Wednesday, January 12, 2011

Airline Mergers at a Crossroads

Diana Moss, Vice President and Senior Fellow at the American Antitrust Institute, has a new working paper out entitled Airline Mergers at a Crossroads: Southwest Airlines and Airtran Airways (AAI Working Paper, Dec. 10, 2010) (available from SSRN here).  From the abstract:

The proposed merger of Southwest/AirTran could meet with relatively little antitrust enforcement resistance based on the Department of Justice’s (DOJ) public statements in recent airline mergers. For example, claimed efficiencies are likely to get significant weight. Moreover, concerns over eliminating competition on Southwest/AirTran overlap routes could be mitigated because the number of routes is relatively small, there is rivalry (from low-cost carriers (LCCs) and legacies) on some of those routes, and entry may be relatively easy at some affected airports.

However, the proposed merger of Southwest and AirTran – the first major merger of LCCs – raises novel issues that may not be captured by analysis that focuses mainly on overlaps between the merging partners in city-pair or airport-pair markets. These novel issues include how the merger could potentially result in: (1) a transition from a point-to- point/hybrid system to a hub-and-spoke network model; (2) changes in the two LCCs’ price discounting strategies; (3) changes in entry or expansion patterns in new and existing markets; and (4) changes in short-term output and/or longer-term capacity decisions. These questions deserve attention in an antitrust review of the proposed merger.

For example, combining the Southwest and AirTran systems may stretch the limits of Southwest’s model, pushing the merged company away from a point-to-point or hybrid system and more toward a hub-and-spoke model. If so, then the combined company may be less able to inject the competitive discipline through lower fares, more choice, and entry and expansion than each LCC alone has brought to the industry. With the ranks of the LCCs reduced through a Southwest/AirTran merger, it is also important to consider how effective the rivalry offered by the remaining LCCs will be.

Eliminating AirTran also means removing from the market the second largest LCC (based on its presence as a low fare carrier on top routes) and the source of some of the most aggressive price discounting and market entry. Combining the maverick-like AirTran with Southwest could change incentives for the merged company to discount. And because Southwest and AirTran, as LCCs, are closer competitors to each other than to the legacy airlines, potential post-merger price increases (or smaller discounts) may not be captured by standard market share and concentration analysis.

Finally, post-merger output restrictions and/or capacity reductions are demonstrated effects of airline mergers that have been largely overlooked in antitrust reviews. Not only do they raise fares, but they reduce choice for consumers. Well-publicized cutbacks at Cincinnati after Delta/Northwest and conditions imposed on United/Continental at Cleveland by the state of Ohio indicate the gravity of these effects. Mergers of LCCs should be no exception to an examination of the potential for post-merger output and capacity reductions. This is particularly true if the merger eliminates competition on routes/airports and the carriers are adept at managing capacity – as is the case in Southwest/AirTran.

This White Paper by the American Antitrust Institute (AAI) is the first of what is intended to be a series by the AAI on competition in the U.S. airline industry. It is based on publicly available information – no confidential information was provided to the AAI in the course of preparing this analysis. While we do not make a recommendation as to the legality of the proposed Southwest/Air Tran merger, the paper raises important questions that deserve investigation before a decision is made.

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Yes, this is a novel and challenging merger to understate. However, it's a bit ironic that Southwest is portrayed as the "establishment" carrier while AirTran is labeled as "maverick-like". Southwest's pioneering reputation from their very start as a regional out of Dallas Love (hence it's logo) is one that always bucked the status quo and induced fare reductions in the industry.

If you consider maintaining a business class at the expense of inflicting coach passengers with scolioses-like comforts while charging fees at every turn is "maverick-like", then I shudder to think what the LCC flying public would be in for if the merger was reversed and AirTran was taking over SWA.

Yes, the statistics and the market are slightly in AirTrans' favor, however, SWA's actual, face-to-face customer service is far and away better. In addition, for internal company reasons, there is a reason AirTrans' owner reached out to SWA for the merger at this time. In reading AirTrans' last annual report, suppressed labor issues with mechanics and f/a's are coming to a head in 2011.

While I openly admit to not being an economist nor a proven airline analyst, seems to me that the increased volume in business should keep fares the same. I suppose akin to a "COSTCO" approach of air travel.

Posted by: Tony | Jan 13, 2011 9:04:29 AM

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