Airline Merger Frenzies (II): Network Structure, Costs and Strategic Outlook
There have been three interesting (or more) stories on the rapid airline feeding/merger frenzy that's bubbling up before our eyes as the result of intractably higher fuel costs. Like every other strategic initiative since '00 this one too will NOT fix the underlying problems. Which won't stop the mergers nor prevent the financial community from providing the liquidity ammo necessary to bring it about on the theory that it will. Earlier we'd posted a first pass (Airline Merger Frenzies (I): Deep Cost Structure, Restructuring & Outlook) explaining how the hub-n-spoke network route structure was the deepest underlying factor in airline's lack of profitability and failures, since the end of WW2 btw, to earn their cost-of-capital. Excerpts from the three stories are below but here's an excerpt from a strategic assessment we wrote in '04 both predicting the consolidation and its' likely failure.
Consider the airline industry further - costs are much too high, labor relations are terrible and executive leadership has been extremely self-serving. But that's not the fundamental problem - that lies in the deep network structure, which is based on a hub-n-spoke network architecture, which has advantages over a total point-to-point network. But only when average load factor AND cost/prices are competitive. Bad network architecture combined with 'milk-the-last-cent' yield management tactics mindset that became strategy, and in the process sacrificed customer value and good will.
Any network solution is vulnerable when over-priced to pt-to-pt service cherry picking of major lane segments, one that offers lower prices and better service. Hence Southwestern - which is now BTW reaching it's own maturities, including higher than workable labor costs. The airline industry as we know it is dead. There will be room for 2-3 majors with viable international network connections plus a few mid-tiers in heavily traveled segments and maybe a few smaller regionals. The only thing keeping the industry alive is romance, nostalgia and misguided access to the capital markets.
That's the money quote but the entire assessment is dloadable as a PDF file here.For further reading on the strategic history we've posted our softclipping file on Airline Industry Re-structuring as well.As you read the excerpts below, or even click thru to read the entire original story, keep all this in mind. And then ask youself whether or not you believe the airlines will in fact improve their strategic position. We in fact believe these will continue to be abysmal failures and nothing much will change unless:
- Airline management adopts new strategic network structures which so far it has proven unable to SEE as possiblities.
- Based on that re-factoring major cost element re-structurings, e.g. labor, operating doctrine and (perhaps) fuel as well as fleet capital acquisition spending are likewise adapted to the new regime.
- And, we also believe, a new value-focused emphasis on service and responsiveness is also adopted and adapted.
Within those overall observations that means that without these changes the mergers will fail and discount airlines won't be able to adjust their costs structures. Further their attempts to move upscale to capture more business travelers will have very limited success because their operating models won't support mulitple classes of passenger and service.
BUT THIS IS NOT JUST ABOUT THE AIRLINES. It is a perfect example of the kind of re-thinking that most industries need to go thru but won't until they are forced into it. With severe pain for investors, employees and other stakeholders. None of which, to the best of our knowledge, is reflected in the coverage of the airlines, any other industry.READINGS
A normal industry? Much is riding on the possible merger of America's third- and fifth-biggest airlines. ONE by one, the obstacles along the runway to what could be one of the most transforming deals in the world's air-transport industry are being cleared. If, within the next few days or weeks, executives at Delta and Northwest succeed in hammering out a common labour contract with their 11,000 pilots, the airlines will declare their intention to merge, subject to regulatory approval. Were the deal to go ahead, it would almost certainly trigger similar mergers between the rest of the “big six” American network carriers, with United and Continental likely to pair off on one side, and American and US Airways on the other. If, and it is still a big if, what emerged was a stronger, more stable American airline industry, that in turn would be an important step towards completing the stalled liberalisation of the global aviation industry.
Why Delta-Northwest won't work Industry consolidation is supposed to cure the airlines' most intractable problems, right? It won't. There was little doubt last summer when former Northwest Airlines executive Richard Anderson took the helm at Delta Air Lines that the carrier would gobble up a competitor. It was just a matter of which one and when. So Wednesday's board meeting to finalize a merger between Delta (DAL, Fortune 500) and its smaller rival, Northwest Airlines (NWA, Fortune 500), surprised no one. Shareholders clamored for it. Analysts gave their blessing. And the media breathlessly reported its inevitability. Consolidation, the thinking goes, will solve all of the industry's woes. Not so fast. An analysis of the likely deal terms suggests this merger won't overcome the many problems facing airlines. In the end, we might just have a bigger company plagued by the same problems, including sky-high oil prices and powerful labor unions. Ditto for United (UAUA, Fortune 500) and Continental (CAL, Fortune 500) if they too, as has been widely reported, tie the knot.
Discount Airlines Woo Business Set Discount carriers are making a new push for business travelers, adding flights in heavily traveled business routes and even quietly offering companies special deals. To enhance its appeal to business travelers, one airline began installing work desks with power outlets in boarding areas and created a new fare, dubbed Business Select, that lets business travelers buy their way to the best seats, even if booking at the last minute.Which carrier? Southwest Airlines Co., which used to pride itself on one-size-fits-all bare-bones service.Faced with slowing growth and higher costs, discount carriers like Southwest and JetBlue Airways Corp. are making a new push for business travelers, adding flights in heavily traveled business routes and even quietly offering companies special deals.With the economy struggling, discounters see new opportunities among business travelers: Low-fare airlines have historically done well with corporate customers during recessions as travel budgets get pinched. At the same time, with fares higher because of fuel costs, Southwest and JetBlue can't stimulate as much leisure travel with low fares, so they have to resort to trying to grab customers from incumbent airlines.