America's Newest Airline Is Almost Ready for Takeoff

For the first time since 2007, a new competitor is joining the U.S. airline industry.

Jun 2, 2014 at 2:14PM

Since 2008, numerous competitors have disappeared from the U.S. airline industry either through bankruptcy and liquidation or through mergers. This has left four carriers -- American Airlines (NASDAQ:AAL), Delta Air Lines (NYSE:DAL), United Continental (NYSE:UAL), and Southwest Airlines (NYSE:LUV) -- with an 85% share of the U.S. air travel market. No new commercial airlines have formed since 2007 to restore the competitive balance -- until now.

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The United-Continental merger was one step in the recent consolidation of the airline industry. Photo: The Motley Fool

On Friday, a new low-cost carrier, PEOPLExpress, officially announced its entry to the U.S. airline landscape. Tickets have already gone on sale for its inaugural routes, and the carrier plans to offer its first flights by the end of this month. This could mark the beginning of a renaissance for competition in the airline industry.

The death of competition
The oil price spike of 2007-2008 and the Great Recession of 2008-2009 dealt a one-two punch to the U.S. airline industry. Many airlines ran into liquidity crises, and several were forced to shut down, including ATA, Aloha Airlines, Skybus, and Midwest Airlines.

Meanwhile, many of the remaining airlines sought out merger partners to cut costs and eliminate competitors. In April, 2008, Delta Air Lines and Northwest Airlines agreed to merge. In 2010, United Airlines and Continental Airlines merged and Southwest Airlines purchased its smaller discount rival, AirTran.

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Southwest's purchase of AirTran removed a top low-cost carrier from the landscape. Photo: The Motley Fool

As a result of all this upheaval, there are dramatically fewer airlines operating in the U.S. today than there were in 2007. This has led to much better profit margins for the airline industry -- but higher fares and fewer choices for passengers (not to mention less legroom).

A new carrier takes off
In this context, the launch of any new airline is a momentous occasion. Several airline start-ups have been in the works for the last few years, but it has been tough to raise enough capital and gain the necessary regulatory approvals to start service. Earlier this year, I highlighted PEOPLExpress as the airline start-up most likely to get off the ground in 2014.

Last week's announcement makes PEOPLExpress the first new U.S. commercial airline to take flight since Virgin America started service in 2007. For now, the major airlines (American, Delta, United, and Southwest) have no reason to worry. The initial schedule for PEOPLExpress covers just four daily round-trips from its base at Newport News/Williamsburg International Airport.

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PEOPLExpress will start with four daily round trips. Photo: People Express

Those initial four flights will include twice-daily service to New York (via Newark Airport), along with daily service to Boston and Pittsburgh. Later this summer, PEOPLExpress will add daily flights to West Palm Beach and Atlanta, as well as three times weekly service to New Orleans and St. Petersburg, Fla.

Turning the tide?
While the launch of PEOPLExpress will not have an immediate impact on the competitive environment, the growth of smaller carriers more broadly will gradually improve competition in the airline industry over the next five to 10 years.

Today, American, Delta, United Continental, and Southwest all profit from the dearth of serious competitors. These four mega-carriers have tacitly coordinated to grow very slowly, if at all, even though U.S. air travel demand is quite strong today. This has caused U.S. airline industry profit margins to soar toward record highs.

But smaller carriers have been growing much more rapidly. For example, Virgin America built up a fleet of more than 50 Airbus planes in just over five years. The expansion of smaller carriers and the founding of new airlines may start to fill in some of the gaps left by cutbacks from the majors.

Indeed, there are plenty of enticing expansion opportunities for new carriers due to the focus on capacity discipline at American, Delta, United, and Southwest. If the majors continue to hold capacity roughly flat but smaller airlines grow rapidly, the airline industry will start to lose its current "oligopoly" character. That will mean more choices and better fare options for travelers.

Foolish bottom line
PEOPLExpress is the first new U.S. commercial airline to take flight since the Great Recession. Its launch shows that entrepreneurs are starting to see opportunities in the airline industry once again, after a period of many years when red ink was the norm.

It may also be the first sign of relief from high fares for U.S. air travelers. As smaller carriers enter the market and grow, the airline industry will gradually become more fragmented. This additional competition will limit airlines' ability to push through additional price and fee increases.

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Adam Levine-Weinberg is short shares of United Continental Holdings. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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