Proposed KLM-British Airways Merger Feeds European Consolidation Buzz - TheStreet

While we all wait with trembling hearts to hear the latest move on some new domestic-airline coupling in the U.S. (What? You say you aren't?), it's time to get up to speed on what is going on in Europe with the proposed deal between

KLM

(KLM)

and

British Airways

(BAB) - Get Report

.

Why should we even care about this deal? For a number of very big reasons. First of all, if you are a shareholder in a major U.S. airline, this deal is pivotal on many fronts. If KLM and British Airways are allowed to merge -- in what we think will basically be a ''virtual" merger -- this coupling will create the third-largest airline in the world. In terms of total passengers, it would be the largest airline in Europe.

And just how

United Airlines

, parent company

(UAL) - Get Report

,

American Airlines

, owned by

AMR

(AMR)

,

Delta Air Lines

(DAL) - Get Report

and

Northwest Airlines

(NWAC)

interact with this new airline will be crucial in terms of access to Continental European and British skies going forward.

The first problem astute readers will see with a British Airways-KLM deal -- at least in terms of existing alliances -- is that KLM has a comprehensive code-sharing alliance with Northwest, antitrust immunity and all. Everything that British Airways and American Airlines have been allowed only to dream about since proposing a pact in 1996, KLM and Northwest have had for years.

So, if you thought Northwest was in the catbird seat before when we discussed

potential domestic couplings, its position seems even loftier when you look at this scenario.

Speaking of American and British Airways, obviously, this is the other complicating factor. British Airways is connected to American through the

oneworld Alliance

, a code-sharing agreement that allows airlines to share marketing and the passengers to share things such as frequent flyer miles. However, I think new British Airways CEO Rod Eddington has made it very clear where his priorities are. He isn't pushing trans-Atlantic. He wants to rebuild British Airways, and he has said that means concentrating on solidifying the airline's presence in the U.K. and in Europe.

We've heard for months that the relationship between American and British Airways has been getting cooler. When you read between the lines of what Eddington has been saying of late, I'd say it is time to get out that thermometer from the deep freezer.

Let's forget the U.S. angle for a minute.

If I were a British Airways or a KLM shareholder, I would be very happy with this proposed deal. Why?

Almost every analyst's review of the proposed deal that we have seen suggests the merger of the two -- or a "virtual merger," in which a common management company would take responsibility for both separate companies -- would produce substantial cost savings.

Andrew Lobbenberg, airline analyst at

Robert Fleming Securities

in London, has estimated that a virtual merger of the two airlines would result in a savings of approximately

850 million per year. Not chicken feed.

In the case of a more normal "full" merger, the savings were estimated at around

275 million. In addition, there would be benefits in terms of more efficient network management, which Lobbenberg estimates at

100 million to

200 million.

On the other side of the coin, yes, there would be additional marketing and IT expenditures for the first couple of years, but overall, routewise, and managementwise, we like it. The deal solves a number of major issues for both carriers. Most notably, British Airways could shift some of its lower-yielding transit flights to KLM's Schipol hub in Amsterdam, which would allow it to increase point-to-point direct flights, as well as more premium-level traffic through its London's Heathrow Airport hub.

As Lobbenberg says in his note on the merger, this virtual merger concept is the same one that SAGroup is using to run

Sabena

and

Swissair

. It's also the same concept that KLM was proposing for its alliance with

Alitalia

, a deal that fell apart last month.

Will the European regulators come unglued at the prospect of this new 800-pound gorilla in their midst? The wailing and gnashing of teeth already has begun. But, in my opinion, the white noise on this one is not nearly the same as it was for the proposed American-British Airways deal that is still languishing on the table. Times have changed. European airlines are feeling pressured to compete effectively on a global basis.

My gut feeling on this one is that it is doable.

For me, the question is not whether it is going to be done, the question is how the merged entity will then fit in, in terms of its potential relationship to United, American, Delta and Northwest -- especially Northwest and American.

Lots at stake here for some big boys on this side of the Atlantic. We'll keep you posted.

Holly Hegeman, based in Barrington, Rhode Island, 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.