Archive Widget
Thursday
Dec132007

Is It True, Lufthansa to Buy Stake in jetBlue?

From the New York Times Deal Book, blog: click here. Before we write or say anything, let’s wait and see if there is something to this story. But based on our writing here for the past month, these are precisely the type of transactions that we should expect.

And Reuters offers this story click here.

Sunday
Dec092007

Maybe the Allied Pilots Association Is Really Onto Something

As I have written often and recently, the competitive position of the US legacy carriers in the global arena is a major concern to me. My thoughts on this topic are largely contained in a talk I gave at the ACI-NA International Aviation Issues Seminar in late November click here.

With the combined market capitalizations of the Big 3 EU legacy carriers (Air France/KLM, Lufthansa and British Airways) exceeding the market capitalizations of the Big 6 US legacy carriers (American, Continental, Delta, Northwest, United and US Airways) combined by nearly 33%, something clearly needs to change. And if Air France/KLM is successful in integrating troubled Alitalia into its fold, then the margin will become even more embarrassing for airlines carrying the US flag.

What a Cool Job

If there is a job I want in the airline space today, it would be the UPS whiteboard guy click here. Why? Because the UPS model, and the way they talk about it in their whiteboard campaign, demonstrates the futility of US carriers trying to operate successfully under collective bargaining provisions that are at least 35 years old. The UPS guy is not encumbered by existing lines or parameters as he connects UPS’s dots on the map. More importantly, the company actually connects the product to what customers want and demand –a novel concept! If there is a time to throw the past away (erase) and look to the future (redraw), it is now.

So maybe, just maybe, the Allied Pilots Association is on to something in its latest proposal to American Airlines. While I would never suggest that the APA “one liner” scope provision click here makes sense for the AA network as we know it today, anything that simplifies the ability of US airlines to implement commercial, tactical and strategic decisions to react to a changing domestic and global landscape makes very good sense to me. More importantly, anything that gets the mainline growing again is the best solution to some of the labor-related hostilities in the industry today.

Whiteboard Analysis – Regional and Codeshare Flying

What I like about the simplicity of the APA proposal is that it provides a starting point to begin serious negotiations – something the American Airlines negotiations are sorely lacking.

Given that scope defines who can do what flying necessary to operate the network, AA would get to go to the “whiteboard” and lay out for the APA the cost for feeder flying relative to the revenue generated by that flying, as well as the traffic and revenue contributions to its mainline domestic and international routes. As part of AA’s whiteboard exercise, they also get to demonstrate the value of revenue and traffic contribution the international codesharing partners now contribute.

If APA puts forward a scope proposal that reserves all flying for its member pilots and that makes economic sense, then there would be no need to scale back the current size of the network – all other things being equal. On the other hand, if APA is not willing to agree to terms – pay rates and work rules – that, when the interdependencies of all contractual issues are understood and at least match what AA pays today for this business, then the company would need to make some decisions about how much to shrink the current network.

Whiteboard Analysis – Mainline Flying

Let’s take it further.

The cost of the APA flying will ultimately determine the size of the network for regional and codeshare flying. The next calculation is the cost of operating the existing, or remaining, mainline network. If the network can sustain the 50+ percent increase in rates and all other items included in the union’s current proposal, then the APA will have realized its goal of restoring lost earning power to their members and establishing the pattern for the rest of the industry to follow.

Based on the cost of operating the mainline network under the APA proposal, there are two paths to explore on the decision tree: 1) if the remaining network cannot incorporate the cost of the entire APA proposal, then determine what portions can be operated profitably and the remaining network would need to be dismantled; or 2) determine how much increase in pilot cost the network could absorb and then ask the APA to adjust its proposal downward.

Whiteboard Analysis – What Is the Right Formula for US Legacy and LCCs?

This conversation is underway not only in union halls, but also on Wall Street and in corporate boardrooms. It is a topic on the Dallas Morning News’ airline blog click here. While Mr. Maxon sees the APA proposal is a bombshell, I see it as a starting point for negotiation that appears to be stuck. Historically, scope language is among the last issues negotiated in pilot contracts. Let’s switch it up this time and figure out exactly what unions want their respective companies to be - global leaders or niche players?

We talk a lot here about CEOs that are genuinely concerned about value creation versus value destruction – Glenn Tilton at UAL, Doug Parker at US Airways and Richard Anderson at Delta. But another CEO has been hard at work totally rethinking his business as well: Gary Kelly at Southwest. This past week, Kelly spoke directly to the “perils” facing the industry click here. Kelly and his pilots are also engaged in a discussion of scope language as their business is about to get more complicated with proposals for international flying and code shares as a way to boost revenue production.

With little to no clear investment thesis in the core business of airlines, UAL this week declared a special dividend to its shareholders click here, much to the chagrin of its employees and a very passionate Holly Hegeman who writes about the action in her blog, Planebuzz click here. If nothing else, Tilton and UAL are consistent in their focus on the shareholder – often the most ignored of stakeholders in the airline industry. While I can see the employee view, at-risk compensation is a way around this angst.

So unless the business of the business starts to have a clearer line of sight to the customer – meaning delivering a product that the customer is willing to pay more for – then the payment of special dividends, the selling of wholly owned subsidiaries, consolidation and/or a slow liquidation of US flag airlines will continue. You know, money talks and #$*&! walks.

Concluding Thoughts

I really think the APA is on to something with its scope proposal. Let’s talk about scope first among the tough questions that will determine the future shape of the US airlines. Once that question is answered we can move on to a meaningful discussion about how to better compensate a workforce because the current seniority-based, hourly rate system simply is not effective in the modern market.

Structured properly, this round of negotiations may just lead to finding the right network architecture to make the US carriers global leaders again. Or not. But doing business circa 1970 is not going to get it done. So let’s remove the clutter and the underbrush and start with a clean whiteboard. Maybe even do what the European carriers do and create business units that carry cost structures to match the sub markets they serve because they recognize that a one size fits all just does not work. And this approach could indeed be done with pilots on the APA list – just ask Northwest and US Airways.

