Tack

Why Airline Mergers Don't Work: Scale Is Not a Blessing

The fundamental problem with almost all airlines (here again, Southwest "gets it" the most) is that they so utterly misunderstand their own businesses and have developed near-suicidal marketing and pricing approaches that unless they wake up to new realities, most will fail, whether merged or unmerged.

As an executive (now retired) in capitally-intensive, fixed-cost industries during my career, one thing I learned very quickly is that volume is everything. When fixed costs comprise a huge segment of a business, it's never possible to achieve a positive result by adopting any program that reduces volume and gross revenues. Whatever savings may be attached to associated variable costs will be outweighed by the fixed costs, now allocated over a smaller base.

So, on the surface, a merger would seem to make sense, i.e., expand volume faster than the expansion of fixed costs. The problem remains, however, that the airlines have totally forgotten how they generate revenue and how to grow that revenue. Consequently, they are seeing fewer and fewer passengers who wish or need to partake of their "services" (I use that term euphemistically).

Think about it for a minute. Is anybody attracted to being humiliated at airport check-ins? to being financially punished for not "planning" a trip in advance? to getting penalized for changing or canceling a trip? or how about paying absurd fees to bring along your luggage? or paying 2-3 times as much to go 500 miles as 5000 miles?

This is a mentality associated with arrogance and would work more "perfectly" in mandated-as-compulsory products, like health or auto insurance, but, it's insanity in a business where people make discretionary decisions. And, that's what the airline business has increasingly become, a business where the need and/or desire to use the product has become optional.

Now, businesses have access to worldwide, instantaneous Internet communications and teleconferencing. The absolute need to send somebody at exorbitant cost to a meeting is greatly reduced. The greater competition in almost all world business segments also dictates that companies manage their finances, not just pay whatever the airlines wish to charge, as if there were no alternatives.

And, consumers are finding that they can enjoy life just fine without flying around the world, or even around the country. It used to be that a trip was something exciting to look forward to, a special event. Now, the very thought of getting one's pockets picked and treated like some sucker to be exploited makes travel unappealing, and that's before we even get to the hassle, disrespect and humiliation that passes for "airport security." (I think the shoe bomber did more to damage the American economy that any other terrorist act, but that's another thread.)

Airline executives seem utterly oblivious to the changed rules of the game of air travel and its increasingly optional nature. At a time when they should be turning themselves into pretzels trying to figure out how to be more customer friendly and attract more air travelers and revenue (not by nickle-and-dime fees, either), they are engaged in a nihilist race with each other to see who can drive passengers away the fastest. It's insanity, no less.

For a very long time, I've thought there would be a huge opportunity for an airline to come into being, whose operating plan included no fees or penalties of any kind and had a simple revenue plan: all seats would be priced on a base fee to cover fixed business costs, plus a mileage add-on to cover the distance traveled. Ergo, the price all of travel would be proportional to the distance one goes.

Such a plan is too simple, of course, for the convoluted thinking of the airline executives, although Southwest probably comes the closest. But, for the others --merged or not-- who keep seeing travelers as cattle marching inexorably up the chutes of the slaughterhouse, their days are increasing numbered.

Are Airlines Going Bankrupt Again?

To suggest that SWA's 64 consecutive quarters of operating profits were due solely to fuel hedges is rather facile. SWA runs an efficent operation, has motivated employees, and offers customers good value and, very importantly, the absence of punitive nonsense (change fees, bag fees, seat fees, etc.).

Most other airlines operate as if customers have no alternative but to accept the costs, inconvenience and general nickle-and-diming that they rather arrogantly offer. In reality, many cutsomers have two options: 1) don't fly or 2) fly another friendlier carrier, like SWA.

As in all business segments, the efficient and cutsomer-minded will propser, while others struggle or perish. Frankly, it's been rather amazing to me that the airline sector, generally, has been so incapable of recognizing this reality for so long.

Are Airlines Going Bankrupt Again?

Reducing seat capacities with the objective a using it as leverage to raise ticket prices is a road to oblivion. As ticket prices are raised, the airlines will find that demand decreases, yet again, setting off the next round of capacity reductions, ad infinitum. Most airlines have used punitive pricing models that don't serve customers, then wonder why more and more customers decide they don't really need to travel.

As the airline business has a huge fixed-cost component, airlines have to figure out how to increase volumes, while making their operations much more efficient. Southwest Airlines has served as a model for success, but, apparently, most major airlines cannot connect the dots, despite the evidence.