Thomas C. Lawton is a visiting professor at the Tuck School of Business at Dartmouth.
In recent years the U.S. airline industry has come to resemble a singles party, where large airlines have been gradually hooking up until suddenly there are only two remaining. The American Airlines-US Airways tie-up smacks of the last two singles shacking up due to expediency rather than out of love. Their exchange of vows is not because they "complete each other" but because it is easier to deal with the pressures of the world and meet your financial commitments when you have a life partner.
This merger appears to have been driven by trade unions and the senior management of US Airways, particularly CEO Doug Parker. American Airlines's main unions backed the merger because it promised less job losses than the alternative solo strategy for the company. In the United States, trade unions have a stranglehold over much of the industry, stifling innovation and change. However, from a strategic management perspective, the American Airlines solo strategy made more sense. It is difficult to see what value US Airways brings to American beyond the ability to rationalize the route network, combine purchasing, maintenance, and repairs, and dominate certain routes. Consequently, this resembles a defensive strategy rather than a proactive one. In fact, it is not even much of a strategy—it is more of a plan to improve operational efficiencies.
Despite these shortcomings, in the end, it was only a matter of time before these two airlines combined. The February 14 (an appropriate date) announcement that American Airlines and US Airways intend to merge had been expected, despite protracted negotiations. But what are the implications of this deal? Two contrasting perspectives have emerged. The companies involved, on the face of it, are buoyant. American Airlines Senior Vice President Gary Kennedy commented that the merger would ensure the new company (to be called American Airlines) is better positioned to deliver for customers and its people. US Airways Executive Vice President Stephen Johnson noted that the deal would provide the airline's customers with a broader network, more choices, and better service.
Not everyone agrees. Critics of the deal argue that it will result in reduced competition, less choice, and higher prices for the traveling public. Kevin Mitchell, chairman of the advocacy organization the Business Travel Coalition, argues that the proposed merger could substantially lessen competition in the airline industry. He notes that there are clear warning signs from previous legacy carrier mergers regarding post-merger fares and service to smaller communities. Consequently, Mitchell argues that there appears to be enough smoke surrounding the proposed merger to indicate a potential fire.
The truth, as is often the case, is probably somewhere in between. If we consider that the essence of strategic success is the balance between business efficiency and customer effectiveness, then on paper this merger makes sense. Although large corporate mergers can take time and money to bed down, the new American Airlines is likely to reap substantial cost savings and operational efficiencies as a consequence. When Air France and the Dutch flag carrier KLM, integrated almost a decade ago, they began to realize synergistic benefits within 12 months. However, in the American Airlines-US Airways case, there may well be a disconnect between intent and outcome, particularly in the effectiveness of their customer value proposition.
Previous large airline mergers in the United States were approved on the grounds that there was overcapacity in the industry, resulting in constant price wars and an inability for higher cost, long established legacy carriers to make money. This was the premise for Department of Justice approval of the Delta-Northwest and United-Continental merger deals. But as Rep. John Conyers Jr., a Democrat of Michigan, noted during the Feb. 26 merger hearing before the House Judiciary Committee's Subcommittee on Regulatory Reform, Commercial and Antitrust Law, US Airways recently posted record profits and American Airlines, although still in bankruptcy, is successfully restructuring. These facts, he suggests, indicate that both airlines are capable of surviving and even thriving as separate companies. So, why the rush up the aisle?
Beyond operational and financial synergies, this merger does not, in and of itself, fix many key competitive challenges that beset both airlines. Primarily, the intent is to increase cost efficiencies and achieve economies of scale (the new company creates the largest airline in the United States). However, bigger is not always better. American Airlines's premerger strategy made a lot of sense: Focus not just on operational efficiencies but also on customer effectiveness and global competitiveness. On customer service, U.S. airlines are lagging behind much of the world. It is difficult to see at this point how the new merged entity is going to explicitly improve the customer value proposition or increase international competitiveness. Particularly given that the CEO of the merged company is to be the head of the less internationalized U.S. Airways, not of American.
Despite the rhetoric, it is difficult to see how this agreement will benefit the average consumer. Existing frequent flyers of both airlines will see some advantages as a consequence of the larger combined network. But reduced choice on many routes is rarely advantageous from a passenger perspective. The merger may also lead to increased ticket prices. The nonprofit group, American Antitrust Institute, has already called on the Justice Department to investigate the merger. They argue that reduced competition leads to less choice and higher prices for the public. They published a study together with the Business Travel Coalition that concluded ticket prices rose 20 percent on some key Delta routes and 30 percent on several United-Continental routes after their mergers.
Writing in this blog last June, I supported American's restructuring tactics and growth strategy, particularly their intent to focus on an enhanced customer value proposition and international growth through alliance and selective network expansion. I acknowledged that domestic partnerships (note the word "partnerships" and not "suitor") would also be needed to reduce operational and balance sheet risks. But American Airlines's strategy did not appear to focus on scaling up through merger to achieve their strategic objectives. In fact, at the time, Chuck Schubert, American's vice president for network planning, told me that "from a network perspective, bigger is not always better." Clearly, in the eight months since then, senior management agendas shifted, as the $11 billion merger deal will create the world's largest airline. Only time will tell what the strategic outcomes will be and how market competition and the customer experience will be reshaped. Past experience does not bode well. Large-scale airline mergers both domestically (United-Continental) and internationally (British Airways-Iberia) have been fraught with operational and cultural integration challenges and there is scant evidence to suggest an enhanced customer experience on price, choice, or service.
The proposed American Airlines-US Airways merger clearly addresses the important issues of cost management and operational efficiency. The challenges still to be faced are improving the customer value proposition and increasing international competitiveness. Assuming it is a done deal and the merger receives the government's blessing, we should end on a forward-looking note. What will the newly merged airline need to do in order to be successful? I have two suggestions. First, think more about customer needs and experience, particularly but not exclusively premium passengers. Second, focus time and resources on adopting a more global position and perspective. U.S. airlines need radical thinking and dynamic approaches to succeed in today's world economy. This merger is not that. Instead, it is a conservative approach to exit Chapter 11 bankruptcy and to solidify existing business and market penetration. So far, there is little indication of innovation or forward momentum. However, if the new senior management team revisits some of American Airlines's strategic promises from last summer, this might yet turn out to be a win for both companies and customers.
- Read Chad Stone: Benefits of Obama's Minimum Wage Hike Outweigh Costs
- Read Ryan Alexander: What Congress Could—But Won't—Do on Sequestration
- Check out U.S. News Weekly, now available on iPad.