Let’s stop saying it just cannot happen. It can.

Tuesday
Dec042007

If It Doesn’t Add, Let’s Begin the Subtraction Process

What Is Wrong With US Regional Industry Attrition?

It is increasingly clear that, in addition to fuel, regional airline industry overcapacity – a “bubble” in this writer’s opinion - may be the second most important catalyst to consolidation in the US airline industry.

Today, USA Today wrote about the capacity issue in an article about cuts in airline schedules across the industry, even in the face of strong demand click here. Maybe this is a precursor of things to come.

When domestic market overlap is evaluated, it is the respective regional network webs that will give pause to regulators and legislators, particularly considering the extent to which consumers may be disadvantaged as the result of consolidation. This is where network overlap occurs, not on the densest routes replete with competition from all sectors of the industry.

At last week’s ACI-NA International Aviation Issues Seminar in Washington DC, I tried to come up with a politically astute answer when asked a question on consolidation. But given my inclination to tell it how it is, I ultimately acknowledged that, on this subject, there is no “politic” answer.

I think Doug Parker had it right. I’m in no position to make that call, but looking at Parker’s blueprint for US Airways, he was suggesting some smart decisions. Why does Jacksonville, NC need nine flights a day to connect its airport to the US air transportation system when six are sufficient? Why does Greenville-Spartanburg need 25 choices for 100 or so passengers a day to and from Los Angeles?

The US industry is now struggling to shed fixed costs in an era when many airlines already have achieved significant cost savings from labor; fuel costs are outside anyone’s control and therefore not an option; and most of the cost reductions already have been wrung out of the distribution area

Since 2002, transport related expenses as reported by the mainline carriers – the vast majority representing the purchase of capacity from regional partners - increased more than fourfold to more than $17 billion in 2006 click here. If there is a cost area that deserves, and needs, reevaluation it is regional capacity deployment.

To put it in perspective, the $17 billion in expense spent by the mainline carriers on regional capacity exceeds the market capitalizations of United, American, Northwest and US Airways combined.

A Contrarian View of American’s Decision to Shed Eagle

Since American announced its intention to spin out its wholly owned American Eagle unit, I am troubled by some of the analysis. This is not about American or even about the FL Group, an activist AMR shareholder that has pushed the company to divest assets. This is about a sector of the industry with failing economics – the regional sector. And this surely is not about mainline pilot scope clauses. This is about economics: pure and simple. This is about American continually persuing the cleanup of its balance sheet.

If Southwest is continually revising downward planned capacity, then this relatively expensive capacity is surely difficult to maintain, yet alone grow.

As I have written here before: there are too many network carriers; too many low cost carriers; too many hubs and too many regional carriers. Already, we are seeing some signs of a pilot shortage. And the growth of the regionals – much of it built on labor arbitrage and an over-reliance on regional jets over mainline narrowbodies – is now slowing to a crawl. So why shouldn’t we begin to shrink the regional sector? Delta has Comair up for sale or some other transaction, which has been public knowledge for some time.

Financial engineering the AA deal is not. Pinnacle was the last financial engineering attempt using a regional platform and in the end the market correctly valued the expected revenue streams based on activity in the industry at the time. Mainline carriers began paying lower margins based on reduced revenue flows as the bankruptcy parade commenced. If AA were looking to enhance shareholder value, they have two or three other options that surely would have been announced before this one.

Prior to its Chapter 11 filing, Delta sold ASA to Skywest for a fraction of the price it paid for the regional carrier. Skywest negotiated certain terms in the event of a bankruptcy filing by the parent. More importantly, the broken carrier Skywest bought at a deep discount also came with a 15-year Air Service Agreement with Delta on pay out terms that are believed to be significantly better than newcomers to Delta’s regional stable receive.

This is the type of deal I would expect in the case of AA and Eagle. American has signaled to the market that it plans to maintain the current lift being purchased from Eagle. Yes, a new Air Service Agreement would have to be negotiated along with the transaction. What will be different with this deal is that aircraft will begin to come “off lease” over the term so the “buyer” may be purchasing reduced cash flow streams going forward. This is not financial engineering but economic reality. But they will be buying cash flow streams nonetheless – and that revenue is what matters to the analysis, not scope clause limitations.

Some Concluding Thoughts

Maybe this deal could be a catalyst to begin a long and overdue attrition of the regional industry as we know it. If there is a pilot shortage, then you are buying pilots. If you are looking to build a capital base that could be leveraged in other areas, this could be an economical means to buy what you could not build organically – particularly in this environment.

Growth is not occurring with 50 seat flying; that has been a well- documented fact for the past two years. But it takes the same number of crews to fly a 70 or a 76 seat plane as it does to fly a 37, 44 or 50 seater. Carriers participating in new flying with mainline partners are now purchasing their own aircraft. The purchase of new aircraft requires both cash flow and a sufficient capital base. The inclusion of Eagle assets and cash flow will surely provide a regional provider with more long-term staying power to withstand the necessary changes within this sector.

Just as we have talked about a domestic airline industry that could ultimately shrink to three or four legacy carriers, then it also is safe to say that three or four regional carriers are more than sufficient to meet demand. Skywest and arguably Republic will be there in the end. The question is who will join them in supplying capacity to the mainline carriers. The regional carrier space needs multiple providers, not only to ensure the competition for feed that the buyers want in the marketplace, but also to avoid the labor disruptions possible when a carrier is dependent on feed from just one provider.

Concluding Thoughts For Government

This is not a time to be “knee jerk” in a federal response to U.S. carriers that are struggling to be profitable at home while quickly being relegated to secondary status in the global arena. Just because there is an airport in a congressman’s district does not necessarily mean it makes economic and financial sense for airlines to offer service.

Yes, the government should ensure access to the US and global air transportation systems for as many communities as possible. But it is not commercially viable to offer each of those airports around-the-clock service. This bubble has raised unrealistic expectations for air service. Now we need to relieve pressure on an industry before it breaks.

