Airlines: The Economy's Ticking Time Bomb?

A major U.S. airline could enter bankruptcy and stop flying this winter.

July 21, 2009, 6:27 PM

July 22, 2009&#151; -- While some parts of the economy are showing signs of recovery, the airline industry looks like it is headed for a turbulent ride, ending with at least one major carrier possibly going out of business.

A deathly combination of business travelers staying home, decreased cargo and more flights than there is demand has led the nation's major airlines to spend more money than they are taking in from ticket sales.

Ultimately, consumers will pay the price through higher airfares, more fees and significantly fewer choices.

"The industry is doing worse than we had thought," Ray Neidl, an independent airline analyst, said describing the earnings announcements so far. "With the fuel lower than last year and with the capacity cuts, the thinking was the airlines could return to profitability by spring … That didn't turn out to be the case."

American Airlines reported last week that it lost $390 million in the second quarter, Continental Airlines Tuesday announced a $213 million loss for the same period and Delta, the world's largest carrier, Wednesday morning said it lost $257 million.

Even the good news from the airlines isn't that good. Southwest announced that it had earned $54 million in the April-June period but that was down dramatically from the $321 million earned during the same period last year.

United Airlines parent company UAL earned a profit of $28 million but that was thanks to one-time gains. Last year at this time, the company had a giant loss of $2.74 billion. Analysts consider United's financial position to be the most precarious of all the major carriers.

The only bit of good news came Wednesday from discount carrier AirTran Airways which posted a $78.4 million quarterly profit. Unlike the mainline airlines, AirTran doesn't rely on business travelers but instead focuses on leisure travelers looking for specials to resort destinations.

Thursday by US Airways and Alaska Airlines are expected to report earnings.

"Absent a strong economic recovery this fall -- which isn't going to happen -- the airlines are essentially going to have to cut capacity more," Neidl said. "There is just too much capacity, with too many airlines and too many hubs."

The situation is deteriorating quickly. Back in March, the International Air Transport Association estimated that its member airlines would lose $4.7 billion in March. By June, that number had shot up to $9 billion.

For fliers and airline employees this all means bad news.

Continental said it will cut 1,700 jobs in addition of the previously announced elimination of 500 reservation agents and extended leaves of absence for 700 flight attendants.

Travelers will also have to reach a little bit deeper into their wallets. Continental which now charges $15 for the first checked bag and $25 for the second, will increase fees $5 per customers as of Aug. 19 for customers who don't prepay the fees online. United, Delta and US Airways have announced similar increases in the last few weeks, charging an extra $5 for checking bags at the airport.

Continental also raised the fee to book your flights over the phone or in person by $5 immediately, bringing that fee to $20.

Southwest, which has never laid off workers, announced that 1,400 employees -- about 4 percent of the work force -- took offers of cash and travel benefits to leave the company.

And even United, whose profit came in part thank to fuel-hedging gains, announced it will cut capacity on international flights another 7 percent this fall.

Those international seats in particular help boost airlines' profits but have remained under capacity as business travelers, who often pay many times more than vacationers, have stayed on the ground.

Unlike past airline bankruptcies, analysts say that any company that enters bankruptcy would probably not emerge. It is highly unlikely, they said, that the airline would secure financing for a restructuring in this market and would have to stop flying and liquidate its assets.

And don't expect the government to come in with a bailout, leaving the only other option a merger.

"I find it difficult to see the government stepping in with TARP money. The only thing the government can do is get out of the way and let the industry sort itself out," Neidl said. "And by that, I mean: if there was merger activity to let that happen or if there was bankruptcy activity to let that happen according to the laws of bankruptcy."

George Hamlin, president of Hamlin Transportation Consulting, also doubts the government would save an airline from bankruptcy.

"It's not like we have too few airlines or too few competitors in this business," he said.

Bankruptcy isn't a sure outcome of this downturn but Hamlin said, "I think it's not impossible."

"In the industry, a lot of people are talking it down but we need to see some capacity go and that's one way to do it," he said.

For fliers today, it might seem like the airlines are full. Planes are more packed than ever and passengers are charged extra for everything from checking bags to in-flight meals to making reservations on the phone.

But those full seats are often an illusion. Unable to sell seats, airlines have slashed prices and are not covering their expenses through the cheaper tickets.

"When the price is cheap enough, you can fill the seats," Hamlin said, "but that's not getting a return on investment."

If the airlines cut capacity and eliminate even more routes they will make it harder to find an available seat, driving up prices for those who want to or must travel.

"The cheapest fares will vanish," Hamlin said. "It won't be that every fare will be raised."

Robert Mann, president R.W. Mann & Co., said that "It's a race between capacity cutting and consumers unwillingness to pay."

Passengers won't see any difference between now and August.

But "come September and going into the winter, substantial cuts -- mostly on the international side although some additional cuts on the domestic networks," Mann said. "I think we will see one of the coldest, longest winters on the North Atlantic and some other markets than we've seen in a long time."

The lack of profitability on international routes is the chief issue.

"The two big pieces of revenue that carry international flights are business class and cargo revenues. Both of those are down big-double digits, as in 30-plus percent. That's where all the margins have been," Mann said. "You can fill the back of the airplane and you can't come close to covering your costs."

While some analysts have pointed toward United as a prime candidate for another round in bankruptcy court, Mann is doubtful.

"There isn't really very much more" to cut at United and the other airlines who have already gone through restructuring. American is the only traditional mainline carrier not to have gone through bankruptcy. Mann said such a move could help them in ongoing high-stakes labor negotiations and in cutting down its aircraft costs. (Southwest is the only other major airline not to go through bankruptcy.)

Continental has been through it twice, but not recently. Mann said the airline is in pretty good financial health -- and it is unlikely it would go through restructuring -- but could also benefit from it.

The final shoe to drop could be felt by airplane manufactures. Boeing is expected out with their earnings Wednesday.

"Jet manufacturers are hoping to sustain record levels of production, and are looking for some kind of turnaround in the airline industry," said Richard Aboulafia, vice president of analysis at the Teal Group. "Given the traffic numbers, particularly for premium traffic, it's unlikely that they'll get good news any time soon. This is a grim environment. Nothing about the broader economy looks encouraging yet from a consumer travel spend standpoint either."

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