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Qantas riposte: former chief economist hits back at CFO

February 6, 2014 Aviation, Headline News 3 Comments Email Email

egtmedia59Yesterday, Global Travel Media published an article by Qantas chief financial officer Gareth Evans, titled ‘Armchair experts in the cockpit’ – Qantas exec hits out. 

Today, former top Qantas economist Tony Webber, mentioned by Evans in yesterday’s article, looks at the problems besetting Qantas from another angle. Webber, now at the Sydney University Business School, writes as follows:

Let’s start with the Facts

Gareth Evans began as CFO on June 15, 2010. When he started the Qantas Group share price was $2.64. Today it is $1.09. The Group hasn’t paid a dividend since the first half of FY09. The Group’s annual Profit Before Tax outcomes between FY09 and FY13 have been A$123m, A$116m, A$552m, A$95m and $192m. In FY08 the Group made A$1.4b. By most conservative markers, under the Evans watch the Group’s earnings and shareholder return performance have been a dismal failure.

Evans would have you believe that none of this is within his control. He’ll blame the economy, jet fuel prices, competitors, market capacity and an uneven playing field. He’ll never blame himself. Cordato

Let’s talk about the performance of the economy under the Evan’s tenure. Australian GDP has grown at or above 2% since he has been CFO. In FY12 GDP actually grew by 3.6%. Long run average GDP growth is around 3%. GDP growth has therefore been highly favourable for the Group over the Evan’s tenure.

The price of Singapore Jet Kerosene between FY10 and FY14 (to date) has averaged between $83 and $126 per barrel. The price peaked at $182 just prior to the GFC. Relative to this peak, the movement in the jet fuel price during the Evan’s tenure has been highly favourable.

The Australian dollar averaged between 88 and 103 US cents between FY09 and FY14 (to date). The long run average is around 70 cents. The stronger Australian dollar has been an enormous source of cost benefit for the Qantas Group since Gareth Evans has been CFO.

Over the past 10 years, domestic and regional market capacity has grown on average by 7.2%. Between FY09 and FY13, capacity grew between 1.2% and 8.3% with an average of 4.4%. There is little evidence to suggest that Qantas can blame extraordinarily high market capacity growth for its woes. In fact, it didn’t complain between FY04 and FY08 when domestic and regional capacity growth averaged 9.9%.

References to Me

Evans says that I was a former finance employee. He doesn’t use the title I held before I left Qantas, which was the Chief Economist, to paint a picture that I was relatively junior and that my commentary and views were, and are, irrelevant.

Evans indicates that I was retrenched. This is a carefully chosen, emotive word suggestive of a position that Qantas was no longer in need of my services and that I was disgruntled. The facts, however, tell a different story. In early 2011 Evans came into my office and said that he didn’t know how to use me and that I was to now report to the Deputy CFO. If I was one dimensional and lacked a basic understanding of aviation, as he claims in his article, then why didn’t he make me redundant then and there?

Evans argued that he didn’t know how to use me despite the fact that I convinced Treasury to hedge fuel in Brent crude oil rather than West Texas Intermediate saving the company millions. He made this assessment despite the fact that I successfully convinced Treasury to adopt a more integrated approach to hedging fuel and operational foreign exchange exposures. And he formed this view despite the fact that I built the fuel hedge effectiveness testing framework that Qantas Treasury had been using for 4 years before I left, and quite possibly continue to use, resulting in a significant reduction in earnings volatility.

Knowing that a lower reporting line equates to doomsday in the corporate world, I made the decision to voluntarily make myself redundant. It was made clear to me by the deputy CFO that a position was available to me if I so wanted.

Thirdly, Evans argues in his article that I recommended a significant reduction in regional capacity. I never made such a recommendation. That is Evans naïve inference from a set of results that I presented to him in a CFO direct reports meeting. Let me explain.

Before Evans was CFO, I had constructed a mathematical representation of earnings on every single domestic and regional route flown by Qantas mainline, QantasLink and Jetstar. This model was able to quantify the impact of a number of different forces on profitability, including own and competitor capacity, the state of the economy and jet fuel prices. The model was designed to be an emotion-free decision making tool that would support, rather than replace, business decisions.

The outcome of that model at the time was that QantasLink had significantly more capacity in the market than was profit maximising. Evans inferred from this that I was recommending a significant reduction in capacity. I made no recommendations. I was only stating a set of findings. If I was to make a recommendation it would be to slow capacity growth until underlying demand caught up with supply. The most significant contribution of the model was that it was able to rank excess supply on every single route and that this could be used to target routes that were underperforming.

Coles and Woolworths

The Coles and Woolworths analogy is just nonsensical.

First of all, competition in the grocery market occurs between two very mature players. Competition between Virgin and Qantas is only around ten years old, while competition in the corporate segment of the airline market has only just begun. The competitive dynamics in the airline and grocery sectors are at completely different levels of maturity thus making capacity decisions in the markets non-comparable.

