The curious case of Qantas and Virgin’s sudden interest in Indonesia

In our most recent analysis on importance of the A321neoLR to Jetstar and Qantas, we covered the idiosyncrasies of the Australia-Indonesia Bilateral Air Service Agreement (BASA). Under the BASA, Australian carriers are limited to 25,000 seats per week in each direction between Brisbane, Melbourne, Perth, Sydney, and Indonesia. This capacity is fully allocated to Qantas Airways and Virgin Australia.

Allocations are made at a group level, allowing Qantas to utilise their allocations across both the Qantas and Jetstar brands with flexibility. Furthermore, these allocations are not destination specific, allowing airlines to adjust capacity between destinations as they wish.

Under the BASA there are no restrictions or limitations on services between other points in Australia and Indonesia, and Qantas, Jetstar and Virgin have exploited this aspect of the BASA for several years. This means that Qantas, Jetstar and Virgin have no constraints adding capacity from Adelaide, Cairns, Darwin, or Gold Coast to Indonesia.

A third and unutilised part of the BASA are an additional 2,500 seats per week in each direction between Brisbane, Melbourne, Perth, Sydney, and Indonesia provided that the flights operate via or beyond another point in Australia. This has been referred to as the “enhanced regional package” in this and other BASAs (e.g., Australia-Qatar). No allocations to Australian carriers have been made under the enhanced regional package, nor have any carriers previously shown much interest in exploiting them, however this changed late last year.

Come November

On 17 November 2023, Qantas surprised all and sundry by applying to the International Air Services Commission (IASC) to allocate 2,320 seats under the enhanced regional package. As with all IASC applications, other airlines are invited to make competing applications before IASC make a decision.

Like clockwork, on 12 December 2023, Virgin applied for 2,464 seats per week under the enhanced regional package, signifying their intent to compete with Qantas for the allocation.

The Qantas-Jetstar application

In our last blog that considered the importance of the A321neoLR to Jetstar and Qantas, we highlighted how the Australia-Indonesia BASA is allocated at a group level allowing Qantas and Jetstar significant flexibility, exploiting the capacity across both brands. All capacity is applied for or allocated by Qantas, even though routes may be operated by either Qantas or Jetstar. The more specific nature of the enhanced regional package means that Qantas have detailed their plans more specifically.

The application proposed two routes operated under the Jetstar brand. Firstly, a daily service from Cairns to Bali via Melbourne operated by the A321neoLR (1,624 seats per week) and a 3x weekly service from Adelaide to Bali via Perth (696 seats per week).

Jetstar already operate flights from both Cairns and Adelaide to Bali. At present, Adelaide operates 2x daily while Cairns operates 3x weekly (increasing to 4x weekly later this year). Adelaide and Cairns are not included in the restricted part of the BASA meaning that Jetstar could add limitless non-stop capacity between Adelaide or Cairns and Bali without exploiting the enhanced regional package. So why is Jetstar wanting to add these flights? The answer is identifiable from the schedules that were proposed in the application.

Instead of routing MEL–CNS–DPS (the shortest routing), Jetstar proposed routing CNS–MEL–DPS. Thus, customers flying from Melbourne to Bali will enjoy a non-stop flight, while passengers from Cairns to Bali will require a one-stop flight. Instead of 4.5 hours flying time on the existing non-stop CNS–DPS flight, they’ll now be looking at nearly 11 hours on the one-stop flight.

JQ 33 CNS MEL 11:45 15:15
JQ 33 MEL DPS 16:45 20:55
JQ 34 DPS MEL 22:10 5:45+1
JQ 34 MEL CNS 7:25 10:45

Why would Cairns passengers take this flight? The short answer is that they won’t. Instead, Jetstar will exploit their ability to carry domestic passengers on the CNS–MEL leg in a similar manner to how they (and Qantas) do on other flights (e.g., MEL–PER–LHR). This generates an operational challenge in that domestic passengers will fly through the international rather than domestic terminal facilities. This is not problematic at MEL or CNS due to the relative co-location of the facilities (it would be a far different challenge in SYD). Furthermore, positioning the A321neoLR to CNS shouldn’t be a problem given Jetstar’s existing MEL–CNS flights.

One can look at Jetstar’s existing domestic schedules to see how they may be used for these positioning flights. For example, Jetstar might use JQ 942, already operated by an A321neoLR to position the aircraft for JQ 33, and the CNS–MEL leg of JQ 33 might replace JQ 946 (also already operate by an A321neoLR). Meanwhile, on the return, the MEL–CNS leg of JQ 34 might replace JQ 942, repositioning back to MEL as JQ 945.