Wednesday
Nov282007

Heeding the Divestiture Cry? American to Spin Off Its Eagle Unit

This afternoon, American announced its intention to spin off its American Eagle unit click here. Given the talk surrounding the company to consider spinning off AAdvantage, American Beacon Advisors, American Eagle and its maintenance unit, this announcement should come as no surprise.

Calls for American to spin off AAdvantage were first made by Reykjavik-based FL Group, which owns 9.1 percent of American in September. All US carriers, and not just American, are considering means to respond to increased shareholder pressure as airline shares have significantly underperformed the Standard & Poor's 500 Index this year.

One might say that AA is considering the divestiture of a regional carrier late in the cycle when growth has slowed considerably. On the other hand, if you believe that the regional sector of the US airline industry is not immune from consolidation, it just may be the right time to participate in the purchase of a carrier with a $2+ billion revenue stream that American says will remain intact as the parent plans to maintain all current feed provided by Eagle.

That revenue stream and an increased capital base will certainly have some attraction to regional sector’s biggest players: Republic, SkyWest, Pinnacle and others looking to assure their survival as its sector of the industry matures as well. American suggests the transaction will be a 2008 event with all the necessary caveats. No details have been provided on a deal structure other than a blank whiteboard.

Monday
Nov262007

U.S. Airline Management and Labor: The World is Smirking at US

On Thursday of this week, I have the honor of addressing the ACI-NA (Airports Council International - North America) International Aviation Issues Seminar ACI-NA :: Meetings And Conferences :: Calendar of Events in Washington, DC.

What great timing. Because the fact is, as carriers across the world are changing their business models to respond to the new global aviation market, U.S. carriers are far behind the ball in making the changes necessary to compete.

I won’t use this space to preview my speech, but there are a couple of points I’ll use that lectern to address.

For one, and as I referenced in an earlier post about the Dubai Air Show on November 13, 2007, click here I find it troubling that the vast majority of the orders for new aircraft are coming not from U.S. carriers, but from carriers operating in previously obscure regions of the world. They are the ones that will be on the leading edge as our markets are exposed to increasing competition from foreign carriers. Is the US being relegated to a supporting role in tomorrow’s global aviation market?

Julie Johnnson of the Chicago Tribune weighed in on just this subject in her “must read” that ran on November 25,2007 click here. It offers an insider’s view from a global carrier on the U.S. airline industry, from the labor battles to many carrier’s struggle to maintain identity in a changing marketplace. I read between the lines that we may be winning some battles but are sure to lose the war if we do not address the competitive deficiencies of the U.S. legacy carriers that compete for the international passenger.

And so to labor. So much energy and time is devoted to management-labor skirmishes that’s it is no wonder that foreign carriers are moving forward while we look back. Whereas Qantas has taken advantage of weaknesses and structural change in its home market to succeed, we appear in no shape to do the same -- despite a known outcome for some.

Perhaps it is time for the U.S. carriers – management and labor alike and together – to stop focusing on the small battles and begin to plan for the big one: maintaining, and even expanding, market share in an increasingly competitive global industry.

Wednesday
Nov212007

Thank you flyby519

Whereas this blog has not matured to the level of others in terms of receiving a large number of comments to my posts, flyby519 has taken the time to respond twice and asks some very good questions while offering very good insight to the industry. While I am thankful for much this holiday season – family, friends, a successful career redirection and a lower handicap – I am truly thankful to this reader for the questions raised. So my Thanksgiving post will respond to each question asked by flyby519.

In a comment to my post, Wondering Thoughts From 5 Time Zones Away, flyby 519 asked the following questions:

Question 1: “I agree that VA [Virgin America] isn’t going to go far just doing transcon service in a saturated market, but do you think there is a future for them feeding the Virgin Atlantic routes”?

Answer: My simple answer is yes I do. But given that Virgin Atlantic is not a large connecting carrier on the London end, and much of Virgin America’s initial service launched in the US has been from the largest gateway markets to London, it will take some time for the Virgin Atlantic – Virgin America connection to play itself out. My struggle with getting excited about Virgin America is its timing into the US market. 5 years ago, I would have a much different outlook and level of excitement for its ultimate success. But if attrition is expected in the US market, then probably a good bet to make by Branson.

Question 2: “Is creating a global brand the ultimate plan for the Virgin Group”?

Answer: We have to acknowledge that Branson is a branding genius and it is hard to suggest that this venture is any different than any of the 200+ ventures he has entered to date. While feed to Virgin Atlantic may develop over time, enhancing the visibility of the Virgin brand in existing gateways, just as the transatlantic is expected to become even more competitive, will prove to be an import indirect benefit to Virgin Atlantic in the near term.

Question 3: “I also am concerned with the aircraft orders coming just from foreign airlines. The weak dollar and sad state of US airlines are forcing them to pass up expansion, which (combined with open skies) leaves room for invasion from the foreign carriers. What will happen with increased competition and reduction of market share internationally for our struggling carriers”?

Answer: Flyby519, thanks for picking up on this statement as I rank this question in the top 3 or 4 points I have made here.

Your point on the dollar v. foreign currency and the effect it has on the “ability to buy” cannot be underestimated. We are about to witness the Boeing v. Airbus strategies (consolidate v. fragment) play out before our very own eyes. I do believe that the US carriers will be disadvantaged by carriers making extensive new aircraft orders and looking to expand their services into existing gateway markets. In addition, if new carriers begin to serve secondary points in the US, – and we should expect some - much like Continental and Delta are doing from the US into Europe, then the game is truly joined. But the US industry should not be alone in this concern.

If I am a major European carrier with an extensive network built to serve all world regions, I am watching with much anxiety what is going on in Dubai, Doha and multiple points in India where competition for global traffic flows is very much in its infancy. And if there is concern over what competitive juggernauts might be constructed in these regions, then some concern is warranted regarding the existing health and architecture of the global alliances built by the largest US carriers and their global partners as well.

