United-Continental Talks Could Spur Airline Consolidation

United Airlines and rival Continental Airlines are discussing a merger that would create the world's largest airline.

If completed, the deal could add fire to the wave of takeover activity in the industry and result in far fewer U.S. carriers and higher air fares.

Industry sources say the two airlines have held on-again, off-again discussions. But recent merger activity in the industry could create pressure to accelerate the exploratory talks. United is the  second-largest U.S. and Continental is the fifth-largest.

Catalyst to the recent round of deal activity was US Airways Group's recent hostile $8.67 billion takeover bid for Delta Air Lines. Delta's directors are considering the bid and should issue a formal position in several days.

Also today, AirTran Holdings said it has made a $290 million stock and cash bid for Midwest Air Group , valuing the smaller airline at $11.25 a share.

Qantas Accepts Takeover Bid

And Qantas Airways, Australia's flagship carrier, accepted a sweetened $8.7 billion takeover bid led by the country's largest investment bank and two North American private-equity firms.

Northwest Airlines reignited the flurry of buyout speculation in the sector when it said late last week that it was hiring an investment adviser to help it review its options. The Midwest-based international carrier also could act as a spoiler in any United-Continental tie up. Northwest holds a a"golden share" in Northwest which could complicate a merger.

Analysts say a concern that may stymie some of the potential takeovers is the idea of limited competition that could result in better pricing power for airlines, but higher fares for passengers. Analysts expect the Department of Transportation to take a close look at any deal.

The golden share is a special series of Continental preferred stock with voting rights. The stock is held by Northwest as part of a marketing deal with Continental and could be used to block a deal if Continental shareholders are required to vote on a deal.

Airline stocks are flying today on speculation that some of the takeovers will go through.

"The big question is what the regualtors will do," Ray Neidl, an analsyt at Calyon Securities, told Reuters.

Citing concerns about competition, U.S. regulators in 2001 shot down a proposed merger between United and the old US Airways.

A United-Continental pairing could face significant obstacles, since Northwest Airlines may be able to stop it under a 2000 agreement with Continental.

Second Takeover Attempt

AirTran, a discount carrier that operates primarily in Orlando and Atlanta, has tried previously to take over Midwest, but it was rejected earlier this month. Midwest is another smaller carrier with hubs in Milwaukee and Kansas City, Missouri.

AirTran's management is going public with its bid, claiming the acquisition is worth another try.

"This is a great deal for investors with a 37% premium," AirTran Holdings CEO Joe Leonard said in an interview on CNBC's "Squawk Box." "This is a great deal for Midwest employees with growth opportunities we can provide that they can't do on their own and the communities that they serve will get significantly more flights."

Leonard says the deal could save $60 million a year in both cost and revenue synergies.

Airline consultant Michael Boyd said a United-Continental combination, or any other combination for that matter, would not be good for consumers, as it would reduce competition. He described any offer by United as an effort to make "fast money."

"Glenn Tilton has called everyone looking for a date," Boyd said, referring to United's chief executive. "He doesn't want to run an airline, he wants to merge it."

Indeed, Tilton on Tuesday spoke up again as a strong advocate of U.S. airline mergers, telling analysts in Chicago that consolidation is "good and overdue for the industry."

"We are not waiting for opportunities to come to us simply because we haven't identified to you which one works best," Tilton said at the conclusion of a 3 1/2-hour management presentation to more than 75 analysts.

© 2009 CNBC, Inc. All Rights Reserved