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United Airlines' Divestiture Less Than Meets the Eye

By Richard McCaffery (TMF Gibson)
May 25, 2000

After a meteoric rise on merger news yesterday, shares of US Airways (NYSE: U) fell about 8% to $45 today on speculation that the deal with UAL Corp. (NYSE: UAL) -- the holding company of United Airlines -- won't go through.

Shares of US Airways, the country's sixth-largest carrier, soared 86% to $49 yesterday after UAL, the world's largest carrier, stepped in to buy the operator for $4.3 billion in cash and about $7.3 billion in debt. UAL ticked down just a hair today after falling nearly 12% yesterday, mainly on fears of an increased debt load.

Investors and analysts are worried U.S. regulators and US Airways' unionized shareholders will object to the deal, which would create a carrier with about 6,900 flights daily and 145,000 employees. The marriage would give United access to US Airways' valuable East Coast network. United's strength is really in long haul, east to west, and international flights.

Fools don't spend a lot of time speculating on the outcome of mergers. We leave that to the Wise and their mysterious charts. As a learning exercise, however, mergers and proposed mergers are great thinking tools. It gives investors a chance to stretch their minds about the businesses they own, and perhaps think of them in new ways.

One of the more interesting aspects of this merger is United and US Airways' agreement to sell to Robert Johnson, chairman and chief executive of privately held BET Holdings and a member of US Airways' board, a piece of US Airways' assets at Ronald Reagan Washington National Airport. Johnson plans to form a new short-haul carrier called DC Air. Under terms of the deal, United would hold onto some assets at Reagan, but the bulk would go to Johnson, who's paying more than $100 million for the assets, according to the New York Times. (By the way, even though the Times and two other papers were handed the story by the merging companies, the Times has offered good coverage of the issue.)

In the press release, United and US Airways tell us that "Competition in Washington, D.C. and other markets will be maintained and increased due to asset divestiture." Well, competition may increase, but probably not because of DC Air. Rather, the divestiture looks like a preemptive move by United to keep the Reagan National assets out of rivals' hands.

Now, I'm not saying that's a bad thing. Businesses should do everything they can to fortify themselves against competitors. It's just that United may very well have to divest more than a handful of assets at a no-growth airport if it wants to seal the deal.

Consider that US Airways is the top dog at Reagan National Airport with 33% market share, meaning it flies 33% of all passengers in and out of that airport (according to the Metropolitan Washington Airports Authority). United is number six with a measly 6% share. Now, if you were United, who would you want to get the bulk of those assets: a little start-up without serious competitive punch, or rival Delta Air Lines (NYSE: DAL) , the number three U.S. carrier, which is also the number two player at Reagan (18% market share)? The move would also thwart American Airlines' holding company AMR Corp. (NYSE: AMR) , the country's number two carrier and the number three player at National with 14% market share.

What United doesn't want to give up is its number one position at Washington Dulles International Airport, the jewel of the region's airports. United is the big pony there, with 42% of the passengers, and another 15% if you count Atlantic Coast (Nasdaq: ACAI) , which serves as United's feeder service. Number three in that market is US Airways, then Delta and American with a paltry 6.8% and 4.6%, respectively, of the market.

Why is Dulles so attractive? It has international flights, where Reagan is domestic only. Also, the number of "slots," or flights at Reagan, is tightly regulated, which keeps the airport from growing. (The number of slots at Reagan is being increased by 24, but a spokeswoman at the Metropolitan Washington Airports Authority said it wouldn't significantly change the market share mix.)

Reagan served about 15 million passengers last year, pretty much flat with levels the last few years, according to the Metropolitan Washington Airports Authority. Dulles, on the other hand, grew 25% and served 20 million passengers in 1999. It's one of the world's 50 top airports and is the fastest growing in terms of passengers served.

United has its work cut out for it if it wants to make the divestiture look pro-competitive.

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