Special Air Service Horizontal Merger - Case Study Example

SAS Horizontal Merger Introduction As a result of the major structural changes that the airline industry is undergoing, major carriers such as SAS, USAir, and Lufthansa have been forced to establish global networks so as to serve more passengers and stay relevant in the highly competitive airline business. This paradigm shift has been fuelled by the evolution of passengers’ taste and preference over time as they tend to prefer airlines that serve a large number of destinations. Foreign restrictions and the existing current bilateral air service agreements has rendered establishment of a global network by a single carrier difficult, thus the need for mergers (Park & Zhang, 1999). Previous study in the area of airline alliances was carried out in 1944 by Gellman Research Associate. This study was conducted under the request of the United States Department of Transport to measure the impact of code sharing agreements on the market share in the first quarter of 1994, between British Airways/USAir and KLM/North West. SAS Company is one of the leaders in the aviation industry, thanks to the restricting efforts that were brought by Jan Carlzon. Having been in the market for quite some time now, SAS is in the maturity level of the PLC curve and now focuses on provision of high quality services to the passengers. SAS also takes pride in having the largest market share of full-fare paying passengers in the airline industry. Company Operating Profits (US $million) 1. American 392 2. Federal Express 365 3. SAS 260 4. Delta 225 5. Cathy Pacific 206 6. Swiss air 200 7. Northwest 167 8. USAir 164 9. continental 143 10. KLM 131 Comparison of Major World Airlines, Statistics 1986: (Air Transport World, 1987). Currently, the firm has established itself as the third most profitable airline firm in terms of operating profits. By 1986, SAS made a total of Skr 1.5 billion in operating profits. To achieve efficiency, SAS has applied various efforts both internally and externally. Some of the internal methods have involved major restructuring of the company, while external methods have involved activities such refurbishment of airline and airports and introduction of new services. Introduction of differentiated services for example, SAS international hotel that provides full-paying passengers with facilities such as tickets, transport, and hotel packages has strategically positioned the company in the market. Other milestones have involved the introduction of the “euro class”. The external and internal and internal capabilities of the firm are the two factors that determine the strategies, which a firm takes to compete effectively in the external business environment. Despite operating in the same environment, different firms bear different internal and external capabilities that often determine the profits or losses that they make. It is for this reason that the profitability of a firm is determined by the industrial structure within which the firm competes, and how best it establishes it’s self in it (Porter 1980, p. 65). On the flip side, the proponents of the resource based school offer that the profitability of the firm is determined by the unique variety of resources and capabilities of the firm (Collis & Montgomery, 1995, p. 118). Kay (1993, p. 103) offers that to have a competitive advantage, a firm must differentiate its product and services from those of the competitors, through the introduction of distinctive features. This was the case of SAS in the replacement of the small 40-passenger airlines with the 110-passenger DC-9S aircrafts which had double capacity. To attract more passengers, SAS maintained the low costs and frequency which were synonymous with the 40-passenger airlines. Differentiation of the business travelers through the introduction of the “Scanoroma” lounges in SAS affiliated airports was also one of the ways of establishing distinctive resource capabilities. Organization architecture is also the other factor that determines the profits and losses that a firm may incur. This architecture is divided into internal and external. Internal architecture is concerned with the relationship of the organization with its employees, and between the employees themselves. Companies that have established good relationships with the employees are often more successful than. Some of the failures in SAS were attributed to internal conflicts within the organization. At one point, middle managers resisted the move by the top management to train junior staff on some of the responsibilities that belonged to them. External architecture deals with the relationship between the company and its customers. In 1984, the workers disaccorded with the managements’ decisions to withhold salary increments, despite the huge profits that were being experienced at that time. In a bid to achieve a sustaining relationship with the customers, SAS undertook a major restructuring campaign that saw 13 of the 14 executives being either replaced or relocated to other branches. This