor with Air NZ/Virgin, commentators say, not least the impact on customers, who might book a ticket via Air NZ and end up flying on Virgin - or vice versa.

Air NZ has put considerable effort over the last few years into injecting “personality and X-factor” into its customer experience. Things like the world-first Skycouch - a way for economy passengers to join the mile-high club. Or the quirky safety videos, including in the early days Rob Fyfe and other staff members dressed in nothing but body paint.  

“We try to differentiate ourselves from the ordinary,” says Air New Zealand’s chief revenue officer Cam Wallace, one of the executives who delivered the message to Virgin Australia. “There are so many airlines in the market. And we try not to take ourselves too seriously.”

Of course Virgin Airlines under its charismatic leader Richard Branson has also carved an out-of-the-ordinary niche for itself. But it’s a different sort of different, and customers expecting one airline experience and getting another risk being disappointed.

Richard Branson launches his Australian airline in 2004

Vaughn Davis is a branding expert, a pilot, and founder of The Goat Farm advertising agency. He says code-sharing benefits airlines but can be tough for customers.

“Culture trumps codeshares every time. The airline sees a small percentage of its flights being operated by another carrier and it might seem to be no big deal. For many customers, though, that trip they booked from Auckland to the Gold Coast might be their only flight of the year, and their one chance to experience what they thought would be Air New Zealand service. For those customers, it’s a very big deal.”

3) Air NZ is moving on

When Air NZ and Virgin Australia tied in the knot in 2010, Air NZ had spent an astonishing two decades trying to establish an Australian presence, by almost any means, and totally unsuccessfully. (See a “Quick history of Air NZ in Australia”, below.) Even getting regulatory approval for the marriage was tortuous.

But the Kiwi airline reckons it doesn’t need an Australian partner any more as it’s doing OK on its own. A calculated hearts and minds campaign for the Australian travelling public culminated in the airline taking out not only the 2017 award for the best airline in Oceania, but also the award for Australia’s most reputable company.

That’s right. A company with “New Zealand” in its name was voted Australia’s most trusted. Fair dinkum.

Wallace says the result surprised Air NZ too, but it was the result of a deliberate plan. “We’ve invested a lot more in the last 2-3 years in Australia in mass marketing, including media and TV campaigns. Historically our spend was more technical, particularly in the travel trade.”

It’s worked, says Jayson Westbury, chief executive of the Australian Federation of Travel Agents.

“[Luxon] has taken a New Zealand brand and turned it into an Aussie icon. He’s not really Australianised it, rather got us to be more engaged with it as a culture, as a brand. Some of their advertising is very New Zealand quirky, but they’ve put an Australian spin to it, and we loved it.

Take Dave, the talking Australian goose, who left his flock and chose instead to migrate on an Air NZ plane. Voiced by Australian actor Bryan Brown as Dave, the 2016 advertising campaign was part of an Air New Zealand strategy to persuade Australians, particularly those on the east coast, to use Air New Zealand when they flew to North and South America, with a single stop in Auckland. Dave, who engages in some typical trans-Tasman banter over accents, pavlovas, and rugby as he migrates across the Pacific on Air NZ, struck a chord, Westbury says.

“They’ve done a good job getting rid of the New Zealand-Australia rivalry, and their market share is on an incredible trajectory.”

“Air New Zealand is very well recognised in Australia now,” Harbison says. “It’s got a good product and it’s doing some clever social media stuff too.”

4) Staying together takes too much effort.

For a small airline with limited staff numbers, maintaining partnerships takes time and resources. And for Air New Zealand, the alliance with Virgin isn’t the only deal requiring attention; other partners include Singapore Airlines, United and Air China.

“These occupy a lot of time, brain space and human resources,” Harbison says. “There’s revenue management, marketing, day-to-day dealings. Ideally you wouldn’t have partnerships.”

Renegotiating a deal with competition watchdogs is also a resource-heavy business. Last year, Emirates pulled the plug on its trans-Tasman services from Auckland, meaning the market share for the Virgin-Air NZ alliance went over 50 percent. That was going to make it a harder (though not impossible) sell to regulators before the deadline in October, one Air NZ source said. The company obviously decided it wasn’t worth the effort.

5) Outgrown its partner

Air New Zealand is a very different beast in Australia to the one it was in 2010. It has more offices, and significantly more sales and marketing staff based across the ditch. It’s changed its priorities, with a focus on the long-haul market (where it competes with Virgin) and a much bigger share of the trans-Tasman pie. Seventy percent of Air NZ/Virgin Australia alliance passengers now fly on Air NZ, and the Kiwi airline sells 80 percent of the seats.

As one staffer put it: “We are in effect putting more passengers on [Virgin] planes than the reverse. Usually it’s the opposite way round, where New Zealand is the smaller partner. And for us, trans-Tasman is important. 23 percent of our seats. For Virgin, it’s a much smaller part of their business.”

Is Air New Zealand making a big mistake ditching its partnership? The company says it’s done the numbers and is confident it can go it alone, possibly with future collaboration with Virgin on some routes where they don’t need authorisation.

At the moment, with bruised egos at stake, that seems unlikely. And Peter Harbison says it’s a risk ditching a known partnership which seemed to be going well.

“I don’t see that there was a massive downside having the alliance [with Virgin]. It doesn’t do Air New Zealand a lot of harm or cost it anything. They are risking two things [by abandoning it] - loss of access to the Australian market and stimulating a fare war on the Tasman.

“If it goes well, they will make more money, but on the other side of the ledger, would they make much less if they stayed, and the risks would be less.”

Irreversible cultural differences can have their downside.

Turbulent skies: A quick history of Air NZ in Australia.

In December 2010, when the Air NZ-Virgin Blue (as it then was) deal finally got the green light from New Zealand’s Minister of Transport and the Australian Competition and Consumer Commission (ACCC), Air NZ had been trying for two decades to get a foothold in Australia. In 1992 it employed Australian-based Centre for Aviation (CAPA) and its boss Peter Harbison to set up a budget airline in Australia, based on the Southwest Airlines model. That failed when at the last minute the then Australian Transport Minister intervened to scupper the project, after intensive lobbying from Qantas and Ansett. It was, Harbison says, the aviation equivalent of the underarm bowling incident. (As an aside, the New Zealander heading the project, Ray Webster, then decamped to England, where he set up the now $10 billion turnover EasyJet airline.)

Next stop for Air NZ was the attempt to acquire a share of Qantas when it was floated in 1995. That wasn’t allowed, so it (twice) sought approval to do a Qantas code sharing-style deal. Everything was turned down.

Instead it bought a 50 percent stake in Ansett Australia in 1996 and the other 50 percent in 2000, a disastrous move which ended up (in 2001) with Ansett going bust and Air New Zealand being re-nationalised.

Undeterred, Air NZ chief executive Rob Fyfe made a bid for Virgin Blue, taking a 15% shareholding in 2011 - an unpopular move in Australia. Fyfe’s successor Christopher Luxon upped the stake to 23% in 2013 and then to 25.9 percent, which some Australians saw as an aggressive move to take over the airline. The relationship soured and Luxon launched an unsuccessful boardroom coup in 2016 to oust Borghetti. Luxon resigned from the board effective immediately, and sold Air New Zealand’s stake soon after. See more here.

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