The big news yesterday was that the Department of Justice filed suit to stop the American – US Airways merger.
Why I Didn’t Expect the Government to File Suit to Stop the Merger
I did not expect the DOJ to file a suit to block the merger, I assumed that some negotiation would generate sign-off on the merger. I speculated that the filing of the suit could be a negotiating tactic, but that my initial sense was this was unlikely — they wouldn’t need to go through the effort just to demonstrate their seriousness, and they laid out a fairly broad and sweeping case against the merger that would be difficult to walk back from with merely the sorts of concessions that American and US Airways could offer.
Blocking the merger is bad for labor at the airlines (who generally get raises), it’s bad for creditors (who are made completely whole through the merger), and it’s bad for American’s equity holders (who were slated to actually get something out of the bankruptcy process).
But the DOJ concern is competition and consumers And I’ll be the first to say that mergers are usually not great for consumers. But that is definitely not always true. One commenter yesterday made the extreme version of the argument and I asked in return in the comments whether he would have objected to the American West – US Airways merger? Indeed, whether US Airways would even exist today if it hadn’t been allowed to merge at the end of its second bankruptcy in the previous decade. That merger clearly created more competition because it created a stronger competitor.
Concerns over competition seemed strange because US Airways and American Airlines compete directly on very few non-stop routes, and that’s traditionally the unit of analysis for evaluating these kinds of deals. There were rumblings about concern over competition in connecting markets, but that’s not the standard that was applied in previous merger cases included by current Justice Department leadership. Those standards would not have allowed United/Continental to merge. I didn’t expect the Department of Justice to change its standards.
It Seemed Like Modest Concessions Would Garner Approval
I had expected from the beginning that the federal government would require divestiture of slots at Washington’s National airport as a condition of approval. Doug Parker made a strong case in congressional testimony that they shouldn’t have to, and that it would be bad for many communities if they did. The airlines’ lobbyists even got a ton of Members of Congress to sign onto a letter arguing that they shouldn’t have to. But this was always going to be an issue.
National airport slots was an issue in the US Airways/Delta National/LaGuardia slot swap deal and that required divestiture of slots. It was an issue in the proposed United-US Airways merger that was eventually killed, and that plan included the pre-emptive divestiture of slots and creation of a new airline to operate them.
The EU required a very minor concession to sign off on the deal, just addressing competition on the Philadelphia – London Heathrow route. Of course the EU competition authorities weren’t concerned with airfare pricing in US domestic markets.
Minor changes to non-stop routes, some modest commitments, and especially divestiture of slots seemed like it would be enough based on historical precedent. One commenter suggested that the past merger approvals mean greater concentration now, and thus more concern over additional concentration. That’s likely right, but greater concentration wouldn’t imply shifting standards of evaluation. And there’s no magic formula for concentration — there would still remain three strong network carriers, and greater competition from the combined American-US Airways (American is, of course, still under bankruptcy protection).
I ultimately expected this would be enough because there are no restrictive practices involved in this merger. There’s nothing that ought to be considered per se illegal. And with remaining strong competitors in the market it’s hard to argue that American will have excessive market power — even on thin routes without substantial current competition, there are few barriers to entry and significant viable entities which could enter. The only area where there would be market power and barriers to entry is National airport, so a settlement there should be enough. (And the barrier to entry is government limits on takeoffs and landings.)
Sustained DOJ Opposition Will Kill the Merger
DOJ opposition effectively kills deals not because they have veto power — they do not, it’s ultimately a decision for the courts — but because they have the power to slow things to a crawl, getting to a court decision on the merits of a case isn’t just costly and distracting but it can take years. Mergers may no longer make strategic sense by the time the clock plays out. So American and US Airways need the government to drop its objections in order to move forward regardless of the merit or lack of merit in the government’s position.
Blocking the Merger Seems to Make Frequent Flyers Happy
US Airways partisans love their unlimited complimentary upgrades and their generous award chart — sweet spots especially like US to Hong Kong via Europe with an allowable stopover there for 90,000 miles in business class, 115,000 miles in business class to Australia with an allowable routing and stopover in Asia for instance. They also may prefer Star Alliance over oneworld.
American partisans prefer that top tier elites get 8 confirmed international upgrades each year valid from any fare, better award availability in first class, and that the airline actually serves food.
Harmonizing the carriers and their products will make some people unhappy. And certainly more frequent flyer programs for those of us with tons of points in each is desirable. And yet there are also consumers who would combine their miles from the two programs and then have enough to redeem for premium cabin international awards. Some folks have been getting one credit card or the other in the program they hadn’t previously participated in, in hopes of combining their miles.
Mostly though there’s concern about the future of frequent flyer programs, especially in light of the direction that some programs like Delta have been hinting — shifts to revenue-based redemptions, for instance.
There will be changes in the frequent flyer landscape. If American and US Airways merge, those changes will be blamed on the merger (post hoc ergo propter hoc). But in all likelihood a merger just speeds up the process of change, giving us much of what we will wind up with anyway.
Department of Justice Arguments are Weak and Contradictory
I finally had a chance to read the Department of Justice filing.
As I mentioned, the focus on connecting markets is relatively novel and unexpected. They impose a standard that previously approved mergers would not have met.
They rely on assumptions about US Airways continuing current pricing practices as a standalone entity (not at all required or guaranteed) and a belief that those practice would end post merger.
At some points they assume the new airline becomes like American. But at other points they recognize that it’s US Airways leadership that remains in charge of the combined entity, cherry-picking quotes from those executives about what they see as necessary for and the future of the industry (stated beliefs which are the norm across the industry).
