Northwest: No Profit Predictions

Admits President Douglas Steenland: His and other major airlines will continue losing money until they can match costs with discount carriers

Look at Northwest Airlines' latest numbers, and you would think that President Douglas Steenland finally might be able to sit back and enjoy the flight. After six straight quarterly losses, Northwest (NWAC ) posted a $227 million profit in the second quarter, pocketing more money than any other carrier except low-cost king Southwest Airlines (LUV ). Moreover, Northwest ended the period with $2.81 billion in cash, four times as much as it had at yearend 2000.

Its physical assets are increasing, too. After grounding dozens of planes since the September 11 terrorist attacks, Northwest has just taken delivery of a brand-new 298-seat Airbus A330, the first of 24 Airbus aircraft it plans to buy over the next couple of years.

Despite appearances, Northwest is losing altitude. The Eagan (Minn.) airline owes its second-quarter black ink entirely to a $209 million handout from the government and asset sales. Without those one-time gains, it would have lost $160 million, the most ever in a second quarter. Despite $1.4 billion in cost-cutting, including a 14,500 drop in headcount since yearend 2000, Northwest is also spending its cash stash.


  And while its new planes will save money -- with just two engines, they burn 30% less fuel than the aged DC10s they're replacing -- they don't fix Northwest's fundamental problem: The number of business travelers continues to decline, and many of those still in the air are buying cheap seats on Southwest (LUV ) and other low-fare airlines.

Indeed, Northwest is on track this year to match 2002's record loss of $798 million, even with the federal bailout. "We don't see any particular end in sight," Steenland says. So instead of relaxing, the 51-year-old former attorney is prepping for a fight that will determine whether the world's No. 4 airline will pull out of its slide -- or cede more of its market to discount carriers.

Northwest management has concluded that to make money at today's ticket prices, the airline must become a low-cost carrier, too. That means $950 million in pay cuts –- or about 24% -- from unionized employees. Other airlines have cut that much and more, using the cudgel of bankruptcy to get concessions from labor. Steenland vows, however, that management will prevail without putting the $9.5 billion company into Chapter 11 protection.

After showing off Northwest's new plane at Detroit Metropolitan Airport in early August, Steenland talked to BusinessWeek Senior Correspondent Michael Arndt. Edited excerpts of their conversation follow:

Q: Are you seeing any sign that travel is coming back?


I think everybody has seen some uptick in travel in the June and July numbers. But that pop-up in unit revenue has shown itself more on the volume side than on the rate side. That suggests this isn't coming from the business traveler.

A lot of business travel these days happens under corporate contracts. And volume generated from these contracts in terms of dollars is still well below previous years. We're clearly going to find some businesses where travel is up and spending is up on travel. But in the aggregate, it still needs to go a far distance to get back to previous levels.

Q: Is that why you don't you see a light at the end of the tunnel?


In part. What happens in June and July doesn't necessarily represent long-term trends. I think more importantly, we have this emerging segment of the business -- namely the low-cost segment -- that basically can charge low fares and make a profit. Yet under our current cost structure, when we network carriers match them, we end up with losses. Until that challenge is met, I don't think the industry can say we're out of the woods.

Q: How do you get there?


One, it's a product of lowering your costs, and then, two, coming up with a fare structure that's fully competitive with the low-cost carriers. The network carriers, because of the greater convenience that they offer, will be able to charge a premium, but there will be a limit as to what that premium is. The core point is, we can't have a significant unit-cost disadvantage in what's becoming an increasingly commoditized world.

Q: You're asking labor for $950 million in concessions. Is that enough to get you there?


We think it's enough. In our judgment, that gets us to a place on the cost curve where we're going to be able to vigorously compete and price a product at levels where it'll generate a return for us.

Q: But at the time you're asking labor for concessions, you're sitting on this big cash cushion. Employees must be asking you why you want them to cut their pay when you've got this bankroll of cash.


That's a question that we get. We answer that in part by saying that the source of this cash happens to largely be debt -- it doesn't represent cash generated by profits. These are dollars that at some point we're going to have to pay back.

The cash allows us greater flexibility, but in and of itself, it's not the [solution] to the current mismatch between how much revenue our network is capable of generating and what it costs us to operate that network.

In 2002, for instance, we operated a network that was almost virtually the same size as the airline we flew in 1996. But to operate that same size network in 2002, it cost us about $1.4 billion more. That difference was primarily labor.

Q: How often do you fly?


I probably fly at least once a week. This week, it'll be four times.

Q: Do you fly the competitors occasionally?


Yes, to compare notes, to check out what they're doing, and get a view of how they're approaching things.

Q: How do you fill your flight time? Do you read, do you work, do you snooze?


Usually, when I fly I make it a point to spend time in the cockpit. It's a good time to listen to what the pilots have to say. Sometimes, I spend the entire flight there. Otherwise, I just grab my seat. Like most people, I work. I never sleep on airplanes.

Q: When do you expect Northwest to become profitable again?


We're not making any predictions. We obviously have to become profitable. We will become profitable. But as to when, we're not prepared to say.

Q: Let me put it another way: When do you think Northwest might be growing again?


Ultimately, we're going to have to get back into a growth mode again. We have ample capacity because we have airplanes that are parked, and our airplanes are currently flying fewer hours during the day than they're capable of. So when demand comes back, we have the resources to meet it. But we're not in a position to be forecasters.

Edited by Patricia O'Connell

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