JQ 942 MEL CNS 6:00 8:15
JQ 945 CNS MEL 9:15 13:40

JQ 946 MEL CNS 16:25 18:45
JQ 943 CNS MEL 19:30 21:50

This is an incredibly crafty exploitation of the BASA and scheduling. Jetstar can exploit the enhanced regional package to add an additional daily MEL–DPS–MEL rotation that would otherwise not be possible given the capacity limitations between Melbourne and Bali. Furthermore, they can do this by using existing MEL–CNS–MEL capacity, adding the new MEL–DPS–MEL legs (JQ 33 and 34) to an existing MEL–CNS–MEL schedule with only minor adjustments.

In terms of the Adelaide flight, the service will route via Perth. Once again, why would Adelaide passengers fly to Bali via Perth, adding 4 hours to the flying time when they can already fly non-stop? Furthermore, it is importance to reiterate that if Jetstar needed to or wanted to add more Adelaide-Bali capacity, they could do so without exploiting the enhanced regional package. However, Jetstar are unable to add additional Perth to Bali capacity, just as they are in Melbourne. Thus, ADL–PER–DPS is planned with an identical operational strategy to CNS–MEL–DPS.

JQ 108 ADL PER 15:40 17:35
JQ 108 PER DPS 19:00 22:40
JQ 111 DPS PER 11:15 15:00
JQ 111 PER ADL 16:25 21:45

The domestic ADL–PER–ADL legs will likely replace (or supplementing) existing domestic flights between Adelaide and Perth. At present, Jetstar have a single daily Adelaide-Perth flight. Conveniently, JQ 974 departs Adelaide for Perth at 15:00, returning from Perth to Adelaide at 16:45 as JQ 975, fitting the proposed PER–DPS–PER legs (JQ 108 and 111) almost perfectly.

The Virgin Australia application

In their application, Virgin have proposed daily flights from Adelaide to Bali via Perth and daily flights from Gold Coast to Bali, also via Perth. Both are proposed to operate with 176 seat B737-800 aircraft, supplying 2,464 seats per week each.

At present, Virgin operate daily flights from Adelaide, Brisbane, Gold Coast, Melbourne, and Sydney to Bali (Melbourne operating twice daily). Flights from Brisbane, Melbourne, and Sydney operate under the restricted capacity allocations, while Adelaide and Gold Coast have unlimited capacity.

While Virgin would be unable to add additional capacity from Brisbane, Melbourne, or Sydney to Bali, they could add additional capacity from Adelaide and Gold Coast as these destinations are not limited under the BASA. Notably, Virgin do not operate Perth-Bali flights and would not be able to add capacity since Perth is included alongside Brisbane, Melbourne, and Sydney in the restricted group. Without additional allocations, they would be required to reduce capacity from Brisbane, Melbourne, or Sydney in order to add Perth capacity. However, the enhanced regional capacity can be exploited for this purpose.

Virgin’s IASC application proposed flight schedules which show just how they plan to exploit them (note that Virgin have not indicated flight numbers in the application, so we have labelled the flights VA A, B, C, and D). Virgin are planning a near identical strategy to Jetstar, adding non-stop Perth-Bali flights by routing flights from Adelaide and Gold Coast to Bali via Perth.

VA A ADL PER 17:20 19:20
VA A PER DPS 20:35 00:30+1
VA B DPS PER 1:45 5:45
VA B PER ADL 7:15 11:35

VA C OOL PER 8:10 12:05
VA C PER DPS 13:20 17:15
VA D DPS PER 18:30 22:30
VA D PER OOL 23:45 6:15+1

Once again, it’s doubtful that Adelaide-Bali or Gold Coast-Bali passengers will take these flights. Instead, the flights will have relatively independent passenger profiles.

The proposed schedule for VA A and B fits remarkable well with Virgin’s existing PER–ADL–PER domestic schedules. One can anticipate that they will replace the existing domestic flight on the ADL–PER–ADL legs. For example, VA 712 PER–ADL departing PER at 7:20 which is remarkably similar schedule to the PER–ADL leg on VA B.

The same can be argued for OOL–PER–OOL, the only difference being that Virgin do not operate non-stop flights between Perth and Gold Coast at present. A positive externality of this flight is that it will result in a new domestic route, however it may simply displace an existing Perth-Brisbane rotation.

Some kinda chutzpah?

One must admire the chutzpah and creativity of Qantas in finding a mechanism to exploit the enhanced regional package to gain additional Australia-Indonesia capacity. There is no obvious negative externality either since even the domestic legs will displace existing domestic capacity. For Jetstar, it gets even better since they may be able to utilise foreign based crew on the domestic legs, thus even reducing costs on a small number of domestic services.

We might give Virgin the same credit, but given Qantas’s application preceding Virgin’s by a month, it’s not clear that Virgin’s proposal has the same originality. There is no reason to believe that Virgin would have shown the interest in exploiting the enhanced regional package had Qantas not made the play recognising that the enhanced regional package has been available for several years.

