Why are transportation companies in financial trouble?

Factual Questions
1

Maybe this is something for Great Debates, but it’s been bothering me for a while.

Why are transportation companies, especially airlines, in such dire straits? I can understand business being a bit off because of fears of terrorism, but people are still travelling. Huge airlines are drowning in red ink. Amtrak is a financial train-wreck, though federal politics plays a key role there. I think even Greyhound has problems. Auto manufacturers, especially Daimler-Chrysler, seem to be struggling, yet there are more cars than ever. Yet, somehow, Southwest Airlines has profits and happy employees, so there must be money to be made.

Is this really a corporate ploy to somehow con the taxpayers into propping up businesses and industries? It seems to me that transportation is something that everyone needs, so there ought to be huge gobs of money to be made by people who provide this essential service.

2

Look at it this way: Airlines were making pretty meager profits a few years ago, and travel really has decreased, what with the reccession (less money to throw away on tickets) and the attacks (renewed fear of flying). Now the revenues from tickets have decreased, while operating costs (fuel, insurance, etc.) have stayed high. Supply, demand and simple arithmetic show that the airlines have no choice but to lose money.

But what about Southwest, you ask? How can they make a profit? Well, I guess it’s just their luck and good business decisions that have enabled them to grab a larger chunk of what’s left of the flying market.

3

I recall reading a couple of years ago that as an industry the airlines have NEVER made much money – during the regulation era route monopolies, various subsidies and contracts to carry mail kept them going, but during the dregulated era, they didn’t even have those to prop them up.

One reason is that transportation companies have enormous fixed costs – what they have to pay for the equipment, personnel, airport gate rental, etc. stays roughly the same whether the plane takes off nearly empty or full, or whether it takes off at all, for that matter.

Airlines in particular have to deal with the weather. A thunderstorm or snow storm that closes a hub airport sends shock waves through the entire system, fouls up schedules, forces rebooking of passengers and so on.

Airlines use huge amounts of fuel every day, so even a price change of a penny per pound of jet fuel can mean the difference between decent profit or big loss. They can hedge this somewhat with fixed-price contracts, but if they haven’t anticipated their fuel needs exactly, they have to buy additional fuel on the even-more-expensive spot market.

Most U.S. airlines rely on high-fare business travelers for the bulk of their revenue. Obviously, you’d rather have 10 business travelers paying the full $600 fare and fill the rest of the plane with $99 vacation travelers, than have an entire plane full of vacation travelers. However, for years businesses have been squeezing travel costs as much as possible, which also squeezes the airlines (also business hotel chains and rental car companies.)

Southwest is unique for a number of reasons. For one, they stay away from the more expensive airports (Love Field in Dallas instead of DFW, Providence instead of Boston, etc.) That works fine for recreational travelers, but a business executive going to a meeting wants to fly into New York City, not Long Island.

For another, Southwest only flies a single type of airplane, the Boeing 737. That means lower maintenance, training, etc. Again, that works for them, but United can’t exactly fly a 737 from New York to London, or a 747 from New York to Boston six times a day.

Southwest is also a non-union airline with entirely different work rules that keep its personnel costs lower. Good for them, bad for their employees. You be the judge of whether that’s good or bad for society as a whole.

Could the airline industry use an entirely new business paradigm? Sure. Does that mean that it’s a corporate ploy to con the taxpayer? Not necessarily. Consider the number of legendary airlines that have failed over the years – Eastern, Braniff, Pan Am, TWA and the list goes on – it’s a pretty good indication that profits aren’t automatic.

4

More airline information: Keep in mind also that Ronald Reagan National airport was closed completely for some time. There is simply no way for an airline (like USAirways) to make up for those lost flights and passengers.

I would also add that it is not fear alone which changes people’s travel decisions. I am not at all afraid of future attacks while I am a aircraft passenger. However, I find the “hassle quotient” to be greatly increased and that has affected my travel decisions. I am sure I am not alone.

5

On preview, it looks like most of my points have already been made, but here ya go anyway:
I can’t speak for the other industries, but I do know a little about the airline situation.

The trouble with the “mainline” carriers (United, American, British Airways, etc.) is that they have very high costs: relatively high pay for their employees; huge fleets of multiple types of aircraft; large and widely-dispersed infrastructure, including large hubs at major (read: expensive) airports. Because of this, they depend on business travellers buying enormously marked-up tickets to make a profit.