Networks can be made vulnerable in many areas and this global network industry is about to get challenged by well capitalized, aggressive competitors like none we may have seen to date. My view is the game is just being joined and why I blogged on the idea presented by Willie Walsh, British Airways’ CEO last month click here. My question back to you is: Are we being naive to think that domestic consolidation is the best means to stave off vigorous competition from another world region that is sure to degrade our current sources of revenue?

In another comment to my post, "Musings and Meanderings Over the Past Week", flyby519 asked the following questions.

Question 1: It seems that Tilton has been jabbering about mergers, spinoffs, and crazy talk for the past few years. Is he just trying to play the "look at me" game to get investors cash?

Answer: The more I read Mr. Tilton, he is consistent in his message regarding the industry needing to restructure itself. His quote that I used in one of my posts click here - “Think of any industry represented in this room; choose any business listed on the Tokyo Stock Exchange; and one can be sure: it looks nothing like it did ten years ago; and looks nothing like it will ten years from now”- really resonates with me.

Whereas he may be trying to play the “look at me” game, my sense is that he understands that creating value for shareholders is going to happen in one of two ways: 1) a slow liquidation (and I use that phrase guardedly); or 2) despite United’s size in the global spectrum and despite deep cost cutting that occurred during its bankruptcy, the business is far from fixed. In a parochial sense United is big, but in terms of how changes in the global airline architecture might play out the second largest carrier in the US is merely a piece of a much larger puzzle. He may get beat up for how he articulates issues but his arrival to the airline industry as an outsider gives him perspective that should not be totally discounted just because some might not like the message.

Question 2: “I also agree that there are way too many carriers of all types, but how can this be reduced when there is always a startup (ie: skybus, virgin america) waiting to jump into the game? Are the regulatory hurdles for consolidation greater than the barriers of entry for newcomers”?

Answer: Absolutely the regulatory hurdles for consolidation are greater than the barriers of entry for newcomers. Great point! And this is precisely the type of backdrop where the industry should be evaluated. Further, it puts front and center a US Government aviation policy that promotes fragmentation. At some point I would hope that the USG would take a look at the industry from a financial perspective and appreciate, that even with consolidation, significant levels of competition will remain – whether it be to Greenville-Spartanburg or to Geneva or to Seoul.

Oh I digress as that same policy has permitted a carrier like Korean to access multiple points in the US and carry significant levels of US traffic to China because of the route rights it owns on the other end. But in the interest of competition we will promote a policy of what is good for one is good for all and everyone should have rights to China even if the divvying up of service results in a duplication of services in a developing market. What is wrong with a few strong carriers carrying the flag to compete against direct and indirect competition?

Happy Thanksgiving to all. The readership of this blog has grown to levels I never imagined when I undertook this labor of love.

Thursday
Nov152007

Dear Mr. President (and Congress): These Short-term Solutions to Congestion Gives Me Indigestion

As I am doing my afternoon browse of aviation news, I find myself struck by another press release issued by the White House Press Office entitled “Statement by the President on Aviation Congestion” click here. Certainly, some of the short-term actions being undertaken make sense and are being applauded by industry click here. But the final suggestion offered is as follows:

“Finally, the Department of Transportation and the FAA are working on innovative ways to reduce congestion in the long run. While short-term improvements in flight operation and passenger treatment can help, they do not cure the underlying problem: In certain parts of our country, the demand for air service exceeds the available supply. As a result, airlines are scheduling more arrivals and departures than airports can possibly handle. And passengers are paying the price in backups and delays.

The key to solving this problem is managing the demand for flights at overloaded airports -- and there are a variety of tools to do this in a fair and efficient way. For example, fees could be higher at peak hours and at crowded airports, or takeoff and landing rights could be auctioned to the highest-value flights. Market-based incentives like these would encourage airlines to spread out their flights more evenly during the day, to make better use of neighboring airports, and to move the maximum number of passengers as quickly and efficiently as possible.

This concept is called "congestion pricing." It has shown results in other areas of our economy -- in other words, other parts of our economy use congestion pricing. Some states offer discounts to drivers who use EZ-Pass, which reduces long waits at the toll plaza. Phone and electricity companies balance supply and demand by adjusting their rates during peak usage hours. Applying congestion pricing to the aviation industry has the potential to make today's system more predictable, more reliable, and more convenient for the travelers. Over the past seven weeks, federal officials have raised this idea with airlines and airport representatives in the New York area. I've asked Secretary Peters and Acting Administrator Sturgell to report back to me about those discussions next month”.

Whereas I will never suggest that I am an expert on the air traffic system, I do understand the economic drivers of cost to the airline industry. The “Fathers of Deregulation” envisioned the masses flying at significantly lower prices. This industry has evolved and adapted and delivered on the economic experiment undertaken in the late 1970’s. Consumers have benefited through significantly lower prices while shareholders, employees, and other vital stakeholders in the industry have suffered to varying degrees.

Now, nearly 30 years later – because you did not keep your promise to provide an infrastructure that could accommodate the goals and objectives of government policy that was so important in 1978 – you are going to turn the tables on the consumer and make it more expensive for them and somehow - I am sure - will find a way to blame it on the industry that delivered consumer choice and lower prices. And while the consumer is certainly impacted by delays in the system, have you ever thought about the direct cost to the airline industry stemming from delays that are not of their own making?

Market-based incentives are not necessarily going to change the clock that dictates the demand by consumers for air travel at certain times of the day and I do not read that possibility in your release. Further, your inaction on this issue is yet another catalyst to consolidate an industry that destroys capital rather than creates it. But I am sure that when the industry is forced to discuss the very real need to consolidate, the costs imposed on it by government actions/inactions – both direct and indirect – will be forgotten by you and your friends on Capitol Hill.

And all of this discussion at a time when the US signs an open skies deal with the EU that offers promise to an industry struggling to find new (read profitable) flying opportunities. The industry has made it known that at $100 oil it will surely consider cutting capacity. When we cut capacity, the least profitable markets will suffer (read small community air service Congress and President Bush). When we cut capacity, labor is disenfranchised. We could go on.........

There is just not much adhesive left on this band aid.

Wednesday
Nov142007

Passive Consolidation Talk Turns Active: Delta and United?

