Frontier Acquisition: Southwest Comes Out Swinging

The bankruptcy court auction for Frontier Airlines began this week, and Southwest (LUV) already upped the ante, raising its bid to $170 million on Monday. As I pointed out in Sunday's column, winning will put Southwest in an unusual position when it seeks anti-trust approval from the Justice Department.

The carrier that helped redefine airline competition in the post-regulation world will have to argue that having one less carrier in Denver will increase competition.

That issue struck a nerve with the Dallas-based airline, and Ron Ricks, the executive vice president for corporate services, called me Monday afternoon to explain the carrier's position.

"We didn't do all this just so we could walk up to the DOJ and get stuffed,'" he said. "We have a plan to win."

That includes demonstrating that Southwest's plans for Denver will be pro-competitive. Southwest contends that Frontier isn't actually a low-fare carrier, that its fare are low only in markets where it competes with other low-fare airlines. In markets where it competes solely against, say, United (UAUA), its fares are much higher.

When Southwest entered the Denver market in 2006, it had the same effect that it's had in other markets - fares declined, Ricks said. Based on government data, fares from Houston to Denver, for example, fell and average of 21 percent. Frontier itself lowered fares by 20 percent to compete. At the same time, passenger traffic increased by 27 percent, he said.

That isn't really the issue, though. The issue is what happens after it buys Frontier.

As it stands now, United controls about half of the Denver market, and even if it combines with Frontier, Southwest will hold less than a third, Ricks said.

"We're buying Frontier in order to become an immediate force in the marketplace," he said.

In other words, Southwest will argue that it can compete more efficiently against United if it has more market power. But that ignores the fact that the merger would also create a near duopoly in Denver. In way, Southwest is asking the DOJ to trust it to keep fares low. If any airline could pull that argument off, Southwest could, given its track record.

But as I noted in my column, Southwest has been losing big bucks in the Denver market, probably since it entered. A big chunk of those losses can be blamed on Frontier, not United.

Ricks, though, rejects my assertion that buying Frontier is a defensive strategy. Even with the increased price of the bid, it's getting a billion-dollar airline with international routes and gates in new markets such as Atlanta for the price of about five 737s.

"It allows us to do virtually overnight what might take a decade to do and cost a lot more money," Ricks said.

That's the same case Southwest has been making to its employees.

"We had some major issues here with our own workforce," he said. "We are in a no-growth mode right now because of the economy, and Southwest Airlines has never been in a no-growth mode. Some of our unions are very unhappy about that."

So, Ricks argues, the whole strategy is straight out of the classic Southwest playbook. It's about growth and busting United's chops, not removing a competitive threat from Frontier.

"The real story here isn't Frontier," he said. "The real story is the competitive war that's about to break out between an invigorated, a more powerful, a bigger Southwest combined with Frontier against United."

There's no question that buying Frontier offers a lot of benefits for Southwest, both in terms of growth and in bulking up against United. But given its losses in the market, and given United's own shaky financial condition, I still say its going to be a tough sell before the DOJ.

With Frontier gone, Southwest could - indeed probably should - raise fares enough to at least make Denver profitable. So it's essentially arguing that higher fares and fewer market participants improves competition.

That, as I said in my Sunday column, is an argument only a legacy airline could love.

Disclosure: no positions

Comments

[guyindasky:]

What happens when United goes under due to even more financial pressure from SWA? Then I guess Denver will be a one airline town and then watch those airfares soar.

Aug 13 02:32 PM

[User 471234:]

guyindasky-

You really need to do more research before you make the comments about the "airfares soaring." You only need to look at the cities where LUV is the dominant carrier and look at the fares there. I'll give you some help--start with SMF, ONT, BUR, and OAK (a few Calif. cities).


On Aug 13 02:32 PM guyindasky wrote:

> What happens when United goes under due to even more financial pressure
> from SWA? Then I guess Denver will be a one airline town and then
> watch those airfares soar.

Aug 13 03:17 PM

[User 471259:]

It amazes me that SWA is touted as the "Bad Guy," in this deal. Frontier is in Bankruptcy (again), they have employees on furlough, and are about to be purchased by a regional carrier, which will not add to their quality of life. I think SWA is their silver lining and their best hope for a stable and profitable career.

Aug 13 04:11 PM

[pk in cal.:]

SWA is a giant shark in the skies .. Laying prey to a weaker fish in the airline industry. Maybe they should put some of their money into taking better care of their own aircraft before setting up their monopoly of the airline industry.


On Aug 13 04:11 PM User 471259 wrote:

> It amazes me that SWA is touted as the "Bad Guy," in this deal. Frontier
> is in Bankruptcy (again), they have employees on furlough, and are
> about to be purchased by a regional carrier, which will not add to
> their quality of life. I think SWA is their silver lining and their
> best hope for a stable and profitable career.

Aug 13 05:46 PM

[pk in cal.:]

I believe I read there are 5,000 employees at Frontier. Just how will SWA taking them over and eventually getting rid of all but a handful of employees their planes and most probably the pilots eventually considered a good thing for Frontier? Seems to me they would be better off with Republic where they could remain as they are and perhaps even grow . Do you think maybe the 38 million SWA is loosing every quarter in the Denver market because of Frontier might enter into this fight to the finish or are they just really "The bad guy" we think they are.

Aug 13 06:03 PM

[guyindasky:]

Oh well it's a moot point now as Republic has prevailed. Guess Republic's pilots didn't like the fact that the SWA pilot group wanted to staple them to bottom of the seniority list. SWA just wanted another competitor out of the way. SWA would keep fares low long enough until they squeezed United out of the market in a significant way

Aug 14 10:26 PM

[guyindasky:]

Oops...I meant to say I guess Frontier's pilots didn't like the fact that SWA pilots wanted to staple them at the bottom of the seniority list.

Aug 14 10:27 PM