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Jan102008

« A Little Blackbook on Creative Destruction »

For some of you, the comment areas on a blog are often the first place visited. For others, they are largely ignored. For all of you, I have made an entire comment, made by blackbook, available below including my response back. Blackbook's thoughts are well worth reading.

On January 4, 2008, Blackbook responded to a post click here and raised the idea that: “what is missing in the airline industry is the type of creative destruction that has kept America’s companies at the forefront of research, development, innovation and change”.

I like the term “creative destruction”. How can it be applied to the US airline industry in order to make it a sustainable and profitable business?

blackbook said...
Yes, there is a lot about which to be pessimistic concerning the state of the U.S. airline industry. But, I feel these concerns mirror those that we see worldwide in the media concerning the status of our country as whole.

While there are many factors that would lead to such pessimism, both the U.S. and the airline industry have historically been sources of creativity and have a talent for reinventing themselves. Perhaps it's the natural optimist in me but I feel that, while we might get a bit bloodied en route, we will still emerge on the top of the heap.

What is utterly lacking in the airline industry is the type of creative destruction which has kept America's companies at the forefront of research, development, innovation, and change. Whether or not this comes as consolidation or another form of players exiting the market, it is clearly necessary.

Swelbar, I think you might have posted something at one time about the airline industry having higher barriers to exit than barriers to entry. With such diverse constituencies as employee groups, airports, lenders, aircraft lessors, etc... all working to prevent such an exit from the market, it is hard to imagine how ANY airline could have gone out of business. If all the major carriers survived the post 9/11 upheaval more or less intact, how can such an exit take place now?

Consolidation for consolidation's sake is not the answer, in my opinion. Look at the only example of the recent generation of it, US Airways. With each passing day it reminds me more and more of a late 1980s Continental, with a ragtag fleet of airplanes, various employee groups that hate each other, and a product which is shoddy at best. It is the present-day version of Gordon Bethune's comment about making the pizza so cheap, no one would want to buy it. Certainly such an entity cannot compete in the global marketplace. Neither shareholder nor stakeholder value is enhancing with the current situation.

Perhaps the market would be better served with exits rather than consolidation. The difficulty is of course in how these would actually take place. The current labor situation at some of the legacies are filled with enough animosity to make an Eastern Airlines-style Pyrrhic victory possible. If I had been subjected to what some of these employees went through in the bankruptcies only to see their executives line their pockets with millions, I probably wouldn't be opposed to seeing the whole ship go down. Still, I would have to say this is the only option I find less palatable than consolidation. It will, indeed, be an interesting year.

Swelbar responded...
Welcome back and Happy New Year. You ask many great questions and I will attempt to answer them in this comment back. But I think many of the ideas you espouse will require some separate writing and thinking.

As for your source of optimism on US aviation emerging again as global leaders, nothing would make me happier. Bloody road, yes; better off, yes.

As I asked my audience in a talk given recently: Why should we fear individual carrier failures or consolidation? We should not, although it will be painful for the subject carrier or carriers lost. Labor wants changes to the bankruptcy laws. Be careful for you ask for as the European approach may indeed be right.

I did respond to a commenter's suggestion affirmatively that the barriers to exit are higher than the barriers to entry. We talk alot about the need for consolidation here but I like your term of creative destruction.

And destruction may just be beginning as some stocks are acting like another round of bankruptcies may be ahead. And some of these bankruptcies may be in the regional and LCC space which is precisely where this industry needs to begin the process of shedding duplicative capacity and the associated fixed costs and tax on the infrastructure.

I definitely agree with you that consolidation for consolidation's sake is not the answer. What I have stated here many times is that any combination where one plus one is less than two is good - if not very good for the industry as a whole. So yes, that is destruction of capacity in some form.

Your reference to Eastern serves as a reminder that icons can be tombstones and three carriers that can emulate that disappearance today are American, US Airways and United. My sense is you read here so it does not take much to sense the anger emanating from the AA pilots that write to this blog.

Whereas the timing of the executive payouts probably could not have been worse, I am not sympathetic to that issue. It is hard to attract experienced people to this industry when they have many other choices in front of them. My experience as a board member has made this very clear and real.

Maybe the only way to create value in the immediate term would be to engage in a prepackaged Chapter 7 filing where proceeds from the sale of core and non core assets would flow directly to the shareholders? Value creation and creative destruction all at once?

But yes, consolidation that is good for shareholders, employees and the health of the core business would certainly seem to be more palatable than a liquidation -- one would think.

Reader Comments (4)

Creative Destruction? I believe the term you're looking for is "Destructive Competition".

