Tuesday, August 31, 2010
The Justice Department's decision to clear the Continental/United merger last Friday is not a big surprise. Once the European Commission approved the tie-up in July, the writing was on the wall that the DOJ would follow suit. As the airlines and industry analysts stressed throughout the deliberations, the two carriers have complementary rather than overlapping route networks; the merger raised less competition concerns than a United/US Airways deal would have. Also, regulators, industry insiders, and consumers are well aware that U.S. airlines have struggled to survive since 9/11. Given the recent dip in demand coupled with the escalating cost of fuel, allowing consolidation remains the best option for restoring stability to the U.S. aviation sector. Despite its tough talk of "vigorous antitrust enforcement," the DOJ's Antitrust Division is not insensitive to commercial realities.
The deal is a victory for airline consumers on two fronts. First, consumers will have access to an integrated Continental/United route network which stretches to the Asia-Pacific, Latin American, and European markets. And, second, the airlines' decision to relinquish takeoff and landing slots at Newark to Southwest Airlines means that price-sensitive consumers will have low-cost service options to one of the busiest airports in the country. Southwest's expanded presence in the New York-area market should also discipline prices.
Some consumer groups, lawmakers, and analysts will continue to disagree with the wisdom of allowing the merger to proceed. That's to be expected. What's unfortunate is that these interested parties are not directing their energies toward pressuring the Obama Administration to take the U.S. air transport market's largest artificial barriers to entry: cabotage and foreign ownership restrictions. If consumers are worried that fewer airlines will mean higher prices, then the Government should respond by opening the market up to foreign-owned airlines that are ready, will, and able to provide air services.
Friday, August 27, 2010
The Department of Justice's Antitrust Division has cleared Continental and United's plans to form the world's largest airline after the carriers agreed to relinquish takeoff and landing slots and other assets at Newark Liberty Airport to Southwest Airlines. See Press Release, DOJ, United Airlines and Continental Airlines Transfer Assets to Southwest Airlines in Response to Department of Justice's Antitrust Concerns (Aug. 27, 2010) (available here). From the press release:
The department conducted a thorough investigation. The proposed merger would combine the airlines’ largely complementary networks, which would result in overlap on a limited number of routes where United and Continental offer competing nonstop service. The largest such routes are between United’s hub airports and Continental’s hub at Newark airport, where Continental has a high share of service and where there is limited availability of slots, making entry by other airlines particularly difficult. The transfer of slots and other assets at Newark to Southwest, a low cost carrier that currently has only limited service in the New York metropolitan area and no Newark service, resolves the department’s principal competition concerns and will likely significantly benefit consumers on overlap routes as well as on many other routes. The slot transfer is through a lease that permanently conveys to Southwest all of Continental’s rights in the assets, in compliance with FAA rules.
The Federal Aviation Administration announced yesterday that it has proposed a record $24.2 million fine against American Airlines "for failing to correctly follow an Airworthiness Directive involving the maintenance of its McDonnell Douglas MD-80 aircraft." The press release went on to state:
“We put rules and regulations in place to keep the flying public safe,” said U.S. Transportation Secretary Ray LaHood. “We expect operators to perform inspections and conduct regular and required maintenance in order to prevent safety issues. There can be no compromises when it comes to safety.”
The FAA alleges American did not follow steps outlined in a 2006 Airworthiness Directive requiring operators to inspect wire bundles located in the wheel wells of MD-80 aircraft. The Airworthiness Directive, AD 2006-15-15, required a one-time general visual inspection by March 5, 2008 for chafing or signs of arcing of the wire bundle for the auxiliary hydraulic pump. It also required operators to perform corrective actions in accordance with the instructions of the applicable manufacturer’s Service Bulletin.
. . .
The FAA subsequently determined that 286 of the airline’s MD-80s were operated on a combined 14,278 passenger flights while the aircraft were not in compliance with Federal Regulations. American ultimately completed the work required by the 2006 Airworthiness Directive.
See Press Release, FAA, FAA Proposes Civil Penalty Against American Airlines (Aug. 26, 2010) (available here).
According to the Dallas Morning News, American intends to appeal the fine. See Eric Torbenson & Terry Maxon, American to Fight $24.2M FAA Fine, Dallas Morning News, Aug. 27, 2010 (available here).
Wednesday, August 25, 2010
Giovanni Bisignani, Director General and CEO of the International Air Transport Association, has called on the Australian Government to remove its remaining restrictions on airline ownership. From the press release:
Bisignani encouraged Australia to remove outdated ownership restrictions for international aviation. “Historically, airlines have profit margins of less than 1%, that is not sustainable. To fix this, we need to run this business like a normal business. Australia is a leader in aviation liberalization. The open aviation area with New Zealand has achieved what the US and Europe could not in their open skies discussions. And the removal ownership restrictions for domestic Australian operations benefited consumers with greater choice and lower prices. These results make the 49% foreign ownership cap for international operators very difficult to understand,” said Bisignani.