While not a legal analysis, from an argumentative perspective the DOJ filing is unpersuasive. Cranky Flier goes further, describing the filing as the DOJ going off the rails.
- It’s unclear why American, Delta, United and Southwest, JetBlue, and a patchwork of carriers like Allegiant and Spirit do not offer meaningful competition. The DOJ brief talks about connecting routes like Fresno-Indianapolis, Charlotte-Durango, and Hilo – Miami. Concern over extremely thin routes which still have multiple carrier options, albeit not from Southwest (until they start flying to Hawaii!) is the crux of the argument.
- It’s unclear why other airlines wouldn’t offer a competitive response. The DOJ suggests that American was poised to get competitively aggressive but-for the merger, which seems to make this a likelier outcome than not to happen with another airline in its place.
- The filing suggests that the current US Airways is the only legacy carrier that’s aggressive in pricing in these connecting markets and that would go away. Either it’s a good strategy and will continue, or it’s likely to go away anyway, and somewhat out of context quotes don’t demonstrate that this follows uniquely from the merger.
- The DOJ is on its strongest ground regarding market concentration with Washington’s National airport. Everyone knows they’ll have to divest slots, whether this is ultimately good or bad for consumers notwithstanding (the question is, which consumers, since small town service is likely to diminish).
- The filing reads more like a rhetorical document than a legal brief, with phrases like “the American public has seen this before” to cast doubt on the veracity of claims American might make about its future business plans. They include a graphic talking about the “New Holy Grail” of consolidation. A simple rule of thumb is the greater reliance on rhetoric, the weaker the argument.
How you define the market determines what you think about a merger’s competitive effects. The DOJ filing wants to look at all potential city pairs, rather than the non-stop flights operated by each airline. That will be controversial, but it’s the only way to oppose this (and every other future) merger.
If US policy cared about competition, there are much more effective things it could do besides opposing this merger.
For instance, lifting foreign ownership rules. This is usually discussed as “get Singapore Airlines to fly in the US and we’d get great service!” More likely we’d see Ryanair or Easyjet operate alongside Spirit and Allegiant, imposing significant downward pricing pressure. At a minimum, there’s little legitimate reason to prevent this.
Meanwhile, even as airlines have consolidated, airfares have fallen (looking at more than a single year time horizon) in inflation-adjusted terms.
And how is this for over the top? The government’s brief even asks that they be awarded attorneys’ fees for undertaking the case against the merger. They want American and US Airways to pay them. Now that’s piling on.
The States Signing On to This
This is really more about grandstanding and showing broad support rather than bringing legal force to the argument, but the specific states’ Attorney Generals signing onto the DOJ action is interesting.
- Texas, where American Airlines is headquartered (are they worried about reduced importance of DFW post-merger? And the Attorney General is running for governor)
- Arizona, where US Airways is headquartered (the headquarters will move and Phoenix could be de-emphasized)
- Florida (I admit I don’t get this one, but then I know little of Florida politics)
- District of Columbia, the Washington National issue looms large
- Pennsylvania, which has already lost Pittsburgh as a hub and sees Philadelphia threatened
- Tennessee, I don’t understand why here either.
- Virginia. where there’s both the Washington National issue and the Attorney General is running for governor
Like or Hate the Merger, There’s Still a Path Forward
If the Department of Justice were to prevail on the appropriate analysis being connecting city pairs, it would likely win. Although non-stop versus connecting routes is hardly the only way to look at this. With three major airlines there is still competition — and not just between American, Delta, and United but also with trains and buses and cars and with Skype and GoToMeeting.
None of that matters, since this never gets to trial. They’re putting a firm boot on the merger.
The reason I was most skeptical of the filing as a negotiating tactic is that they weren’t just talking about ‘curable defects’ like overconcentration at National airport. They were talking – in extreme rhetoric – about pricing practices and scores of routes. How could DOJ walk that back?
Terry Maxon interviews Assistant Attorney General William Baer who seems to hedge over whether a settlement might still be possible.
Baer has no answer to why object to this merger, and not United-Continental.
First, we take each merger on its own merit. If you look at this one and the degree of competitive overlap between US Airways and American, you look at the financial ability of these two airlines to thrive as independent agents. You look at what we’ve seen over the past number of years in terms of the increased tendency led often by US Airways of these airlines to try and coordinate on fares and on ancillary fees. This one is problematic. That is why we’re going to court and asking the court to enjoin it.
See? No analysis to distinguish the cases. Later Baer focuses on American and US Airways having strong financial performance. American certainly hasn’t had this consistently, and only is performing well when all other carriers in the market are. There’s no contrast really drawn to past mergers either, even though it’s in response to a question about differences.
In response to whether divesting National slots would be enough of a cure? “If anybody wants to come to us to propose a settlement, we’re always prepared to listen.”
He repeats this later.
But as a law enforcement official, one always has to be sure you’re open to listening to people who think they have a better idea. They can come to us and say they’ve got a better idea. But you ask me what I think the better idea is right now, it’s to enjoin the merger.
On whether United and Delta lobbying against the merger had an effect? “We talk to anyone who wants to come see us and have a view on this.” Of course he denies lobbyists made the decision.
The DOJ needs a pound of flesh here and it needs to be big before they back down and allow the merger. Slots at National – perhaps more than previously contemplated – and they’ll need something else too. There could be some vague service and pricing commitments to let DOJ save face. Unions will be fully on board to lobby, because it’s their future pay raises on the line.
DOJ could back down, but the actual filing against the merger reduced the odds of consummation substantially I imagine.
May we live in interesting times…
- You can join the 30,000+ people who see these deals and analysis every day — sign up to receive posts by email (just one e-mail per day) or subscribe to the RSS feed. It’s free. Don’t miss out!