But how many crosses can American and other airlines bear before backs start breaking? Even before September 11, the industry was under tremendous strain. Corporate America, which accounts for about 70 percent of the industry’s revenue, had slashed budgets for business travel, and carriers were expecting a collective loss of about $2.5 billion for the year. But then the unimaginable happened, wiping out half the industry’s business overnight. Despite grounding hundreds of aircraft and laying off about 80,000 employees, airlines are burning through cash at a breathtaking rate of close to $500 million a week. Annual losses may climb to $9 billion this year, even after the $5 billion in government bailout money. The industry, whose stocks are down about 60 percent this year, is struggling to adjust to a new and uncertain future. “All of us now have reset the gauge in our brain,” says Gordon Bethune, CEO of Continental.
But if passenger traffic and fares don’t start rising soon, experts warn that bankruptcies will be likely in the next six months. (Traffic has been off 30 percent since the attacks.) “September 11 has called into question the ultimate survival of many carriers,’’ says William Warlick, an industry analyst at Fitch, Inc. The airline business has always been lousy, with thin profit margins and wild boom-and-bust cycles. But with revenue off so sharply, the airlines are still stuck with high fixed costs like plane and airport leases and pricey labor contracts. That leads to some cruel new math–a 20 percent cut in flights leads to only 7 percent to 12 percent in savings. Goldman Sachs estimates the industry is hemorrhaging more than $67 million a day, and no airline’s pockets are deep enough to sustain such losses for long.
United is suffering the most, with estimated daily losses of $16.4 million, according to Goldman, and it’s a case study in the industry’s structural problems. Last year it handed its pilots union raises of up to 28.5 percent, pushing the pay of a new Boeing 747 United captain to about $260,000 a year. Over the past decade wages, which account for more than a third of an airline’s costs, have risen faster than fares, a dangerous long-term trend. And last month United, which in this new environment would have to fill an impossible 96 percent of its seats to break even, warned employees that the airline “will perish’’ unless changes are made.
For some carriers, bankruptcy may be the only option. Experts throughout the industry say that cash-starved America West may the first to file. But they also note that if a big player like United were to file, others might feel forced to follow its lead to remain competitive. (American, for all its recent troubles, still has one of the strongest balance sheets, with about $2.5 billion in the bank and access to about an additional $8 billion.) After all, for all its pain and disruption, bankruptcy does allow airlines to shed liabilities and pressure their unions to rip up contracts and replace them with new, lower pay scales. Some executives acknowledge that if business remains soft, it may be the only hope for creating a new business model with a good chance of turning a decent profit. “The whole industry could end up having to reorganize in bankruptcy if traffic does not begin to return,’’ says Ray Neidl, an airline analyst at ABN Amro. For all the recent speculation about possible mergers, that’s a less likely outcome–there are more sellers than buyers these days, and history shows that airline mergers are usually unsuccessful. “Now is not the time to be running around looking for an acquisition that has even more financial challenges than we have,” says American’s Carty.
As the future outlines of the industry emerge, one trend is clear, and it’s not good news for the big carriers: the creation of a clear two-tier system of smaller low-cost carriers and big, full-service airlines. Southwest Airlines may have only about 7 percent of the market, but it has become a national powerhouse with a stock-market value equal to more than all its bigger rivals’ values combined. Its simple formula has generated 28 straight years of profitability–stripped-down service, low fares and low costs thanks to its single-model fleet of Boeing 737s and favorable labor contracts. Remarkably, Southwest didn’t ground a plane or lay off a single worker after September 11, and still managed to turn a profit in the third quarter. Its steady expansion around the country prompted carriers to respond in recent years with lower-cost operations like US Airways’ Metrojet and Shuttle by United. But those operations, which failed to replicate Southwest’s magic formula, are being folded, and Southwest and other low-cost carriers like JetBlue and AirTran are poised to grow even faster. For proof, simply look at what’s happened recently in the Phoenix-to-Los Angeles travel market, says Michael Linenberg of Merrill Lynch. Southwest’s shares of the total daily seats flying between the cities jumped from 45 percent as of Sept. 1 to 64 percent on Nov. 1 at the expense of competitors like American and America West.
Behavioral scientists have just as good a shot as Wall Street number crunchers at forecasting what this industry will look like in coming years. The answers to its future size and profitability lie in consumer psychology. How many people, spooked by images of September 11 and Nov. 12, will avoid flying? Will business travelers cut back further on trips because of the hassle of endless screening checkpoints and a persistently soft economy? And if business travelers do return, what kind of fares might they be willing to pay? Some industry experts draw parallels between the current decline in traffic to sharp downturns that followed the explosion of Pan Am 103 over Lockerbie and other air disasters. Traffic inevitably came back, they point out, and it came back stronger than ever. “We do not believe that the trend of the past 70 years has been permanently and inexorably broken,’’ says Sam Buttrick, an airline analyst at UBS Warburg.
After a grueling week that included a draining visit to New York to comfort the families of victims of Flight 587, Carty remained optimistic about the industry’s long-term prospects. Videoconferencing may replace some travel, but Carty believes it’s a poor substitute for human contact. “You can’t do business with someone you don’t really know,” he says. He can only hope that corporate America agrees.
