Consolidation in U.S airline industry is mixed blessing

By IKU KAWACHI
School of Communication
University of Miami

Since the Airline Deregulation Act of 1978, a landmark piece of legislation that lifted numerous operating restrictions and allowed the nation’s airlines to compete more freely with each other, some 200 carriers have merged, been taken over, or gone out of business.

Some of the now long-defunct names may sound familiar, especially to those who remember the heyday of the Jet Age: Pan Am. TWA. Eastern. Braniff.

That trend of consolidation seems to be accelerating. Within the last five years alone, mergers have taken place between US Airways and America West, Delta and Northwest, United and Continental and, most recently, Southwest and AirTran.

“The U.S. airline industry has always wanted to consolidate,” Perry Flint, editorial director and associate publisher of Air Transport World, said in an interview. “It tends to happen in bunches, until Washington becomes concerned and tries to block it.”

That doesn’t even include the collapses of Aloha Airlines and ATA Airlines or the failures of “airlines within airlines,” short-lived divisional brands like Ted (United) and Song (Delta).

Meanwhile, major carriers have digressed into playing a game of musical chairs with each other, each airline overtaking the last in scale following a merger or corporate partnership.

“What’s different is that this time, the mergers are being permitted to occur,” Flint said. “[But] there has always been that desire … throughout the deregulated period.”

American Airlines, headquartered in Fort Worth, Texas, was the world’s largest airline by passenger-miles flown, passenger fleet size, and operating revenue until it was surpassed by Delta Air Lines following its $3.1 billion merger with Northwest Airlines in October 2008.

That is, of course, only until it was leapfrogged in passenger-miles flown by United Airlines, which completed its $3.2 billion merger with Continental Airlines this May.

In September, Dallas-based Southwest Airlines announced that it would acquire Orlando-based AirTran Airways, combining the two largest low-cost carriers (LCCs) in the country, bringing its total destinations served to 72 and cementing its position as the largest airline by number of domestic passengers carried.

Airlines’ motives for entering mergers and acquisitions — known simply as “M&A” in finance — are complex.

Airlines usually choose corporate partnerships with other carriers that operate routes that differ from or are complementary to, rather than competitive with, their own. This allows rapid expansion of their route network, keeping overlapping to a minimum.

Southwest’s acquisition of AirTran is perhaps the most telling example. It grants the airline a large presence in Atlanta, the largest city to which Southwest does not yet fly and AirTran’s principal hub — allowing it to compete shoulder-to-shoulder with resident heavyweight Delta without suffering the growing pains of an airline looking to inch its way into a new market.

In other cases, airlines might opt to enter an agreement to improve their brand image or quality of service, or even to lure rival airlines away from alliances and code-share agreements that may pose a threat to them.

Such factors may be especially relevant today, given that the industry is still reeling from the economic recession — one that occurred after the 9/11 terrorist attacks had already brought about a decline in air travel.

“There are far fewer domestic flights than there were 10 years ago,” Flint said. “It’s not a growth industry … spending on airfare as a percentage of GDP has never recovered to 2000 levels.”

It is increasingly becoming a necessity for carriers to seek mergers and other partnerships to strengthen their foothold in the market. One recent study conducted by investment research company Morningstar, Inc., suggested that American must “take drastic action if it hopes to compete against its larger foes” and that “any scale advantage it may have [once] garnered is gone.”

“There was, and is, too much capacity in the industry,” George Hobica, founder of Web-based discount airfare service Airfarewatchdog, said. “And it’s too easy to start a new discount airline.”

How is this slew of mergers and acquisitions affecting the flying public, though?

Some of the benefits are obvious. Consolidation allows members of frequent flyer programs and loyal customers of a particular airline to travel to more destinations on that carrier, allowing them to stick with a familiar option, earning them miles, or even reducing airfare.

For others that reside in areas predominantly served by one major carrier, such as Delta in Minneapolis-St. Paul or US Airways in Charlotte, N.C., a merger may provide more destinations to fly to without connecting at another airport hundreds of miles out of their way.

