Now Arriving: Mergers

By SALLY B. DONNELLY

Oh, great! That's just what we need before the busiest travel time of the year--a merger of two flying dinosaurs to create the country's first behemoth airline. And to top it off, the proposed $8 billion takeover of Delta Air Lines by US Airways would join the two major carriers that finished at the bottom of one of the 2006 quality ratings.

Actually, such a merger might not be so bad. The airline industry is suffering from overcapacity --too many airline seats chasing too few "good" customers (those paying profitable fares). The government helped skew the industry by propping up failing carriers with taxpayer bail-outs after Sept. 11--including US Airways, in 2003. The result is a still flabby industry dominated by legacy airlines that can't make decent money. Flights today are usually 80% full, but average profits on tickets--what the airlines call yield--are down 24% since 2000, according to AirlineForecasts, an aviation consulting firm. Major airlines have lost or written off $50 billion in the past five years, and two of them, Delta and Northwest, are still in bankruptcy.

Although Delta is poised to fight the deal--and its hometown, Atlanta, is desperate to keep the company--a number of analysts are saying, Don't bother. Aviation consultant Patrick Murphy, who used to track airline competition in the Department of Transportation, says, "A US Airways--Delta merger is the start of a needed consolidation," and notes, "The low-cost carriers are now big enough to offer real alternatives to large network airlines. It will be good for consumers in the long run, making fewer, healthier carriers." Industry experts believe United or American will jump into the bidding for Delta.

The playing field has started to change. For one thing, the big airlines aren't that big anymore. They have been weakened by competition and can no longer use cutthroat pricing to scare off newer, low-fare airlines like AirTran, Frontier and JetBlue. In fact, low-cost carriers (LCCs) now account for 25% of all airline traffic, up from 10% five years ago, which has helped drive down fares. Last August, low-cost king Southwest Airlines carried more passengers than any other U.S. airline, the first time an LCC has claimed the top spot.

There is evidence that a US Airways--led deal might be a good idea. They've sort of done it before, having combined with America West. US Airways CEO Doug Parker, 44, is a sharp executive who transformed his previous employer, America West, into the first successful low-fare hub-and-spoke carrier. A team player, Parker passed up a bonus this March. The merger of America West and US Airways, which he oversaw, has been a success. US Airways used to spend 40% of its revenue on labor; now that figure is 17%, according to AirlineForecasts. Significant cost cutting and dropping unprofitable routes have helped the merged America West--US Airways company trim business fares 24%.

But this time Parker may have misjudged his target. Delta CEO Gerald Grinstein, 74, is angry that US Airways charged ahead with an unsolicited offer. To do the deal, US Airways has to get a full look at Delta's books; so far Delta execs have shown little interest in sharing. Another trouble spot may be pilots, who have waged and mostly lost battles with the airlines over salary and benefit concessions. US Airways should expect no favors. "Management must first focus on fulfilling the promises made to their investors, customers and employees for the America West--US Airways merger," says Captain Kevin Kent, a representative of America West's pilots union. Then there's Delta's status as a bankrupt. That gives creditors like GE and Boeing a say in the matter, although Delta is the only entity that can make a reorganization or merger proposal to the bankruptcy court between now and Feb. 15.

There are other potential negatives. Fares would probably go up on routes where the two airlines now compete. Both need to pull up their socks when it comes to customer service, once a Delta strength and always a US Airways weakness. And integrating the US Airways fleet, which favors European-made Airbus planes, with Delta's all-Boeing operation might be difficult. Also, the combined US Airways--Delta would account for 18% of the market, which competition watchdogs think is too high. But the government, which must approve the merger, gets a vote and presumably could order the merged carrier to sell off routes, and that might mean more opportunity for LCCs.

All that may be putting off the inevitable. For big airlines, bigger might just be better. For now.

With reporting by Greg Fulton/Atlanta