Did Virgin act appropriately?

It was recently announced that IAG had been successful in the purchase of BMI and that the purchase itself would not be reviewed by the Office of Fair Trading (BBC News, 2012). IAG, owned by British Airways, has gained fifty six more slots at Heathrow airport as a result of this deal; purchasing BMI from Lufthansa cost IAG a reported £172.5m (BBC News, 2011). Virgin have openly complained about this deal by suggesting that IAG will have too much of a dominance at Heathrow airport. Is the owner of Virgin, Richard Branson, right to complain about this matter or should he have just bit his lip and moved on?

Patterns in mergers and acquisitions (M&A) have occurred in recent decades. Lots of M&A took place in the UK at the back end of the 1980’s and throughout the 90’s. The country’s economic position was healthy at the time as progression was made in many industries. As the UK was in a successful era in the 90’s it meant that the risk of failure was seen as low. Events such as September 11 2011 and resulting wars in countries such as Afghanistan and Iraq lead to a general decrease in M&A.  Countries became more uncertain as to how situations would unveil from events such as these. Many people believe that there is a direct link between M&A and economic risk; these examples would suggest that those people are correct.  

It is possible for some companies to actually benefit from a decline in M&A. Investment prices tend to drop so it is therefore possible to purchase a business at a good price. Events themselves can actually work in the favour of some companies too. Virgin set up ‘Virgin Australia’ on 31 August 2000 with just one route from Brisbane to Sydney, two aircrafts and just 200 members of staff (Virgin Australia, 2012). M&A had slowed down between 2000 and 2002 due to the economic climate at the time. People frowned upon Richard Branson’s move, suggesting that it was the wrong time to be investing. However, in May 2001 leading Australian airline company ‘Qantas’ acquired rival company ‘Impulse’ whilst Australian airline company ‘Ansett’ collapsed later that year in September (Low Cost Airline News, 2012). Virgin effectively benefitted from these events, including the acquisition made by a competitor. Although Qantas became a more dominant force, Virgin Australia became the second largest airline company in Australia. There were fewer competitors in the market and this gave Virgin the opportunity that they needed in order to expand. Mr Branson did not complain about this at the time even though the Qantas purchase was very similar to the recent IAG purchase. He did not complain as he benefitted immensely from the situation. Maybe Mr Branson (pictured below) should think back to times like these and accept that he has been very fortunate in the past.

Mergers and acquisitions are usually thought of in the same way by many people. However, there is a slight difference between the two terms.  An acquisition occurs if a company invests into another and becomes the new owner (Financial Times, 2012). A merger is technically when two firms, of usually the same size, become one new company (Arnold, 2012). Companies such as Virgin have ultimate aims to lead their companies to success and gain market power, rather than sharing their dominance with any other party.

The fundamental principle of financial management is that any action made by a company should be done in order to increase shareholder wealth. If this is not the case then shareholders may begin to panic as they may not comprehend why the action has taken place. As the shareholder price of a company about to be bought in a M&A increases, the parent company lowers as shareholders are aware that there is usually not a lot of short term (Jensen and Ruback, 1983) or long term (Limmack, 2002) gains from these deals. Companies tend to pay over the odds for a merger under these circumstances and do not make the gains that they expected. The idea behind any merger is to create shareholder wealth but this tends not to be the outcome in most circumstances. Shareholders are now aware of this and that is why share prices of the involved companies can change so dramatically in these situations. Richard Branson will be well aware that IAG were attempting to increase their shareholder wealth with this recent purchase. It is unlikely that Mr Branson would have acted in a different manner had he been in charge of IAG.

M&A also takes place in order for a company to gain market power and to improve their current status.  Complaints were made by Virgin because they felt the IAG deal was unfair and that they may become a monopoly within this market. Virgin argues that this is the reason as to why they were unhappy with IAG even bidding for BMI, never mind purchasing. Some believe that Virgin was complaining about the IAG purchase because they knew in advance that they would not successful in their bid. Virgin and IAG were fighting against each other in order to buy BMI from Lufthansa (BBC News, 2011). Virgin was already threatening to complain about IAG before they even knew that they had won the bid.

It could have boiled down to jealousy. Richard Branson was not getting his own way and any form of failure is unusual for him. Some would argue that he has too much market share in some sectors that Virgin is involved in. Taking this into account, some may wonder whether he should continue to enter into different market sectors or not. He has more wealth than a lot of his rivals which gives him an immediate competitive advantage. He would have acted in the same manner if he was in the position of IAG.

I believe that Richard Branson and Virgin acted inappropriately on this occasion. Mr Branson had benefitted from such situations in the past and should be grateful for those occurrences. I can understand his frustrations but he is well known for seeing gaps in the market and filling those gaps to his own personal success. The economy is full of opportunities and I believe that this just happens to be one opportunity that Mr Branson unfortunately missed out on. Being more humble about this may have been the best way forward; therefore saving his energy for more worthwhile causes.

Sources used:

Arnold

BBC News

Financial Times

Jensen and Ruback

Limmack

Low Cost Airline News

Virgin Australia