Magazine

Commentary: The Airlines' Unlikely Catalyst for Change


For an industry already in the deepest crisis in its history, it's easy to see why the prospect of war is looking like a downright catastrophe. Yet for all the pain that a war would inflict on U.S. airlines, there's also a silver lining: The war could hasten the restructuring that the industry so badly needs for long-term health.

Of course, it's hard to appreciate the benefits of a war now. Even a short and successful battle could cost the industry another $4 billion this year, on top of an already predicted $7 billion net loss, and push several more airlines into bankruptcy, according to the Air Transport Assn. And airline service will likely be scaled back, perhaps leaving some smaller communities in the cold. But faced with the huge scale of the crisis, airline managers and unions may no longer be able to drag their feet on trimming excess capacity, eliminating marginal routes and getting labor and other costs down enough to again be profitable competitors.

Much, of course, depends on just how bad things get. A prolonged war accompanied by plummeting traffic, sky-high fuel prices, and more acts of terrorism could throw the industry into chaos and further harm the economy. In that scenario, some of the weakest carriers, most notably bankrupt United Airlines (UAL) and US Airways (U), could face outright liquidation. "We're flirting with the complete collapse of our major transportation system," warns J. George Mikelsons, CEO of American Trans Air Inc.

Such a scenario could increase the pressure on the government for a further bailout that ultimately could reduce the incentive for change. But that's not the most likely forecast. Instead, industry execs and analysts see a short war that will hurt traffic and raise fuel prices. Although most of the industry will muddle through, they will burn through ever more of their dwindling cash reserves.

That will raise the pressure for major cuts in wages and pensions, as well as changes in work rules. And it will force managers to take an even tougher look at unprofitable routes and back-office inefficiencies. Bankrupt United will feel the biggest squeeze. Labor and management are still far apart on a $2.5 billion-a-year cost-cutting plan. The airline lost $382 million in January alone and is already in talks with its lenders about easing loan conditions in the event of war. If the conflict is worse than expected and the unions and management can't bridge their gap, lenders could pull the plug on the foundering carrier, putting routes and assets up for sale.

A United liquidation, though it would reduce industrywide capacity, would provide only temporary relief for American and other struggling rivals. "Without substantial labor cost changes, the low-fare carriers will continue to eat [the hub-and-spoke airlines] up, and they will probably be in serious trouble in the next downturn," says Philip Baggaley, an airline analyst at Standard & Poor's. He projects that American could file Chapter 11 by midyear without substantial labor concessions.

Considering the airlines' weakened state, it's no surprise that the industry is furiously lobbying Washington for financial aid. High on the wish list is a request for the government to pick up the airport security tab and to extend affordable war-risk insurance. Some analysts even suggest the airlines could be temporarily nationalized, similar to what occurred when the government created Conrail in the midst of massive Northeastern railroad bankruptcies in the 1970s. These days, says Reno Bianchi, an airline bond analyst at Salomon Smith Barney, "everything is possible" in the airline industry.

Still, that seems pretty far-fetched during an Administration that espouses a free market philosophy. And barring a complete meltdown of the transportation system, don't expect any kind of cash handout, such as the $5 billion in grants and $10 billion in loan guarantees the government extended after September 11. With a gaping budget deficit, Washington has little stomach for helping the airlines beyond, perhaps, some temporary tax relief. This time around, they may be much more on their own. But the painful period ahead could set the stage for a long-awaited, and much needed, airline restructuring. By Wendy Zellner

With Michael Arndt in Chicago and Lorraine Woellert in Washington


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