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Higher fares and more mergers for airline industry, say experts

By Tim Hume, for CNN
May 4, 2012 -- Updated 1016 GMT (1816 HKT)
British Airways and Iberia merged in 2010 and analysts analysts are tipping that further mergers are on the way.
British Airways and Iberia merged in 2010 and analysts analysts are tipping that further mergers are on the way.
  • Analysts are tipping accelerated consolidation in international airline industry
  • Mergers a response to structural problems as the era of national carriers ends, they say
  • Consolidation will likely lead to rising fares, which have been unsustainably low
  • But mergers are difficult to achieve due to complex legal framework of air travel

(CNN) -- Analysts are predicting plane tickets will get more expensive as more airlines merge in response to deep-seated structural problems in the industry.

Faced with soaring fuel costs, slack passenger demand and an economic slowdown, mergers are shaping up as a necessary measure to remove excess capacity from the industry.

"I think there's more consolidation to come," said Vaughn Cordle, chief analyst for AirlineForecasts.

"Lower demand means that there is excess capacity that needs to be taken out of the system, and the best way to do that is through consolidation."

There has been much talk of mergers recently. In the United States, workers for three American Airlines unions last month agreed to support a potential merger with U.S. Airways Group, although no deal has been confirmed.

And in Europe the CEO of loss-making Scandinavian airline SAS, often rumored to be the target of a takeover, said in a recent interview he anticipated accelerated consolidation given current conditions in the industry. But he would not be drawn on the immediate future of his airline, which German airline Lufthansa was rumored to be close to bidding for in late 2010.

Cordle said there were simply too many airlines in the world, with intense competition dropping fares to unsustainably low levels.

Rationalization had to take place to move "towards a more viable industry," he said, shifting the business model from a "focus on market share to a focus on profits."

It's not the best solution for the consumer, but the fares were so low in the past that the industry structurally has to change
Vaughn Cordle, chief analyst for AirlineForecasts

"It's not the best solution for the consumer, but the fares were so low in the past that the industry structurally has to change," he added.

The "punchline" for travelers was that fares would only rise as a result. He said fares had increased about 20% since their recession lows in 2009 -- and tipped them to rise at least a further 5% as airlines were forced to shoulder higher taxes and user fees in addition to rising fuel costs.

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Peter Harbison, executive chairman of the Center for Asia Pacific Aviation (CAPA) also said further consolidation was likely, as the industry was "coming to the end of an evolutionary cycle" in which air travel had been dominated by national carriers subsidized by governments.

"You've got all these carriers hanging over from the old days, and lots of them are effectively unsustainable," he said.

However, he said the process of consolidation would be slow-going, as the merger of airlines across national boundaries remained "extremely difficult and complex."

This was because of the "archaic spider's web" of thousands of bilateral agreements which had been the legal framework underpinning international air travel since the post-war period.

"It was essentially a protectionist thing, so each country could have its own airline," said Harbison. "The only way an international airline can fly from one country to another is if there's a bilateral agreement between the two countries -- and that agreement will invariably express that each airline has to be substantially owned and effectively controlled by nationals of their country," he said.

If national carriers became foreign-owned, they ran "the risk of every other country saying, 'Sorry, you're unable to fly'," he said. "That really is the big issue that makes consolidation internationally so hard."

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The two big mergers in Europe -- between Air France and KLM, and British Airways and Iberia -- had been accomplished through the creation of holding companies, allowing the respective airlines to operate independently and remain nationally-owned, he said.

As a result of these obstacles to consolidation, and the subsidies that had propped up many national carriers, there was currently excess capacity in the market.

"You get severe inefficiency because airlines can't service the global market," he said. As a work-around, the industry had come up with a system of global alliances that allowed airlines to market "seamless travel" to any part of the world to their customers through their partner airlines -- what he termed "the poor man's merger."

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