Delta's Life Or Death Move: Could Be Cure For What Ails Legacy Airlines
Aviation Week & Space Technology
02/07/2005
An old joke about two hunters being chased by a bear has relevance to the situation of the U.S. "legacy" airlines during the past few years. The bear is getting closer and closer to the hunters and shows no sign of tiring.
"It's no use," gasps one of the hunters. "There's no way we can outrun this bear." "You don't understand the situation," says the other hunter. "I don't have to outrun the bear. All I have to do is outrun you."
Delta Air Lines' dramatic "SimpliFares" reform of its domestic price structure is dismissed casually by the low-cost discount carriers--the bears--as having little consequence for their unrelenting growth and gains in domestic U.S. market share. By a recent estimate from Continental Airlines, these carriers' share reached 24% in 2004 and will grow to 26% this year. And the bears are right: SimpliFares won't affect their march in the least. But that's not the point. Delta doesn't have to outrun the low-cost airlines. It needs to outrun the other five network carriers among the Big Six, and thus be one of the survivors if and when the much-anticipated industry shakeout arrives.
Delta is reducing the cost of full-fare coach service to $499 for its longest segments and somewhat less for shorter stage lengths. It is eliminating Saturday-night-stay requirements and reducing the cost of itinerary changes. These moves have significance for business travel, the segment of the market that used to bail the network carriers out of their cost problems. Full fares mean little or nothing to leisure passengers, who don't think twice about buying tickets 14 days in advance and, except in emergencies, couldn't care less about the restrictions. Business people are the ones who want to fly on short notice, change their itineraries and be home for the weekend.
Ever since the late-1990s' U.S. economic boom went bust, the low-cost airlines have garnered more than their accustomed share of business passengers. This will continue. But for network airlines to return to profitability, they will have to do two things: extract higher yields from passengers than they are getting now and reduce their costs to the point that the resulting revenue will lift them out of the red. Many in the industry think it will take one or more liquidations among the big carriers for this to happen. The theory is that there is simply too much capacity in the market, and growth among the low-cost carriers only makes it worse.
Thus, Delta's big move. The carrier--which just passed United Airlines to become the second-biggest in the world, measured in terms of capacity--is betting that the cost reductions it already has attained, plus pay and productivity concessions from its pilots that are just taking effect, plus more cost-cutting, plus increased revenues from a rational fare structure and reasonably-priced perks, will make it a survivor when someone fails.
Delta believes its cost cuts and "profit improvements" will amount to about
$4.4 billion this year and more than $5 billion in 2006, relative to 2002.
The airline allows that its restructured fares will depress revenues for a time rather than increasing them, probably throughout 2005, but it is looking for stability and growth in the longer run.
Aviation Week & Space Technology has no idea whether these estimates, hopes and wishes will come true, but it's evident that a die has been cast.
Delta's initiative by itself won't lead to a contraction in the industry, and there may in fact be no contraction at all. But the Big Six's course of the past three years--get smaller, cut costs, seek labor and creditor concessions, amass and conserve cash, and pray for lower fuel prices--isn't a formula for success. Matching the low-cost carriers' prices in markets they invade, and running a few fare sales of their own in an attempt to keep market share, won't cut it either. All of these steps are necessary, but they aren't sufficient.
The fact is that it's very hard for an airline or any other U.S. corporation to go out of business. Bankruptcy laws enable many a company to reorganize itself successfully, but they also prolong many an agony. In the case of the
post-9/11 airlines, federal grants and the guaranteed loans of the Air Transportation Stabilization Board have slowed any industry shakeout that might be developing. The board's $900-million loan guarantee to US Airways in 2003 made it a full participant in the airline's second trip into Chapter
11 last September, and the board has bent over backward since then, waiving this loan covenant and that one. Clearly the board, its staff and its consultants were as surprised as anyone in the industry by the stagnant yields and ballooning fuel prices that have held everyone down.
In these circumstances, many of us lose sight of the fact that this isn't some board game like Monopoly that we're watching with such fascination. The airlines that are most in danger are among the largest U.S. companies--most important to the economy, national security and the well-being of its citizens. In that context, Delta's pricing initiative emerges as something more than putting a hotel on Boardwalk. It will save Delta or kill it and if the former, the strategy will show the rest of the industry the way to go.