was in a bid to have fresh minds that would have helped the company in development of customer-centered services. On the same spirit, front-line employees were also vested with powers to determine any decisions they deemed suitable to the customers. Despite having a financial muscle, resource that a company has may not necessarily give it a strategic advantage over the competitors. This is because the resources may actually prevent the company from further developing and implementing new ideas (Barney 1991, p. 53). Contempt among the employees at SAS due to the growing profits and publicity in 1984 cost the company a fortune as the employees regressed to the old trends which viewed the customers as a disturbance to them. Consequently, passengers’ service dropped leading to a decrease in customer numbers. In an environment where customers are keen to notice imperfections, horizontal integration is a vital approach to maintain the reputation of the company. A company’s level of integration is influenced by the goals and objectives that the company intends to achieve from the integration. A company stands a greater prospect of increasing its market share. Through integration, a firm may stands a chance to improve its reputation. In the past, mergers were often confused to be synonymous with fusion. However, evolution in the field of business has labeled mergers as approaches through which firms bring their resource together, so as to increase their financial muscle and offer complex services. According to Prechel, Boies and Wood (1999, p. 115), after a merger, each of the firms maintain their functional entities in place, only to introduce the concept of “multi-subsidiary” from the previous multi-divisional organization form. Through horizontal mergers, the companies are brought together as affiliates, with each affiliate company reserving the discretion to make their own decisions regarding the running of their firms (Prechel, Boies & Wood 1999, p. 116). The theory of Salant Switzer and Reynolds observes that horizontal mergers in the market are neither profitable, nor welfare-increasing. According to them, horizontal mergers are only efficient if they lead to a reduction of costs. Such mergers often result to additional tasks and responsibilities to the staff. On the positive side, Healy et al. (1992, p. 135) argue that mergers have the ability to incline discipline into mangers through increasing their performance. However, at times these mergers may turnout disastrous (Andrade et al. 2001, p. 104). A good example is the merger between SAS and the Saberia Airline, which failed to take-off as a result of the disagreement between the two companies on the level of integration. While SAS wanted the airline to include its hotel and restaurant, Saberia wanted to bring on board only its airline company. Horizontal integration increases market coverage, leading to the increase in stock prices. Jensen and Ruback (1983, p. 50) elucidate that through mergers companies are able to increase their share of the market. The merger between SAS and the three other leading airline companies, Air France, Iberia, and Lufthansa strengthened the company as it increased its coverage in European market. Through this approach, SAS became more competitive through reduction of expense as compared to the other major airlines such European, American, and Asian carriers. These major airlines had an advantage of low operation expense. Reasons for Horizontal Merging The principal rationality behind merging can be categorized into two primary groups; increasing economic surplus and reducing operational costs. Hammock (1998, p. 83) points out that some of the benefits of horizontal merging include speedy access to technology and services, increase in customer base, improved market position, and a sound financial position of the company’s accounts. This argument may be demonstrated using the case of SAS. The company through a merger with Air France, Lufthansa, and Iberia, formed the AMEDEUS in 1989, a system which allowed travel agencies to access information to do with product and services that the airlines offered. The product and services include reservation facilities, car rental services, hotels, trains, ferries, quoting services, and ticketing. In the case of market and customer base expansion, SAS went into a merger with Sweden, Denmark, and Norway in the summer of 1946, which saw the launch of the DC-4 air plane. This plane commuted from Stockholm to Oslo and New York. In this merger, ownership was divided in the ratio of 50:50 among the three countries. The merger led to an increased worldwide coverage route network, therefore serving more customers. The KSSU agreement that was signed in 1969 between SAS, Swiss Air, and KLM was formed with the aim of strengthening technical co-operation and accessing any new aircrafts that entered the market. The merger with the Danish Civil Aviation to refurbish the once shunned down Kastrup Airport was aimed at increasing the customer base as most of the business passengers had