Six states, U.S. sue to block airline merger

In a move that caught shareholders, creditors, analysts, and the airline industry by surprise, the U.S. Justice Department; six states, including Pennsylvania; and the District of Columbia sued Tuesday to block the merger of US Airways and American Airlines.

No one saw it coming, two days before a federal bankruptcy judge in New York City was scheduled to approve American's reorganization plan. The news sent airline stocks tumbling.

American's creditors, along with shareholders of both airlines and European Union regulators, had given a green light to the $11 billion deal.

The Justice Department said the combination "threatens substantial harm to consumers" by diminishing competition that could increase fares and fees, and reduce service.

"We are extremely disappointed," US Airways CEO Doug Parker said in a memo to employees. "We believe the DOJ is wrong in its assessment. We will fight them."

Airline analyst Daniel McKenzie of Buckingham Research Group said in a client update: "The situation is fluid and somewhat unusual given the Department of Justice's track record" of approving airline mergers.

"At a minimum, the DOJ move could be posturing" to force US Airways and American to give up takeoff and landing slots at some airports, McKenzie added. "At most, it reflects a philosophical bias against further consolidation in the industry. Either way, the move upends AA's prospects of exiting Chapter 11 any time soon."

The complaint, filed in federal court in the District of Columbia, said the combination, creating the world's largest airline, would "leave just three legacy carriers remaining" - Delta, United, and the new American - and "substantially lessen competition for commercial air travel throughout the United States."

Pennsylvania and Texas are the states "most impacted by the merger," Pennsylvania Attorney General Kathleen Kane said. US Airways is the largest airline at many Pennsylvania airports, including Philadelphia, Allentown, Harrisburg, and Scranton-Wilkes-Barre, she said.

A combined US Airways-American would have 40 percent of market share nationwide, Kane said. "As we've seen by the law of economics and through our economic analysts," Kane said, "when airlines have more market share and there's less competition, prices go up."

Kane said the government looked at prior airline mergers and the effect on seat capacity and pricing. "We have history on our side now. We've seen how those mergers affect the airports, prices, and fares," Kane said. "We know the promises made are not kept. We were worried about Pittsburgh jobs, about Philadelphia jobs, and the impact to consumers."

Gov. Corbett issued a statement that his office "carefully studied the lawsuit [and] will closely monitor developments involving this proposed merger to ensure that the best interests of all Pennsylvania consumers and businesses are protected."

The lawsuit was unexpected because the department had approved other recent big airline mergers - United-Continental, Southwest-AirTran, and Delta-Northwest. United and Continental agreed to give up some slots (takeoff and landing times) at the Newark, N.J., airport.

Aviation experts said the move could be designed to force the airlines to give up routes, gates, and slots at airports such as Reagan National in Washington, where the new American would control 69 percent of takeoff and landing slots.

"It's curious that the DOJ allowed the Northwest-Delta, United-Continental, Southwest-AirTran, and previous mergers, but are now challenging this one, and curious why they made no noises about this earlier in the process," said George Hobica, founder of airfarewatchdog.com, a fare-tracking website.

"American will fight this challenge by citing the previous mergers - why them, not us? It's not fair."

In previous mergers, airfares on average did not skyrocket, Hobica said, noting that air travel is discretionary - vacations can be postponed, businesses can videoconference - which puts a "brake" on increases, he said. "Despite fewer airlines, we still see the same fares on some routes that we saw 10 years ago," he added.

The intent of the lawsuit is to quash the deal, not just win a few concessions, Assistant U.S. Attorney General William Baer said on a conference call. Further reduction of the number of big airlines makes it easier for those remaining - United and Delta - to cooperate rather than compete on price and service.

Baer said President Obama was not consulted on the decision to challenge the merger.

American and US Airways compete directly on more than 1,000 routes where one or both offer connecting service, the government said. The merger would eliminate the head-to-head competition, and lead to less capacity and higher fares.

Vicki Bryan, corporate bond analyst with Gimme Credit, an independent research firm, said she expected that the merger would be approved, "though the odds certainly have plummeted." Approval may come after "intensive negotiations that result in substantial divestitures of disputed routes and perhaps introductions of routes to fill perceived service gaps," she said in a note.

"We see more at stake here than whether airfares may or may not go up," Bryan said, adding that American is a "perpetually struggling airline [with] serious maintenance issues. US Airways will manage well enough on its own - it's a well-run airline lacking only sufficient scale to thrive to its potential."