For Southwest Airlines, purchase of AirTran fills a big hole in its route map

By David Koenig, AP
Monday, September 27, 2010

Southwest bid for AirTran would bolster route map

DALLAS — Leisure travelers turned Southwest Airlines Co. into a profit-making machine, but Monday’s acquisition of AirTran shows how much Southwest is counting on business travelers to propel its growth in the future.

The deal will let Southwest enter Atlanta and expand quickly in New York and Boston, all markets that are important to business travelers.

Southwest’s biggest acquisition ever, the $1.42 billion deal offers the low-fare king a chance to expand significantly at a time when the U.S. air-travel market is barely growing. For other airlines, especially Delta Air Lines Inc. in Atlanta, it creates an even bigger low-cost rival with more power to set prices on hundreds of routes.

AirTran has carved out a profitable business competing with Delta in Atlanta. Southwest has stayed out of the fight, making Atlanta the biggest U.S. city that it doesn’t serve. That causes Southwest to lose potential customers elsewhere.

“We’re trying to get more customers in Chicago and more business customers in particular,” Southwest CEO Gary Kelly said in an interview, “and if we don’t serve their destination needs, we won’t get them. Atlanta becomes a gaping hole in our route system.”

Airlines covet business travelers because they travel frequently and often pay more to purchase their seats at the last minute.

Southwest has long been considered a vacationer’s airline, but recently it has pursued business travelers with offers like Business Select fares that cost more but promise priority boarding, extra frequent-flier credit and a free drink. And the Dallas-based airline is pitching lower fares to budget-conscious corporate travel departments.

Monday’s deal doesn’t completely ignore leisure travelers. Southwest would pick up AirTran’s service to Mexico and the Caribbean. And Southwest said it intends to drop AirTran’s checked-bag fees — $20 for the first bag, $25 for the second one.

Investors like the deal. Southwest shares rose 8.7 percent. AirTran shares jumped 61.3 percent to $7.34. The deal values the shares at $7.69.

By buying AirTran, Southwest would grow overnight by 25 percent, something that otherwise would have taken several years of rapid expansion.

“This is a logical way for Southwest to grow while minimizing risk in this economy,” said Ray Neidl, who tracks airlines for investment bank Maxim Group. “They’re going up against powerful Delta in Atlanta, but they’ve gone into other hub cities and seem to be able to take care of themselves.”

Still, Southwest will face the difficult task of merging two different labor forces and even different planes.

Southwest has always flown only Boeing 737s, which helped cut maintenance and training costs because pilots and mechanics only needed to master one plane. AirTran has 52 737s but also 86 copies of the Boeing 717, a smaller plane that is no longer in production. Kelly said Southwest can handle it.

Analysts say regulators aren’t likely to oppose the deal. The two airlines overlap in only a few markets including Baltimore, Milwaukee and Orlando, Fla. And regulators might even like the notion of a stronger competitor in Atlanta against Delta, the world’s biggest airline.

“This is not a positive for Delta — having a big, fierce competitor in their backyard,” said Bill Warlick, an analyst for Fitch Ratings. But he said Delta is better able to offer competitive airfares because it has cut costs over the past few years.

AirTran would be Southwest’s largest acquisition by a wide margin. The company bought Morris Air and Muse Air in the mid-1980s. Two years ago, Southwest gained entry to the New York market when it bought assets of ATA Airlines out of bankruptcy.

Last year, Southwest tried to buy bankrupt Frontier Airlines for more than $100 million but dropped out of the bidding after its pilots’ union signaled concerns about the deal.

Southwest officials, dating back to co-founder Herb Kelleher, like to talk about preserving the airline’s culture, a survival instinct that developed when American Airlines tried to squash Southwest before it could operate its first flight.

The importance of preserving the Southwest culture has been given as a reason for not pursuing more acquisitions. Fighting among work groups has plagued acquisitions by American Airlines and US Airways, but analysts think the AirTran employees have plenty of reason to make things go smoothly.

“What’s not to like for the AirTran people?” asked Betsy Snyder, an airline analyst for Standard & Poor’s. “It gives them the security of working for a larger airline, and one with good labor relations.”

As if to underscore Snyder’s point, the president of the Southwest Airlines flight attendants union quickly endorsed the deal.

Thom McDaniel of the Transport Workers Union said his group, representing 9,400 Southwest employees, “welcomes the 2,000 AirTran flight attendants into our union and into the Southwest family. We are stronger together.”

Snyder, however, said she worried the deal will increase Southwest’s labor costs because it presumably will raise pay and benefits of AirTran employees to Southwest’s industry-leading levels. Fitch’s Warlick said the increase can be limited by good productivity.

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