It is ironic that US Airways has been thwarted—at least temporarily—in its attempt to merge with American Airlines. No airline has tried more often to combine with others, and no one has been a bigger evangelist of consolidation than CEO Doug Parker. A bid to combine with United Airlines in 2001 was stopped over antitrust concerns. A hostile takeover of Delta Air Lines fell through in 2006. US Airways’ only successful deal in recent years was the 2005 merger with America West Airlines. That the U.S. Justice Department would object now to a merger with American is ironic because seemingly less-enthusiastic competitors have all merged.
Now, the industry may have to get used to the idea that consolidation is over among the airlines whose legacies predate the deregulation of fares and routes in U.S. If so, American and US Airways ought to refocus their energies on their customers and not their “stakeholders” and mergers & acquisitions (M&A). This could well be the new reality.
There is, however, an air of unreality about the lawsuit that Justice filed Aug. 13 to block the merger. Throughout, there is an undertone that, after years of bouncing between profitability and loss, all is now right with U.S. the airline industry, and carriers have been using their newfound strength to jack up ticket prices, pack airplanes, cut service and add annoying fees.
That is misleading on both counts—the industry is far from hale, and those irritating trends are almost entirely the result of market pressures and factors beyond the airlines’ control. Consider this: Last year the U.S. airline industry had a profit margin of 0.2% or just 37 cents per passenger on each flight. That is a far cry from robber-baron status. Margins improved to 2.1% for the first half of 2013, but are coming under pressure now that jet fuel prices are again on the rise.
The truth is that for much of the previous decade, the industry was so beset by overcapacity that it could not price its product rationally. Even including those baggage and change fees, the average inflation-adjusted, round-trip domestic ticket price has declined 36% since the industry was deregulated in 1978. Meanwhile, the price of jet fuel has soared, up 30% since 2007 and 165% since 2000. The upshot: On average, a U.S. carrier must fill 81% of its seats just to break even on a flight, up from 78% in 2007 and less than 70% in 2000.
The industry may have eked out profits for the last three years, but since the latest round of consolidation began with the Delta-Northwest merger in 2008 it has lost about $24 billion (see graph). Go back to 2005 (when US Airways merged with America West), and the total volume of red ink reaches $30 billion.
Even more myopically, Justice’s pleading in federal court paints a rosy picture of American, noting that the airline earned $357 million in profits on record revenue of $5.6 billion last quarter. A snapshot of an airline whose balance sheet has been scrubbed under bankruptcy court protection is hardly a guarantee of long-term competitiveness and profitability. American’s restructuring has positioned it better, but the implication is that its “industry-leading profitability” will continue. Many investors in U.S. airline stocks have heard that one before—and then been wiped out.
All that said, it is not outrageous, as some seem to believe, that the government would object to AA-US. Those who believe Justice is obliged to approve this merger because it accepted those of carriers that overlapped more than American and US Airways display a fundamental misunderstanding of antitrust law. It is not just the degree of overlap that matters. The number and size of competitors is supremely relevant, and that changes with each new merger.
What is more, overlaps are not simply a matter of nonstop flights between cities. These airlines are networks with hubs and spokes. The government’s filing argues in great detail—using a widely accepted economic formula—that in traveling between more than 1,000 city-pairs, market concentration will increase if the merger is allowed. It would be extremely difficult to address Justice’s concerns through concessions to reach a settlement and avoid a court trial. There are just too many routes involved.