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Delta, Northwest deal fails to thrill investors, some unions

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JOSHUA FREED and HARRY R. WEBER
April 15, 2008

Investors panned Delta’s long-in-the-works deal with Northwest, sending shares of both companies down sharply on Tuesday on disappointment that the deal may not yield as much in cost savings or higher revenue as Wall Street expected.


If Delta and Northwest are going to complete their combination to create the world’s largest airline, they’ll also have politicians to placate, antitrust regulators to convince and unions to cajole.


Two of Northwest’s largest unions immediately declared their opposition to the deal, announced late Monday after several months of talks.


And investors showed their disapproval after the carriers said they have no current plans to cut more U.S. flights beyond what they have disclosed separately – something analysts see as limiting the cost savings or higher fares the airlines could reap from the deal.


Executives brushed off the issues, saying they are highly confident they will be able to consummate the deal and integrate the two carriers.


“Bottom line is, we think it’s a really good fit,” Delta Chief Executive Richard Anderson, who will head the combined airline, said Tuesday during a conference call with analysts.


Delta and Northwest executives said they are aiming to close their deal by the end of this year, which would be before the end of the merger-friendly Bush administration. They are trying to avoid repeating what happened in 2001, when an attempted merger of United Airlines and US Airways fell apart amid antitrust concerns.


The share-swap agreement announced Monday calls for the combined airline to be named Delta, remain based in Atlanta, and be run by Anderson. If the deal becomes final, Delta shareholders will get a bigger company, while Northwest shareholders would get a 16.8 percent premium over Monday’s closing stock prices.


Based on those prices, the agreement valued Northwest at more than $3.6 billion. However, shares of both companies fell Tuesday, reducing the deal’s value of Northwest to $3.3 billion. Northwest fell 48 cents, or 4.3 percent, to $10.74 while Delta lost $1, or 9.5 percent, to $9.48.


Investors had urged a combination of the carriers on the premise of further domestic capacity cuts, which could lead to higher ticket fares and more revenue for the airlines.


Both airlines previously announced domestic capacity cuts for this year, and Delta suggested no more are in the works – though it didn’t rule out more in the future if fuel prices continue to rise.


“We feel like we have pruned the domestic system for each respective system,” Ed Bastian, Delta’s president and chief financial officer, said on the conference call.


As for union support, the airlines tried something novel: They attempted to get their pilots to agree on a joint contract and seniority beforehand. That failed over seniority disputes.


Delta made a deal with its pilots over the weekend, leaving the Northwest pilots to work something out later. On Monday, Northwest pilots declared their opposition to the combination “as it stands,” perhaps leaving room for a deal later.


The Delta pilot agreement, which still needs rank-and-file ratification, extends the current contract through 2012 and gives Delta pilots 3.5 percent of the new company.


Northwest pilots concluded that was an attempt “to disadvantage the Northwest pilots economically and with respect to our seniority,” Northwest pilot chairman Dave Stevens wrote in a memo late Monday.


“No pilot group is going to put up with this. No amount of money can sustain a carrier which creates this level of discord,” he wrote.


Delta said it will try to reach a combined pilot agreement, including resolving the seniority question, before the merger closes.


“It takes two to fight,” said Lee Moak, head of Delta’s pilots union. “We don’t see a fight here. We see a cooperative relationship with the Northwest pilots to bring everybody to parity as soon as possible.”


Northwest didn’t even consult with the union that represents its baggage handlers, ramp workers and ticket agents, said Joseph Tiberi, a spokesman for the International Association of Machinists and Aerospace Workers.


“If the airline wanted the support of their employees they should have brought us in and discussed it with us earlier,” he said.


The deal includes some details that should help build political support. The airlines said they would close none of their hubs, though Northwest’s Memphis, Tenn., operation and Delta’s Cincinnati hub were thought to be vulnerable. And they said they would try to limit job cuts. The two airlines employ more than 80,000 people.


“They’re facing a bit of a delicate balancing act there, because in order to build labor and political support for the deal they would not want to have any layoffs or close or shrink hubs,” said Standard & Poor’s analyst Philip Baggaley. “On the other hand almost everyone agrees that one of the few ways that U.S. airlines can return to profitability would be to reduce the amount of capacity” in the U.S. market.


The transaction calls for Northwest shareholders to get 1.25 Delta shares for each Northwest share. U.S.-based non-pilot employees of both companies are in line for a 4 percent equity stake.


Shareholders at both carriers must approve the deal.


The agreement comes after several months of discussions between Delta and Northwest and at one time between Delta and Chicago-based UAL Corp.’s United Airlines. Analysts believe a Delta-Northwest combination will stand up better to regulatory scrutiny because the two carriers have less overlap.


A combined Delta-Northwest would have combined annual revenue of $31.7 billion, vaulting it ahead of Fort Worth, Texas-based AMR Corp.’s American Airlines for the top spot in the U.S. It would be the biggest carrier the world in terms of traffic, before any capacity cuts and divestitures that might be required by antitrust regulators.


Both Delta and Northwest emerged from bankruptcy last spring as leaner carriers, after shedding billions in costs. Years of mounting losses had forced them to file for bankruptcy protection in 2005. While both are losing money again, they are in better shape than the four much-smaller airlines that have filed for bankruptcy or gone out of business in recent weeks.


Many analysts predicted an eventual Delta-Northwest tie-up after Anderson, a former Northwest CEO, was named last August to the same post at Delta.


Anderson immediately sought to quiet those suggestions, saying the day his appointment was announced that “he was not coming in as CEO to facilitate a merger with Northwest.”


Eight months later, that’s what Anderson is doing, and many analysts believe he didn’t have a choice amid plummeting airline market values and soaring fuel prices.



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