Airline Mergers Only Delayed

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Sorry, folks, false alarm. Or at least that seems to be the message after the rumor that United Airlines and Delta Air Lines were in merger talks was quashed with Delta CEO Richard Anderson's testimony before Congress on Thursday. Anderson said that he had not spoken with any high-ranking execs at United Airlines since September, when he returned to the airline industry upon taking the helm of the Atlanta-based carrier. The two airlines had already diffused rumors on Wednesday following afternoon spikes in their share prices.

But while the rumors have fizzled, the promise of consolidation isn't so easy to shake. U.S. Airways turned up the heat by making a hostile bid for Delta during bankruptcy exactly one year ago, which came in the wake of other failed talks, such as those between United and Continental Airlines in 2006 and United and Delta in 2005. Now with industry fragmentation, too many seats and rising jet fuel prices, analysts and industry experts see consolidation as inevitable.

Delta, in fact, is clearly in favor of industry consolidation and has established a committee to review its options for a potential merger but says there are no discussions going on with any carrier at this time. But a source familiar with Delta who spoke on the condition of anonymity says that there has been ongoing talk at the company to work toward announcing a merger and submitting it for review to the Department of Justice before Christmas, because the company wants to take advantage of the current administration before potential changes in the DOJ and the Department of Transportation. (Delta had no comment on that claim.)

"One thing that everyone has been debating is: what are the catalysts for consolidation?" says William Swelbar, a research engineer with MIT's International Center for Air Transportation. "We had $85 oil a month ago and tried to test $100 last week. Any time an industry is facing unprecedented cost increases like that it is time to start looking at ways to shed fixed cost." The price of oil is a pinch felt by everyone, and Swelbar says that any merger will signal "game on" to the industry. "If this pushes that first domino, everybody has hinted they will respond in kind."

Airlines have more than enough reasons to follow suit. Jet fuel costs have gone up 38% since spring 2006. Airline profit margins, which used to range between 5% and 7%, are now down to 2%. Merging with another carrier would allow an airline to reevaluate its hubs, reduce overlap in routes, perhaps even cut back on regional flying and decrease capacity in the industry overall. But there are always obstacles. "The two speed bumps to anything are always regulatory issues and labor issues," says Swelbar. He says Delta's "non union environment" might make workforce integration easier for the airline in a merger. But there are also issues such as what to do with code shares, frequent flyer programs and combining computer systems that could also pose problems.

Ray Neidl, director of U.S. research for airline financier Calyon Securities, says that while consolidation is not imminent, when it comes "it will be fast and furious." In an industry update dated Nov. 7, Neidl wrote that "the most probable kickoff" would be Delta bidding for Anderson's alma mater Northwest Airlines, due to no overlap in routes and a smooth integration of workforce seniority lists. Neidl, like other analysts, says that six major carriers will give way to fewer — probably three — as consolidation begins in two or three quarters, or perhaps longer.