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AMR: Making Every Gallon Count


When it comes to pinching pennies, few full-fare airlines can match American. During his long tenure as American Airlines' chief executive, Robert Crandall loved to boast that his decision to remove a single olive from passengers' dinner salads saved $40,000 a year.

Today, with oil prices soaring north of $70 a barrel, American's cost-cutting culture is more critical than ever. Thanks in part to a flurry of initiatives that the company believes will slash fuel consumption by roughly 3% this year, vs. 2004 -- a seemingly trivial amount that nonetheless represents more than $220 million in annual savings at current prices -- the Fort Worth-based carrier is likely to emerge as one of the few airlines to turn a profit. Energy-saving measures run the gamut from the surprisingly simple, like removing unused service galleys to reduce the weight of the plane, to the supremely sophisticated, such as using algorithms to help pilots use less fuel while in the air. "American has been at the forefront of getting costs down through innovation and collaboration with its employees," says Michael Boyd, an airline consultant in Evergreen, Colo.

As a result, American estimates it will consume 110 million gallons less than in 2004. That's a remarkable feat considering that it hasn't had the money to upgrade its fleet to more efficient aircraft. Nearly half its planes are older, gas-guzzling MD-80s. What makes efficiency even more crucial is that American is paying higher average prices for jet fuel than carriers such as Southwest Airlines Co. It was too cash-strapped to lock in the low prices of 2003 and 2004 by buying then for future delivery. Even now, American has to watch every gallon. It has hedged only 15% of its fuel needs for the rest of 2006 and almost none thereafter, it said in an Apr. 20 government filing.

Like American, businesses across the economic spectrum are using ingenuity and innovation to find new ways to remain profitable in the face of soaring energy prices. Wachovia Corp. (WB) economist Mark Vitner estimates that it now takes only three-quarters the amount of energy to produce the same amount of economic output as in 1990. "One of the economy's greatest strengths is its ability to adapt. That has lessened the fallout from energy shocks like this," he says.

Leading American's drive is Gerard J. Arpey, who was named CEO of parent AMR Corp. (AMR) -- in 2003. Arpey immediately challenged employees to find new ways to reduce the use of energy, an initiative now known as Fuel Smart. Most of American's employees have embraced the program, understanding that their jobs -- and pensions -- are riding on its success. "The reward for me is the survival of this airline," says Steve Chealander, an American pilot who is in charge of flight-efficiency programs. "It's the employees that are going to make it or break it."

CHASING TAILWINDS

As fuel costs began to soar after Hurricane Katrina, American installed "winglets" on all of its 737s and many of its 757s. Those are devices that, when attached to the wings, help reduce drag and increase range. Robert W. Reding, senior vice-president of technical operations for American, estimates that move alone is saving between 100,000 and 140,000 gallons annually per aircraft.

Then American made an exhaustive review of the interior of its planes, scrutinizing "anything that doesn't provide value," Reding says. First, American ripped out one of the food-service galleys in some planes and replaced it with four extra seats. Next, Reding's team analyzed the amount of potable water carried to make coffee and flush the toilets. Their finding: Forty-seven gallons was far more water than was being used on most flights. Gradually, American cut by half the amount of water it carries on its MD-80s. That eliminates as much as 200 pounds of deadweight, a move that should generate roughly $2.8 million in fuel savings once the carrier rolls the practice out to the rest of its fleet.

At the same time, American also began rethinking how its pilots fly their routes. While the carrier has long had teams of meteorologists who closely track weather conditions, American instructed its staff also to more closely analyze wind patterns. Today, thanks to special algorithms written by American's software programmers, pilots know which speed and altitude to fly at to make the most of tailwinds and avoid headwinds that increase fuel consumption.

In some instances, American began rerouting planes to fly more efficient routes. Last year, it received permission from the Transportation Dept. to fly its new Chicago- to-Shanghai route directly over the North Pole when the weather allows, a move that saves the carrier more than $3,000 per flight. At the same time, American added life vests on more coastal routes, such as Dallas to Miami and Miami to New York, to enable the pilots to fly directly over water, rather than on more circuitous routes that follow the mainland. Once the pilots arrive at their destinations, American pilots now taxi in on one engine, a tactic that the airline says is generating yet another $2 million in annual savings.

American's ability to cut its fuel bill is paying off. Wall Street analysts now expect American and AMR to generate a profit of better than $200 million in 2006 on roughly $22 billion in revenues, after losing a cumulative $8 billion since 2000. "The fact that they've been able to be profitable even with fuel prices soaring is significant," says Helane Becker, airline analyst at New York-based investment advisers Benchmark Co.

But American isn't home free yet. Its pension fund is $2.3 billion underfunded. Unless Congress grants it more leeway, the company may be forced to use a big chunk of its $4.8 billion in cash to meet the 2007 deadline to close most of that deficit. And as part of its cost-cutting campaign, the airline has deferred any orders for new aircraft until 2013, which will leave it with the oldest fleet at that point. "They are in great shape now, but they could be in trouble in a couple of years," says Vaughn Cordle, chief analyst for AirlineForecasts LLC, a Clifton (Va.)-based research firm. Then again, American's ability to make money in the face of rising energy prices suggests the odds have improved immensely that American will still be around in 2013.

By Dean Foust, with Brian Grow in Atlanta


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