Air Consolidation Throttles Down

<B>Air Consolidation Throttles Down</B>

By David Jonas

Opposition to the United Airlines/US Airways merger proposal and failed talks between British Airways and KLM Royal Dutch Airways last week provided solid evidence that the pace of industry consolidation will be slower than might have been possible. However, smaller strategic moves by major airlines means alliance building remains a top priority in an ever-changing aviation industry.

Last month the Senate Commerce, Science and Transportation Committee passed a resolution against the proposed $11.6 billion acquisition of US Airways by United. "Now more than ever, with the skyrocketing number of flyers, we need to ensure that we have a competitive airline industry," said committee chairman John McCain (R-Ariz.). "We can't have a merger that would result in at least 20 hub airports in the United States where a single airline and its affiliates would carry more than 50 percent of the passenger traffic."

The Business Travel Coalition immediately voiced its support for the committee's resolution, saying the merger "will likely lead to a rapid collapse of the U.S. airline industry to three superpower airlines, and a permanent erosion of consumer benefits from deregulation."

Added Business Travel Coalition chair Kevin Mitchell, "This summer, airline customers have suffered through one of the most egregious work slowdowns in the history of U.S. commerce. Increasing United Airlines' size by 50 percent, and its union's already powerful grip on the economy of our country, should be cause for alarm among our representatives in Washington."

Though the Senate resolution does not seal the fate of the proposed acquisition, it may have an impact with the U.S. Department of Justice, which is charged with reviewing the deal. Meanwhile, Justice's antitrust division leader Joel Klein recently resigned, which probably means that nothing will be done until the next presidential administration takes office.

United and US Airways also need approval outside the United States, notably from the European Commission. In a filing made last week to the European Commission, United said the combined entity would control 12 percent of transatlantic traffic.

Meanwhile, now that its pilots have been pacified with an industry-leading deal, United must address disgruntled flight attendants. While compensation is a main sticking point, the carrier said next week it also would begin discussing the planned acquisition with the Association of Flight Attendants, the union that represents flight attendants at both United and US Airways.

In a letter sent to United CEO Jim Goodwin, Linda Farrow, president of the master executive council of the United AFA, wrote, "Job protections equal to those granted to US Airways flight attendants under the terms of their contract must be extended to United flight attendants. The AFA leadership is already on record saying they will not support the merger unless it results in the best flight attendant contract in the world. Further delay in resolving these issues only increases the chances that our stated reluctance about the merger will turn to open opposition."

Two factors provide AFA with the power to stop the merger if United doesn't work with the flight attendants to address concerns: 1) Language written in the United flight attendant contract prevents United from owning and operating US Airways (or any other airline) without the explicit agreement of the flight attendants; 2) The operational merger cannot happen until AFA provides United with a combined seniority list. AFA will not provide United with a merged seniority list unless and until the United and US Airways flight attendants vote to approve a merged contract. If the flight attendants do not approve a new, merged contract, there will be no merger of operations.

In the US Airways camp, a shareholder meeting has been set for Oct. 12 to vote on adoption of the merger agreement. If approved, shareholders will receive $60 per share. At press time, US Airways shares were trading for $31.

The situation is not much rosier for two major players across the pond. British Airways and KLM Royal Dutch Airways last week broke off talks on a potential merger citing ownership and control differences.

BA chairman Lord Marshall said the carrier still expects the European aviation industry to consolidate. "We have always been a leading player in this market, and we will continue to look for opportunities to strengthen our position in it," he said.

That could mean a link-up with SAirGroup, parent company of both Swissair and Sabena. While both sides declined to comment on printed reports to that effect, Sabena/Swissair already have an antitrust immunized alliance with American Airlines, which remains partnered with BA in the Oneworld alliance. SAirGroup officials said they will continue to focus on strengthening the intra-European Qualiflyer Group.

Meanwhile, regulators from the United States and the United Kingdom are set to meet once again later this month in an effort to hammer out an elusive liberalized aviation agreement between the two countries. If reached, such an agreement would open the door for deeper cooperation--including a renewed attempt at immunity--between American and British Airways.

While KLM's take on the failed talks was much the same, its situation is a bit more precarious, according to analysts and backed by investor concerns that pressured its stock price downward. "While we continue to believe that consolidation in the European aviation industry is inevitable, we, at the same time, remain convinced that for the foreseeable future, KLM has bright prospects on its own," said KLM CEO Leo van Wijk.

Nevertheless, many observers said KLM will be forced to find a European partner or fall behind the accelerating regional consolidation. KLM's challenge, however, is that fewer and fewer major European players are available. An attempt at a virtual merger with Alitalia earlier this year ended bitterly and KLM's well-entrenched transatlantic partnership with Northwest provides little support in its own backyard.

In what is considered another setback for KLM, Lufthansa last week purchased nearly a quarter of European regional carrier Eurowings. Eurowings, which feeds KLM in Amsterdam from several German destinations, now will shift focus to feeding Lufthansa.

For its part, Alitalia is said to be in discussions with both Air France and SAirGroup. Air France, meanwhile, in conjunction with co-SkyTeam alliance founder Delta, this winter will boost capacity to the United States by 14 percent. SkyTeam also will be looking to enlist additional carriers in various regions to shore up its network. CSA Czech Airlines next month is expected to announce its participation in the grouping.

With alliances still so tenuous and speculative, buyers will continue to wait until meaningful partnerships surface and prove they are more than fleeting ideas. At this point, joint corporate contracting domestically is limited to umbrella agreements from Northwest and Continental. Internationally, immunized members of the Star Alliance--United, Lufthansa, SAS and Air Canada--are developing integrated corporate programs. American/Swissair/Sabena are free to do the same.