Welcome to Willie’s world

The CEO of International Airlines Group (IAG) has never been one to mince his words, and he addresses the seemingly neverending dispute between Gulf carriers and their older rivals in Europe with his usual gusto. But the Irishman differs from colleagues such as Air France-KLM’s Jean-Cyril Spinetta and Lufthansa’s Christoph Franz in that he believes that competition from the Gulf has, by and large, been a positive development in the aviation industry.

“It’s a bit like what you had back in the 80s and the early 90s with the low-cost guys, with everybody saying it’ll never work and it’s unfair,” he continues. “You’ve just got to get on with it and compete.”

Competing has never been a problem for Walsh, and this year is shaping up to be a pretty interesting one for IAG. The holding company, formed in 2011 as a result of the merger between British Airways – which Walsh used to run – and Spain’s Iberia, is the third-largest airline company in Europe, and the sixth-largest in the world (Emirates is currently eighth).

Alongside the flag-carriers of the UK and Spain, IAG is also in the process of acquiring Vueling, the Barcelona-based no-frills operator in which it already holds a 45.85 percent stake.

The creation of IAG is part of a pattern of consolidation in airlines across more traditional economies. In US, that trend has been exemplified by tie-ups between American Airlines and US Airways, and between Continental Airlines and United. In Europe, Air France and the Dutch airline KLM tied the knot back in 2004.

Walsh says that IAG’s progress since its inception has “gone well” but the merger has taken place against a backdrop of tough economic circumstances – particularly in Spain – and the high oil price, which has pushed carriers the world over into the red. Last year, IAG posted a $1.29bn pre-tax loss, pulled down by impairment charges against intangible assets and extra costs at Iberia.

“Clearly the financial performance of Iberia has been a challenge; economically the situation in Spain is difficult and will be for some time,” Walsh says. “British Airways has the advantage of having its centre of gravity in London, so although the UK economy has been pretty anaemic, London has not seen a recession in the way that the UK has.”

But that headline figure actually masks some pretty good news. Iberia is currently undergoing a restructuring programme, which has resulted in strike threats from the carrier’s workforce. Not that that will faze Walsh, of course; he first made his name as an astute negotiator on the Aer Lingus pilots union when he joined the Irish carrier as a cadet pilot in the early 1980s, before cowing the BA unions during that operator’s own restructuring in the latter years of the last decade. When that restructuring is complete, Iberia should be in a better position to compete in Europe, as well as cementing its role as the leader on the lucrative routes between its home continent and the fast-growing markets of Latin America.

Over at Heathrow, BA posted a $450m operating profit last year on the back of good growth in premium traffic and additional slots at Heathrow gained as a result of its integration of British Midland Airways (bmi). Add to that IAG’s purchase of Vueling – a company that tripled its profits to $37m last year – which was accepted last week, and the prospects start to look increasingly attractive.

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Walsh says that the inclusion of a budget carrier has always been of interest to IAG, which is designed to be “a multi-brand, multinational organisation”.

While no-frills carriers launched by full-service airlines have historically tended to suffer as a result of the parent carrier cherry-picking the best business, Walsh believes that the structure of IAG is such that Vueling can thrive independent of BA and Iberia. Vueling can also act as IAG’s answer to fast-growing Ryanair and easyJet, which have taken a huge slice of traffic away from conventional carriers in the last decade or so.

“Within the brands we have at the moment, British Airways will never be a low-cost brand…and neither will Iberia, so having something that is competitive in that segment of the market…[will] create additional value for shareholders,” the CEO points out. “We know the management team, we understand the business model, and we think we have a structure that will enable it to develop and contribute to the group without being interfered with in the way you would normally get if you tried to do low-cost within an airline.”

As for further purchases, Walsh says that nothing else is in the pipeline, at least in the short term.

“I think there are lots of airlines, particularly European airlines, that are up for sale,” he adds. “We don’t see any of the airlines that are currently in play as representing value to us.”

Another reason by 2013 is such an important year for IAG, and especially BA, is the changing aspect of its fleet. First up is the arrival of the carrier’s first A380, which will join BA’s fleet of 118 wide-body aircraft in July. Twelve superjumbos have been ordered, and Walsh says that the rationale behind the A380 is to ensure that British Airways can use the aircraft on high-volume routes while maximising the limited slots at Heathrow.

The superjumbo will initially be deployed on the Los Angeles route, with Hong Kong following. The Gulf is certainly not on the list of early destinations for the A380, but Walsh says he’s not ruling out Dubai for the future.

“I wouldn’t say never, but what we’re saying is that the model and business case was based on that idea of having high volumes and frequency not being an issue,” he says. “The advantage it gives us into places like the Gulf and New York is high premium content…so where we see strong premium demand, it could well be that we’ll use the A380 on those destinations as well.”

Elswhere in the BA fleet, the interesting battle that has taken place between in recent months has been between Boeing and Airbus. The European manufacturer broke Boeing’s stranglehold on BA’s long-haul aircraft with that A380 order back in 2007, and the race to replace the airline’s venerable 747-400s and 767s. Boeing took first blood earlier this month with an order for an extra eighteen 787 Dreamliner aircraft, taking BA’s total order to 42. It was a major shot in the arm for the US manufacturer, which had seen its next-generation part-composite jet grounded due to concerns over batteries. Walsh, however, never had any doubts about the future success of the model.

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“It’s not unusual for a new aircraft to have problems, but the difference this time round with the 787 is that there’s a huge amount of focus on it,” he says. “Even the 777 had teething problems with its introduction, and social media is a big factor here, because any problem with the 787 is known to everybody.

