'Legacy' airlines facing doom?
Grim conditions will cause top carriers to fail, experts predict
09:04 AM CDT on Thursday, April 8, 2004
By ERIC TORBENSON / The Dallas Morning News
WASHINGTON - Unable to bring down their high costs fast enough, many traditional airlines are doomed to fail, experts at an airline conference said Wednesday.
Growing costs for pensions and health benefits for retirees are exacerbating cost disadvantages that major carriers face compared with discount competitors. The grim cost picture combined with a steadily smaller share of revenue spells big trouble, even for carriers that have restructured themselves in the past two years, such as Fort Worth-based American Airlines Inc.
"They're icebergs drifting south," said Michael E. Levine, a former executive with Northwest Airlines Inc., now an adjunct professor at Yale Law School. "It's inevitable what's going to happen to them - we all know what happens to icebergs moving south."
Top carriers that haven't already sought bankruptcy protection will ultimately be forced to, he and others predicted at the conference here on the threat of low-fare carriers.
Being bigger doesn't provide much of a cost advantage, Mr. Levine said, and so-called "legacy" airlines such as American, United Airlines Inc. and Delta Air Lines Inc. will always be saddled with much higher costs than Dallas-based Southwest Airlines Co., which doesn't offer pensions for its employees, and newcomers who have no senior employees, such as JetBlue Airways Corp. and AirTran Airways Inc.
Pension costs, despite pending legislation working through Congress that would delay some of the impact for traditional carriers, will eventually choke the airlines' cash flow, said Vaughn Cordle, a United pilot and financial analyst who studies the industry.
The top six carriers have defined benefit pensions that are collectively $20.5 billion under-funded. Even if they can collectively start making money again, the obligations to pay those plans will swallow hundreds of millions of dollars in cash flow that those airlines need to pay off other debt, he said.
The legislation, if passed, pushes back two years of "catch-up" payments but simply delays a potentially devastating financial impact, Mr. Cordle said at the Embry-Riddle Aeronautical University conference, which was attended by about 100 reporters and industry-watchers.
Carriers hopeful
The carriers themselves are more optimistic. James Beer, chief financial officer for American, said in a recent interview that the carrier is confident that "we will be able to meet all of our fixed commitments." He noted that investors have eagerly bought up securities sold by American, indicating Wall Street's faith in the carrier.
Mr. Beer did confess he wants to see stronger operating results, which the airline needs to manage its burden of about $22 billion in total debt, including aircraft leases.
"What I would like to see more of is cash flow from operations coming more swiftly," he said. "That's the key to solving the amount of debt we have on our balance sheet."
American has done the most of any major carrier outside of bankruptcy to lower its costs, which figure to be about 17 percent lower than what they were in the first quarter of 2003.
The airline has far less ability to boost revenue, as low-fare carriers continue their relentless expansion. Discounters such as Southwest flew in just 159 of the top 1,000 routes in 1990. Today, they fly in 754, giving better than three-quarters of the nation's fliers some sort of low-cost alternative to traditional carriers.
Before the September 2001 terror attacks, airlines such as American believed they could earn more revenue - a premium of 30 percent or more over their entire network - compared with Southwest and other discounters.
But panelists and financial analysts such as Gary Chase of Lehman Bros. said large carriers today can only hope to earn a revenue premium of 10 percent - or even less.
"It's a cost-based solution," Mr. Chase said, meaning traditional airlines will have to continually hack away at their expenses to stay afloat as average airfares continue to drop around the country. Network airlines have run out of routes to fly where they won't face discounters, though some at the conference predicted a big push toward international travel as a way for large carriers to find better revenue.
The solution for big airlines isn't to abandon their busy hub airports and to try to emulate Southwest's point-to-point schedule, experts said.
Indeed, nearly a quarter of Southwest passengers are flying the discounter as if it were a large network airline, stopping in Southwest's "quasi-hubs" such as Baltimore/Washington International Airport and connecting to another flight, Mr. Levine said.
Downsizing ahead
The number of large airline hubs will certainly shrink. Robert Gordon, a professor at Northwestern University, predicted that Delta will eventually pull its hub from Dallas/Fort Worth International Airport. The Atlanta-based carrier has already downsized its D/FW hub in the last 18 months, but has said it's pleased with the results.
Hubs still work very efficiently for traditional carriers, but only the largest ones will survive the onslaught of discount airline expansion, Mr. Gordon said.
As traditional carriers fly a smaller share of passengers, a painful restructuring awaits, including bankruptcy and possible liquidation, said Darryl Jenkins, an airline expert with Embry- Riddle.
But bankruptcy doesn't always fix big airline problems. US Airways Corp. emerged from Chapter 11 protection last year, and still has the highest unit costs of the majors and will soon see its biggest hub, Philadelphia, invaded by Southwest. Many experts at the conference said they expect US Airways to go back into bankruptcy protection, where it will struggle with possible liquidation.
Meanwhile, Delta and Northwest are struggling to bring down their labor costs outside of bankruptcy. Bankrupt United needs the pension legislation to pass in order to attract cash to get out of Chapter 11, leaving only Houston-based Continental Airlines Inc. among the six largest carriers that isn't facing some sort of cost crisis.
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