July 10 (Bloomberg) -- British Airways Plc is risking its first major strike in a decade as Chief Executive Officer Willie Walsh presses unions to accept almost 4,000 job cuts he says are needed to reduce costs and survive the recession.

Walsh called in a government-funded mediator to chair talks with representatives of 22,000 cabin crew and ground staff after four weeks of direct negotiations failed. Following two days of arbitration there’s no sign of a deal, with unions and the airline both declining to comment on the discussions last night.

“There is every sign that a conflict is looming if this last throw of the dice does not succeed,” Mick Rix, the leader of the GMB union, said in a telephone interview before the start of talks at the Advisory, Conciliation and Arbitration Service. “BA needs to seriously shift its stance in the negotiations.”

British Airways, once the world’s most profitable carrier, wants to slash jobs and wages after total pretax earnings for the past 10 years were 1 billion pounds ($1.6 billion) lower than in the previous decade. Sales have been squeezed by competition from discount carriers Ryanair Holdings Plc and EasyJet Plc. Walsh says lucrative business flights may never reach previous levels as a slump in demand forces a lasting change in travel habits.

A strike would be the first major dispute involving directly employed staff at London-based British Airways since July 1997, when flight attendants walked out for three days in a protest that wiped 110 million pounds from earnings.

Andrew Light, a London-based analyst at Citigroup Inc., said that Walsh is right to press his case.

‘Outdated Practices’

“Strike risk is high but worth taking for permanent cost savings,” Light wrote in a July 6 note. “Cabin crew and airport staff could strike, but defending outdated work practices looks untenable given the current economic climate and record losses.”

British Airways has declined 33 percent this year, compared with a 22 percent drop by Deutsche Lufthansa AG and 6.3 percent for Air France-KLM Group. The stock was trading up 0.3 pence, or 0.3 percent, at 120.2 pence as of 9:43 a.m. in London, valuing the carrier at 1.39 billion pounds.

Walsh, who took over as CEO in 2005, says British Airways needs more cost cuts even after the carrier reduced the workforce by 25,000 to 40,000 over the past nine years through a combination of job losses and less hiring.

Cash Target

The 47-year-old Irishman, who as head of Dublin-based Aer Lingus Group Plc cut 2,000 jobs, or one-third of the workforce, says that in order to survive, British Airways needs to preserve 1 billion pounds of cash this year out of a balance of 1.38 billion pounds as of March 31. He also wants revised contracts for existing workers and more frugal terms for new ones.

The Unite and GMB unions say the proposals aren’t acceptable and that they can deliver more than 100 million pounds in savings through temporary measures lasting no more than a year.

British Airways spokeswomen Laura Goodes said she couldn’t comment on the talks when contacted by Bloomberg News. Ciaran Naidoo, a spokesman for Unite, which represents about 14,000 flight attendants, said there was “nothing to report.”

The carrier had a 375 million-pound loss in the year ended March 31, the steepest in its history and the third deficit in 10 years. Passenger traffic fell 3.8 percent in June, led by a 15 percent drop in first- and business-class travel.

Rating Cut

The company’s credit rating, already two levels into junk status, was lowered by one grade to Ba3 from Ba2 yesterday at Moody’s Investors Service, which said declining traffic and higher fuel prices are likely to “further weaken metrics” in the fiscal year through March 2010.

Credit-default swaps on British Airways had widened by 20 basis points as of 9 a.m. in London, according to JPMorgan Chase & Co. prices. An increase in the price suggests deteriorating investor perceptions of credit quality.

CEO Walsh has already agreed terms with pilots to cut 78 jobs, reduce pay by 2.6 percent, boost working hours and pare benefits, and he has also reached an accord with engineers. About 4,000 employees have separately volunteered to take unpaid leave, with another 1,400 agreeing to go part-time and 800 planning to work full-time for free.

“We are at a crucial stage in the airline’s history and they cannot carry one person more than they can afford to,” said Howard Wheeldon, a senior strategist at BGC Partners LP in London. “The problem is that there’s no flexibility with the cabin staff. It’s been entrenched for 20 or 30 years.”

Slow Recovery

Nick Cunningham, an analyst at Evolution Securities in London, said British Airways can expect only a slow recovery in traffic and profit even when the global economy returns to growth, with average ticket prices, or yields, likely to continue an extended decline that has eroded profitability across the airline industry over recent decades.

“Digging in your heels and saying no change -- that’s not going to work,” said Cunningham, who has an “add” rating on the stock. “The yield environment is going to remain very poor.”

While Walsh’s focus on premium-class passengers has led to a steeper drop in traffic in the recession, he could expect a surge in earnings if business travel rebounds.

British Airways has sacrificed less lucrative routes to focus on providing a maximum number of daily frequencies to the busiest destinations, reducing its network to 148 cities as of March compared with 168 a decade ago.

Biggest Share

The carrier has the biggest share of business travel across the North Atlantic, with 37 percent of all seats between the financial centers of New York and London. That compares with 24 percent for Richard Branson’s Virgin Atlantic Airways Ltd. and 18 percent for American Airlines, according to United Business Media Ltd.’s OAG flight planning unit.

British Airways also established a subsidiary, Open Skies, to target premium travel to New York from Paris and Amsterdam using crews employed on cheaper local contracts, and has begun selling tickets for a business-class-only service from London City airport to New York that begins flights in September.

The airline is seeking to cement its dominance across the North Atlantic through an alliance with AMR Corp.’s American Airlines, for which the pair are seeking antitrust immunity. Walsh is also discussing a merger with Iberia Lineas Aereas de Espana SA of Spain to narrow the gap with Air France and Lufthansa, which have used purchases to leapfrog British Airways in sales and traffic.

Wheeldon says the airline and its employees may both ultimately have too much at stake not to reach an agreement.

“There has to be some form of compromise, because you can’t have an airline without cabin crew and the cabin crew need the jobs,” he said. “A strike would be very, very foolish and it would only make things much worse.”

To contact the reporter on this story: Steve Rothwell in London at srothwell@bloomberg.net

Last Updated: July 10, 2009 04:44 EDT