Unfortunately, even before Sept 11 the economy was sliding and business travel was down. Travel is one of the first expenses that businesses cut when times get tough. But unlike in previous recessions, these days the business travellers who are still flying are flying on cheaper coach tickets. This has led some to think that the business class gravy train is over, and the major airlines must fundamentally change the way they operate in order to survive.

Discount airlines like Southwest and Jetblue (UK) do not have these problems. They pay their employees less that the majors. They operate fleets of one or only a very few types of aircraft. Their infrastructures are minimal, and they don’t operate out of the largest and most expensive hub airports. They don’t court business travellers, so their cabins are all-coach and the cabin service is minimal. Because of all this, they can afford to eke out a profit from offering discount tickets to travellers.

What about government handouts? Well, the airlines aren’t getting this money for free, if that’s what you think. In order to qualify for part of the $10 billion in loans available, an airline must meet a strict set of conditions, including wage concessions from employees, cost concessions from suppliers and they must prove that they will fail without the loan and that they can’t get financing anywhere else. After all that, if they do get a loan, they must pay it back when they become profitable again.

Something like 12-16 airlines have applied for loans (mostly tiny operators of turboprop aircraft), but only 4 have received any money. US Airways was the only major to get a loan and even with that they’ve gone into bankruptcy protection. United Airlines’ loan application is pending the outcome of wage concessions from its labor unions - the pilots said yes, but the flight attentants and mechanics have said no.

Several airlines are concerned that the loan conditions are too restrictive, and they don’t want anything to do with government loans. Others are saying that the loans are anti-competitive, and the government should let troubled airlines fail. But that’s a topic for Great Debates, not GQ.

6

One other point is that insurance has gone way up. In fact, insurance for just about everything has risen dramatically post-Sept. 11th, but for airlines especially (and for obvious reasons). IIRC, the FAA requires that commercial airlines carry insurance for every flight. While I think this is a wise regulation, it means that airlines have very little bargaining power as against their insurance companies because they simply cannot do business without the insurance.

–Cliffy

7

Edging closer to GD…

So what is the solution? We need airlines, but airlines are failing. Do we need a nationalized system like Amtrak? Amtrak hasn’t proven to be a wonderful alternative, though.

8

Southwest is a union airline. The Southwest Airlines Pilots’ Association represents the pilots, the mechanics are teamsters, the customer service reps are unionised, but I don’t know what union the belong to.

Southwest has a low turnover (4.5% per year) and a high customers-served per employee ratio, and what is described as a generous stock option plan. This isn’t consistent with the theory that they pay poorly, or that it is “bad for their employees”. It is more likely that they obtain that sort of productivity by treating employees well.

9

Bashere, my information on Southwest’s non-union policy was from a former customer service rep. I may have misunderstood her, but can anyone tell me what union customer service reps belong to, or whether there are non-union cities or some other exception?

10

kunilou, interestingly, Southwest’s ad for csrs (customer service reps) does not identify the jobs as union jobs, although the ad for mechanics does id it as a union job. Perhaps different cities or states have different requirements.

According to Southwest’s 2001 annual report, available here:
http://www.southwest.com/about_swa/financials/swaar01.pdf

(search for “union”, or look on page 11).

CSRs and Reservations Agents “are subject to an agreement with the International Association of Machinists and Aerospace Workers”.

Typically, I would expect a company to list the percentage of workers covered by collective bargaining, and Southwest does not do so in its annual report. I don’t have enough experience with unions to explain why your friend did not belong to one; perhaps someone with more familiarity can enlighten me. I only know that Southwest is a union shop because they have done a particularly good job of working with the Pilot’s Union and the Mechanics Union, at least according to the financial press.

BTW, I agreed with the rest of your post. I only dispute whether Southwest pays significantly less than the other airlines. They might; they seem to depend heavily on stock options and profit sharing.

11

According to AviationWeek’s 2001 aviation career survey (scroll down to the tables at the bottom of the article), Southwest’s pilots are paid more than average at entry-level, but their maximum pay is substantially below average (of the airlines surveyed). Only America West and TWA (now part of American) paid their top pilots less.

