Airlines Need New Routes to Profitability

What’s really wrong with major airlines, and why they can’t turn a profit?

They’re trying to operate as full-service department stores in a Wal-Mart and Costco world. Thus, they are unprofitable because their costs are too high and not suited to a world where consumers increasingly expect low fares, just like shoppers increasingly expect discount prices.

That’s why major airlines are trying furiously to cut costs. AMR Corp.’s American Airlines is shuffling some schedules, laying off employees and retiring old airplanes. US Airways Group filed for Chapter 11 bankruptcy protection over the weekend after failing to get a wage concession agreement from its machinist union employees. And UAL Corp.’s United Airlines is pressing for a government loan, on grounds that its losses stem in part from the disruption to travel patterns after the Sept. 11 terror attacks.

But for many reasons, the airlines are unlikely soon to return to profitability. One reason is that the business has changed, and today the lower-cost air carriers, led by Southwest Airlines Co., account for 19% of air passenger business, says Michael E. Levine, a former executive at three airlines and now a law professor at Yale University.

“It used to be, if you got eight or 10 full-fare business travelers, you could fly profitably no matter what happened. The major airlines built their business on that model,” Levine says.

Major airline service, geared to corporate customers, offers convenience of frequent flights, rapid connections through hub airports, ability to change or cancel travel plans on short notice plus meals and movies in flight. In the late 1990s, business travelers paying fares that rose dramatically in the boom environment made the airlines profitable.

“But that day is gone,” says Levine.

Today full-fare business travelers account for only 20% of passenger traffic, says Barbara Beyer, president of Avmark Inc., an airline-consulting firm in Arlington, Va. The real mainstay of the airlines is the leisure and vacation travelers “in the back of the bus,” Beyer says.

That spells trouble for the major airlines because leisure and vacation travel has been down this year, in the aftermath of Sept. 11. And to compete for the leisure traveler’s business, the major lines have had to cut fares even as they operate at costs that are 50% to 100% higher than those of Southwest, JetBlue, AirTran, Spirit, Frontier and many other discount airlines.

Airlines measure their costs in available seat miles, or ASMs--what it costs them to transport a passenger in a single seat for one mile. Southwest’s cost is 7.5 cents per ASM, compared with 11.33 cents per ASM for American, 12.06 cents for United and 13.40 cents for US Airways.

Southwest’s costs are so much lower because it does not offer the convenience of connecting passengers through hub airports, does not transfer baggage to other airlines and does not serve meals. Southwest’s employees are unionized but paid on different terms.

Southwest’s pilots, for example, fly 70 hours a month compared with 50 hours a month for pilots at American and United, and Southwest’s pilots are paid by the trip--piecemeal. But the airline flies more trips than the majors because it specializes in short distance flights.

Southwest has succeeded over 30 years because from the start it offered a Wal-Mart model--with its now semiretired Chairman Herb Kelleher boosting employee morale by turning out to handle bags on Thanksgiving weekends--and pledging no layoffs as long as the airline kept growing.

But in a world of international and transcontinental air travel, all airlines can’t copy Southwest’s model. How can major airlines get their costs down and turn a profit?

They will have to reduce capacity, says consultant Beyer. She sees the airlines using smaller aircraft to fly many routes--a Boeing 767 rather than a 747 from Washington to London, for example. Also, there will be less frequency of flights into and out of major airports, Beyer predicts.

Given the delays for security procedures at all airports, that would be a logical move as well as a cost-cutting one, she points out.

Ultimately, Beyer sees major airlines having to choose the specialties at which they can make a profit, such as long-distance travel or special luxury flights.

Until now, the majors have used their hub airports to try to attract as many passengers as possible, expanding their fleets of aircraft and filling some seats at a loss in order to compete with the discount carriers.

Such practices not only reduced the major airlines’ profitability but also often annoyed their target customers, the full-fare-paying business traveler.

In the future, as they specialize and reduce the size of their fleets, the majors could create a shortage of airline capacity and charge more for the available seats, Beyer says. Charging more would go against a trend of lower fares that dates to airline deregulation in 1978. But so what, says Beyer.

“Air travel at cheap fares is not an entitlement,” she says.

Yet it is equally likely that discount airlines will continue to proliferate.

There is a surplus of usable airplanes, some of them new, parked in “mothballs” in the California deserts during the current downturn in air travel. Those planes are owned mostly by aircraft-leasing companies, such as General Electric Capital and International Lease Finance Corp., that would be happy to see them flying and producing revenue.

The verdict of the industry’s economics is inescapable, says Levine, the onetime airline executive.

“The major companies will have to really cut their costs by slashing their commitments to unions, to hub airports, to aircraft manufacturers,” he says.

For the present, he expects changes to be gradual. But the process may have begun that

will lead to a very different

airline industry a few years from now.

James Flanigan can be reached at jim.flanigan@latimes.com.