Hearing of the Subcommittee on Antitrust, Competition Policy and Consumer Rights of the Senate Judiciary Committee - An Examination of the Delta-Northwest Merger

Statement

Hearing of the Subcommittee on Antitrust, Competition Policy and Consumer Rights of the Senate Judiciary Committee - An Examination of the Delta-Northwest Merger

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SEN. AMY KLOBUCHAR (D-MN): Thank you very much, Mr. Chairman and Senator Hatch. Thank you for the opportunity to testify today on a matter of great concern to my home state of Minnesota as well as the people we represent and the future of the airline industry.

The proposed merger of Northwest Airlines and Delta Air Lines, which has been called the megamerger -- it would in fact produce the largest airline in the world -- represents a turning point in the history of our country's airline industry. So I'll start with a few words of history.

Northwest Airlines was founded in Minnesota in 1926 to carry mail for the U.S. Post Office, and it established the first air mail service, from Minneapolis to Chicago. During World War II it joined the war effort by flying military equipment and personnel to Alaska and after the war was designated by the federal government as the United States' main carrier in the Pacific. In 1947 Northwest became the first American airline to fly commercial passengers from the United States to Japan, and by the 1960s it was one of the premier U.S. carriers between the United States and the booming economies of Asia.

I recite this history not out of nostalgia, but to describe the importance that Northwest Airlines has always played and plays today in the economy of Minnesota and the Midwest. Northwest -- represented today here by many employees as well as CEO Doug Steenland -- provides nearly 12,000 high-skill jobs in my home state, including trained mechanics, pilots, flight attendants and the many workers who support its airport and headquarters operations.

In addition, it operates major reservation facilities in Egan, Minnesota and in Chisholm, Minnesota, on our state's iron range. Moreover, Northwest is a vital link connecting the communities of Minnesota to one another and Minnesota to the world. Minnesota ranks number nine in Fortune 500 companies, and in addition to being to a major research university as well as major medical facilities like the Mayo Clinic, we are home to many people that need this competitive air service.

If Northwest has been good to Minnesota, our state has been good in return.

In 1991, when Northwest was threatened with bankruptcy as a result of rising fuel costs and an economic recession, the legislature passed a loan package worth nearly $300 million in exchange for Northwest's promise to stay in Minnesota and build new facilities in Minnesota. More recently, when Northwest faced financial difficulties again, our Metropolitan Airports Commission granted it millions of dollars in rent reduction and agreed to share airport concessions. And these efforts came on top of a $15 billion financial rescue package that Congress created in 2001 to help the airline industry after 9/11.

So I think it's fair to say that the people of Minnesota have had a partnership with Northwest and other major carriers over the last many years. And I think that Northwest has an obligation to uphold their end of the deal.

The proposed merger has ramifications not only in Minnesota, but beyond our borders. Already passengers are concerned about adequate choice and competitive fares. As the industry stands today, the top four carriers -- American, United, Delta and Southwest -- control nearly 50 percent of the market. Many airline analysts predict that a Delta-Northwest merger would trigger a new wave of consolidation in the airline industry that would further increase market concentration. Already there is speculation about a merger between United and Continental, and some analysts foresee a consolidation of our country's airline industry from seven major carriers to just three.

I am concerned that the agencies with jurisdiction -- the U.S. Department of Transportation and the U.S. Department of Justice -- will evaluate this merger in isolation and not consider its effect on the airline industry as a whole, something that Senator Hatch was just speaking to. I would urge that the departments, as part of their competition review, ask for specific assurances from the executives of these carriers. If the merger triggers further concentration in the industry, what evidence do they have that fares will not go up? What assurances can they give that consumers will still have meaningful choice?

And one of the major reasons given for this merger -- the increasing oil prices -- how can they show that those oil prices would somehow change as a result of this merger or that Delta, which is already the third largest carrier, would somehow be able to negotiate better oil prices -- much better oil prices than they do now? How can they guarantee that affected communities will still have frequent, high-quality service?

