The Challenges of Integrating United and Continental Airlines

question 117

Essay

The Challenges of Integrating United and Continental Airlines

Among the critical early decisions that must be made before implementing integration is the selection of the manager overseeing the process.
Integration teams commonly consist of managers from both the acquirer firm and the target firm.
Senior management must remain involved in the postmerger integration process.
Realizing anticipated synergies often is elusive.
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On June 29, 2011, integration executive Lori Gobillot was selected by United Continental Holdings, the parent of both United and Continental airlines, to stitch together United and Continental airlines into the world’s largest airline. Having completed the merger in October 2010, United and Continental airlines immediately began the gargantuan task of creating the largest airline in the world. In the area of information technology alone, the two firms had to integrate more than 1,400 separate systems, programs, and protocols. Workers from the two airlines were represented by two different unions and were subject to different work rules. Even the airplanes were laid out differently, with United’s fleet having first-class cabins and Continental’s planes having business and coach only. The combined carriers have routes connecting 373 airports in 63 countries. The combined firms have more than 1,300 airplanes.

Jeffry Smisek, CEO of United Continental Holdings, had set expectations high, telling Wall Street analysts that the combined firms expected to generate at least $1.2 billion in cost savings annually within three years. This was to be achieved by rationalizing operations and eliminating redundancies.

Smisek selected Lori Gobillot as the executive in charge of the integration effort because she had coordinated the carrier’s due diligence with United during the period prior to the two firm’s failed attempt to combine in 2008. Her accumulated knowledge of the two airlines, interpersonal skills, self-discipline, and drive made her a natural choice.

She directed 33 interdisciplinary integration teams that collectively made thousands of decisions, ranging from the fastest way to clean 1,260 airplanes and board passengers to which perks to offer in the frequent flyer program. The teams consisted of personnel from both airlines. Members included managers from such functional departments as technology, human resources, fleet management, and network planning and were structured around such activities as operations and a credit card partnership with JPMorgan Chase. In most cases, the teams agreed to retain at least one of the myriad programs already in place for the passengers of one of the airlines so that at least some of the employees would be familiar with the programs.

If she was unable to resolve disagreements within teams, Gobillot invited senior managers to join the deliberations. In order to stay on a tight time schedule, Gobillot emphasized to employees at both firms that the integration effort was not “us versus them” but, rather, that they were all in it together. All had to stay focused on the need to achieve integration on a timely basis while minimizing disruption to daily operations if planned synergies were to be realized.

Nevertheless, despite the hard work and commitment of those involved in the process, history shows that the challenges associated with any postclosing integration often are daunting. The integration of Continental and United was no exception. United pilots have resisted the training they were offered to learn Continental’s flight procedures. They even unsuccessfully sued their employer due to the slow pace of negotiations to reach new, unified labor contracts. Customers have been confused by the inability of Continental agents to answer questions about United’s flights. Additional confusion was created on March 3, 2012, when the two airlines merged their reservation systems, websites, and frequent flyer programs, a feat that had often been accomplished in stages in prior airline mergers. As a result of alienation of some frequent flyer customers, reservation snafus, and flight delays, revenue has failed thus far to meet expectations. Moreover, by the end of 2012, one-time merger-related expenses totaled almost $1.5 billion.

Many airline mergers in the past have hit rough spots that reduced anticipated ongoing savings and revenue increases. Pilots and flight attendants at US Airways Group, a combination of US Airways and America West, were still operating under separate contracts with different pay rates, schedules, and work rules six years after the merger. Delta Airlines remains ensnared in a labor dispute that has kept it from equalizing pay and work rules for flight attendants and ramp workers at Delta and Northwest Airlines, which Delta acquired in 2008. The longer these disputes continue, the greater the cultural divide in integrating these businesses.