Notably, neither Qantas or Virgin’s IASC applications explicitly noted the manner in which they are exploiting the enhanced regional package, but nor should they. It is the responsibility of the regulatory authorities to analyse the applications and consider which allocations to make in the public interest.

The purpose of the enhanced regional package is to generate incentives for carriers to increase capacity to secondary cities and regional centres. However, this incentive is moot given the availability of limitless direct capacity from these secondary cities and regional centres.

As obtuse as the “loophole” may be, the IASC should allocate the frequency to Qantas and/or Virgin. Rather, we should commend Qantas and Virgin for their creativity and direct our critique at policy makers that have structured the BASA in such a manner.

What the public have had to say?

As with any other IASC matter, the commission has invited interested parties and the public to comment on the application. Five interested parties have made formal submissions to the IASG:

The Transport Workers’ Union of Australia (TWU) and the Flight Attendants’ Association of Australia (FAAA) supported Virgin’s application based on Jetstar’s use of foreign flight crews.

WR Watson of South Yarra, Victoria wrote in support of Virgin’s application, arguing that if the IASG were to prefer Qantas’s application it should do so with a shorter 2-year approval rather than the typical 5 years. Watson argues that Qantas controls 48.7% of Australia-Indonesia capacity and that approval of their application will increase this beyond 50%, entrenching their dominance in the market. However, this argument ignores that Qantas and Virgin could add limitless capacity from Adelaide, Cairns, or Gold Coast (or several other Australian ports). Furthermore, Indonesian capacity is significantly under utilised and Indonesian airlines could add significant capacity.

Bizarrely, Watson questions the credibility of Qantas’s proposal to fly Jetstar’s A321neoLR, stating that neither Qantas nor Jetstar operate the aircraft at present. It might surprise Watson that Jetstar’s 11^th A321neoLR was delivered to the airline in December 2023 and that they have regularly been operating the A321neoLR on routes to Bali from Adelaide, Brisbane, Melbourne, Sydney for over a year. This raises serious questions regarding the credibility of the critique.

Watson also claims that Qantas’s application should not be favoured since Jetstar’s fares are not lower than Virgin’s as argued in Qantas’s application. Watson picks a random date and single route (6 June MEL–DPS, returning 13 June), concluding that Jetstar’s fares were similar to Virgin. However, we can pick another random set of dates and find a different result. For example, picking 14 and 20 May, Jetstar comes out several hundred dollars cheaper.

This proves nothing since it is not a systematic analysis of pricing on the route, but highlights the lack of seriousness of the argument. More importantly, it ignores that pricing is led by market level demand and supply. In a constrained market like Melbourne-Bali, the constraint to increasing supply is the limited BASA. Ironically, it is Qantas’s application that will add capacity between Melbourne and Bali, while Virgin’s will not.

Queensland Airports, the owner and operator of Gold Coast Airport supported Virgin’s application. They are the first correspondence that explicitly notes how the applications are exploiting the enhanced regional package. However, it is not clear if this support should be considered for Virgin’s application as a whole or just the Gold Coast flight. Credit is due to Queensland Airports who explicitly highlight the impact that Virgin’s proposal will have on adding capacity on the “underserved” Gold Coast to Perth route.

The ACCC have also weighed in

The Australian Competition and Consumer Commission’s (ACCC) submission is typically technocratic, as one might expect. Interestingly, the ACCC provides comments on the assumption that IASC approves one application in its entirety. However, the IASC has the option to split the capacity allocation between Qantas and Virgin.

The ACCC favours Virgin’s application, arguing that it will increase competition by providing a broader distribution of total capacity. For example, they argue that during the year ending September 2023, the Qantas group had a 54.8% share of Australia-Indonesia capacity (Jetstar 43.4% & Qantas 11.4%), compared to Virgin’s 14.7%.

However, data from our Capacity Tracker tool shows that for the year ended December 2023 that both Qantas and Virgin’s capacity share had declined to 51.2% and 13.8% (Jetstar 37.8% & Qantas 13.4%), respectively, as Indonesian carriers returned more capacity. As an aside, this shows the weakness in the ACCC‘s capacity to respond with real-time data, relying on delayed BITRE data for rapid market analysis.

These market share data are somewhat obtuse. The nature of the Australia-Indonesia BASA, and indeed as evidenced by these applications, is that airlines are free to add limitless capacity to Indonesia from points other than Brisbane, Melbourne, Perth, and Sydney. For the year ended December 2023, data from our Capacity Tracker shows that 19% and 25% of Jetstar and Virgin’s capacity was served from Adelaide, Cairns, Darwin, and Gold Coast, with no capacity limitations.

