Air Battles of the Andes: small country airlines seek to sum markets to compete with the megacarriers - Trade Lanes - LanChile

Latin Trade, Nov, 2002 by David Knibb

Enrique Cueto, chief executive of LanChile, doesn't even like to set up subsidiary airlines. "Why should we need to look for a partner and create a company in each country? You don't get the best synergies this way," he says.

Yet he and Federico Bloch, head of Grupo Taca, have spread their airlines through ore of Latin America this way than any other carrier in the region. The reasons are simple: Nations do not let foreign airlines carry their domestic passengers and will only let them service international routes under a bilateral agreement. These airlines, based in small Latin countries, also need to amass size through cross-border deals to compete with the world's megacarriers.

The strategy of choice is to buy or build an airline in a neighboring country. Then the related airlines operate hubs in both countries. Using this technique, El Salvador-based Grupo Taca has become an alliance of six airlines with local feeders in Central America and Cuba plus Taca Peru. LanChile has been less prolific but equally effective with LanPeru and, until recently, a close affiliation with Ecuatoriana de Aviacion.

Brazil's VASP, owned by Wagner Canhedo, tried this same approach in Ecuador and Bolivia but failed. Ecuatoriana, its former partner, is now in receivership, while Lloyd Aereo Boliviano (LAB) floundered under VASP control until Ernesto Asbun, a Bolivian businessman, bought it out. LAB is now poised to expand on its own. Peru's AeroContinente is the only other Latin airline that has aggressively tried to follow this growth-throughsubsidiaries model.

These strategies have started a battle of surrogates up and down the spine of the Andes from Chile to Ecuador: three major airlines--LanChile, Grupo Taca, and AeroContinente--seeking advantage over the other two. So far AeroContinente's efforts have been rebuffed, Cueto and Bloch are facing off in Ecuador.

Carlos Morales, AeroContinente's president, is fighting fiercely against hard-ball tactics and, rightly or wrongly, his airline's own reputation. In the late 1990s, AeroContinente destroyed its Peruvian rivals with low fares they could not match. Sore losers claimed that Fernando Zevallos, AeroContinente's owner, was subsidizing low fares with drug trafficking. Investigation of those charges by the U.S. and Peruvian officials yielded nothing--and Zevallos has long since sold his stake in the airline to other family members.

When AeroContinente launched a subsidiary in Chile two years ago, local authorities launched the first of three investigations into the Peruvian carrier. First it was alleged predatory pricing, a charge dropped after lengthy proceedings. Then it was alleged money laundering and links to drugs. As part of the court battle, a Chilean court grounded AeroContinente in Chile, arrested its officers and seized its assets. Thirty seven days later, higher courts reversed and the case was closed. The airline, after having lost its entire market share, was allowed to fly again.

No sympathy at home. Still clawing its way back, AeroContinente finally succumbed in June to safety violation claims in Chile. Local authorities grounded it again and revoked its license. As a result, the Chilean subsidiary went into bankruptcy. The only thing AeroContinente has left in Chile now is a US$1 billion lawsuit against the government.

The Zevallos family sought sympathy back home for the way Chile treated their subsidiary. They explained how Chilean authorities had waged what they called a two-year campaign against AeroContinente, how both predatory pricing and money laundering charges had evaporated after costly proceedings, and how, according to them, the safety charges were also trumped up.

Through diplomatic channels, Peruvian officials asked Chilean authorities to respond to AeroContinente's allegations. Peru filed a protest, but it did not find enough evidence in Chile's reply to justify action against LanPeru, LanChile's Peruvian subsidiary.

During a recent visit to Santiago, Peru's Transport Minister Luis Chang Reyes told local reporters, "Retaliation is not a valid reason to ground an airline."

Thus, AeroContinente's foray into Chile and its attempt to roll back LanChile's entry into Peru both failed. The battle then shifted north, to Ecuador.

Ecuador has lacked a functioning flag carrier since Ecuatoriana's aircraft were repossessed two years ago. LanChile stepped into that breach with a combination of wetleases (leasing its jets with crews to Ecuatoriana to operate Ecuatoriana flights) and code shares (designating a flight operated by LanChile as both a LanChile and Ecuatoriana flight). Thus, LanChile effectively provided air service for Ecuador to the United States.

LanChile never had any interest in owning Ecuatoriana. Buying a debt-ridden airline already in receivership is a waste of money, Cueto says, because it simply pays off old debts. "If you are going to use fresh money to pay that debt, you don't have the money to do anything else," he says.

So LanChile was content to use Ecuatoriana's name and route rights until government officials found a longer-term solution.