Alcatel Merges with Lucent, Highlighting Cross-Cultural Issues

Alcatel SA and Lucent Technologies signed a merger pact on April 3, 2006, to form a Paris-based telecommunications equipment giant. The combined firms would be led by Lucent's chief executive officer Patricia Russo. Her charge would be to meld two cultures during a period of dynamic industry change. Lucent and Alcatel were considered natural merger partners because they had overlapping product lines and different strengths. More than two-thirds of Alcatel’s business came from Europe, Latin America, the Middle East, and Africa. The French firm was particularly strong in equipment that enabled regular telephone lines to carry high-speed Internet and digital television traffic. Nearly two-thirds of Lucent's business was in the United States. The new company was expected to eliminate 10 percent of its workforce of 88,000 and save $1.7 billion annually within three years by eliminating overlapping functions.

While billed as a merger of equals, Alcatel of France, the larger of the two, would take the lead in shaping the future of the new firm, whose shares would be listed in Paris, not in the United States. The board would have six members from the current Alcatel board and six from the current Lucent board, as well as two independent directors that must be European nationals. Alcatel CEO Serge Tehuruk would serve as the chairman of the board. Much of Ms. Russo's senior management team, including the chief operating officer, chief financial officer, the head of the key emerging markets unit, and the director of human resources, would come from Alcatel. To allay U.S. national security concerns, the new company would form an independent U.S. subsidiary to administer American government contracts. This subsidiary would be managed separately by a board composed of three U.S. citizens acceptable to the U.S. government.

International combinations involving U.S. companies have had a spotty history in the telecommunications industry. For example, British Telecommunications PLC and AT&T Corp. saw their joint venture, Concert, formed in the late 1990s, collapse after only a few years. Even outside the telecom industry, transatlantic mergers have been fraught with problems. For example, Daimler Benz's 1998 deal with Chrysler, which was also billed as a merger of equals, was heavily weighted toward the German company from the outset.

In integrating Lucent and Alcatel, Russo faced a number of practical obstacles, including who would work out of Alcatel's Paris headquarters. Russo, who became Lucent's chief executive in 2000 and does not speak French, had to navigate the challenges of doing business in France. The French government has a big influence on French companies and remains a large shareholder in the telecom and defense sectors. Russo's first big fight would be dealing with the job cuts that were anticipated in the merger plan. French unions tend to be strong, and employees enjoy more legal protections than elsewhere. Hundreds of thousands took to the streets in mid-2006 to protest a new law that would make it easier for firms to hire and fire younger workers. Russo has extensive experience with big layoffs. At Lucent, she helped orchestrate spin-offs, layoffs, and buyouts involving nearly four-fifths of the firm's workforce.

Making choices about cuts in a combined company would likely be even more difficult, with Russo facing a level of resistance in France unheard of in the United States, where it is generally accepted that most workers are subject to layoffs and dismissals. Alcatel has been able to make many of its job cuts in recent years outside France, thereby avoiding the greater difficulty of shedding French workers. Lucent workers feared that they would be dismissed first simply because it is easier than dismissing their French counterparts.

After the 2006 merger, the company posted six quarterly losses and took more than $4.5 billion in write-offs, while its stock plummeted more than 60 percent. An economic slowdown and tight credit limited spending by phone companies. Moreover, the market was getting more competitive, with China's Huawei aggressively pricing its products. However, other telecommunications equipment manufacturers facing the same conditions have not fared nearly as badly as Alcatel-Lucent. Melding two fundamentally different cultures (Alcatel's entrepreneurial and Lucent's centrally controlled cultures) has proven daunting. Customers who were uncertain about the new firm's products migrated to competitors, forcing Alcatel-Lucent to slash prices even more. Despite the aggressive job cuts, a substantial portion of the projected $3.1 billion in savings from the layoffs were lost to discounts the company made to customers in an effort to rebuild market share.

Frustrated by the lack of progress in turning around the business, the Alcatel-Lucent board announced in July 2008 that Patricia Russo, the American chief executive, and Serge Tchuruk, the French chairman, would leave the company by the end of the year. The board also announced that, as part of the shake-up, the size of the board would be reduced, with Henry Schacht, a former chief executive at Lucent, stepping down. Perhaps hamstrung by its dual personality, the French-American company seemed poised to take on a new personality of its own by jettisoning previous leadership.
-Explain the logic behind combining the two companies. Be specific.

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