JetBlue-Spirit merger trial tests US airline deal crackdown

The US crackdown on airline consolidation faces a new test this week with the trial of a government lawsuit claiming the $3.8 billion takeover of Spirit Airlines Inc. by JetBlue Airways Corp. would reduce competition and boost fares for passengers.

While investors consider approval of the deal to be a long shot, the trial set to start Tuesday before a federal judge in Boston comes at a critical time for the industry. Domestic low-cost carriers have cut service as fares slide and travel slows, while antitrust regulators crack down on airline consolidation after decades of lax enforcement.

JetBlue reported a third-quarter loss Tuesday that was worse than Wall Street had expected, and said it would lose money for the full year. Spirit’s fourth-quarter revenue forecast missed estimates last week and the stock is down more than 30% this year.

The US Justice Department, along with six states and Washington DC, claims JetBlue’s bid for the largest deep-discount carrier would limit flight options, increase ticket prices and hurt cost-conscious travelers. JetBlue contends the combination is needed to better compete with the “Big Four” domestic airlines, American Airlines Group Inc., Delta Air Lines Inc., United Airlines Holdings Inc. and Southwest Airlines Co.

If the deal is blocked for violating antitrust laws, JetBlue would have to pay Spirit and its shareholders a $470 million breakup fee, according to their merger agreement.

Here’s what you need to know as the trial gets underway:

Government’s Case

• The government claims a JetBlue acquisition of Spirit means low-fare seats on the discount carrier would disappear as pricing moved to JetBlue’s model, potentially forcing travelers to pay more.
• The DOJ says the deal could kill off the so-called “Spirit Effect” on the market — when the carrier lowers fares on a specific route and forces an industrywide price drop of 17% on average. When Spirit abandons a route, fares go up as much as 30%, the government claims.
• JetBlue and Spirit currently compete in 183 markets – including 51 nonstop flights that overlap, the DOJ said. That would give them too much market share in those areas, according to the government.

JetBlue Argument

• JetBlue and Spirit — the sixth- and seventh-largest US carriers — say combining will allow them to offer lower fares in more communities. They’ll also be better able to compete with American, Delta, United and Southwest, which control about 80% of the market.
• DOJ’s opposition is failing to account for the commercial realities of an industry where carriers change routes often, the companies said. Of the 51 nonstop flights at issue in the case, JetBlue says it now overlaps with Spirit on 45, so extrapolating future harm “based on these static market shares is unreliable,” according to a court filing.

Divesting Routes

• To resolve antitrust concerns, JetBlue pledged to sell flight slots and gates at certain airports to ultra-low-cost carriers including Frontier Group Holdings Inc. and Allegiant Travel Co. That should help enhance competition in New York, Boston and Fort Lauderdale, Florida, cities where JetBlue and Spirit have a large presence, the companies said. It also would “result in systemwide benefits, which in a fluid industry will redound the benefits of all consumers,” according to a company filing.
• The government claims the divestitures don’t go far enough to fully restore competition lost in the deal, because there is no guarantee that the buyer of the divested slots or gates would fly the same route that was being offered by JetBlue and Spirit.

Investor Expectations

• The likelihood of a government win in court is high, investors believe, based on the wide gap between Spirit’s share price and JetBlue’s offer more than a year ago.
• Merger arbitrage traders have been emboldened to bet on deals facing regulatory opposition since the Federal Trade Commission suffered several setbacks in cases like Microsoft Corp.’s purchase of Activision Blizzard Inc. But they are less certain JetBlue-Spirit will prevail in court.
• Spirit sank 11% Monday to close at $13.06, 58% below the $31 payout investors would get if the deal closes. Traders say that means there is less than a coin-flip chance the deal will go through.
• What’s more, some arbs aren’t confident about Spirit’s value if the deal fails, especially with other discount carriers slumping. Frontier is down 64% this year.
• Compounding the outlook for Spirit, the company plans to ground about 26 planes a month next year to deal with inspections and repairs because of a manufacturing flaw in some jet engines. The carrier has 202 planes in its fleet, so taking aircraft out of service will slow its growth.

Antitrust Crackdown

• This isn’t JetBlue’s first run-in with antitrust regulators. In May, a federal judge in Boston ordered JetBlue and American to dissolve their Northeast Alliance, a partnership mainly covering flights in the New York City and Boston areas. The DOJ challenged what it dubbed a “de facto merger” that would reduce competition and boost fares.
• The government suit to block JetBlue-Spirit is a shift away from a hands-off regulatory policy that saw a wave of industry consolidation. Five of the 10 biggest US airlines were eliminated between 2005 and 2013 — following a string of bankruptcies — and left the “Big Four” with 80% of the market.
• Over the past two decades, several combinations were green-lit during the George W. Bush and Barack Obama administrations after relatively minor concessions such as giving up gates or flight slots at congested airports or in cities where the merged airline would dominate service.

No Jury

• The trial is scheduled for 20 days in federal court in Boston before US District Judge William G. Young, who was nominated by former President Ronald Reagan in 1985. There won’t be a jury. The proceedings will be heard as a bench trial, meaning Young will rule on whether the sale should be permitted to proceed.

The case is US v. JetBlue, 23-cv-10511, US District Court, District of Massachusetts (Boston).