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How Many Airlines Will Stay Aloft?


News: Analysis & Commentary: Consolidations

How Many Airlines Will Stay Aloft?

The Big Six just might become the Big Three, with an 85% share

From a passenger's point of view, there's one good thing about airline consolidation: There would be fewer carriers to complain about--in an industry everyone loves to hate. Still, that's small consolation for the turmoil that customers, politicians, and even airline executives fear could be unleashed on a relatively healthy business.

Ready or not, consolidation is in the air. On May 24, UAL Corp. announced an $11.6 billion deal to buy US Airways Group Inc. Since then, AMR, parent of American Airlines Inc., the nation's second-largest carrier, has approached Northwest Airlines Inc. and No. 3 Delta Air Lines Inc. about a marriage. Delta has voiced interest in Northwest. So the Big Six in the U.S. could be on the brink of becoming the Big Three, with 85% of the domestic market. The moves could also fuel merger mania in Europe, where, on June 6, British Airways PLC declared its intention to pursue a merger with KLM Royal Dutch Airlines.

But how likely are all these merger scenarios--considering the formidable labor and regulatory obstacles--and what kind of industry might be left in their wake? The risks are huge: They include exploding airline debt loads, years of labor unrest, higher fares, and lousier service for passengers.SKEPTICAL. Moreover, the benefits may prove illusory. A carrier that gains market share, particularly among lucrative business travelers, could find its advantage quickly matched by a rival's merger. And the theory that having fewer players means higher profits remains just that, a theory. No wonder skeptical investors are trading US Airways' stock at about $40 a share, well below United's bid of $60.

Still, once United got the ball rolling, no other airline could afford not to consider its own deal. If uncountered, a United-US Airways merger could cost American and Delta each $250 million to $400 million a year--as United's stronger network drains traffic from its rivals, figures airline analyst Samuel C. Buttrick of PaineWebber Inc. And American risks being crippled at its Chicago hub, where greater East Coast feed for United could leave American a distant No. 2.

For consumers, who are already complaining about poor service and rising fares, it's hard to see much gain in massive industry consolidation. "The last thing we need is less competition among the big airlines," says Ed Perkins, a consumer advocate for the American Society of Travel Agents. Kevin P. Mitchell, chairman of the Business Travel Coalition, figures business travelers in particular will face higher fares and fewer flights from secondary markets.

But the rationale behind these deals isn't to gouge consumers by monopolizing routes or cutting costs. Instead, the airlines are looking for ways to grow profitably in a mature domestic market. Internal growth in the 1980s set off massive capacity increases and destructive fare wars. Now the carriers are trying to extend their networks by buying partners with little overlapping operations. That would help them appeal to big corporate clients who could cut better deals and amass frequent-flier miles on a single airline network.

Some airline executives believe that fewer players would also mean a more stable industry and better control of airline capacity. With fewer fare wars, the industry would reap fatter profits and stock-price multiples far higher than today's dismal levels. "Most industries that have chronic profitability issues consolidate," explains a big-airline exec.SQUISHED. Surprisingly, low-fare rivals aren't exactly quaking at the possibility of megamergers. AirTran Airways, for one, sees a silver lining: It's planning to fight for some of the takeoff and landing slots at Washington's Ronald Reagan Airport that United and US Airways are proposing to sell to a new carrier, DC Air. And Frontier Airlines CEO Samuel D. Addoms figures that consolidation couldn't make things worse. "Being squished by a 900-pound gorilla or an 1,100-pound gorilla wouldn't really matter," he says. If the big guys get too costly and bureaucratic, that could leave more room for upstarts like 23-airplane Frontier, he adds.

The big question is whether the Justice Dept. will approve any airline mergers, especially at a time when Congress is planning hearings on consolidation and may consider legislation to block such deals. The initial tea leaves aren't encouraging for the potential merger partners. Justice sued Northwest and Continental in 1998 after Northwest took a controlling stake in the Houston-based carrier. Combined, the two are about the size of United and have less overlap than United and US Airways. Given that, "it's hard to see how [Justice] would not challenge US Airways/United," says Daniel M. Kasper, an airline expert at economics consultancy LECG Inc. Justice is also investigating alleged predatory practices by other carriers at their hubs and is looking for antitrust violations in a new online reservations system jointly owned by some of the biggest airlines.NO OVERLAP. Still, some former government officials believe that a United-US Airways deal and others could pass muster because of the lack of overlap between the carriers. And in the past, Justice has paid little attention to national market share in other industries, according to Robert Litan, a former Justice antitrust official now at the Brookings Institution.

Global airline consolidation might also factor into Justice's thinking, with British Air poised to swallow KLM and with other European deals sure to follow. "Do U.S. airlines get left behind?" wonders a former government official. Also, low-fare king Southwest Airlines Co. is thriving, while startups like AirTran and Frontier are healthier than they've been in years. Against that backdrop, Justice might be more inclined to approve mergers.

But the fact remains that there's no pressing need right now for airline consolidation. Even US Airways isn't in imminent danger of failing. "I don't think it's imperative we consolidate at all," admits one airline executive. Still, if consolidation stalls now, you can bet the idea will be back the next time the industry hits a major downdraft. "It's a matter of when, not if," says one big player. So keep those seatbelts fastened.By Wendy Zellner in Dallas with Dan Carney in Washington and Michael Arndt in ChicagoReturn to top


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