Airlines and industry analysts point out that the vast majority of travelers are merely looking to get from point A to point B, and have little interest in route networks, pricing structures, or fleet integration. To them, having only a handful of mainline carriers to choose from could make planning travel easier or less stressful.

“The most important aspect to me is the price,” Justyna Milewski, a senior at the University of Miami majoring in international finance and marketing, said. “I do prefer to be on a non-stop flight … [but] I pretty much don’t care about anything else.”

But consolidation can also affect travelers in negative ways. The most oft-cited effect is an increase in airfares for a certain route or city pair due to the diminished competition. Such may be the case, for instance, with many of the routes that had been operated by both Southwest and AirTran.

“Definitely on routes such as Cincinnati-Minneapolis, which used to be served non-stop by [both] Delta and Northwest,” Hobica, when asked whether mergers could drive airfares up, said.

The truth is that the larger an airline becomes, the more difficult it becomes for it to beat a smaller competing LCC at its own game. When larger mainline carriers try to outdo them by offering aggressive discounts of their own, they often take harder hits in revenue and earnings because of their lack of specialization and more complex business structures.

Other consequences of consolidation can also disadvantage travelers. Since the mergers and acquisitions are often motivated by financial difficulties, many airlines end up pulling out of unprofitable routes and cities following the deal.

Cincinnati/Northern Kentucky International Airport is one such example. Once Delta’s second-largest hub, the airport has struggled considerably since the carrier’s merger with Northwest and its subsequent downsizing of operations there.

But analysts point out that there are countless industries that are permitted to undergo consolidation, or even control prices via tacit collusion, largely unchecked. Perhaps the airline industry is being subjected to a disproportionate level of scrutiny.

“You can point to any number of cities where travelers say, ‘I used to be able to do this, but now I can’t,’” Flint said, “but [the industry] has to be allowed to run itself as a business and not as a quasi-public convenience. That’s the nature of the free market.”

Meanwhile, despite travelers’ concerns about higher airfares, fewer routes, and diminished capacity as a result of mergers, history has shown that airfares for any market will eventually revert to normal levels.

“When I started college, a round-trip ticket home was about $200,” Milewski, who flies between Miami and Chicago several times a year, said. “When the recession hit, the prices went up and stayed up … They seemed to have returned to normal [now].”

Industry experts agree.

“I don’t think all fares are going to skyrocket, simply because so much travel is discretionary,” Hobica said. “Even with consolidation [today], we still see many incredibly cheap fares.”

According to the 2010 Economic Report released by the Air Transport Association (ATA), average one-way airfares for the top 40 city pairs in the U.S. actually fell from $158.87 in 2008 to $142.12 in 2009, a dip of 10.5 percent.

“I’m sure you could find discrete examples of hundreds of city pairs where fares have gone up … [But] the long-term trend is always for fares to go down,” Flint said, citing the fare pressures exerted by competing carriers, particularly LCCs, as a major factor.

The advent of discount airfare Web sites like Kayak, Travelocity and Orbitz has also contributed to keeping airlines from arbitrarily inflating airfares or only making certain fares available to customers.

“Airlines used to use restrictions to force passengers into higher fare brackets,” Flint said. “Now, every passenger has access to every fare bracket for every city pair.”

Nevertheless, the U.S. airline industry remains very much in a state of flux given the uncertainty surrounding our economy, and more time may allow us to draw firmer conclusions on how consolidation affects the flying public.

“Who was it that said — when someone asked him whether the French Revolution was good or bad — ‘It’s too soon to say’? It’s really too soon to say what is and what isn’t with some of these recent mergers.”

For now, though, it appears consolidation among airlines is here to stay, whether consumers like it or not. Calling for government regulations to check that trend — when similar mergers and acquisitions are permitted in other mature industries — may mean pushing for unfair restrictions that go against the very principles of a market economy.

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