How High Can The Airlines Fly?David Greising
Summertime, and the airports are jumping: From LAX to O'Hare to LaGuardia, the nation's landing strips are jammed with vacationers such as Kim Abram, a Chicago Housing Authority administrative assistant flying with her kids to Las Vegas to visit the sister she hadn't seen in three years. "The little ones didn't sleep the night before the flight because they were so excited," Abram says. "We'd never taken a family trip like this before."
Add in the throngs of executives traveling to keep up with the growing economy and foreign tourists cashing in on the weak dollar, and the airline industry is in the midst of an unaccustomed bonanza. After a bruising five-year span in which they lost an accumulated $13 billion, carriers should record $1.3 billion in profits for 1995 (chart, page 26). On July 21, even USAir Group Inc., just months ago an industry basket case, reported an eightfold earnings increase in the second quarter, to $112.8 million. Four days later, UAL Corp., parent of United Airlines Inc., weighed in with net income of $151 million, nearly triple profits of a year earlier.
Airline stocks are up 52% so far this year; UAL shares alone climbed $4, to $149.50, on the company's earnings news. Why the boom? Look at the industry's formidable operating data: Planes are flying 72% full, up 1.5 points from last year. Airfares in June were 5% higher than those a year ago, with lucrative business-class fares up 7%. That boosted yields, which had been down earlier this year, by 2.2% to 13.52 cents per passenger mile. Even the beleaguered aircraft construction business is showing signs of strength. Although U.S. carriers aren't buying new jets, demand from overseas has lifted orders at Boeing Co. to 203 planes this year, well above 1994's full-year total of 120 orders.
Skeptics, nonetheless, believe that the turnaround is a fluke that's bound to fade fast. The industry, they argue, is profiting from a healthy economy, fuel prices that are 5% below last year's level and free of federal taxes, relatively few fare wars, and cost structures lowered by austerity plans. The lull could prove deceptive: "There was an economic imperative to cut costs when the industry was losing billions of dollars," says Jeffrey Long, analyst with J.P. Morgan Securities Inc. "Now that they're making money, they've got to keep their motivation. And it's a long, long recovery process."
Airlines say they're up to the task. Consider some highlights from the major carriers. Northwest Airlines Corp., on the brink of bankruptcy only two years ago, has eliminated routes, negotiated wage cuts averaging 15%, cut aircraft orders, and turned in record profits. American Airlines Inc. has been grounding costly 727s and DC-10s; reductions and reengineering at headquarters are expected to save $93 million a year.
Delta Air Lines Inc. could save $80 million by cutting travel-agent commissions and is outsourcing information systems and other operations. And United, employee-owned since last summer, has cut wages by $70 million and put employee teams to work on such problems as absenteeism and ticketing costs. "We're supposed to protect ourselves from exuberance during the good times," says United chief financial officer Douglas A. Hacker. "But I don't see any signs that the good times are in danger of going away."
He might look just a little harder. The biggest immediate threat to carriers is the government's plan to implement a fuel tax in October that could cost the industry $500 million a year. The Air Transport Association is lobbying heavily against the tax. "Labor in the industry has given up $1 billion in concessions," says an ATA spokesman. "The tax would wipe them out." So far, at least, the pitch seems to have worked: A majority of the tax-writing House Ways & Means Committee is backing a bill to extend the fuel-tax exemption beyond its October expiration.
The profit turnaround could be soured by another key issue: labor relations. Consider USAir. In the days before the once-struggling carrier announced its second-quarter profit, flight attendants voted down a tentative contract, machinists delayed a vote, and the pilots' executive council decided against asking rank-and-file to vote on a proposed deal.
USAir isn't alone. Delta and American both are negotiating with pilots likely to use the profit turnaround to dodge wage and work-rule concessions the carriers have proposed. Delta wants pilots to give up $340 million a year in pay, but is resisting the pilots' push for an equity stake and board representation. "As the profit picture improves, you'll see our attitude harden," predicts Delta pilot Cam Foster, who is part of the Air Line Pilots Association negotiating team.
NO FRILLS. But the majors will have to keep pushing their cost-cutting programs if they hope to compete with low-cost carriers. Even as ValuJet Airlines Inc. flies planes 85% full on some weekends and runs at a cost of only about 7.7 cents per mile flown--nearly half that of major carriers--the Atlanta-based startup is looking to cut expenses. "We're debating whether we can continue with both peanuts and pretzels," jokes ValuJet president Lewis H. Jordan. Low-cost veteran Southwest Airlines Co., which saw profits decline in the first quarter, has rebounded in part by cutting unprofitable weekend flights and improving its reservations capacity. It will expand into the huge Florida market next year, putting more pressure on USAir, Continental, and Delta.
Discounters may be capping the ability of the major carriers to cash in on increased traffic. Although low-fare carriers claim they're fighting for vacationers who would otherwise drive, they're actually attracting a growing share of the business market, too. Indeed, despite strong demand and Continental's decision to abandon its Continental Lite low-fare strategy, domestic discount fares are down 7% this year. "The airlines have people hanging off the wings because the planes are so crowded, but the revenue has barely jumped," grouses Barbara L. Beyer, president of consulting firm Avmark Inc.
That's why few executives are crowing about the good times. "History will definitely repeat itself," says Southwest Chief Financial Officer Gary C. Kelly. "You'll see fare wars, overcapacity in certain markets. No one can predict whether or not a fuel spike is in front of us, and when or whether we'll be in recession." The airline industry has bred a bunch of pessimists. Better that, though, than executives fat, happy, and awash in red ink.