As I wrote in "I Hear the Train a "C"omin' " below, I think we can say I see the train and it's a comin'.

With the recent speculation about what the catalysts might in triggering a consolidation of the industry, clearly high oil prices are. Jeff Bailey of the New York Times writes in the past hour about a letter sent to each United and Delta from Pardus Capital Management proposing a stock for stock swap combining the two carriers click here. The AP reports that the two carriers have been in discussions click here. Shares in each United and Delta are up on the news.

Note: William Swelbar is a shareholder in United Airlines.

Tuesday
Nov132007

Wondering Thoughts From 5 Time Zones Away

The underpinning of this blog is that change in the US airline industry is underway -- whether some like it or not. Over the past week there were some stories that grabbed my eye and are listed in order of importance from my point of view. There were many stories that warranted discussion like the orders coming from the Dubai Air Show, another meeting between US Airways CEO Doug Parker and Senator Arlen Specter, oil prices testing $100 per barrel, airline stocks getting beaten down, schedules at JFK, United suggesting it might, and could, put up to 100 airplanes on the ground given the changing economics and the list goes on that further underscore change.

Speaking of the Dubai Air Show and the aircraft orders being placed there – doesn’t it bother US readers that the orders are not from US carriers but rather from previously obscure points on the map that have every plan to change the shape of global aviation? It sure does me. Is the US being relegated to a supporting role in tomorrow’s global aviation market? I sure hope not.

These Are Not “Competitively Virgin” Markets

Holly Hegeman in Planebuzz ran a great piece last week where she summarized a research note from Gary Chase at Lehman Brothers click here. In his note, Gary finds that Virgin America is pulling down capacity in its transcon markets without any noticeable shift of that capacity to other markets.

The markets where the low cost sector has chosen to operate have generally been the densest US domestic markets. You would have thought that Virgin would have learned something from jetBlue and others that the competitive profile of the network carriers is vastly different today than just 4 years ago. The days where the legacy carriers that are most dependent on transcon revenue, whether from nonstop or connecting flights, are going to stand idly by and see further market share and revenue degradation take place are over.

In a Spring 2003 MIT forum, I did a piece on the Low Cost Carriers, subtitled “Thou Shalt Not Inherit the Earth” click here. LCC growth was the talk of the time. This piece was shared with mainstream press but largely ignored. Now it is mainstream, and even “futurist” by some, to talk about the revenue generating difficulties faced by the LCC sector. Whereas, Virgin America is well capitalized and arguably has a brand, it further underscores the point that the opportunities are limited for this sector to grow at previous rates.

We talk about consolidation with respect to the legacy sector of the industry when in reality the more interesting plays may be in the LCC sector – a sector that is highly dependent on revenue in the largest US markets. A capacity shift here, a capacity pulldown there and ………

Say It Ain’t So Joe

AirTran Chairman, Joe Leonard, sells his remaining stock holdings a week after stepping down as CEO click here. As for AirTran, it is unfortunate that their bid for Midwest fell apart. This company has performed admirably, but remains badly in need of diversification of its route portfolio and Milwaukee, along with Minneapolis, remain two of the largest markets without meaningful LCC presence.

While Northwest suggests it is only passive in its partnership with TPG, you have to look at that partnership and wonder what TPG sees other than to know an exit strategy is there for them at any time. Midwest’s recent performance does not warrant that kind of interest from a TPG and its business plan is circa 1999.

Do these changes at AirTran signal something?

This Is Not Bill Nyrop’s Airline: At Least Today?

Following a wrenching summer of customer and labor strife after emerging from bankruptcy, the external messaging we hear from Northwest is quite different from what we have ever heard in Minneapolis? In an article by Liz Fedor in the Minneapolis Star-Tribune: NWA Puts An Emphasis on Service click here highlights comments from the Board’s new Chairman, Roy Bostock, citing his desire “to create a better environment for Northwest's employees and customers and develop more sophisticated techniques for measuring customer experiences”.

Is this real or will Northwest realize the same fate that is playing out in Ft. Worth between labor and management after an attempt to find a new way? Given the contentious nature of the labor-management relationship that has historically been the norm at Northwest, this would at least appear to be a good start. It is always easier to begin these programs when amendable dates are years away. However, with Northwest in the center of consolidation talk (click here and click here) we will be watchers of the airline’s progress on service and employee relations.

Maybe This Time, “Delta” Really Does Mean Change

In an AP story covering Delta’s President and Chief Financial Officer, Ed Bastian called consolidation a “front burner” issue for the carrier click here. And as the company discusses consolidation, its message to all stakeholders has been consistent. But while the company suggested it would like to answer the consolidation question before it makes any decisions regarding spin offs, it made an agreement last week that would grow its internal maintenance operation click here.

This on top of its transatlantic deal with Air France and KLM and a decision pending on whether to sell Comair suggest that this company is doing anything but managing its enterprise for the future. I could not have been more wrong on my views of this company. I have spoken publicly about an airline with presence everywhere, pricing power nowhere and generally lacking a plan and direction. We will not know for sometime whether or not their international strategy is the right one, but the results since emerging are impressive.

Business Week made a case that the logical acquisition target for Delta should be Northwest click here. This story is a good read, not so much for the combination case it makes but more to the references made about an industry badly in need of continued restructuring ….

American and the TWU: Talk of gAAin v. pAAin

Trebor Banstetter of the Ft. Worth Star-Telegram did a nice summary of the TWU’s remarks as it presented its Section 6 opener to the company last week click here. If there is a union at AA with a substantial opportunity, and a competitive platform, to discuss “gain sharing” with the company it is the TWU. But I would argue it is not the entire TWU membership that is in the same position. It is the mechanics, the skilled workforce, that have this substantial subject matter to discuss.

One does not have to read too many articles to realize that American has chosen to invest in its maintenance organization – obviously a profit center that warrants the use of internal capital to fund an operation that has been successful in bringing in new work – and new revenue. The TWU suggests that they would like to return to 2003 levels of pay and work rules (not likely given the industry’s profit position). The company seems open to linking earnings to performance and productivity goals click here (an opportunity to make at-risk compensation a reality).

