I wasn't suprised at all and I have decided to repost below my 9/2/02 article entitled UAL Appoints NEW CEO.  You can read the article via the link or by reading the comments below.  I would note my belief in the following:

1. UAL will have to get further concessions from union members, who are still paid ALOT per mile.
2. UAL will need to make sure they fly only a few types jets to reduce training costs and to ensure the maximum amount of flexibility.
3. What isn't being discussed, at all, is the growth of airlines outside the U.S. that have SUBSTANTIALLY LOWER labor costs.  This gives them a competitive advantage vs. U.S. carriers.  I would note though that many overseas carriers don't have to fly with the same level of safety standards so buyers should be very aware of that.  My father personally told me he would NEVER fly on China Airlines because their planes are so poorly maintained.  If anyone is interested, this guy flew over 5 million miles in his career so he knows about planes, airports and traveling in a big, big way.
4. I think that UAL will likely come out of bankruptcy but first we are going to see massive amounts of layoffs (labor contracts are fully renegotiated now), the company will likely have to reduce the number of routes they fly and it will be interesting to see if the company continues with its hubs/spokes strategy moving forward.  Such strategies can oftentimes result in layovers that cost the airlines substantial labor costs.  
5. Finally, I am not going to forget to mention that the bulk of the problems are attributed to weak end demand from business customers (economy is in the toilet), a company that over leveraged themselves, union members that continually asked for more and more money and a management team that was inept at best.  

The writing has been on the wall for a few years now folks.  This shouldn't be a suprise.

My Article:

On September 2, 2002 UAL, the parent company of United Airlines, appointed oil executive Glenn Tilton as chairman, chief executive and president of the parent of struggling United Airlines.

His mission, should he accept the assignment: Steer the No. 2 U.S. airline to financial stability as quickly as possible.  

The above rhetoric is what we are hearing from most journalists and corporate/PR folks.  I believe Tilton's appointment is much more than what meets the eyes.  Lets take a look at some reasons why:

http://www.agsm.edu.au/~bobm/teaching/MDM/pennzoil.pdf

2) Familiar with fixed cost businesses: While Tilton isn't isn't an airline industry executive he has worked in an industry that is known for its high fixed cost nature.  The airline industry is extremely capital intensive since companies must acquire/lease expensive jet airplanes.  When you run a fixed cost business the goal is to run the asset all out and to maximize utilization (passenger loads) of the assets.

3) Tilton has to take control of a high fixed cost business that is heavily in debt.  Unfortunately mature, deregulated industries normally result in low margin business with high debt levels.  When anything goes wrong it has a major impact on business results and can potentially throw an airline into bankrupctcy.  

The below chart shows UAL vs. other airlines.  While its leverage ratio isn't much higher than many carriers it is clearly higher than Southwest Airlines.  A 90% leverage ratio is a heavily indebted company.  Make no mistake about it.

The following graphs / pictures are taken from an Air Transportation Association Report from August 23, 2002.  The link is http://www.airlines.org/public/industry/bin/Econ102.pdf

UAL has a bigger problem though.  It has labor costs that are higher than most airlines.

Here is where it gets really interesting though:

&

So, at the end of the day what do we have in the airline industry:

1. High leverage (typically 90% or higher).
2. Passenger traffic down 10%.
3. Mail / Cargo traffic down due to business weakness.

The above issues don't even begin to deal with:

1. UAL & other major carriers losing market share to Southwest & other new carriers.
2. Unions of every group in the airline industry are continually demanding higher wages despite not providing more value to customers.  Wages in the airline industry are outpacing the economy and unions believe they deserve higher and higher salaries / wages even though the stock market / economy are in turmoil. 
3. The industry is one of the most heavily taxed industries in the United States.  While fares haven't been rising dramatically the tax rates in the last 20 years have soared.  If there is a revenue source to tax politicians do it.  ONE NATION UNDER DEBT = HIGHER AND HIGHER TAXES!  STOP SPENDING OUR MONEY WASTEFULLY POLITICIANS!

Lets look at these issues one at a time:

UAL and others have been getting creamed since '92 primarily because they aren't meeting the demands of business travelers who want cheap, direct flights.  Increasingly business travelers feel that the major airlines charge excessive fares for most major city direct flights.  Additionally, the major airlines are increasingly loading the planes with more people.  While they will tolerate full flights (that is business) it is one thing to be fully loaded with business passengers who get onboard and sit promptly vs. consumers who take forever to get onboard and sit down / get up.   

As we can see from the below graphs breakeven load factors are near record highs due to low prices (a weak economy) and higher wage costs.  Additionally, notice how UAL has the highest breakeven costs amongst carriers.  This is due to leverage and higher wage costs than other carriers.

Finally, lets look at the greedy government.  There isn't a source of revenue they didn't enjoy taxing to generate fees for extra pork at home.

All of the above concerns have caused airlines to trim costs anywhere they can.  With the emergence of the Internet consumers increasingly have more power to shop for competitive fares.  This is causing airlines to pinch travel agent costs in an attempt to minimize the damage from higher costs elsewhere in their organizations.

Concluding Comments: UAL is heavily indebted, its debt trades far below market value, its wage costs are the amongst the highest in the industry and revenues are down significantly since about two to three years ago when the economy peaked.  Given Tilton's background I anticipate that he will demand some pretty dramatic wage concessions from the unions.  Since the unions claim to "own" the airline they have helped to run it into the ground.  Yes, there was poor management but the major airlines have some serious issues to deal with.  They need to have better on-time performance, more direct, cost-efficient trips for business travelers and they need to learn the reality that consumers will only pay so much for an airline ticket.  

Airline companies need to go public about how highly taxed they are.  It would get sympathy with consumers, who hate having to foot the bill for such costs.  As airline prices increase year after year consumers and business travelers have alternative choices such as driving which many are doing in today's environment.  As the lines get longer at airports due to security and the airplanes get more crowded with consumers business travelers, who drive airline profitability, are increasingly turning to the open road or airlines that get them where they need to go quickly and cheaply.  Southwest being the #1 example of an airline that is executing that strategy. 

Dan Ross

dan@betterbizbooks.com

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