Ready To Soar Again?Kevin Kelly
If you're on a plane right now, look around. Does something seem different? Maybe the snack is better, or your seat is more comfortable. You left the gate on time, perhaps, and there wasn't so much turbulence. Or those flight attendants just seem less surly than usual.
O.K., maybe you don't notice a thing. But there's plenty changing in the air business. After four years of mostly self-inflicted carnage, things are getting better. The nation's carriers are on the verge of turning a profit.
Wall Street got its first hint of the changing tide in early April, when a round of cost-cutting and better-than-expected first-quarter traffic sparked airline stocks (chart). Then, on Apr. 7, United Airlines Inc. announced it would slash spending by $5.5 billion and cancel an order for 49 new Boeing jets intended for its fleet. United's stock shot up $10, or 8%, soon followed by that of American Airlines Inc. parent AMR Corp. Airlines, it seemed, were back.
Funny timing: Just as President Clinton concludes that the industry needs a commission to fix its problems, long-bearish airline investors sprout bullish horns. And with good reason: The economic rebound, which is fueling travel, will boost cyclical revenues. More important, Wall Street believes that $8 billion in losses over three years have finally jarred the airlines awake. In recent months, the Big Three--United, Delta, and American--have pushed up fares while slashing costs and cutting fleets to bring capacity in line with demand.
With such evidence in hand, investors are betting that airline profits are no longer a pipe dream. "They're right," says Ed Greenslet, publisher of Airline Monitor, a newsletter that tracks the industry. "Results will get a lot better--not necessarily in the next quarter, but by next year--and dramatically so."Just as dramatic, perhaps, is the industry's year-long self-improvement course. Some 9,400 employees have been laid off, and more will follow. Meanwhile, carriers, borrowing a page from manufacturers, are aggressively out-sourcing such vital jobs as plane maintenance. United Chairman Stephen M. Wolf has warned employees he's considering measures "we've never dreamed of before to reduce our costs."
GROUND FOG. Most essential, carriers are dealing with the need to cut capacity (chart). Over the past few years the airlines have had to resort to fare-slashing to keep their burgeoning fleets full. But in recent months, the four biggest airlines have taken major action to pare their fleets, announcing plans to ground 50 planes and to cancel or defer orders or options for another 500 or so aircraft. Analysts figure the moves should allow capacity and demand to balance out by next year. Merrill Lynch & Co. analyst Candace Browning predicts industry losses will fall to $600 million this year, then profits will jump to $1.5 billion by 1995.
Nobody's shutting down the National Commission to Ensure a Strong, Competitive Airline Industry--formalized by Clinton on Apr. 7 but not yet appointed. That's because the long-term outlook is hazy. "Airlines have not as a group learned how to do business in a way that makes sense from a customer standpoint and from a cost standpoint," says John W. Nelson, executive vice-president for marketing at Continental Airlines Inc.
Indeed, even if wages are cut, productivity at the big carriers is weak compared with that of industry success story Southwest Airlines Co. Bankruptcies, which some airlines contend distort industry pricing, haven't gone away. Business travelers are turned off by discrepancies in fares. For those and other reasons, the cry for reregulation of the industry grows louder, prompting some airlines to wonder if their appeals could lead to measures that only create new problems. Frets one top executive: "I hope they understand the term `limited action."'
Most of the old problems, meanwhile, haven't been solved. At the top of the list is productivity. Layoffs and wage cuts may trim labor costs for now, but the amount of work employees contribute must increase--and productivity isn't something the commission can fix. Alfred Kahn, commissioner of the Civil Aeronautics Board when the industry deregulated in 1978, says there's no harm in asking whether the government might help airlines, "but I do not include bailing them out or supporting average $109,000 salaries for pilots who fly 12 hours a week."
Airlines must rethink the hub-and-spoke system, too. During the 1980s, airlines rushed to build giant hubs, airports in cities where passengers were gathered from outlying "spokes" and flown on to final destinations. The concept was good. But wild proliferation of hubs, especially in such secondary cities as Raleigh-Durham, N.C., turned many into financial sinkholes. Now, several major carriers have begun backing off--most recently American, which on Apr. 7 said it would cut 40% of its operations in San Jose, Calif. Kenneth P. Quinn, former Federal Aviation Administration general counsel and now an industry consultant, says of 30 existing hubs: "Half a dozen could wash out of the system."
NICHE GUYS. Fewer hubs, together with other changes, are opening the door to what the Big Three and other ailing carriers, such as highly leveraged Northwest Airlines Inc., fear most: new entrants. "You're seeing a resurgence of competition in the industry," says Southwest's CEO, Herbert D. Kelleher. As big carriers withdraw from unprofitable markets, new niche players--including Reno Air, Kiwi International, and Morris Air--move in, offering cheaper fares because their costs are low.
In the past, bigger carriers could chase new entrants off by flexing their muscles, offering cheaper fares and many flights on routes where upstarts dared intrude. But the federal government appears to have nixed that strategy. In March, Transportation Secretary Federico F. Pena pressured Northwest to back off from what he regarded as a scheme to squeeze tiny Reno Air on its routes.
Pena's action has the industry wondering just how proactive the new commission might become. Some items on the airlines' wishlist are predictable: Carriers want the 10% federal ticket tax rolled back to 8%, for example. But the commission also must grapple with the disparate, contradictory cries of the carriers, travel agents, and consumers.
With so many constituencies pulling in different directions, the commission may well opt for the path of least resistance. Asking Congress for tax relief is one obvious solution. Other, less controversial recommendations could include advocating the release of the $7 billion Aviation Trust Fund to finance much-needed airport expansion and urging the Clinton Administration to push harder for U.S. airlines to gain access to overseas markets.
FLUSHER TIMES? But ultimately, the industry must survive on its own strength. More and more, carriers are behaving as if they can do just that. True, this industry enjoys a rich history of inopportune fare wars and of throttling capacity as soon as business cycles turn up. Now, though, "airlines are beginning to show some signs of discipline in pricing," says Lee Howard, president of Airline Economics Inc. (chart, page 27). Such discipline could pay off handsomely as the economy continues to improve. Economists note that real income in the U.S. has been flat for the past four years, and some argue that when wages finally move up, a wave of demand for leisure travel could be unleashed.
But it's in the faster-growing, international arena that carriers will concentrate many of their efforts. U.S. airlines are courting their rivals in the Far East, hoping to build the kinds of alliances that have turned British Airways PLC into an international powerhouse. Boasting operating costs less than half those of many foreign rivals, U.S. carriers stand to win big if the Clinton Administration can overturn barriers to entry in Europe and Asia.
So, it is with qualified optimism that U.S. airlines head into the future. Very qualified, perhaps. "I think it's way premature to express any real significant optimism about financial results going forward," says Donald J. Carty, executive vice-president of American Airlines. But give the industry time. It's still working out the travails of deregulated competition. Ultimately, many bet, the carriers will learn how to make money--even as they serve consumers.
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