Whereas the AP story suggests a union “less friendly” – that may be true. But at least on its face, there is an understanding that preventing an environment that has caused significant pain for their co-workers at other carriers that filed for bankruptcy is a better path to follow. My hope is that the TWU and AA find some inventive ways to proceed that can reward the skilled workforce that is making Tulsa a new revenue source.

I further hope that the TWU does not use the skilled workforce to cross-subsidize the other members it represents as the sub-labor markets are quite different. There are too many lessons to be learned from the IAM on this subject ….

Sunday
Nov042007

My Beginnings and Increasingly Appreciating Tilton's Message

This little bit on me should go a long way to helping you understand where I came from and how it impacts my views on the airline world today. I now have history to reflect upon – I did not when I began in the industry and was forced to make decisions as a union leader to ensure that my carrier survived the war of attrition.

Glenn Tilton, UAL’s Chairman and CEO said last week in a speech to the Nikkei Global Management Forum in Tokyo: “If there is one imperative for every business in the global economy today, it is simply this: evolve, adapt, reinvent . . . or risk irrelevance in the global marketplace”. He went on to say: “As everyone here today knows well: the reality of our world is that globalization is relentless. Think of any industry represented in this room; choose any business listed on the Tokyo Stock Exchange; and one can be sure: it looks nothing like it did ten years ago; and looks nothing like it will ten years from now”.

Some Personal Background

In 1979, I was a sophomore at the University of Minnesota in Minneapolis. And like many, going to school required I worked a job or two to make ends meet. In trying to incorporate all things important in life at the time -- beer, going to class or not going to class, going to work, girls, beer and getting up to do it all again, one thing was clear - I was not getting much out of school that felt particularly inspiring.

It was at this time that I had a conversation with a cousin who had been a flight attendant for TWA; she suggested that the job would allow me more than sufficient time off that I could finish school. I was turned down by Braniff and ultimately hired by North Central Airlines. While I was in training, North Central and Southern merged to form Republic Airlines. So, by the time I graduated in 1979, I was a Republic flight attendant on an airplane to be based in Detroit.

I had no idea what I was getting into, but it was more than I bargained for. I sat reserve for the first six months, constantly putting in for lines on the Convair 580. Soon, I was able to hold a line that had me overnighting in Huron, SD after making 11 landings from Detroit and facing 10 landings back the next day. So, in that first year at Republic, there was no school for me. The industry was deregulated just nine months before I was hired. Republic grew quickly and my relative seniority allowed me hold a line of illegal overnights. With that relative security, I enrolled at Eastern Michigan University.

There I was blessed to find a great academic environment with only 20 declared economics majors. Classes were small, the professors were engaged and, finally, the lust for learning emerged. I carried 15-18 hours per semester while flying my line and finally finished my undergrad in 1982. My flying took me from Huron to sleeping in the basement of the Sault Ste. Marie Airport on Friday, Saturday and Sunday nights. With only rare exceptions, I flew two years and never left the State of Michigan – flying at night from Detroit to Traverse City to Pellston to the Sault and then retrace those steps again beginning at 5:30 the next morning. Often the basement of that airport was my study room.

In 1981, the industry began an era of massive change promised by the deregulators. The dinosaurs, free from the yoke of regulation, began to rethink their approach to the business. What followed was the the quick liquidation of Braniff, the rapid entry of carriers into markets of all sizes based on the hub and spoke network model, the grounding of the DC10s, the PATCO strike, the birth of upstarts like New York Air and PEOPLExpress, multiple mergers and the era of Frank Lorenzo. By the end of 1981, Republic had acquired Hughes Air West and I got to experience a merger firsthand.

Republic and its lineage were highly dependent on government subsidies that encouraged airlines to serve the small communities I flew to on a daily basis like Pellston, Muskegon and Ironwood. And as this subsidy was coming to an end, it was clear that Republic's costs and their revenues were falling out of alignment. Between 1981 and 1983, airlines across the industry negotiated several concessionary contracts during an era of change in which concessions were the rule rather than the exception. The contracts were in effect for only a few months at a time because most people assumed that the economic cycles were similarly short-lived ... and in virtually all cases, as soon as the concessions came to end, the return to the bargaining table was not far behind.

As I neared graduation, I was encouraged by my co-workers to run for President of the Detroit domicile, a position I won in the middle of this concessionary era. I crunched numbers and made some mistakes, but also began a different phase of my education in an industry well into transition. By mid-1983, the five Republic unions were tired of this constant return to the concessionary bargaining table and formed a steering committee to explore a leveraged ESOP of the company where I served as the flight attendant representative.

Our first job was to hire the professionals needed to do the job. We hired an airline economics firm, an investment banker, a labor lawyer, a lawyer familiar with ESOP law and a communications firm. Our second job was to figure out how to pay them – a task we accomplished by assessing the members of each union.

With professional arsenal in tow, we began to create a business plan that required hard discussions about the amount of labor concessions that would be required to fund an LBO. In our view, it was well worth the effort to try to fix the company rather than be forced to endure more and more concessions that amounted to mere Band-Aids that labor was putting on a carrier that was hemorrhaging cash as the industry changed around us.

The centerpiece of the union’s business plan was a the build up of the Detroit hub. So with business plan in hand, it was off to New York to talk with banks that might be interested in lending us inmates the $400 million or so it would take to buy the asylum. For the most part the five unions stayed together. The IAM and its maverick investment banker at the time, the late Brian Freeman, were in and out, but generally on board with a deal.

During one trip to New York that took us to Citibank -- Republic’s lead lender -- Republic CEO Dan May was relieved of his duties and replaced by a very tall man in red suspenders. Into the room walked Stephen Wolf. As Wolf came on board, the negotiations moved away from a leveraged deal to a more traditional give-and-take with equities as the quid in return for concessions – and take they did.