“We believe they [Boeing] are on top of the problem, and to be honest, we’re reasonably relaxed. We’ve always recognised that there were going to be issues with the introduction, and that’s why we didn’t want to be a launch customer…the first 787 we get is number 108 on the production line, and we took the view that by then, you should have most of those initial problems resolved.”

But Airbus hit back last week by securing an order for eighteen A350-1000 aircraft, plus a further eighteen options, which should start to be delivered from 2017 onwards. There had been some speculation as to whether BA would plump for either the A350 or Boeing’s next variant of its hugely successful 777, the 777X, which hasn’t yet gone on sale. Given that neither aircraft has been built yet, BA is among a number of airlines that are effectively gambling on the manufacturers’ launch dates.

The truth, Walsh says, is that the airline is actually likely to have both.

“We’ve been waiting to see what Boeing does with the 777X. We see them both as being competitive aircraft and potentially could even see a situation where we have both types in our fleet. I’d be amazed if you don’t see the 777X in our fleet at some point in the future, but when is the question.

“Making sure that they [both types] are delivered when the manufacturers say they are is important to us because we’ve got a narrow window where we can have some flexibility, but we need to be looking to replace quite a number of 747s by 2023, and we don’t want to take too much of a risk that there will be a delay in the delivery of the aircraft that will replace those.”

So how much of a manufacturer’s past performance in getting new models out on time affect that kind of decision?

“It’s an issue,” admits Walsh. “But it’s not a big issue, because we’ve had a lot of experience dealing with both manufacturers. I think the industry would prefer greater certainty, and I don’t think it’s helpful to the industry to have the delays that we’ve seen.

“But the opportunities that we will get from these new aircraft are fantastic; they represent a step change in terms of fuel efficiency. In the past, replacement aircraft have been marginally better, maybe 5, 6, or 7 percent better, but when you get something that’s 20, 25 or even 30 percent better on a unit cost basis, it’s worth waiting to get the right aircraft.”

However, while BA’s prospects look good on paper, the ongoing furore over the expansion of its home hub, Heathrow, looks set to put a brake on the carrier’s future development. Although a third runway at Heathrow – the world’s biggest airport – had been approved by the previous Labour government, the current Conservative-Liberal Democrat coalition is exploring other options, including a new airport on reclaimed land in the Thames Estuary.

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Walsh says that he does not believe that the political will existed to add a third runway at Heathrow, and that it would be impossible to finance a new airport hub.

“Fifty years from now, I believe British Airways will still be flying from a two-runway hub at Heathrow,” he says. “The world will move on, and the UK will get left behind. Politically, I don’t think there’s a solution and therefore I’m not wasting any time trying to beat my head against the wall when I don’t think I’m going to achieve anything. We get on and run our business, and seek to take advantage of growth in the industry. Unfortunately for us, a lot of that growth will be outside our core base of London.”

Walsh will be hoping that at least some of that growth will come in the Gulf, where BA has had a presence for 80 years. When the acquisition of bmi freed up slots at Heathrow, the carrier was able to add Amman as a destination, and more recently it has added two extra flights a week to Jeddah. The CEO says that no new destinations are currently on the drawing board, but adds that BA is always looking for new opportunities to expand its network.

In terms of the Gulf carriers themselves, Walsh thinks that it is “inevitable” that there will be further cooperation, particularly as Qatar Airways joins oneworld, the alliance of which BA is a key member. He also cites Emirates’ tie-up with Qantas as “a positive development” despite the fact that the deal saw the Australian airline end its seventeen-year partnership with BA.

“I particularly admire what Dubai and Emirates have done, taking it from almost nowhere ten to fifteen years ago to number two in the world in terms of international hub airports,” he says. “And it will overtake Heathrow without question. That, to me, is something you have to admire. I love that ambition and that determination, and I use it to berate politicians, particularly in the UK, about what aviation can do, and the impact that it has had on the economies of this region.”

BA is adopting a “wait-and-see” approach with regard to Al Maktoum International Airport, which will start operating commercially in October this year. Walsh says that the new airport in Jebel Ali, which Dubai is hoping will become the world’s largest when fully operational at some point in the late 2020s, is “clearly something we’re very interested in”. But he also highlights the difficulties that go hand in hand with the huge expansion in capacity in the UAE, which now has seven international airports.

“The air traffic environment here is a big challenge as well, and I think hub carriers are beginning to suffer as a result of that because it’s impacting on their punctuality,” he says. “When you’re a hub, making sure your flights are coming in and out on time is very important. I can see the justification in terms of the new airport, but probably the more critical issue is getting the air traffic control infrastructure that can cope with the very significant growth that’s being witnessed.”

He has a point, as the thousands of passengers circling in holding patterns above Fujairah on an almost-daily basis can testify. But Walsh is less worried about the issue that has been the bane of most airline CEOs for the last five years or so: the oil price. In 2001, just before 9/11, the oil price stood at $24.70, representing 12 percent of the aviation industry’s cost base, he points out. That percentage has now risen to 32 percent in 2012, which has forced airlines to streamline their businesses and cut out excess capacity wherever possible.

“Without question this is an industry that can work at $120, it can work at $150, and in a strange way, a higher oil price has imposed a new discipline to the industry to make it better,” Walsh says. “When you’re operating in a high variable cost environment, grounding capacity is a much easier decision to make, and that has created a change in dynamics which I think has been very positive.”

Coping with $150 oil? You won’t hear many airline CEOs admitting that. But given Walsh’s past record in getting the big decisions right, it’s tough to disagree with him.