All the merger talk in the airline industry reminds us of many of the consolidation stories in our research–stories in which a perfectly rational argument could be made that there needed to be fewer players in a maturing industry, but in which those companies that tried to lead the consolidation got clobbered. So, we take it as a good sign that British Airways, American Airlines and Iberia Airlines are forming an alliance that will provide many of the benefits of consolidation without forcing them to go through the mess that has historically been associated with airline mergers.
The alliance goes beyond previous ones, which have come in the form of code-sharing–an itinerary looks like it’s all on United, perhaps, but a leg to Europe is operated by Lufthansa, a partner in the Star Alliance. The BA/AA/Iberia arrangement builds on the success of previous alliances but extends the idea and has the three acting as close to one airline on transatlantic flights as regulations will allow. There may still be problems with the alliance, but at least they’ll be new problems. BA, AA and Iberia aren’t just making the same old mistakes.
Delta and Northwest, by contrast, seem to be stuck in the past. They may see the potential for efficiencies, but the airlines have a long way to go to get them. They have to integrate fleets with different equipment, crews with different procedures, complex information systems, different pay structures and union contracts, and on and on. As Delta and Northwest search for scale and efficiency, they will wind up with extraordinary complexity and the inefficiency that comes with it.
US Air is the poster child for these problems. Before it bought Piedmont in the mid-1980s, Piedmont and US Air were two of only three airlines that had been profitable every year since deregulation of the industry in the 1970s. US Air and Piedmont had operating margins that were two to three points above the industry average. Overwhelmed by the complexity of integration after the merger, the combined company had an operating margin six to seven points below the industry average and suffered a decade of losses that totaled more than $1 billion. Yet, two decades later, Delta and Northwest are pursuing the same basic approach.
Perhaps they are counting on a more recent example involving US Air: its 2005 merger with America West. This time around, US Air was much more aggressive about integration and about cutting costs and got an initial improvement in financial results. But service dropped so precipitously that, by 2007, the airline had the worst service rating in the industry, and customers were going elsewhere. Even though the stock has recently rallied because of indications that the merged company may finally be overcoming its problems, the share price is still down 50% since the merger, in line with the industry as a whole.