Thus, even if the enhanced regional capacity was allocated entirely to Virgin, Qantas could retaliate by adding additional capacity from Adelaide, Cairns, Darwin, or Gold Coast to protect their market share. While the ACCC would correctly counter this by arguing that this would be good for competition, the same could be said if the additional capacity were allocated to Jetstar, since Virgin could do the same. It highlights the narrowness of the argument since Qantas and Virgin could add capacity on any number of routes to increase or protect their market share.

Secondly, the ACCC argue that the specific routes proposed should be considered for competition purposes. They argue that the Virgin application aids competition since Jetstar is the only Australian carrier operating between Perth and Bali. However, it ignores that Virgin could already fly Perth-Bali but would have to cannibalise services from Brisbane, Melbourne, or Sydney, something that Qantas may have already done this in order to serve Perth-Bali, or any other route under the limited capacity.

It fails to note that Jetstar, who have a 35.3% capacity share for the year ended December 2023, face significant competition from four foreign carriers on the route. By comparison, there are only three foreign competitors between Melbourne, Sydney, and Bali, and only one between Brisbane and Bali. Perth-Bali has similar consumer choice in terms of the number of airlines as Melbourne-Bali or Sydney-Bali. It’s not clear why only considering competition amongst only Australian carriers is important rather than competition at a market level.

They continue this approach when considering Adelaide, highlighting that both airlines already fly the route, but arguing that Virgin would reduce market concentration and promote competition, while ignoring that both airlines are free to add capacity directly from Adelaide without limits.

The ACCC‘s analysis does not consider typical competition metrics like concentration indices, which seems important given the significant fragmentation in the market. As such, the analysis is rather superficial.

Finally, the ACCC also show some favour for Virgin given the impact of the Gold Coast route on the domestic market. They acknowledge that his is not the primary matter since the IASC’s decision only related to international services. However, it seems another obtuse angle since domestic routes are unregulated and that any domestic airline could add near limitless flights between Gold Coast and Perth, subject to airport slot constraints.

Conclusion

To recap, Qantas surprised all and sundry by applying for 2,320 seats per week under the enhanced regional package proposing to fly daily CNS–MEL–DPS and 3x weekly ADL–PER–DPS. Virgin responded by applying for 2,464 seats per week proposing to fly daily ADL–PER–DPS and OOL–PER–DPS. The applications are a clever use of the enhanced regional package to find additional capacity from Melbourne and Perth due to the fully utilised Australia-Indonesia BASA.

The IASC are stuck between a rock and a hard place. The applications are an obtuse use of the enhanced regional package which is intended to generate incentives for airlines to introduce additional capacity to secondary cities and regional centres. However, as this analysis has shown these flights are almost entirely designed to operate as MEL–DPS and PER–DPS flights, whereas the domestic CNS–MEL and ADL–PER sectors are likely to replace existing domestic sectors. Furthermore, the proposed OOL–PER sector is designed to operate as a domestic sector with little to no international traffic.

There are no BASA limitations on either Jetstar or Virgin adding direct capacity between Adelaide, Cairns, Gold Coast, and Bali, as these destinations are not limited under the BASA. Qantas and Virgin have shown a lot of chutzpah! The irony of this is obvious since one of the most persuasive pieces of support for an Virgin’s application came from Gold Coast Airport on the basis of its impact on the domestic market, something that IASC is not mandated to consider!

Similarly, the impact on market competition will be very limited. While the ACCC have correctly indicated that Virgin’s application will provide consumers with more choice, it entirely ignores the context of the BASA which is that it is designed to generate incentives for airlines to add capacity secondary and regional centres, firstly through the unlimited capacity available to/from cities other than Brisbane, Melbourne, Perth, and Sydney, and secondly through the enhanced regional package.

This analysis doesn’t consider what IASC’s options are, particularly from a legal perspective. For example, can IASC grant these with strong conditions in the same manner which the ACCC can (see the discussion regarding conditions that the ACCC have required, or not required, when approving joint ventures)?

The IASC’s mandate is to allocate the capacity in the public interest, however we anticipate that the IASC will hedge their bets, splitting the allocation between Qantas and Virgin. One might argue that this is taking the easy road, but we argue that the IASC is hamstrung. In some respects, the IASC are like a court and can only make a decision based on the facts and arguments that are presented to them. In this case, the fact that both airlines are making applications using the same strategy, neither have attempted to challenge the other.

The IASC are also reliant on the analysis conducted by the ACCC. However, the ACCC‘s analysis was somewhat narrow and limited, underlying the limited capacity and expertise available to the ACCC. The ACCC‘s correspondence highlights that the agency is somewhat reactive, with limited ability to conduct detailed economic analysis. However, this is something that deserves more attention and will be considered in more detail in the coming months.

Nevertheless, good luck to the IASC. It’s somewhat of a loose-loose situation.