MIAMI — SkyTeam Alliance partners Delta Air Lines, Air France-KLM, and China Eastern announced a blockbuster set of deals Tuesday, tightening the alliance across the Atlantic and broadening links between the European and Asian wings of the group. Airways’ Benjamin Bearup reported the basics of the deal yesterday, but to recap:

  • Air France will buy a 31% stake in Virgin Atlantic for ~$287 million
    • Delta already owns 49% of Virgin Atlantic, a stake that it acquired back in 2013 for $360 million. Accordingly, Air France – KLM is paying about a 26% premium over Delta for its shares.
  • Delta will buy a 10% stake in Air France-KLM for ~$438 million
    • This implies a valuation of ~$4.3 billion despite Air France-KLM generating revenues of more than $30 billion in 2016.
  • China Eastern will also buy a 10% stake in Air France-KLM for the same price
    • Delta owns 3.55% of China Eastern, a stake it purchased in July 2015 for $450 million.

Delta Is The King Of SkyTeam’s Trans-Atlantic Joint Venture

Photo: Benjamin Bearup
Photo: Benjamin Bearup

While the effective elimination of Richard Branson from Virgin Atlantic will make most of the headlines here, the big winner from this set of moves is Delta, which will now functionally have full control of the SkyTeam Trans-Atlantic joint venture (JV) established back in 2009. Delta by itself represents something like 40-45% of the JV’s capacity, and with its stakes in Virgin Atlantic and Air France -KLM, it will now have effective voting power and the ability to shape capacity decisions.

China Eastern as well is likely to defer to Delta in the Trans-Atlantic sphere (which it simply cannot participate in anyway) so Delta will get to really set the direction of the JV, particularly as it relates to capacity planning. For example, Delta almost assuredly has some concerns about the “Joon” low cost long haul subsidiary planned by Air France, and this set of moves allows Delta to exert influence and pressure to shape which routes and how much capacity Joon operates.

Air France-KLM Gets A Brexit Hedge And Fixes An Imbalance With Delta

Photo: Benjamin Bearup
Photo: Benjamin Bearup

At the same time, these deals are wins for Air France-KLM as well. The biggest victory is getting Virgin Atlantic into the SkyTeam joint venture fold and avoiding the problem of misaligned incentives with Delta. Delta is the most important partner for Air France – KLM across the Atlantic, but once Delta got into a joint venture with Virgin Atlantic, it created a set of incentives for Delta that didn’t necessarily line up with those of Air France – KLM. London is nay far the most important market for Trans-Atlantic flying, and as a result, Delta had plenty of incentive to collect passengers and fly them to London at a premium as opposed to sending them via Paris and Amsterdam.

For Air France – KLM, the addition of a piece of Virgin Atlantic to the Group allows it to also profit from more nonstop connectivity from the US to London Heathrow, and more broadly gives the group the ability to profit in the London market, particularly if Air France-KLM transitions some of its existing London Heathrow slots to long haul flying on Virgin Atlantic. The move in some ways is also a hedge against Brexit, in that it will allow Air France-KLM to continue to generate profits in the UK market even if easy access is eliminated.

The move also adds a (relatively) profitable airline into the group fold, but it does not solve Air France-KLM’s fundamental problem, which remains the fact that Air France itself is a basket case with too-high costs and unrealistic unions in a business-unfriendly home country. But the addition of Virgin Atlantic will only improve the group’s overall finances in the long run. And the tie up with China Eastern will become more and more useful as the Chinese market matures. China Eastern didn’t by a stake because of the market today. It bought a stake for the year 2027, when a route like Chengdu-Paris is served with 5-6 flights per day.

US Carriers Are Getting More Aggressive About Strategic Foreign Investments

Photo: Benjamin Bearup
Photo: Benjamin Bearup

Delta’s purchase of a stake in Air France-KLM is just the latest iteration of a US carrier investing in a strategic foreign partner. Within the last 12 months, American invested in China Eastern, Delta bought more of Aeromexico, and United is reportedly in the later stages of buying a large stake in Star Alliance partner Avianca. Right now, US carriers are throwing off a ton of cash, powered largely by a consolidated domestic market and robust demand within the US and for shorter distance travel. In contrast, the international market is less profitable for both US carriers and foreign ones.

With growth slowdowns in Europe and throughout much of the developing world, carriers in those countries are ripe for investment at cost-effective prices. $4.4 billion is probably a discount price for Air France – KLM (which now includes a percentage of Virgin Atlantic) given its size and strategic value, and really only the Chinese deals have been struck at prices that resemble anything close to market during positive economic periods (right now isn’t one of those periods).

We expect to see more investment activity from US carriers over the next 18-24 months, particularly in East Asia and Europe (two markets where the balance of power has tilted towards the US carriers more recently). Delta’s move is only the most recent domino to fall in this respect – it will not be the last.