Virgin America: Why Alaska might be the better fit

Yesterday I wrote some initial thoughts on potential outcomes if, as widely reported but not confirmed, Virgin America is talking to potential buyers.

Reports so far have focused on the most likely bidders for the San Francisco-based carrier being Seattle-based Alaska Airlines and New York-based JetBlue Airways. On paper, there’s no reason why any one of the four US majors might not also be interested. But, as I said yesterday, American, Delta, Southwest and United now control some 80% of the US domestic market, thanks to merger-acquisition deals, and the US government and lawmakers are less than happy with the result. “Airline consolidation” has become something of a dirty phrase on which other unpopular airline terms -- record profits, less competition, jammed-full aircraft, smaller seats and poorer service – are blamed. (I don’t personally agree with that viewpoint, but it’s a popular perception/misperception.)

It’s therefore very likely, in my view, that any attempt by one of the “big four” to swallow up yet another US carrier – especially an independent like Virgin – would be met with a firm regulatory “no way”.

The question I posed yesterday was whether that contempt for consolidation might also block a merger by two of the few that are still independent? At the least, I believe there would be severe scrutiny of such a proposal, regardless of which airlines were involved. Congress, especially, would raise the red flag, warning of even less competition and higher airfares.

But let’s turn that argument on its head and do some reverse logic. A valid case by two independent US carriers seeking to merge would be that, in the post-consolidated world with four carriers holding such dominant positions, the only way to preserve competition is to permit these independents the mechanism to grow and to gain some meaningful size so they can survive. In that scenario, a merger of two independents could be presented as the counterpoint to the “evils” of consolidation. A consolidation cure, if you like!

Following that hypothesis, which would be the better proposition for Virgin America – Alaska or JetBlue?

While much has been made of the natural synergies between Virgin and JetBlue – common Airbus fleet; a network “fit” with Virgin’s strength on the west coast and JetBlue’s on the east – that same network “fit” could work against them in the regulatory review. How so? If you drill down into the numbers and routes, there’s about a 22% market overlap of their networks. More importantly, because all airports and cities are not equal, Virgin has good presence in Los Angeles and San Francisco, while JetBlue is strong in New York; very important and hard to access cities.

Given regulatory and congressional fears about reduced competition, there could be concern that putting these two carriers together might lead to higher prices on these transcontinental routes. Even if permitted, a deal could be conditional on giving up some LAX, SFO and/or JFK slots – which would make the merger a less attractive proposition.

Virgin-Alaska, however, is less problematic in this regard. The market overlap is less than 7% and even though both carriers are based on the west coast, Alaska’s presence is heavily focused on the Northwest corner around Seattle and Portland, while Virgin’s is California-focused.

That’s a proposition which, in the current political environment, might be more palatable to regulators. And overcoming the regulatory obstacles of a potential fifth airline merger will be a whole lot harder to achieve than managing different fleet types.