These are the questions I hope this committee asks, as our Commerce Committee will do at a later hearing.

In short, it is essential that the Departments of Justice and Transportation not review this merger in a vacuum but consider the likely broader implications for the aviation industry and society as a whole. This merger must be considered and looked at as to whether increased concentration would lead to an oligopoly -- that is, a market controlled by a few, increased barriers to entry and diminished competition. They must also consider establishing formal conditions for approval of this merger that would assure the government and the public that the industry will have the robust competition necessary to move forward. Concentration, as we often know, often leads to higher prices, and that is the core -- the central concern -- of our country's antitrust law.

I would also add that for those of us that represent states that include rural areas, we're not only concerned about the hub, but the spokes. And one of the things that I think we must explore is former Delta CEO Gerald Grinstein, which Senator Chambliss mentioned, when he spoke about his opposition to the merger between Delta and US Air before the Commerce Committee, on which I serve, he asked, quote, "In terms of service to small communities, are you better off with six network carriers or are you better off with three? Are you better off having these network carriers fiercely competing with each other trying to get into those markets? If you approve one merger, how are you going to say no to other carriers. You will devolve into three network carriers, and once that happens you won't get the same level of service."

I think it is important that the members of this committee use this hearing, and as we will do on our Commerce hearing, to hold the airlines accountable for the commitments they have made about this merger and to create a record for the Department of Justice so that the DOJ understands the impact this merger may have on jobs, on communities and on the American flying public.

In short, what we learn here today and what we will learn at the upcoming Commerce Committee hearing should help guide the Department of Justice as it considers the impact of this merger on our competition laws.

In conclusion, I urge this committee to look at this from a global standpoint, not just in isolation, for the impact it will have on the airline industry, and I urge this committee to ask the federal regulators to undertake a full and comprehensive review of the consequences of this proposed merger. We must proceed with care and caution, with an eye not only to the bottom line for Wall Street but the bottom line for Main Street.

Thank you very much for this opportunity.

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SEN. KLOBUCHAR: Thank you very much, Chairman Kohl, and thank you for allowing me to join this committee today.

I know that you testified, both of you -- and, again, welcome to both of you, and also welcome to all the employees from Northwest and Delta that are here. I know that both of these employee groups stood by their airlines when you went through some very difficult financial times, and I have their interests in mind as well as the interests of the people of this country as we go forward. And I know this morning when you testified in front of the House the question was asked about the number of jobs that would be lost as a result of the merger, and I think one of you -- maybe it was you, Mr. Anderson -- said something about that it would be less than 1,000 jobs. Could you elaborate on that?

MR. ANDERSON: That was a very general number. We have not done the bottoms up diligence to determine how the merged airline will look. It was really a guesstimate -- an estimate of where we think it might end up. But we haven't yet put together the transition planning teams to really go department by department and figure it out.

SEN. KLOBUCHAR: You know, there are about -- there are nearly 12,000 employees in Minnesota, but there are about 1,300 employees in the Egan headquarters. And how do you think these employees' jobs will fare?

MR. ANDERSON: The efficiency savings comes from both headquarters. So when you look at putting two companies together, the efficiencies -- those efficiencies will come from both headquarters.

SEN. KLOBUCHAR: And so do you still stand by your words that I think within the merger announcement where you said that Delta and Northwest were committed to retaining significant jobs, operations and facilities in the state of Minnesota?

MR. ANDERSON: Absolutely.

SEN. KLOBUCHAR: All right.

Mr. Steenland, do you want to comment on that?

MR. STEENLAND: I would concur. That was a joint press release, and we fashioned those words together. And when you look at the -- clearly, if you start with preservation of the hub, which we have signed onto, obviously all of the front line employees at the airports, the pilot base, the flight attendant base, the ancillary services necessary to operate a hub, our res offices in Chisholm and in Minneapolis, our information technology center, our pilot training center are all activities that will need to be part of the combined entity going forward.

