US Airways And American Airlines Set To Merge After Settlement With DoJ

US Airways (NYSE:LCC) and American Airlines announced on Tuesday, November 12, a settlement with the Department of Justice (DoJ) that allows them to move forward with their merger with concessions. The department had blocked the merger in August earlier this year by filing a lawsuit. We at the time had stated that the merger could still go through if adequate concessions are provided by US Airways and American Airlines, as the previous mega airline merger between United and Continental was allowed to go through by the Justice Department after the extraction of certain concessions. This settlement thus avoids the court hearing which was set to begin from November 25 on the lawsuit brought by the DoJ against the US Airways-American merger.

As part of the settlement concessions, US Airways and American Airlines will give up slots at seven airports in as many U.S. cities, most notably at Reagan National Airport at Washington and at LaGuardia at New York. The carriers will also retain all their existing hubs for at least three years, and maintain at least one daily flight to cities in six states – Arizona, Florida, Michigan, Tennessee, Pennsylvania and Virginia – that joined the Justice department’s lawsuit. The first concession is aimed at curtailing the dominance of US Airways-American Airlines at certain high traffic airports, while the second concession is aimed at ensuring that the merger does not impact service at small and mid-size cities, which usually lose out when merged airlines consolidate their operations during integration.

In our opinion, these concessions do not take away much from the synergies that are expected of the US Airways-American Airlines merger. After accounting for the slightly over 100 daily departures that the US Airways-American Airlines combination will have to give up in the settlement, it will still operate over 6,500 daily flights. The carriers put forward a similar stance in a conference call Tuesday and reiterated that they continue to expect $1 billion in annual net synergies from their merger from 2015 onward. ^[1] The newly combined airline will be the largest in the world in terms of passenger traffic, surpassing United post its formation, which is expected by the year-end now. However, before the merger goes through, this settlement between the Justice Department and US Airways-American Airlines needs to be approved by the court.

For the Justice Department, the settlement marks a significant retreat from its earlier position of blocking the merger entirely. However, in our opinion, the department’s position was not very tenable as it had in the recent past allowed three mega airline mergers: Delta-Northwest, Southwest-AirTran and United-Continental. However, to its credit, the department enhanced competition in the crucial New York and Washington markets by allowing for the expansion of low cost carriers at these airports through the slots that will be given up by the new American Airlines. The department described the divestiture of 138 slots at Reagan National and LaGuardia airports by the new American Airlines as the biggest ever achieved in an airline merger concession, but we figure that US Airways and American Airlines would have naturally shed some of these slots during their consolidation anyways. A similar development was observed in previous airline combinations when merged carriers cut back on flying capacity to fly fuller planes and raise profits.

Another factor which we believe played a crucial role in forcing a settlement was the overwhelming support of more than 100,000 employees of US Airways and American for the merger. A scuttled merger would have meant an extended period of uncertainty for employees of American Airlines, which would have had to spend many more months in bankruptcy while coming up with an alternate plan. For US Airways, this merger allows it to jump ahead of its competitors to become part of the largest airline in the world.

We currently have a stock price $20.50 for US Airways, around 10% below its current market price.

See our complete analysis of US Airways here

Who Else Apart From US Airways & American Gains From This Merger?

The entire U.S. airline industry gains from this merger, as capacity reduction from the new airline will work to curtail competition and pricing pressure on many routes. Similar capacity reductions were seen in many previous airline mergers including those of Delta-Northwest and United-Continental. Such capacity reductions take place as the consolidation of two independent flight networks inevitably leads to a reduction in frequency of flights on some routes and the cancellation of flights on less profitable routes. Overall, post this merger the domestic market will have four big airlines: United (NYSE:UAL), Delta (NYSE:DAL), Southwest (NYSE:LUV) and the newly merged US-Airways – American combination.

What Will Change For Flyers?

Flyers will cease to see the US Airways brand as the more widely known American Airlines brand will take over. With regard to fares, flyers will likely see lower fares on some routes and higher on some others. On many routes connecting Washington Reagan and New York LaGuardia fares will likely fall, as a large number of the highly sought after slots at these airports vacated by the new American Airlines will be taken over by low cost carrier such as JetBlue (NASDAQ:JBLU) and Southwest. Pricing pressure from the lower fares offered by low cost carriers will work to lower average passenger fares on many routes connecting these airports. A similar phenomena was observed when Southwest entered the Newark Liberty International Airport in 2010 through slots vacated by United as part of its merger (with Continental) concessions with the DoJ. Southwest acquired 36 divested slots at Newark Liberty and started flights to 6 cities with connections to 60 more. Subsequently, fares fell by more than 10% on the nonstop routes alone. ^[2]

On other routes where American Airlines will cut back on frequency or cancel flights as part of its integration, competition will fall and fares will likely rise. But, even this will not be an entirely adverse development as the consolidation will allow airlines to further improve their financial health, in turn allowing them to invest more in newer planes and offering better services to flyers. On the whole, we figure for flyers, this merger like previous airline mergers will be a trade-off in favor of better services against lower fares.

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1. US Airways and American announce settlement with the DoJ, November 12 2013, www.usairways.com [↩]
2. Justice Department’s press release on the proposed settlement with American and US Airways, November 12 2013, www.justice.gov [↩]