Schumpter, who originally coined the term "Creative Destruction", was talking about innovation and invention and the "positive" impact it has on an economy. I don't believe he was talking about "garden variety" consolidation and merger activity.

If you're going to use "theory" to make your case for airline consolidation, you should at least reference the correct "theory". And that theory would be Game Theory....I happen to believe that the "Theory of the Core" is most applicable. As a "Research Engineer", ;>) I'm sure you're very interested in "theory" and I believe you'd find this one target rich.

In industries prone to "Destructive Competition", ie airlines, there actually is a case to be made for regulating competition....some believe that consolidation via the "anti-trust" mechanism is better than government intervention. I'm not convinced of this yet.

Unions, whether you like it or not, have a very large role to play....just by saying....NO! They are the deal breakers. So any consolidation would have to make employees whole. I don't think you can get simply by changing a few labor laws...like seniority integration.

However, union cooperation and getting to YES has a price, and the industry would be better off paying it.

IMO, rather than paying big bucks to "airline administrators" who have demonstrated that their "talent" can NOT influence the "Destructive" nature of airline competition.....the "money" being paid to "airline administrative talent" would be better spent "buying" the cooperation of the employees.

Think of the progress that could've been made in this industry, if George Soros funded employee bailouts instead of JetBlue.

Innovation and Invention......these are hardly things that people associate with the "adminstration of an airline". Arpey is a "numbers guy", he is not an entreprenuer or innovator....he just wants to get paid like one. He is.....more acurately.....an "administrator" and should be paid like one.

Question: What was the last great Innovation or Invention to come from the "Executive Talent" at AMR??

Answer: Sabre and CRS 1960!!! AAdvantage 1981!!!!! That's A LOT of water under the bridge.

I should mention that those early executives made NOTHING close to what our current "talent" is pulling in.

01.10.2008 | Unregistered CommenterOccam's Razor

Swelbar,

You seem hung up defending your fellow MBAs while forgetting your background and your heritage. You said,

“Whereas the timing of the executive payouts probably could not have been worse, I am not sympathetic to that issue. It is hard to attract experienced people to this industry when they have many other choices in front of them. My experience as a board member has made this very clear and real.”

Here is where you are loosing sight of the ball and you need to find some “sympathy.” Give me the number of MBAs you would need to run an airline. Your alphabet soup guys, CFO, CEO, COO etc. Lets say you need ten guys in the top positions to keep the lights on. Your guys with the corporate knowledge and discipline to take the airline on to new heights, your leaders.

If Ourpay had come to his big three unions and said, “Guys I’ve got to pay my top guys big bucks or I won’t be able to keep them and we will have the dregs running this company. You have to let me pay them what they could make at Ford, Boeing, GE, etc. Me, I’ll pull a Frank Borman and keep my pay where it is until we turn this ship around and start making some money. Then both you and I will see something extra in our pay checks.”

The rest of the 990 PUP Buck reward recipients we are ten deep on. Anyone of them could not show up for work tomorrow and they wouldn’t be missed. Your stocker on the graveyard shift at your local Wal-Mart could do their job as well if not better. There is no head hunters looking for their “talent” and given all the bad blood over all of this it would be better if they left anyways. Why should some mid-level manager who through the Peter Principle has risen to his level of incompetence be rewarded for ineptness in the making of the all new AAeroflot Airlines?

Ourpay should have said, “This PUP Buck plan was hatched under Don Carty and I’m suspending it immediately. This is now my airline and this type of elitism will not happen under my watch.” This is called leadership and your Air Nirvana might have taken flight.

Don’t they teach this stuff at MBA school? Have you bought Jim Parker’s book “Do The Right Thing: How Dedicated Employees Create Loyal Customers and Large Profits?” Interesting concept eh?

01.11.2008 | Unregistered CommenterChitragupta

Thanks to occam's razor for pointing out that the term "creative destruction" was coined by the renowned economist Joseph Schumpeter. I first heard it in a strategy class and it's always stuck in my head. I certainly would not attempt to claim credit for his powerful ideas.

I do, however, think that mergers and consolidation can be a form of creative destruction. The more innovative providers of services will be the ones who emerge on top of the heap and will able to dictate the terms of their organizational survival. In the airline industry, these might very well be the companies who have seized on the innovation of treating their employees well. That, in the long run, is just as much a part of a business success as developing marketing innovations such as AAdvantage or technological ones such as Sabre.

01.11.2008 | Unregistered Commenterblackbook

Good post - I've included it in a post I was writing about UAL and expanded on the creative destruction theme.

http://tinyurl.com/yua8tl

01.14.2008 | Unregistered CommenterMax

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