Merger between the United Air Lines and US Airways - Term Paper Example

? Merger between the United and US Airways Total Number of Words: 2,023 of United and US Airways The United Air Lines is a subsidiary of the United Continental Holdings. On the 30th of November 2011, the United Air Lines received a single operating certificate from the Federal Aviation Administration which serves as a legal binding contract that allows the merging of its flight services, check-in and frequent-flier programs under the name of United (Freed, 2011). Merger between the United and Continental was approved by the European Union last July 2010 (Breaking Travel News, 2010). With 702 aircrafts, the United is now classified as the largest airline company in the world (CopyLine News Magazine, 2012). Operating 5,800 flights each day, the United Air Lines and Continental can reach 371 airports throughout the Americas, Europe and Asia from their hubs in Chicago, Cleveland, Denver, Guam, Houston, Los Angeles, New York, San Francisco, Tokyo and Washington, D.C. (Continental, 2012). Under the United Continental Holdings – the parent company of Continental and United, its 4th quarter 2011 revenue was increased by 5.5% with annual profit of $840 million (Omaha World-Herald, 2012). The US Airways is “the 6th largest U.S. airline by traffic and 8th largest by market value in the United States” (Nolan, 2011; Fenske, 2008). Marketed under the brand name of US Airways Express, the PSA Airlines and Piedmont Airlines are two of US Airways’ wholly-owned subsidiaries on top of its other four airline subsidiaries (Polek, 2008). The US Airways has 341 mainline and 319 regional aircrafts across 200 destinations around North- and South America, Europe and the Middle East. The company is operating 629 daily flights throughout its 133 non-stop destinations (Portillo, 2011). Its annual net profit excluding net special charges was $111 million as compared to $447 million in the previous year (PRNewswire, 2012). After deducting the net special charges, the company’s net profit was $0.68 million as compared to $2.34 million during the previous year (BusinessWeek, 2012). Incentives to Consolidate Although the merger plan between the United and the US Airways has not been successful ever since the United decided to merge with the Continental last July 2010 (Breaking Travel News, 2010), potential merger between the United and the US Airways never died (Portillo, 2011). In fact, Derek Kerr – the Chief Financial Officer of US Airways stated that “consolidation is one of the major ways this industry can become profitable” (Chakravorty, 2010). Aside from economies of scale, most of the existing airline companies are merging to expand or dominate a busy hub. In other words, merger enables these airline companies to have a competitive advantage by investing on geographically differentiated routes. This explains why other major airline carriers such as Delta was eager to merge with Northwest whereas the United with Continental (Portillo, 2011). Furthermore, Portillo (2011) explained that the hub of US Airways is the key to 90% of the airport’s flights. This aspect will give the United the incentive to decide and consider consolidating with the US Airways in the near future. Analyzing Firms within the Industry Strategies made by the firms within the U.S. airline industry can be well understood by conducting an industry analyzing using the Porter’s five forces framework. Based on this framework, it makes sense that the U.S. airline industry has a low barrier due to the increasing threat of new entrants (Ramon-Rodriguez, Moreno-Izquierdo and Perles-Ribes 2011). Ever since the Airline Deregulation Act was implemented in 1978, firms within the U.S. airline industry started experiencing the business consequences of a tight market competition. Even though the U.S. government removed the political restrictions over the U.S. domestic routes, schedules and domestic fares, some of the airport regulations, limited takeoff and landing slots and airline strategic alliances serve as additional barriers to entry (United States Government Accountability Office, 2006). For these reasons, we can say that the barrier to entry is medium whereas potential threat from new entrants is medium-high. In most cases, the presence of new entrants within the U.S. airline industry increases the number of product substitution. For instance, the active participation of the low-cost carriers (LCCs) (i.e. JetBlue and AirTran Airways) provided the business and leisure travelers the privilege and options to choose between a low-cost carrier and a business or first-class flights (United States Government Accountability Office, 2006). This makes the threat for product substitution high. Due to the presence of product substation and the issuance of Frequent Flyer Program, the bargaining power of buyers is high. Even though there are a lot of suppliers available