And just the fact that one particular activity or a particular service was not named on that list does not mean that there will not be included. It just means that's about as far as the process has gone so far, and that there will be a joint transition planning effort underway where we will then start getting into some more detail, into some more granular efforts, where we'll identify some of the additional services as to --

SEN. KLOBUCHAR: Mr. Anderson?

MR. ANDERSON: Well, so for just a little bit of history, I was actually involved at Northwest with Mr. Steenland 16 years ago when we negotiated that covenant with the state of Minnesota. So I have a particular closeness to that commitment, number one. Number two, Minneapolis is a very important part of this combined network. It has a significant number of Fortune 200 companies. I'm on the board of two of them -- Cargill and Medtronic -- in Minneapolis. And it's very important to the vibrancy of that hub and to our commitment to Minnesota that you make that same corporate commitment to the community. As you know how that community works, that's a very important part of the Minneapolis fabric. I understand that fabric, and we're going to do our very best to live up to that statement in our press release.

SEN. KLOBUCHAR: Thank you. And you understand with what's happened, some of these other airline mergers have been referenced and some promises made with TWA and others, and I'm just concerned about the staying power of these commitments. In other words, what will prevent the combined airline from laying off workers a year or two from now claiming market forces drove them there?

MR. ANDERSON: Actually, I would answer that by sort of flipping it a little bit. You know, the reason why Northwest is where it is today is the Republic-Northwest merger. There were three international carriers at deregulation -- Pan Am, TWA and Northwest Orient -- a set of three to which you do not want to be a member, because you'll recall that both Pan Am and TWA liquidated because they had no domestic route system. And it was a result of the Republic- Northwest merger in 1986 that Northwest got a solidified hub position in Minneapolis, Detroit and Memphis. Same thing for Delta.

So my point is, we almost have to view it in light of what our alternatives are and the idea that you can put two airlines together and make it stronger. Because the situation with TWA was the St. Louis hub was probably never a viable hub. It had been the result of a transaction between TWA and Ozark when Ozark was not in very good shape. And so by the time American had bought it, TWA had been through bankruptcy three times and was actually an asset acquisition. It wasn't a merger. So it was -- and today it doesn't have the local traffic base to really support a large hub operation.

So I would sort of really answer it by saying that this is actually the best alternative for those jobs in those communities, because in the end there's no -- the only real job security is a sound business plan, when it's all said and done. And what this combination allows us to do is be much stronger together, and that's really -- we understand our commitment to communities and our employees, and so we look at the landscape of what we can do in this fuel environment and the world economy. This is really the best and safest option.

SEN. KLOBUCHAR: You know, you mentioned the fuel environment right now, and I'm trying to understand this. Because if oil is $120 a barrel before the merger, it's a good chance it's still going to be $120 a barrel for a combined carrier. It's going to be the same price. And so could you explain why this would make it different?

MR. STEENLAND: Sure. The merger will not create an entity that will have more negotiating power and will be able to drive a lower price with respect to oil. You're exactly right. We'll spend $120 a barrel prior to the merger, $120 after the merger.

SEN. KLOBUCHAR: And the fact that, say -- because Delta is already, what, the third biggest carrier? Because I was trying to -- I thought you might make the argument that now we're even bigger so we can make a leveraged -- get more leverage to get cheaper prices.

MR. STEENLAND: No.

MR. ANDERSON: The federal government can't even do that when they fill the Strategic Petroleum Reserve.

SEN. KLOBUCHAR: Yeah, we noticed that. Okay, so --

MR. STEENLAND: But what the transaction does do is by putting the two entities together we're able to generate cost savings and revenue benefits, not in the form of increased fares, that on an annual basis, in our judgment, conservatively create $1 billion of additional value that falls to the bottom line that makes the two entities stronger as a result than they would've been if they had stayed independent. And that additional benefit helps offset. We're not here saying it completely offsets. Oil remains an independent significant challenge to the airline industry whether this merger happens or not. But if it does happen we will be in a stronger position to accept that challenge and to tackle it than we would have been if we had stayed separate.