In the end the flight attendants agreed to a 23.5% pay cut and some work rule changes. In return, the best we could negotiate for all employees was approximately 20 cents on the dollar for concessions granted, a return on our “investment” made up of common stock, warrants and a liquidating preferred stock that was paid down with earnings. Following Northwest’s purchase of Republic in 1986, the employees at Republic were made whole for their concessions. That is the “upside” of variable compensation that has left an indelible mark on my thinking.

21 Years Later

Today’s airline environment feels about the same as it did in 1986. Structural change. Consolidation talk. And many people attempting to convince themselves that the Band-Aid approach to labor costs will only need to last through one cycle before they can get it all back.

This time, however, it is not so simple. For one thing, foreign airlines now play a far greater role in the important “domestic markets” that span the globe. Events like the Air France – KLM merger will dictate commercial strategies. Strategic models like the one LAN is implementing are sure to have made a lasting impact on commercial airline development when we look back in 2028. The two great unknowns are how Asia will develop and what will transpire in the nations comprising the United Arab Emirates. This region will certainly force change across the globe over the long term and will surely cause the European market to look in the mirror in the relatively near term.

Twenty-one years ago, we didn’t have the same rules of engagement or recent history as our guide - as there was none. In a changing marketplace, it took a proactive approach to make a flailing/fledgling carrier live to see another day and “create value” for a new platform when leveraged across a much bigger network.

UAL CEO Glenn Tilton, one of the most maligned CEOs in the US industry, began talking about the changes necessary for the industry and his carrier to survive soon after United emerged from bankruptcy. As can be expected, a lot of people took shots at the messenger, as they did at US Airways' Doug Parker who echoed Tilton’s warnings. But these chief executives now have company in the form of nearly every CEO at the major US network legacy carriers in discussing consolidation in their third quarter conference calls.

It’s time we accept the fact that this is a time of opportunity for both management and labor. Just as it was during immediate period following deregulation of the US domestic airline industry, the dinosaurs face continued, significant change or extinction. The old ways are certain to face additional challenges from the new, with youthful competition making inroads into our respective markets and new competition from airlines emerging from previously unknown dots on the world map.

The Pentultimate Question

In his Tokyo speech, Tilton asks the following question: “As globalization gives rise to new economic powers within the developing world, the real question for all of us operating in mature economies today is this: will the legacy systems that contributed to the success in developed nations in the 20th Century be an asset or an impediment to growth in the 21st Century”?

He goes on: “The airline industry is a perfect platform from which to focus this discussion, because it is subject to virtually every imaginable challenge -- every human challenge, industrial challenge, financial, regulatory, and security challenge -- throughout the global economy. And then, of course, we also contend with the weather”.

Aloha

Wednesday
Oct312007

Swelblog.com: The First 31 Days

Whereas it has only been one month since I ventured into this unknown world of blogdom, suffice it to say that this labor of love has been among the most gratifying endeavors I have ever experienced. As I said in my very first post entitled Swelblog.com Taxiing Into Position: click here “I did not start this blog to win friends or influence anyone. I’m a data guy, and I’ve been studying the industry long enough to come up with some strong opinions . . . many of which aren’t popular in either boardrooms or union halls. My approach is analytical because, in my view, the numbers don’t lie.”

I have been moved by the comments made in other blogs and the press about this site and the use of some of the comments expressed here. To Holly Hegeman Planebuzz, Terry Maxon Airline Biz, Trebor Banstetter Sky Talk, and Loren Steffy Houston Chronicle I am grateful. To these, and all other, enlightened influential watchers of the industry and the many other readers who have commented to me via other mediums, I very much appreciate your welcome.

While I may not need to reiterate this point, I am going to as I want to make sure the readership fully understands that this blog and the MIT Airline Data Project are separate. I use the MIT site’s data to analyze issues because I know how the various metrics have been calculated, vetted and presented.

It was the second post, “All Eyes on Texas” that certainly seemed to launch this blog. Some agreed with my ordering of the difficulty of the pilot negotiations and others questioned my ordering. That is the sort of healthy debate that I hope happens here as the blog matures. As a result of my immediate previous post where I addressed a sensitive issue regarding the cost of the APA pilot opener, there were a number of comments made. I have always wanted this site to show both the “positive” and the “negative” comments regarding what I have written and, until Monday, I have made each of the comments available for public review.

But as the days following that piece unfolded, Monday morning I posted a comment that I should not have posted and ultimately deleted it. While it had some valid points, this blog was starting to become a venue supporting the views of one employee at AA challenging another. Then after I authorized the post to be published, a follow on comment was made which I deemed was exacerbating the situation versus having a meaningful exchange of views. I rejected this post. It is one thing to attack me -- and trust me you are in a long line of those that have had the opportunity long before I started this blog.

I welcome, no, I want comments on the issues discussed here -- but check the emotion at the door. From this point on, this site will not be used for personal attacks on another person commenting – period. There are many other venues for that. This is my blog and my rules. And they are changing as I learn.

There was a comment from flyby519 posted to Swelblog that I did not acknowledge and should have as it was precisely the type of thoughtful comment that I want to address in this blog click here. We will pick up here over the next couple of days.

Happy Halloween

Friday
Oct262007

Just Put It On Ice: American’s Ability to Pay ≠ APA’s Expectations

As I read this morning’s Wall Street Journal, the headline on page 2 is “Economy’s Weak Signals Persist” and the headline on page 3 is “Oil Tops $90 on Range of Worries.” What this means for the airline industry is well documented in Planebuzz click here.

We said the eyes would be on Texas airline labor negotiations, and we got a good glimpse of that this week. The Allied Pilots Association presented its Section 6 opener to American Airlines on Tuesday. This writer’s take on what American is seeking is a cost-neutral contract (which in effect preserves APA’s industry leading position) where productivity gains could cross subsidize increases in other sections of the agreement. By contrast, APA asked for pay increases in the 50% percent range.

This is one rich deal. Add the productivity gains and the multiplier effect of wage increases on pension and benefit costs (and well before any opportunity costs or opportunities lost are analyzed), my back of the envelope calculation suggests the price tag on this proposal is comfortably a three comma number. Yes, the number starts with a B and not an M. And this is before negotiations start with the other unions representing the vast majority of AA employees.