Secondly, capacity decisions in aviation are difficult to align with capacity decisions in supermarkets. Building extra capacity in the supermarket business is not just about opening new shops. Supermarkets can increase capacity, for example, by extending opening hours and by increasing check-out speed. Capacity is increased in aviation by increasing available seat kilometres, which can be achieved in a number of different ways. Comparing available seat kilometres to opening and closing shops is simply ludicrous.

Thirdly, aviation supplies a perishable good to the market. If seats remain unsold on a flight they can’t be placed in inventory and sold a later date, unlike most goods sold in a supermarket. It is for this reason that capacity decisions in aviation are significantly more important than in supermarkets.

Fourthly, the trajectory of demand, which is a strong driver of capacity decisions, is different in the two sectors because the driver variables and the way they influence demand are quite different. Aviation is a discretionary good while groceries are non-discretionary. Groceries are relatively resilient to the business cycle, while the demand for air travel is highly exposed to it. The fact that the demand drivers and their influence are quite different means that a comparison of capacity strategies is utterly useless.

65% Market Share

Evan’s commentary on the 65% market share is completely flawed. He is preoccupied with the belief that those who disagree with targeting market share think that Qantas must reduce capacity, which will in turn provide competitors a ‘leg up’. He fails to understand that Qantas can concede market share simply by growing capacity at a slower pace than competitors.

The biggest issue with targeting a market share is that you lose control of capacity decisions. The airline that targets a market share must grow its capacity at the same pace as its competitors. This loss of control means that the airline risks a situation in which its competitor irrationally grows capacity too quickly. This risk is currently being realised.

The problem with the 65% market share target at the moment is not the 65% per se. The problem is that market capacity is above that which maximises profit for the market. If both Qantas and Virgin were to reduce capacity by 20%, and so Qantas were to preserve its 65% market share, then they would both be making an extraordinary amount of money.

Asian Strategy

Evans makes the claim that it is ‘breathtaking small mindedness’ to believe that Asia is a distraction for the Group. Let’s just consider what the Qantas Group has done in Asia in the form of its Jetstar investments and align this with the growth in Asian demand for air travel.

First of all, it is very clear that the Asian middle class is growing and that they will swap no travel or road/rail travel for air travel. But where is the middle class growing fastest? Is it in Singapore, Japan and Hong Kong where the Qantas group is focussing its Jetstar investments? I suspect that the middle class in each of these Asian countries has grown to a reasonably mature level.

The fastest rate of growth in the middle class will be in the likes of China and India. While this will drive some growth in inbound travel to Singapore, Hong Kong and Japan it is far better to capture this growth by positioning yourself in China and India.

Now think about the competition that Jetstar will face in its chosen Asian hubs. In Hong Kong it faces the might of Cathay Pacific amongst other smaller carriers, and for services into mainland China they face the big four Chinese carriers. In Singapore, competition comes from Singapore Airlines, Silk Air and Tiger Airways, while in Japan it faces strong competition from All Nippon, Japan Airlines, Peach Airways and Vanilla Air to name but a few. It is going to be exceptionally difficult for the Jetstar product to profitably break into these markets given the strength of competition and the maturity of outbound demand. This combined with the fact that it is facing a strong competitive threat in its ‘bread and butter’ domestic market means that, yes, Asia is a distraction at the moment.

Words of Evans Wisdom

I attended Treasury Risk Management meetings at Qantas every Thursday morning, almost without fail, for around 4 to 5 years. I started doing this well before Evans was made CFO.

When Evans became CFO he began attending these meetings. During one of those meetings, he presented a ludicrous personal view (not the Qantas Group view) that the Qantas business couldn’t survive $100 oil prices. I found this comment extraordinarily uninformed given that a record profit of A$1.4b was made in FY08, over which period the oil price averaged US$97.

Qantas is a great airline. I love the product and the people. I continue to have many friends who work there. Hopefully this great airline will have continued success into the future.

Written by : Tony Webber

Currently there are "3 comments" on this Article:

  1. AgentGerko says:

    Oof! take that, Gareth.

  2. Robin Woods says:

    An excellent, concise and well-written reply Tony Webber – I sold my Qantas shares long ago when the company stopped caring about its passengers and only focused on the shareholders! I feel sad that such a wonderful airline could have come down so low that not only passengers are disgruntled but pilots, flight attendants and corporate staff are less than happy with corporate decisions (and yes, I personally know people in all these categories). What happened to companies caring about their employees and their clients? I guess I am just old-fashioned!

  3. fralipoli says:

    …as i was reading the article right up to the point when he mentioned his redundancy, from thereon everything sounds more like bitterness….he also forgot to mention a different market scenario during his time and the present…huge difference…

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