SEN. KLOBUCHAR: And so one of my focuses here is to get information so the Justice Department can look at this as well as the information we need to enforce our agreements in Minnesota, but clearly when I talk to my colleagues about this one of the first things they say is oil prices. And so I just think it's very important people realize that that's not really going to change. It just creates a challenge.

And my last one or two questions here is about the point that Mr. Mitchell made, is that the argument is that you are going to create this synergy. But you have pledged to keep the hubs. You've promised to maintain employment, around 1,000 jobs less, or you're still looking at it, but I think -- what was the word that Chairman Kohl used? -- near certainty, I would hope, that it wouldn't cost that many employees. So could you again go through where the synergies are that is going to save these substantial costs?

MR. ANDERSON: Okay, I'll go on the cost side and Doug can take the revenue side.

First is airports. There are many airports around the country where we both have significant facilities. And the overlap -- what we call station overlap -- you go to a city like Los Angeles, where we have -- Northwest has Terminal 2 and Delta has Terminals 5 and 6. We can consolidate into Terminal 5 and 6 and basically give back one whole terminal at the airport and still be able to accommodate our schedules. So you have the station overlap.

Second thing is you migrate to one IT platform. Today we all operate a multiplicity of technology platforms. Believe it or not, airlines are massive IT consumers, with decision technology and consumer technology, and moving from one -- from two IT platforms to one IT platform has a significant amount of benefit.

Third, you move to single commission agreements for sales and distribution agreements. We get more purchasing power on a combined basis when we're buying -- we buy a lot at airlines from oligopolists, and having joint purchasing power for aircraft engine parts and other suppliers -- caterers -- is valuable in the industry.

And then there's the general and administrative overhead. And you add all that up, and the gross synergies or gross benefit is in the 600 to 800 million (dollar) range on the cost line.

Doug, you could do the --

MR. STEENLAND: On the revenue side let me just give you a very specific example. Delta has no wide-body airplanes that have more than 275 seats. Northwest has a fleet of 16 747 400s that have 400 seats. We operate some of those 400-seat airplanes on routes that would be much more profitably served if we had a 275-seat airplane. Delta operates its 275-seat airplane on some routes that would be much more profitably served if it had a 400-seat airplane. So the optimization of our combined fleets over our collective network -- Delta has no airplanes between 77 seats and 140 seats. We have approximately 130 airplanes that fit in that size.

And when you optimize the network, employing our combined fleet over all of the opportunities that the combined network will generate is literally worth hundreds of millions of dollars of just efficiency and benefit by better matching the size of airplane with the demand of route that we can't do today as single and separate entities.

SEN. KLOBUCHAR: All right. Thank you.

And I don't want to go beyond Senator Kohl's Midwestern hospitality as a visiting member here, but I will save some other questions for the Commerce Committee, and especially ones concerning how we try to enforce some of the promises that have been made here today.

Thank you very much.

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SEN. KLOBUCHAR: Thank you very much.

I just want to follow up, Mr. Anderson, on some things that your predecessor said -- I mentioned them in my opening statement -- at a 2007 Commerce Committee hearing on US Air's proposed takeover of Delta. And as you know, that proposed merger went down a few weeks later.

Former Delta CEO Gerald Grinstein touched on concerns that Chairman Kohl was just mentioning about this consolidation and what it would mean, and he said, I quote, "In terms of service to small communities, are you better off with six network carriers or are you better off with three? Are you better off having those network carriers fiercely competing with each other trying to get into those markets?" And then a few sentences later he said, "If you approve one merger, how are you going to say no to other carriers? You will devolve into three network carriers. And once that happens you won't get the same level of service."

