If you have flown to, or within, the US in the last year or two, you might have found yourself shocked at how ticket prices have gone up. Whatever your reaction, you won't have been half as surprised as the guys on Wall Street who analyse airline stocks.
US airlines have been in and out of bankruptcy, seemingly with the regularity of a group of people dancing the hokey-cokey. One trader, a regular on business television on this side of the Atlantic, whenever he was asked about the industry, used to say: "Market's open, a good time to sell airline stocks."
But not now. With the glaring exception of American Airlines, whose parent company AMR filed for Chapter 11 bankruptcy protection in November, US airlines are in the black and determined to stay there. They are pursuing a "shrink-to-fit" policy, axing unprofitable routes and cutting the number of flights on the rest, reducing competition so they can jack up prices. It's an expensive development for the travelling public, of course, and an uncomfortable one for flyers who find themselves in the middle seat on sold-out flights, but it means AMR's could be the last big bankruptcy in this industry.
After years of carriers fighting each other for market share, no matter the cost, the industry has changed. The reason: consolidation. And the strategy in the industry for staying healthy: more consolidation.
The AMR bankruptcy has triggered a new round of calculations about who should merge with who, and which out of the remaining possible combinations would be best for cutting costs and building the most efficient global network. It could be 18 months before AMR decides if it wants a marriage, but its dance partners are preening, and the dating game could be of crucial importance to British Airways.
American is the lynchpin of BA's Oneworld alliance of global airlines. Speculation over AMR's future has reopened questions about the long-term viability of Oneworld, and even raised the possibility that BA's parent, International Airlines Group, might pump hundreds of millions or billions of dollars into AMR to prop up the transatlantic alliance.
"Oneworld is not even a close No 3, after Star Alliance and SkyTeam," says Robert Mann, founder of the airline consultancy RW Mann & Co. "Part of the problem is that it centres on Heathrow, which has always been a tough airport with a lot of problems and many carriers want to avoid it. Also, prices for flights via the UK are high, so if you are flying to continental Europe it is cheaper to use a continental hub."
Oneworld pulls together American, BA and its sister company Iberia, and Cathay Pacific, among others. It accounts for just 11 per cent of transatlantic travel, compared to 36 per cent for Star Alliance and 25 per cent for SkyTeam, which are anchored by the No 1 and No 2 US carriers, United and Delta Airlines, respectively.
"American has gone from being No 1 to being No 3 in five years, and it is not on a good trend. I don't think it knows how to compete from the No 3 position," said Mr Mann.
Since the twin crises of soaring energy prices and recession hit in 2007, Delta acquired Northwest and United leapfrogged everyone with the just-completed acquisition of Continental. American has no single partner that could push it back up from its No 3 spot, and its collapse into bankruptcy has turned it from predator to prey.
Doug Parker, the US Airways chief executive, has been arguing the benefits of consolidation for as long as he has been on the industry stage. His airline is an example of those benefits, having assembled itself through a string of mergers to become an international carrier with revenues of $13bn (£8.2bn) a year. It is strong in the second-tier cities of the East Coast but not on international routes, and it wants to gobble up AMR, with its major hubs in New York, Chicago and Los Angeles. Mr Parker boasted last week that he had hired Barclays Capital and others to advise him on the possibility of a deal.
AMR may have other ideas. Or, more accurately, it may have no ideas at all, since it is only at the beginning of a long and difficult financial restructuring. Under Chapter 11, it will be allowed to reorganise its debts and other obligations. In just one example of the battles to come, this week the government-run pension insurance scheme in the US filed claims over AMR's international assets to cover a $10bn shortfall in the company's pension funds. Pensioners, employees, suppliers and bondholders all now have to fight it out at the negotiating table and in the courts, to agree a financial restructuring deal that sets AMR up to compete in the future.
In order to mitigate the losses, AMR could ultimately seek a sale of the business or an infusion of cash, which is why rivals are "lawyering up and advisering up", in the words of one analyst. Delta has also hired advisers, it is believed, to consider a move of its own, possibly for AMR but more likely – given the less onerous competition hurdles involved – for US Airways.
Any takeover of AMR could have big implications for British Airways and the rest of the Oneworld alliance, which began a revenue-sharing deal for the $7bn transatlantic business in late 2010. If US Airways is the buyer, it is most likely to opt into the Oneworld alliance, but there are no guarantees, analysts say. If Delta were to buy AMR and pull American into SkyTeam, that would be curtains for Oneworld.
In recent days, it has emerged that a private equity group with a history in the airline industry, TPG Group, is also examining the possibility of funding AMR in return for taking control of the company when it exits bankruptcy. TPG invested in Continental in the Nineties, and America West in the Naughties, before it was sold to US Airways. It also once teamed up with BA to make a joint bid for Iberia five years ago. It is believed to have approached BA again about taking a minority stake in AMR to ensure it stays within the Oneworld alliance, and give BA greater power to shape and improve the alliance.
As AMR's restructuring talks progress, however, analysts expect extensive consideration of the options.
Analysts are in no doubt as to the benefits, which were on show last week when the major carriers released their results. United said it had cut seats by 2.5 per cent in the fourth quarter and been able to jack up fares by 9 per cent. Delta's revenue per available seat mile was up 12 per cent.
"All along, we thought low barriers to entry and highly elastic supply would prohibit airlines like Delta from raising prices," said Basili Alukos of Morningstar. "However, the reduction in capacity over the past few years is having a positive impact. So long as the airlines remain disciplined, the long-elusive pricing power could stick."
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