US Airways-American: The Pros and Cons

by Will Ashworth | June 20, 2012 11:42 am

I have a good friend who lives next door to a veteran American Airlines (PINK:AAMRQ[1]) pilot. Although I haven’t spoken to my friend’s friend, I don’t imagine he’s feeling very secure about his future given the impending merger with US Airways (NYSE:LCC[2]).

Airline mergers have become almost commonplace. With any combination, there are always pros and cons to the deal.

The main reason any industry consolidates is to become more profitable through increased efficiencies and lower operating costs. On June 18, the leaders of American’s three major unions came out in support of US Airways’ bid for American[3]. The union leaders believe a combined entity would be more competitive against United Continental (NYSE:UAL[4]) and Delta (NYSE:DAL[5]) than as a standalone carrier.

Laura Glading, the head of the flight attendants’ union, believes a deal makes sense even if American were to scale back its cost-cutting measures. InvestorPlace contributor Susan J. Aluise points out that that the merger would save 6,000 jobs[6] at American. Given that American’s pilots’ union supports the US Airways deal, I’m guessing my buddy’s friend does, too.

We’ve seen this before. An industry starts out with 100 companies and a decade later, due to consolidation and bankruptcy, we are down to 20 or fewer.

Less competition equals higher profits. Think back to 1978, the year Congress passed the Airline Deregulation Act. Washington opened the floodgates to increased competition, which in short order led to the bankruptcy of several major airlines.

At the time of the bill’s passing, both the major airlines and the unions were against deregulation because they believed it would hurt their businesses. They were right.

In the course of 13 years, the number of major carriers went from six to three. Since 1991, the consolidation process slowly ate up many of the new airlines that came into being, and now we’re faced with what could be the last of the big-time airline mergers.

History will show that shareholders benefited the most from this oligopolistic move.

My final comment on the pros of this deal has to do with US Airways CEO Doug Parker. The lifetime airline employee got his start at American. Wouldn’t it be the feather in his cap if he could bring home the airline that started his career?

Putting an exclamation point on his 11 years at the helm of US Airways, Parker would also see a significant increase in his total compensation. One of the biggest winners in a merger with American would be Parker himself.

A big loser would be Boeing, which is a major supplier to American, while Airbus supplies planes to US Airways. If consolidation represents greater efficiencies, then it stands to reason that one of the plane makers could be dropped as a supplier to the merged entity.

It’s for this reason that Boeing management is inclined to support American emerging from bankruptcy as a standalone company. So this fight could get nasty.

However, the biggest loser (con) in this deal would be the consumer.

We are going back to pre-1978 conditions where prices are high and choices fewer. US Airways can put any kind of spin they want on this deal, but the main result will be reduced capacity.

Fares have increased 20% since 2009; look for them to rise by an additional 5% in the immediate future. For all of you budding economists, supply equals demand.

Airlines face a situation where there’s way too many planes chasing too few customers. Unfortunately, with plane travel not getting any easier, combined with higher fares, it’s likely that many consumers will simply choose to vacation closer to home. In that case, we all lose.

It’s hard to decide where I stand on this merger.

On the one hand, you can’t have an airline industry that isn’t profitable. On the other hand, the world is a big place; if the choices of how and where we get around are limited because of cost and selection, the world gets even bigger.

It’s for this reason that I believe the deal is a bad one — because it’s anti-competitive in nature, the opposite of what America is all about.

As of this writing, Will Ashworth did not own a position in any of the stocks named here.

Endnotes:
  1. AAMRQ: http://studio-5.financialcontent.com/investplace/quote?Symbol=AAMRQ
  2. LCC: http://studio-5.financialcontent.com/investplace/quote?Symbol=LCC
  3. in support of US Airways’ bid for American: http://www.star-telegram.com/2012/06/18/4041729/american-airlines-unions-merger.html
  4. UAL: http://studio-5.financialcontent.com/investplace/quote?Symbol=UAL
  5. DAL: http://studio-5.financialcontent.com/investplace/quote?Symbol=DAL
  6. merger would save 6,000 jobs: http://investorplace.com/2012/04/us-airways-parker-a-smart-bid-for-american/2/

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