Southwest had one of the highest starting pay rates for mechanics among the companies surveyed. No data on top mechanic pay rates is provided.

12

Notice the caption to the photo in the article I linked above:

Fortune’s website hosed my browser when I tried to go there to search for the relevant article, so I wasn’t able to confirm that.

13

Another reason, touched on by the Wall Street Journal some months back, is that the number of executives in most airlines is way out of proportion to the number of employees. For instance, American Airlines Corporation (The mother corp and subsidies) has 62 executives of Vice President or higher level from the American Airlines webpage. Whereas Southwest Airlines only has 3.
Beaurocratic Bloat only adds costs, and until that is brought under control, they will continue to lose money.

14

I understand that the pilot’s unions have been able to capture much of the profits made by the major carriers.

The only problem with that scheme is that they didn’t devise a mechanism whereby they could curb their wages when air traffic fell.

15

kunilou said:

“Southwest is also a non-union airline with entirely different work rules that keep its personnel costs lower. Good for them, bad for their employees. You be the judge of whether that’s good or bad for society as a whole.”

Have you ever flown Southwest?

I have. Southwest is a no frills airline. You don’t get meal service, you get peanuts. Until recently, you didn’t get a boarding pass. When you checked in, you got a card with a number on it according to when you checked in and that’s what they used to call passengers to the gate. After that, you could sit anywhere – no assigned seats.

But my real point is this: The people that work for Southwest seem to enjoy working for Southwest. I know, as with every business, they certainly have disgruntled employees. But, as a passenger, you (generally) would never know it.

Again, I’m sure someone will chime in to the contrary, but people seem to like working for Southwest and that translates into happy customers. Happy customers means good business. In my experience, they take off on time and land on time. As far as airlines go, it is a low-hassle experience.

Caveat: I know some people will say that Southwest is a god-awful airline and a horrible flying experience. I don’t find it so, and that is mainly due to their employees. They actually seem to care. YMMV.

16

Southwest has not only high consumer satisfaction but passenger satisfaction.

Again flying into non hub airports helps. But the major airlines made one serious mistake. They consistantly assume all business travelers NEED to fly and will pay whatever. Corp America will not do this. Recently I needed to fly quickly. The cheapest round trip I could get coast to coast was 2,000 dollars(US Air, NW, AA and UA.) Southwest (with one stop) was 400.00. That is a 1,600 savings.

Amtrak is HORRIBLE. I used to be TERRIFIED to fly. I would have horrible panic attacks. After two trips on Amtrak I now fly. It is THAT bad. No customer service and very uncomfortable.

It (as it operates now) should be laid to rest.

But a real good example is my current company. We used to fly our directors to NYC once per week. After 9/11 we now use internet conferece calls. We fly out to NYC once every other month now. We found the job could be done as effective with the internet conference calls. Just that alone saves us upteen thousands of dollars. That hurts airlines.

17

Businesses failing is all part of the circle of life, Kimba. Just because a few businesses go under is no reason to think it’s the end of the world or a national crisis. (It’s certainly no reason to think you need nationalization. As kunilou noted, plenty of airlines have failed before without causing major trauma.)

It’s common to think, “Everyone needs product X, therefore the X industry must be profitable.” However, that conclusion doesn’t logically follow. Just because everyone needs X doesn’t mean that the competition in the X industry isn’t ruthless. It doesn’t mean that any profits there are to be had in the X industry can’t be wiped out be a sudden increase in the costs of producing X.

18

As it stands now, the airlines need to be allowed to die if that is what it will take to fix many of the current problems in the airline industry, and I think it will.

19

I’m not an economist or businessman, but I’ve wondered about this issue myself. Transport companies always seem to be in dire straits, yet somehow they keep going, and they are obviously an essential part of the economy.

I think that some businesses that appear to be failures but still never seem to go “out of business”, but just carry on as if they were doing just fine, in a sense are not failures, but are making profit in terms of their perceived value. Government subsidy of infrastructure could be looked at as another form of profit, or, at least, the defraying of operating expenses. I think airlines and bus companies are good examples of this. With the recent airline bankruptcies, their creditors are going to take the hit, but even that could be looked at as a net revenue for the carriers

20

To sum up what I just said, I think you could look at these companies as if they were actually earning more than their nominal revenue.