Let’s put this in perspective: Today, American has a pilot cost per block hour disadvantage versus every single one of its major competitors in the US market click here. If American had a pilot contract along the lines of the Continental agreement, that is at or above the industry in terms of compensation and productivity, American would need to reduce its annual total pilot costs by as much as $500 million click here. But American is not seeking concessions; it is seeking a competitive contract recognizing the “gives” by labor outside of bankruptcy.

I argue that the APA proposal fails to serve its members. Not just because of the costly demands, including the proposal that pilots receive holiday pay if they fly Super Bowl Sunday, but because the union’s demands insist upon a return to 1992 wages adjusted for inflation. That sets completely unrealistic expectations when put in context of the massive change in the landscape for network carriers, and the US airline industry for that matter, since the mid-1990s. American’s average “nominal” domestic fares were actually lower in 2006 than they were in 1995 click here.

In the media coverage, the APA suggested that its opening proposal would lead to a quick settlement. I beg to differ.

When two sides are so far apart on an agreement that there is no basis for movement, it is said that negotiations are “put on ice.” For many reasons, this round of labor negotiations is the most important since deregulation. For the major airlines to have any hope of succeeding for the long term, this upcoming round of contract talks must produce agreements that are durable and sustainable and make strides toward eliminating the cyclicality that has plagued discussions between labor and management for the deregulation generation.

There remains a real opportunity for these negotiations to be “industry interesting” in a good way and think about ways for employees to share in any upside while still realizing some protection in the downturns. That’s what the unions should be aiming for in getting their members a deal.

But if, in the APA’s view, the upside means in a 50+% increase in base rates then there really is no starting point. Openers are supposed to be starting points, not the point of no return.

Executive Compensation

We cannot discuss industry economics and labor without also discussing executive compensation. For as long as I have been in this industry, airlines have been run for pilots, by pilots and in fear of what pilots might or might not do. As a former flight attendant – that is how I put myself through school - I constantly questioned it and still do. For virtually any carrier, in a list of the top 100, 200 or 500 most highly-compensated employees, the majority would be pilots.

This industry has never had a deep bench of management talent . . . in part because airline executive contracts have historically not been as rich as executive contracts in other industries. The executive management team in the airline industry is usually there because they have jet fuel running through their veins, not because the financial upside is so great.

Many say that there is no justification for the executive payouts in recent years across industry – not just the airline industry, but throughout corporate America. But the simple fact is that markets are at work. Not all markets are rational, but given that markets by definition operate on perfect information, ultimately they return to the trend line.

For CEO’s, CFO’s and CIO’s the market rates are set in New York, Des Moines, Singapore, London and Los Angeles as companies in the US and around the globe are seeking the same talent to do the job for them just as American seeks to find the best people to fill these positions as well.

The reality is, however, that a new market rate has been set for pilots and it is not 1992 times inflation to the sixteenth. It is $120,000 and not $180,000 click here.

For awhile, “pattern bargaining” fueled an unrealistic – and unsustainable – growth in average pilot wages. It began with Delta’s lucrative pilot contract in 1999, followed by United’s topper in 2000 as it followed the "Delta Dot" along the road to bankruptcy.

Now there’s a new pattern, and a new market reality, and that is the contracts reached in bankruptcy and ratified at United and US Airways in 2002 and 2003. That’s how the market works, and airlines – like companies in any other competitive industry – generally compensate management and employees at the going market rate and as necessary to retain its best people – period.

Don’t assume that I support executive compensation packages that have benefited senior leaders while workers have seen their lives negatively impacted. I do not. But, I am a believer in markets. The convergence of what is paid to pilots, flight attendants, ramp workers has found an equilibrium and that is what markets with perfect information do. Will the market rethink executive compensation as well? I think so.

So......

We can spend a lot of time thinking about the APA proposal or just recognize that negotiations in this round will take some time. During restructuring, the market realities dictated quick negotiations and resolution. This time it is different. Neither labor nor management has significant leverage. Labor is trying to create leverage using the executive compensation issue because there is little else that resonates as well with a broad base of employees and the public. Meanwhile, management teams are doing their job and actually posting profits at a time when pricing power continues to decline - with no adjustments for inflation. The only structural change now permitting increases in revenue is in reduced capacity and in the lofty levels where oil is trading and, finally, an industry willing to pass on a portion of those increases to the consumer.

There are many who say the industry’s recent profitability comes on the backs of labor. That argument ignores the fact that the recovery is the result of tactical and strategic decisions, combined with other management actions, to achieve profits in an environment that has been structurally changed.

Keep in mind: $4-5 billion in profits in an industry earning $130 billion in revenue does not signal a healthy recovery.

I’ve titled this post “On Ice” for more than one reason.

The first page I read in the newspaper is the sports page. In an interview in the October 25 USA Today, Paul Kelly, the new Executive Director of the National Hockey League’s Players Association had some profound thoughts to share click here.

1. "Do we need to understand where we should cooperate and where we should draw the line? Absolutely," Kelly said. "But anyone who thinks I'm going to fire the first shot across the bow of the NHL, they've got it all wrong."
2. "My view of the world is that unless you have a personal relationship, a real human relationship with someone, it's difficult to transact real difficult business," Kelly said. "I want to get to know Gary, and I want him to get to know me. And I understand that there is a line there — that we represent different interests."

Perhaps hockey and airlines have little in common. But negotiations are negotiations, and they are not done on an island.

At American, as well as across the industry, pilot negotiations are going to result in "transacting difficult business". Captain Hill, reach out to Gerard Arpey and begin a real negotiating process. Mr. Arpey, reach for Captain Hill and reiterate the commitment you have made, and kept, to maintain pension benefits and retaining the components of the pilot’s agreement that ensure that AA employees will have dignity in retirement and in their day to day living to the best of your ability to pay – something that cannot be said of all carriers in this industry. Otherwise it could be a long, cold winter in Ft. Worth.

Page 1 ... 16 17 18 19 20 Next »