Question

Research recent merger activity in the airline industry and discuss the motivations for the merger and the synergies which the merging airlines hope to get out of the activity.

Do you think the U.S. airline industry is heavily concentrated and consumers will lose?

Answer 1

When times get tough, costs rise, and profits tumble, it is very popular in the corporate world of air carriers to think about mergers and acquisitions in a search for some profits and lower costs. The theory being the economies of scale that are gained by joining forces. Of course, the danger to the traveling public is that fares will rise, there will be less competition, and therefore fewer options for the public; also, there is always the threat of layoffs where there is a surplus of employees created.

For example, one might think that the ongoing merger talks of Continental and United, would provide great expectations for these large legacy carriers. History however may prove otherwise. Since mechanics and most other employees at United are union and Continental’s are not, many see an upcoming conflict of major proportions when labor moves to bring into its fold a combined non-union employee base. At this late date this continues to prove difficult for Delta’s merger with Northwest.

Of course no one believes that employees will leave unions and go non-union but anything is possible. There is a system in place in most contracts to de-certify a union but this is certainly not a likely result in this merger if it is successfully completed and approved by the government. The more likely result, considering the weight behind labor’s push, will be that the merged units would be considered a single operating unit for the purpose of an election. This will allow for all the employees to participate in any union that is ultimately certified at a merged entity. Many believe that more unionization will lead to further labor difficulty not less. The various unions of course say otherwise.

Higher costs

Dealing with the expected combined labor efforts of several airlines will almost always result in the merged airline suffering significant increased costs. More union activity will clearly increase the costs of dealing with labor and bring them more in line with other carriers, who pay dearly to support their activities with their unions.

The Delta merger with Northwest for example in 2008 was touted as a smooth transition. However, flight attendants are still without a contract and pilots continue to dispute a seniority system that is not yet finalized. Delta has in the past enjoyed a longtime labor peace of sorts with its employees by simply paying them well and providing benefits close, if not equal, to their labor union brothers without the additional overhead of dealing with the union hierarchy. This may be a legacy of its former history as Delta-Chicago and Southern Airlines, Delta-C&S as it was titled. Also, the smooth merger with Western Airlines in the recent past also shows the strength of its management of the labor issue. The plan seemed to simply provide union-like benefits and thus try to avoid any contact with unions. This will not be possible in the future.

So why would such a successful company like Continental decide to merge with shaky companies that have a long history of problems like United and its two bankruptcy filings? Outside of the obvious economies of scale that come from combining various aspects of their operations, there seems to be scant advantage outside of calling itself the largest domestic carrier. Many mechanics and other employees are keenly aware of the possibilities of their being laid off in the wake of a merger, a common result seen many times in similar situations.

In addition, we have already seen difficulties surface in the merger of US Air and America West. They are still suffering great pains in merging their pilot lists regarding seniority and still maintain a certain separation of the operating entities.

The cause of it all

The airline deregulation act of 1978 49 USC 1301-1552 was designed to promote more competition in the industry, bring down fare prices, and provide more convenient travel options for the public. This was the case for the short term after deregulation. Mergers and acquisitions however tend to do exactly the opposite. We have seen how airline schedules are built around major hubs and the traffic problems it creates. I believe many of the current major airlines would welcome re-regulation in the hope that it would solidify their market and profits. The fact of the matter is that there is little profit and some would say none, in carrying passengers, especially when operating costs go out of sight. Like the railroads, who finally went to the government, the air carriers may someday go the same way. Look also at the car manufacturers and perhaps the oil business among other candidates for what might be called semi-nationalization.

2. The statement is absolutely right regarding airline industry in Unites States.

More and more cities and even whole regions of “fly over America” are finding they are served by fewer and fewer flights costing more and more. While the number of departures at large hub airports declined 6.2 percent between 2007 and 2016, the decline at small and non-hub airports was 31.5 percent, or five times as great. An analysis of government data by the Wall Street Journal shows that not only has service to all but the largest airports fallen dramatically over the last decade, the already high cost of flying to most mid-size and smaller locations has increased faster than inflation. Adding insult to injury, the industry’s profitability recently hit an all-time high, reaching $20 billion in 2016.

No wonder that in surveys of consumer satisfaction, the dominant airlines in the United States score abysmally. They are now exceeded their unpopularity only by health insurance companies and Internet service providers.

What explains the sorry state of airline travel in the United States? Largely, it is story of government retreating from its historical role in structuring competition in airline markets, combined with a near wholesale abandonment of anti-trust enforcement.

Today, a series of mega-mergers have left the four largest U.S. airlines—American, Delta, United, and Southwest—controlling about 80 percent of total domestic passenger traffic. In many cities and regions, the degree of monopoly is much more extreme. As of 2015, a single airline controlled a majority of the market at 40 of the 100 largest U.S. airports, up from 34 airports a decade earlier. At all but 7 of the top 100, one or two airlines control a majority of the seats for sale.

In other industries where a few large firms dominate (think Coke and Pepsi) they may still compete fiercely with each other in every city and town, but when consolidation occurs among airlines it often leaves local communities completely dominated by single carrier or cartel of common owners. Underscoring the degree of cartelization in the today’s U.S. airline industry is the fact that the biggest four airlines each count among its largest shareholders the same four large institutional investors: BlackRock, Vanguard, State Street, and PRIMECAP. This interlocking, common ownership structure of airlines, which is akin to the giant investment banking trusts that gained control of the railroadsand other key industries in the late 19th century, means that even nominally independent airlines have strong incentives to avoid competing for market share. One study comparing fares on routes served by airlines with and without common owners finds that the horizontal ownership structure that pervades the U.S airline industry raises the cost of flying by 10-12 percent.

Concentrated ownership of airlines also leads to lower service levels. The Federal Aviation Administration has estimated that when a market’s service options shrink from three airlines to two, the length of delays in the market increases by 25 percent.