in the market that are willing to provide ticketing and online reservation services (i.e. Orbitx, Expedia, Travelocity, etc.), it is undeniable that bulk of the supply requirements of airline companies is fuel. Since airline companies cannot control the global market prices of oil, the bargaining power of suppliers is high. (See Appendix I – Porter’s Five Forces Framework: U.S. Airline Industry on page 13) Description of Product, Technology, and Sources for Raw Materials The U.S airline companies are selling airline services for leisure and business travelers. With regards to the place of distribution, almost all of the airline companies are either renting or maintaining their own official online ticketing system and telephone reservation system or build alliances with a network of travel agencies. From time to time, airline companies are promoting their airline services using TV, magazine or online advertising. As a sales promotion strategy, airline companies today are using e-commerce and m-commerce. Approximately 2/3 or bulk of the daily supply requirements of airline companies is fuel. In most cases, demand for fuel is highly dependent on the average length of flight, the number of engines, and the age of the aircrafts. Aside from labor and airport facilities (i.e. Los Angeles International airport and JFK and La Guardia in New York among others), major sources of fuel in the world market includes: Canada, Mexico, Saudi Arabia, Venezuela, and Nigeria (Lugar, 2012). On the other hand, reliable sources new aircrafts includes: Boeing and Airbus (Airbus, 2012; Boeing, 2012). (See Appendix II – Summary of Top Domestic Routes between November 2010 to October 2011 on page 14) Competitive Environment within the US Airline Industry By ranking, the top four major firms that dominates the US airline industry includes: (1) Delta Air Lines; (2) American Airlines; (3) United; and (4) the US Airways (Chakravorty, 2010). Other minor players within the U.S. airline industry are the low-cost carriers (LCCs) such as the JetBlue, AirTran Airways, and the Frontier Airlines among others. Due to limited number of airline carriers, the U.S. airline industry cannot be considered as a “perfectly competitive market” (Ramon-Rodriguez, Moreno-Izquierdo, & Perles-Ribes 2011). Ever since the Airline Deregulation Act of 1978 was implemented in the United States, most of the LLCs are competing with each other by offering the lowest possible air fares to its target customers. Therefore, major airline companies and LCCs invested on e-commerce and/or m-commerce to reach out to their target customers (Wei & Ozok, 2005; van Soldt, Bobbink, & Ying, n.d.). This made the airline companies save a lot of money from its overhead costs. As a result, airline companies whether low-cost carriers and/or major carriers are competing by offering promo or cheapest air fares possible. One of the most common communication tools that are widely utilized today is the use of the internet technology. Aside from being cost-efficient, the use of information technology enables these airline companies reach out to its target customers around the world on a 24/7 basis. Furthermore, due to the tight competition in the airline industry, most of the airline companies are grounded over the effectiveness and efficiency of its e-Marketing strategies. Therefore, the local airline companies are obliged to regularly update the software technology used in its official website in order to maintain competitive in this business. Due to the limited take-offs and landing area within the domestic and international airports, major airline companies such as Delta Air Lines, American Airlines, United, and the US Airways are competing with one another by expanding its geographically differentiated routes. By doing so, major airline companies could avoid reaching the maturity and decline stage within the life-cycle model (McGahan, 2004). In response to the on-going price-war among the existing U.S. airline companies, most of the major airline carriers had to offer two sets of pricing strategy that can satisfy the specific needs and wants of both the price-sensitive and non-price-sensitive customers. It is given that not all airline customers are price-sensitive. In fact, there will always be a group of people who are more than willing to pay premium prices for a more sophisticated airline services and facilities. For this reason, most of the existing LLCs are targeting the price-sensitive customers whereas major airline companies are more focused on selling first class and business class airline services. 