started streaming to other modernized airports such as Amsterdam and John F Kennedy. The renovation process restored Kastrup’s image in the international world as a modern airport that met the international competitive standards, which resulted to an influx of business passengers. The aviation industry in which the company operates is highly competitive, with some companies cutting down the prices for scheduled flights by between 10-20% while still offering the same services. The merger of other major airlines such as the British Airways and America Airlines, which was a result of the biting globalization were some of the factors that led to a decrease in the company’s profits. Recommendations Because of the changing levels of integration in the market, the structure of the aviation industry has undergone a tremendous evolution. From the case of SAS, it is evident that for horizontal integration to be profitable, the anticipated growth must me achievable, and the two firms also have to be in the same industry, offering the same services or product. Before a firm goes into a horizontal merger, management has to ensure that the ‘imagined’ benefits are within the reach of the partner companies (Clementine & Greenspan 2010, p. 261). Such was a case with the merger between SAS and Belgian Saberia, an airline which had sale of US$ 3.3 billion sales. SAS had predicted that its sales will increase tremendously from the merger but as a result of conflicts of interest. The merger failed to take-off. The Belgian air was only interested in merging its airline subsidiary, while SAS wanted a complete merger were the Belgian air was expected to bring on board its hotel and restaurant facilities. To remain relevant in the competitive aviation industry, SAS should focus on penetrating the market through advertisement of the services the company offers. This may take the form of print and media advertisement. SAS should put in place measures that will ensure a regular audit of it services so that the standards may be upheld. To achieve efficiency, an alliance has to coordinate its operations and either increase or maintain flight frequency depending on the goals and objectives of the merger. Through mergers, the parties are likely to increase air traffic within the alliances routes. A good example is the merger between British Airways/USAir, KLM/North West, and Lufthansa/ United Airline. Through the alliance, the merging airlines benefitted in two major ways; first, they were able to satisfy the demand of the customers in terms of frequency and comfort. This was as a result of the substantial increase in traffic within the destinations routes that the airlines operated. Secondly, the merging airlines were provided with an avenue through which they could provide re-routing services to the passengers and as such, passengers were provide with more frequent travelling services to within the alliance routes. A good example of this can be seen in the merger between Air France/Northwest and KLM in 1989. Previously, the merger between Air France and North West only provided passengers with direct flights from Denver to Lyon. However, with the introduction of KLM, passengers en route to Lyon could fly from Denver to Detroit, to Amsterdam, and then finally arrive in Lyon. Through the SAS case study, it is evident that mergers have a positive effect on managerial performance. This is because, the merger brings together varied ideas and theories in the field on management, which if well implemented will give the merger a competitive advantage over the other rival alliances. Through the mergers, global coverage is achieved. However, caution should be observed by both parties, as a negative attitude towards the alliance by either of the parties may have adverse effects on the resources of the other participating parties. List of References Andrade, G Mitchell, M & Stafford, E 2001, New evidence and perspectives on mergers, Journal of Economic Perspectives, vol.15, no.3, pp. 103-120. Barney, J 1991, Firm resources and sustained competitive advantage, Journal of Management, vol. 17, pp. 99-120. Clemente, M & Greenspan, S 2010, Winning at mergers and acquisitions: Guide to market focused planning and integration, Wiley, New York. Hammock, J 1988, Mergers: the risks and the benefits, Computer Design, vol. 27, no. 22, pp. 83. Healy, P, Palepu, K & Ruback. S 1992, Does corporate performance improve after mergers, Journal of Financial Economics, vol. 31, pp. 1-35. Jensen, M & Ruback, R 1983, The market for corporate control: the scientific evidence, Journal of Financial Economics, vol. 11, pp. 5-50. Kay, J 1993, Foundations of corporate success, Oxford University Press, London. Park, J & Zhang, A 1998, airline alliance and partner firms’ output, Permon, vol. 34, no.4, pp.245-255. Porter, M 1980, Competitive strategy, Free Press, New York. Prechel, H, Boies, J & Woods, T 1999, Debt, mergers and acquisitions, institutional arrangements and change to the multilayered subsidiary form, Social Sciences Quarterly, vol. 80, pp. 1-116. . Read More