Airlines: New Thinking, Please

Is there no end to the red ink in the airline industry? The CEO of once-healthy Delta Airlines Inc. (DAL ) says its balance sheet is "severely damaged to the point of exhaustion," while US Airways Group Inc. (UAIR ) is struggling to comply with the terms of a $900 million federal loan guarantee. Other carriers are gasping as well. A huge part of the problem is that the big carriers still haven't fully faced up to their core dilemma. Even if they cut labor costs, they simply can't charge enough for their far-flung route networks to be competitive with the new breed of carriers such as Southwest Airlines Co. and JetBlue Airways Corp. (JBLU ) that keep costs low with point-to-point service.

The older carriers offer frequent service to many cities with short layovers. They do so by serving dozens of "spoke" cities through a handful of hub airports. They can fill flights out of smaller cities because their planes carry passengers bound for anywhere in the world -- not just to one destination, as with a point-to-point airline. But hub-and-spoke systems are enormously expensive to run. To minimize layover times, they need lots of gates and ground crew, which boosts labor costs. And planes spend more time on the ground, expensively idling as they wait for connections.

It's inevitable that the traditional hub-and-spoke carriers such as Delta and US Air must either consolidate or cut service dramatically. Spreading out departure times from hubs would save a bundle, albeit at the cost of increasing the length of layovers. American Airlines (AMR ) has done that successfully at Chicago's O'Hare International Airport. Carriers will also have to close some hubs entirely and drop service to more unprofitable destinations. They're beginning to do so, but at a glacial pace.

In the end, this is part of the long process of the air travel system readjusting to reflect the true cost of providing the service. Larger cities will have more service at a lower price than smaller cities. Regions that invest in new airport facilities -- and open them up to all comers -- will have a marked advantage over those that do not. And the airline carriers that survive, whether discount or hub-and-spoke, will be on a firmer financial footing.

    Before it's here, it's on the Bloomberg Terminal.