East by Northwest: How Chinese Airline Consolidation Could Play Out in the U.S.

The change at Delta would be negative.
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We fell victim this week to what's known as the holiday involuntary diversion exercise. You know the drill: It starts when things are really slow during a holiday week. Then, when you try to get something done, nobody is in to answer your calls.

After you hear for the 16th time the voice mail message noting that Mr. Smith is out of the office this week, your blood pressure begins to rise to unacceptable levels as you ponder which beach everyone is enjoying while you stew.

Of course, on top of everything else, it's just hot and miserable outside.

These are the unmistakable signs of an impending bout with HIDE.

After this, one has no alternative but to give in to the inevitable. Before you know it, all you want is to find a cool place, a cold drink and a good trashy novel. The mere thought of working on anything constructive becomes about as desirable as flying coach on a 727 transcontinentally.

OK, so you can relate.

All of this, of course, serves a preface to the fact that it is Friday and we really should have done three columns (well, at least two) this week, not one. So now the question is, what gets talked about and what gets pushed off until next week?

Twirling the little umbrella in our drink, seeking guidance, we note a little tag on the underside that says "made in China." OK, sounds good to us. (Another side effect of HIDE: You forgo most normal decision-making processes and become much more ... creative.)

We've

discussed the recent stratospheric rise in

China Southern Airlines

(ZNH) - Get Report

and

China Eastern Airlines

(CEA) - Get Report

over the last couple of weeks. In case you haven't noticed, trading in shares of China Southern was halted today at the company's request.

How come?

The trading halt comes after industry publication

Flight International

reported Wednesday that the Chinese government was considering "forcing" the equivalent of a shotgun marriage between flag carrier

Air China

and China Southern.

This would be akin to the U.S. government forcing

UAL

(UAL) - Get Report

to merge with

Southwest Airlines

(LUV) - Get Report

, and just about as problematic.

The first big advantage to such a merger is obvious: It is no secret that Air China has faced hurdles in getting publicly listed, and a deal would allow it to come in the back door, without having to go through the usual regulatory process.

But, aside from that, the two airlines are very different entities, with China Southern the much more regional and much more commercially managed of the two. Air China, on the other hand, is primarily international and is much more your classic government-controlled entity.

Three U.S. airlines currently have code-share arrangements with the main Chinese carriers. The

American Airlines

unit of

AMR

(AMR)

has a code-share agreement with China Eastern,

Delta Air Lines

(DAL) - Get Report

has a code-share agreement with China Southern and

Northwest Airlines

(NWAC)

has a code-share agreement with Air China.

Were the Chinese government were to pursue this merger, the resulting change would clearly affect the U.S. carriers that have agreements with the Chinese carriers.

First off, Northwest would be the winner. Hands down. An already lucrative agreement with Air China would become even more so.

We spoke this morning with officials in Washington who have been involved with the open-skies agreements involving China and the U.S., and they say Northwest is doing

very

well with its code-share deal with Air China. Very well. I repeat,

very

well. (Northwest does not publicly break out this information, but it has indicated it's happy with the agreement.)

Were this match-up to go through, Air China would be the lead dog, and Northwest would clearly be the U.S. code-sharing winner.

Delta, which currently has a code-share deal with China Southern, would lose. I don't think there is any doubt on this one.

But American, with a code-share arrangement with China Eastern, would be in a rather uncertain situation.

In terms of the American code-share, a merger of China Southern and Air China would put tremendous pressure on China Eastern. The combination of China's largest international carrier and China Southern would make a formidable foe for China Eastern's more regional route structure. Pressure would then be on China Eastern to find a larger partner -- and there are none in China the size of Air China.

Alternatively, however, if China Eastern could successfully carve itself into strictly a regional player and work around the Air China/China Southern merger, then American might have a good combination -- as it would then be the main international feed to a regional system within China.

With more than 30 airlines (and none making money), the Chinese government originally hoped to get public listings for the top three airlines and to spur further consolidation among the smaller entities. But if it goes forward with this Air China-China Southern deal, then all bets are off. I would expect that we're seeing an effort on the part of the government to create one large international/regional combination airline, leaving the rest to carve out smaller niches.

And if that happens, like we said, Northwest looks like the big winner.

OK, that's all for today. We feel another bout of HIDE beginning to take hold. Time to return to the trashy novel and the mindless escapism of summer. We promise we'll try to recover by next week.

Holly Hegeman, based in Dallas, pilots the Wing Tips column for TheStreet.com. At time of publication, Hegeman held no positions in any securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. You can usually find Hegeman, publisher of PlaneBusiness Banter, buzzing around her airline industry Web site at

www.planebusiness.com. While she cannot provide investment advice or recommendations, she welcomes your feedback at

hhegeman@planebusiness.com.