BA in talks with Qantas to create global super-airline

British Airways (BA) is in talks with Qantas, the Australian flag-carrier, about a merger that could help create one of the next generation of global super-airlines.

BA is already pursuing similar discussions with Iberia, the Spanish group, and is also trying to push an alliance with the US giant American Airlines through regulatory hurdles. None of the deals is mutually exclusive and BA is hoping all will go ahead, the company said yesterday. "The total combination with Iberia, Qantas and American Airlines would create a global airline," said a spokesman. "It would provide financial strength, cost efficiencies, linked destinations and benefits for customers and shareholders."

The discussions with Qantas – which were unknown to Iberia until they were announced to the Stock Exchange yesterday – started in August at the Australian group's instigation. The proposal is for an equity swap to create a company that is dual-listed in both the UK and Australia, as a way to help overcome the considerable legal issues facing the merger of two flag-carriers from different jurisdictions.

A Qantas/BA deal would not be the first of its type – Air France merged with KLM, its Dutch equivalent, in 2004 – but it would be one of the first that is not between two European companies. There are bilateral agreements governing the international aviation industry, under which only airlines from the departure nation are given permission to fly into another country. Australia's rules of foreign ownership, which state that an overseas airline cannot own more than 35 per cent of Qantas, and total foreign ownership cannot exceed 49 per cent, will also need to be navigated.

BA's plans are part of a massive consolidation in the airline industry as carriers try to seek shelter from sky-high fuel costs and falling passenger numbers. In Europe, the market is coalescing around three groups. The largest, led by Air France-KLM, is circling Alitalia, the bankrupt Italian flag-carrier. The second is led by Lufthansa, which has bought Swiss Air, along with several smaller names, and is in the process of trying to acquire Austrian Airlines. The third is the BA grouping. Gert Zonnefeld, an analyst at Panmure Gordon, said: "It is only a matter of time before there is a transatlantic merger. If BA can do the Qantas and Iberia deals it will clearly establish itself as a credible and serious competitor in the market."

In terms of passenger numbers or routes flown, a BA/Iberia/Qantas tie-up would be the biggest airline outside the US. In market capitalisation terms, it would also be up there with the world leaders. Qantas is worth about A$4.4bn (€2.2bn), British Airways about £1.8bn (€2.1bn), and Iberia €1.9bn – making a combined total of about €6.2bn (£5.3bn). In comparison, Lufthansa has a market cap of €4.6bn, Air France KLM of €3bn, and American Airlines about $2.2bn (€1.7bn).

On top of the regulatory issues, some sources close to the deal warn that the complexity of pursuing a three-way merger could force BA to choose between the two. Negotiations with investors could scupper the plans. "The question will come down to what proportion of the combined entity the shareholders of Iberia, BA and Qantas each get," said Mr Zonnefeld.

BA's talks with the Spanish group – which, like those with Qantas, have been going on since August – are unlikely to conclude until mid-2009 because Iberia's shareholders are wary of BA's ballooning pension deficit and are pushing for a bigger share of the combined group.

Qantas may have more to gain from the BA deal. Its share price has fallen by more than 50 per cent this year and it has battled safety incidents, punctuality problems and falling passenger numbers. Just before he stepped down as chief executive last week, Geoff Dixon announced capacity cuts equivalent to the grounding of 10 aircraft and forecast that the next six months' flying will be 4 per cent below that of the previous year.

The International Air Transport Association is predicting combined worldwide losses of about $5.2bn (£3.5bn) this year, the highest level since 2004, and some 28 airlines have already gone to the wall. The US domestic market is the worst affected so far and some 8 per cent of capacity has been cut this autumn. A comparison between this month and December last year shows American Airlines' capacity down by 14 per cent and United by 8.8 per cent, according to an analysis for Innovata schedules information by Flight Global.

The financial impact is dire. In the three months to September, nine out of 12 of the big US carriers made a loss. In Asia, it was 11 out of 14. In Europe, it was four out of 14. BA is currently running at 15 per cent less capacity than it was last December. And although some of that drop is accounted for by the ending of franchise agreements with Logan Air and GB Airways, BA has scaled back flights to a range of destinations including Prague and Milan. Antonio Panariello, an aviation analyst at Flight Insight, said: "These global capacity reductions are a reality check for the airlines. So far the US and Asia are the worst hit, but this is not the end and there is a real possibility that Europe will follow."

Additional reporting by Mathieu Robbins