Do you want to respond to that?

MR. ANDERSON: That was in the context of the hostile -- US Air had made a hostile takeover attempt of Delta Air Lines, and that hostile takeover attempt required the company to do everything it humanly could to try to fight off the hostile takeover attempt, and through the help of Congress and the creditors committee and the bankruptcy court they were successful in doing that.

In that same testimony Mr. Grinstein also said he's not opposed to mergers. He was just opposed to bad mergers, and the US Air transaction was a bad merger because there was a lot of overlap between the US Air network and the Delta network on the East Coast.

SEN. KLOBUCHAR: But one of the reasons given for airline deregulation was that we would have more competition and that would bring lower fares. And would you agree that if you had more competition you'd have lower fares?

MR. ANDERSON: The evidence on deregulation is compelling. Just any fare study would show that the real average air fares of the United States have gone down and the amount of service has gone up.

SEN. KLOBUCHAR: With the number of competitors.

MR. ANDERSON: Well, there's been an awful -- there's free entry -- there's free entry and unfortunately not free exit in this business. And there will always be free entry and exit. Virgin America is the most recent new entrant into the domestic market. And you don't have real constraints at any of the airports where we operate in terms of access. Airplanes are the most easily financed assets in the world, because you can always find them. You can always move them to a different market. And there's always a known value for them.

So no barriers to entry, free entry into the marketplace, and that's not going to change. I mean, Southwest still carries 30 percent of the passengers, and that's not going to change after this transaction is approved.

SEN. KLOBUCHAR: You know, speaking of Southwest, we were talking about the higher fuel prices, and you have argued -- both of you -- that this bigger megamerger would better able you to cope with these fuel prices, but it doesn't seem like all airlines agree.

The CEO of Southwest told The Wall Street Journal last week that his airline's best course of action, quote, "could very well be to sit on the sidelines and let others combine." Other airlines like JetBlue and Southwest have been subject to these same fuel increases, yet they haven't seemed to have made that decision.

MR. STEENLAND: Well, Southwest is -- Senator Klobuchar, Southwest is in the enviable position of having made an extraordinarily successful bet -- and I underline bet -- in terms of fuel hedging. So for this year -- 2008-- I believe it's 75 percent of its fuel needs are hedged at about $52 a barrel. So they have been spared the tremendous run-up. And it's part of the competitive challenge we face, because obviously, you know, they've got a benefit on that side and we don't. But that's just the way the -- it's the way the free market works and that's the way competition works.

SEN. KLOBUCHAR: Okay.

Then my last question here is another quote from your predecessor, Gerald Grinstein, at this hearing, where I still remember he was arguing vigorously not to have this merger. And he expressed a concern that during merger negotiations all airlines will promise to keep service and maintain current levels of employment, but in his words, quote, "there is no one to enforce," end quote, those promises. And he said that airlines' promises are, quote, "not a contract, is it? Believe me. Trust me," end quote.

You have made commitments today to all of these senators and under oath of keeping jobs, hubs and service. Is it possible, however, that you would come back a year or two from now and say changed circumstances have forced you to change your tune?

MR. ANDERSON: The issue is going to be fuel. Tell me where fuel will be. And this merger will not be the result of having to make dramatic change, but whether these carriers merge or not, fuel is going to be the determinant of what capacity is going to be in this country and what airplanes are going to fly where. And that's going to be the case before or after the merger.

SEN. KLOBUCHAR: So it is possible that you'd come back and say that.

MR. ANDERSON: It's going to depend upon fuel prices, but it won't be the result of this merger, because the merger is end-to-end.

SEN. KLOBUCHAR: The last thing then is I hope that you will join us as Mr. Steenland mentioned with the oil reserves, with some of the things that Senator Schumer and I have been trying to do with changing our energy policy, because we clearly can't keep going the way we're going.

MR. ANDERSON: I agree.

SEN. KLOBUCHAR: Thank you.

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