4-Firm Concentration Ratio, 8-Firm Concentration Ratio and the Herfindahl Herschler Index Concentration ratio is commonly use in “measuring how close an industry comes to the extremes of competition and monopoly” (Carbaugh, 2011). It means that the actual concentration ratio serves as the basis when deciding whether or not there is a high- or low-levels of competition within the U.S. airline industry. Today, the U.S. airline industry is dominated by only four major airline carriers. Therefore, the four-firm concentration ratio is very much applicable to the case of the U.S. airline industry but not the eight-firm concentration ratio. As an alternative approach, the Herfindahl Herschler Index (HHI) can be use to confirm the market concentration within an oligopolistic market structure (Weitzel, 2004). According to Barrow (2011), in case 40% of the market shares within the U.S. airline industry are dominated by four or five major firms, the said industry is considered as oligopoly. Based on the most recent TranStats report, 69.2% of the U.S. domestic airline market shares between November 2010 to October 2011 are dominated by five major airline carriers1 (TranStats, 2012). Therefore, it is clear that the U.S. airline industry follows an oligopolistic market structure. (See Appendix III – U.S. Airline Domestic Market Shares between November 2010 to October 2011 on page 15) First Argument Considering the point-of-view of United and US Airways, the proposed merger is favorable because the process of combining the assets of both companies into one will enable them to gain more benefit from economies of scale. Furthermore, immediate business expansion will enable both companies have better competitive advantage as compared to other major airline carriers such as Delta Airlines, Southwest, and the American Airlines. For instance, merger between the United and US Airways will provide the United to benefit from the US Airways’ existing hubs. On the other hand, the US Airways will also benefit from United’s existing network of loyal customers. Second Argument The rationale for implementing the Airline Deregulation Act of 1978 is to promote free market competition within the U.S. airline industry. On the point-of-view of the end-consumers, the proposed merger is not favorable because merger between two major carriers will only increase their power in controlling the market prices of air fares and services. Merger between major airline carriers is very evident within the U.S. airline industry. This kind of market environment is not good for the society since a high degree of market concentration means less bargaining power on the part of the consumers. In the absence of free market competition, the bargaining power of major airline companies to its potential buyers is high. Since the public will have less substitution to airline services, consumers will end up paying higher price for airline services. Cartel is a strategy that enables major airline carriers to join their forces in manipulating the market prices of airline services for higher profits (ecofine.com, 2008; Salin, 1996). If the government can impose price regulation on domestic and international airfares, oligopoly market structure can be good for both the consumers and businesses. However, the implementation of Airline Deregulation Act of 1978 has already removed the government’s power to regulate the market prices of airfares. Therefore, oligopoly market structure within a free market competition will not benefit both businesses and the consumers. References Airbus. (2012). Retrieved February 20, 2012, from Official Website: http://www.airbus.com/ Barrow, C. (2011). The 30 Day MBA: Your Fast Track Guide to Business Success. 2nd Edition. London: Kogan Page Ltd. Boeing. (2012). Retrieved Ferbaury 20, 2012, from Official Website: http://www.boeing.com/ Breaking Travel News. (2010, July 28). Retrieved February 19, 2012, from EU approves United and Continental merger: http://www.breakingtravelnews.com/news/article/eu-approves-united-and-continental-merger/ BusinessWeek. (2012, February 18). Retrieved February 9, 2012, from US AIRWAYS GROUP INC : http://investing.businessweek.com/research/stocks/earnings/earnings.asp?ticker=LCC:US Carbaugh, R. (2011). Contemporary Economics: An Applications Approach. 6th Edition. Edmonds, WA: M.E. Sharpe, Inc. Chakravorty, J. (2010, February 23). Reuters. 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AIRLINE MARKETING RESEARCH. Retrieved February 20, 2012, from Online Marketing in the Airline Industry: Expectations about Future Developments. Aerlines e-zine edition. Issue 37.: http://www.aerlines.nl/issue_37/37_Van_Soldt_ea_Online_Marketing_Airline_Industry.pdf Wei, J., & Ozok, A. (2005). Development of a web-based mobile airline ticketing model with usability features. Industrial Management & Data Systems , 105(9):1261 - 1277. Weitzel, T. (2004). Economics of standards in information networks. NY: Physica-Verlag Heidelberg. Appendix I – Porter’s Five Forces Framework: U.S. Airline Industry Appendix II – Summary of Top Domestic Routes between November 2010 to October 2011 Source: TranStats, 2012 Appendix III – U.S. Airline Domestic Market Shares between November 2010 to October 2011 Source: TranStats, 2012 Read More