See Press Release, IATA, Agenda to Strengthen Australian Aviation (Aug. 25, 2010) (available here).
As important as crossborder consolidation is to the airline industry, Australia's reticence over removing its foreign ownership caps is not as difficult to understand as Bisignani opines. According to the World Trade Organization, over 90% of all air services agreements (ASAs) contain nationality clauses, i.e., requirements that a State's airline be "substantially owned and effectively controlled" by its citizens before being eligible to provide international service. So, for example, if Australia's flagship air carrier, Qantas, was acquired by British Airways, Qantas could lose market access privileges to any State which has a nationality clause in its ASA with Australia. Until these clauses are removed or neutralized, they will continue to exert a powerfully dissuasive influence on State-level airline ownership rules.
Monday, August 23, 2010
Blog readers may be interested in reading Denton Collins et al.'s An Empirical Investigation of the Relationship Between Profit Margin Presistence and Firms' Choice of Business Model: Evidence From the US Airline Industry (Working Paper Aug. 19, 2010) (available from SSRN here). From the abstract:
This paper examines the influence of a firm’s business model on the relative persistence of profit margins in the U.S. airline industry. A firm’s business model reflects how that firm chooses to compete in the marketplace. Prior research conjectures that profit margin persistence is influenced by, among other things, competitive forces in the marketplace. We test this conjecture by (1) partitioning our sample firms according to business model (network carriers versus low-cost carriers), and (2) decomposing sample firms’ profit margins into components relating to pricing policy, input cost control, and productivity. While low-cost carriers are, on average, more profitable than their network carrier counterparts, we find that the margins of network carriers tend to be more persistent than those of low-cost carriers. This supports our hypothesis that business model influences the relative persistence of margins. Additional analyses suggest that, after controlling for innovations in growth, these differences arise because of both favorable and unfavorable pricing and productivity innovations.
Tuesday, August 17, 2010
Blog readers may be interested to read Paul A. Mudde & Parvez R. Sopariwala's Relative Strategic Variance Analysis: The Case of American Airlines (Working Paper Aug. 13, 2010) (available from SSRN here). From the abstract:
A Strategic Variance Analysis (SVA) is a management tool used to establish reasons for differences in a firm’s operating income between two time periods – reasons that may not always be apparent from the financial statements. SVA allows management to determine, in the form of performance variances, changes in operating income resulting from changes in sales volume, sales prices, unit costs per unit of activity, productivity and capacity utilization. An SVA of American Airlines’ 2009 results, as compared to its 2008 results, reveals improvements in operating income of $891 million. Specifically, the results reveal that American Airlines reduced its sales volume, reduced its ticket prices, reduced its unit costs per unit of activity, improved its productivity and reduced its level of capacity underutilization. While this is important information for American Airlines’ management to evaluate the impact of its strategic initiatives and gauge progress in meeting performance goals, it lacks a competitive perspective.
Relative Strategy Variance Analysis (RSVA) provides such a competitive perspective. It allows firms to examine how the specific performance variances determined in an SVA compare with those of its industry by allowing firms to identify whether these performance variances are driven by industry effects or firm-specific effects. RSVA is most useful in situations where firms are altering their competitive strategy positions (launching new products or services, changing pricing, reducing input costs, altering production to improve efficiency) in an environment where competitors are making similar strategic changes. Individual competitors can use RSVA to understand how their performance improvements compare with those of the general industry.
An RSVA of American Airlines reveals that the 2009 improvement of $891 million actually represents a favorable industry effect of $1.2 billion, i.e., American Airlines’ 2009 improvement would have been $1.2 billion if it had matched industry performance. Its firm-specific effect was an unfavorable $296 million, i.e., American Airlines 2009 operating income, after considering industry effects, actually declined by $296 million. More specifically, the RSVA reveals that, American Airlines, as compared to its industry, reduced its sales volume more, reduced its ticket prices less, reduced its unit costs per unit of activity less, increased its productivity less and reduced its level of capacity underutilization less. Hence, American Airlines’ RSVA provides an almost diametrically opposite picture from the one provided by its SVA, one that is important in managing its strategy for the future.
Professor Brian Havel was featured in a story from Crain's Chicago Business on a pending private antitrust suit brought by airline consumers under Section 7 of the Clayton Act to block the Continental/United merger. See United, Continental Chiefs Set to Testify in Merger Lawsuit, Crain's Chi. Bus., Aug. 17, 2010 (available here).
Thursday, August 12, 2010
Though now a bit dated, blog readers may still want to peruse Conor Talbor's paper, The Battle for the Skies: Recent Legal Developments in the EU and US, And Their Implications for the Consolidation of the Airline Industry (Working Paper Jan. 2008) (available from SSRN here). From the abstract:
The airline industry is one of the most emotive and controversial sectors of the global economy, and as such its attempts at international consolidation have been subjected to scrutiny from political circles as often as from competition authorities. This brief paper outlines how the industry’s need for drastic rationalisation has fared against the background of suspicious regulators and nationalistic governments. The recent moves towards Open Skies add an interesting cross-Atlantic dimension which is studied in order to give an insight into the regulatory and political decision-making under each system.
Wednesday, August 11, 2010
Blog readers interested in airline competition issues should make a point to read Federico Ciliberto & Jonathan W. Williams' Does Multimarket Contact Facilitate Tacit Collusion? Inference on Conjectural Parameters in the Airline Industry (Working Paper Aug. 11, 2010) (available from SSRN here). From the abstract:
We nest conjectural parameters into a standard oligopoly model. The conjectural parameters are modeled as functions of multimarket contact. Using data from the US airline industry, we find: i) carriers with little multimarket contact do not cooperate in setting fares, while carriers serving many markets simultaneously sustain almost perfect coordination; ii) cross-price elasticities play a crucial role in determining the impact of multimarket contact on collusive behavior and equilibrium fares; iii) marginal changes in multimarket contact matter only at low or moderate levels of contact; iv) assuming that firms behave as Bertrand-Nash competitors leads to biased estimates of marginal costs.
Friday, August 6, 2010
In light of the Federal Aviation Administration's recent downgrading of Mexico from "Category 1" to "Category 2" with respect to its aviation safety oversight, blog readers may be interested in reading Professor Andreas Korr's paper, Will 'Blacklists' Enhance Airline Safety? (German Aviation Research Society Paper, 2006) (available here).
The 2009 FAA Reauthorization Act may be stalled in Congress, by Washington lawmakers aren't taking a rest on imposing new (and arguably needless) regulations on the airline industry. Last week, the House introduced H.R. 5930 for the purpose of "impos[ing] limitations on airline practices concerning the expiration of tickets for air transportation, and for other purposes." A full copy of the proposed law is available here.
In addition to barring airlines from selling a ticket "that expires before the last day of the 3-year period beginning on the date of issuance," the new law would grant the Department of Transportation broad powers to prohibit "restrictions, penalities, or fees" the Department finds "unreasonable" for "rescheduling the itinerary of a passenger named on a ticket . . . if the rescheduling is requested before the ticket expires."
Monday, August 2, 2010
The Federal Aviation Administration announced last Friday that Mexico does not meet the international safety standards promulgated by the International Civil Aviation Organization. See Press Release, FAA, FAA Finds Mexico Does Not Meet ICAO Safety Standards (July 30, 2010) (available here). As a result, the FAA has downgraded Mexico from "Category 1" to "Category 2" as part of the Administration's International Aviation Safety Assessment Program (IASAP). Under ISAP the FAA "assesses the civil aviation authorities of all countries with air carriers that operate or have applied to fly to the United States and makes that information available to the public." A "Category 1" classification means a State's aeronautical authority meets the ICAO standards; "Category 2" means it doesn't.
What does the categorization mean in practice? Airlines from "Category 2" States which already provide service to and from the U.S. do not lose their market access. Rather, a "Category 2" State's air carriers are prohibited from expanding their services unless they wet-lease aircraft from the U.S. or a "Category 1" State. This sits in contrast to the European Union's blacklist regulation which bans foreign airlines from the territory of EU Member States if they fail to meet "the international safety standards contained in the Chicago Convention and its Annexes as well as, where applicable, those in relevant Community law." See Regulation 2111/2005, 2005 O.J. (L 344) 15. There is no allowance in the EU regulation for blacklisted carriers to maintain their preexisting level of service.
Of course, the "Category 2" branding could still have a deleterious effect on Mexico's international air transport sector. Consumers inclined to put their personal safety before their pocketbooks will likely seek out non-Mexican airlines or secure alternative forms of transportation where feasible. When the FAA dropped Venezuela to "Category 2" in 1995, U.S. carriers Continental and Delta acquired large swaths of the U.S./Venezuela market. The situation prompted Venezuelan President Hugo Chavez to threaten revoking market access to U.S. carriers in February 2006. While both sides in the U.S./Venezuela dispute threatened denunciation of their air services treaty, neither in fact did so and the matter was eventually resolved following the FAA's elevation of Venezuela's safety rating. See Press Release, FAA, FAA Raises Safety Rating for Venezuela (Apr. 21, 2006); see also generally Venezuela Recategorization Process by the Federal Aviation Administration (FAA), Paper Presented to the [ICAO] Directors General of Civil Aviation Conference on a Global Strategy for Aviation Safety, DGCA/06-IP/19 (Mar. 15, 2006).
No doubt the U.S. would prefer to avoid repeating this aeropolitical spat with its neighbor to the south. Perhaps this is why the FAA press statement stressed that the Administration "is committed to working closely with the Mexican government and providing technical assistance to help Mexico regain its Category 1 rating."