Issue 108 - Crisis in the Airline Industry: Thinking Smart and Making Tough Decisions
As Yogi Berra said, “This is déjà vu all over again?”
I had my sixteenth birthday in March, 1973. In many ways it was a difficult time for America. The United States was embroiled in a war in Southeast Asia. On the economic front, inflation was spiraling out of control. But, like many other 16-year olds of the day, I was fairly oblivious to the reality of the world around me. I was focused on one thing—getting my driver’s license and the independence it afforded.
Seven short months later the world looked very different to me.
On October 17, 1973, the Organization of Petroleum Exporting Countries (OPEC), in retaliation for America’s support of Israel, overnight—literally—increased the price of a barrel of crude oil by 70% for America and our Western European allies. The price for a barrel of crude jumped from $3.00 to $5.11. By January, 1974, the price of oil had risen to $11.65 a barrel.
This period, commonly referred to as the Arab Oil Embargo, necessitated drastic changes. Gas rationing, the rapid deployment of the Alaskan Pipeline (in an effort to lessen our dependence on foreign oil) long lines at service stations and gas prices at the pump that jumped from 30 cents a gallon (no, you twenty- and thirty-somethings, that is not a typo), to $1.20 a gallon during the midst of the crisis.
The embargo was eventually lifted in March, 1974. But, our innocence was lost. A warning shot had been fired over our bow. At the time, we were not in a position to control our own destiny as it related to our energy needs. Sadly to say, we still aren’t.
Now, fast forward 34 years to 2008.
Three months ago I celebrated my 51st birthday. Our country is again at war. It’s not inflation we are experiencing at this time, the economists say it is the “R” word instead—recession. And as I write this, the price of a barrel of crude oil is $136.36. Not very many months ago, paying a $1.50 for a gallon of gas seemed like a pretty good deal. The price of gas this morning here in Princeton, Kentucky, is $3.98 for a gallon of unleaded, with even higher prices being reported in other parts of the United States. And guess what? I’m worried about my independence again.
What’s keeping me awake at nights recently are the effects of all these fuel issues on the airline industry. Like many business professionals—like many of you—my livelihood is largely dependent on my being able to get from one city to the next in a timely, cost effective manner. In a global society, the need for efficient transportation (and communication) is paramount.
So I find myself trusting the leaders of the besieged airline industry to make good decisions during a time of great uncertainty—a skill that must be learned and practiced by all leaders regardless of our industry. Is it happening? Will it happen? Let’s hear what an expert has to say.
Howard Putnam, author of The Winds of Turbulence, a book focused on leadership and ethics, is the former CEO of both Southwest Airlines and Braniff International, as well as United Airlines’ former Group Vice President for Marketing. Howard knows the airline industry. It has been his life for the past fifty years. I spoke with Howard recently about the challenges currently facing the airline industry.
In the course of our conversation Howard stressed to me that he possesses no inside information from Southwest or any other airline. He owns no airline stocks. He just shared his thoughts and observations based on his personal industry experience and on what he reads and researches. Here are a few of Howard’s opinions that I found most interesting.
Howard Putnam on current airline bureaucracy:
The “legacy carriers” (i.e., United Airlines, American Airlines, Delta Airlines, etc.) have bureaucracies that far exceed their realistic market size. They need to downsize now in the “executive offices,” not where the customers are on the front line.
Unfortunately, I predict the major airlines will do too little, too late. They will make some small people cuts, but allow functions to remain. We learned taking Braniff International through Chapter 11 in the 1980’s that you downsize big time now, not later. You take out complete layers of management, including Vice President’s and staff. You eliminate functions. You don’t skinny them down. Eliminate functions. You will find out quickly if you needed them or not.
Howard Putnam on new pricing strategies recently introduced by several airlines:
This is crazy pricing—without the customer in mind—charging for baggage, golf clubs, etc. I have done several media interviews recently and have focused on the following key points:
* Don’t nickel and dime your customers with $15 a bag charges. The check-in lines will be longer at the ticket counter. More passengers will try to carry luggage on. Security lines will be longer and slower. And there is not enough room in the overhead storage on the planes, so now the bags will need to be checked on the jetway. Will the airlines try to charge for that, too?
* The “legacy airlines” are not a sustainable model with their current airplane fleets, hubs, management bureaucracies and fuel at more than $130 a barrel for crude. The only long term survivor under these conditions is Southwest, and hopefully JetBlue, Air Tran and other lower cost carriers, as well.
(Putnam contends Southwest is at a major advantage compared to the legacy carriers due in large part to current “hedged” fuel costs.)
The legacy carriers have about 30% of their fuel hedged for 2008 but at prices in the $85 to $100 a barrel range. By contrast, Southwest has their crude oil hedged at $51 a barrel for 70% of their needs in 2008 and from what I read, close to that again in 2009. That’s a big cost difference. According to the Wall Street Journal on May 28, 2008, Southwest already has 15% of their fuel hedged in 2012 at about $63 a barrel and they locked that price in a year ago. Southwest’s current portfolio of fuel hedges is $2.8 billion. That’s simply amazing. Gary Kelly, Southwest’s CEO, started this program several years ago when he was CFO. (Former Southwest Chairman) Herb Kelleher said recently the fuel hedges have saved Southwest $2 billion in four years.
Howard Putnam on what should be done right away:
If I were a CEO of a legacy airline, I would plan for $200 a barrel crude oil right now. Go for the worst case and resize today. Don’t make these irritating little price increases. Figure out what it really takes to be profitable. Then do it, one time. If it means raising the fares by $150- $200 roundtrip, do it one time. Airlines have to be profitable to survive and to pay their landing fees, rental fees, etc. Give the business traveler and the pleasure traveler a choice—do I fly or not fly? Put some food back in coach. Treat us like customers again. Give the employees something to hope for and be positive about. Customer service starts with the Board and CEO. Don’t blame the front line employees.
The legacy airlines need to put airplanes on the ground now, maybe up to 25% of their fleet. If you have marginal cities, don’t cut a flight here and there, and still have the overhead at the city. Terminate the service. American Airlines has a specific problem with 300 MD-80’s in their fleet, all of which are inefficient fuel guzzlers. To avoid bankruptcy in the next 2 years, they have some big decisions to make. I don’t think their announcement of a 12% cut in schedules this fall is close to being enough. Mr. Arpey and his team have been honorable in trying to avoid Chapter 11 for several years. I commend them. It is an uphill battle for them.
Howard Putnam on what the future holds:
Who, in their right mind, would invest in the airline industry in the United States today? The only groups I can think of are successful and profitable international carriers like British Airways or Lufthansa who already owns 19% of JetBlue. I think the investment rules will change and in 3 to 4 years it’s possible that there will be very few U.S. airlines, other than Southwest, that have majority U.S. ownership. The weak dollar is working to their advantage abroad. With the stock market where it is on airline stocks, a legacy airline could be bought for under $2 billion. That is petty cash to some of the international carriers who have hoards of cash, and with making such a purchase would acquire a North American network.
Concluding Thoughts
Let’s face it. Howard Putnam’s thoughts and observations are sobering. He says some things that are difficult and unpleasant to hear. Is he right or wrong? Nobody know for sure—not even Howard. But the important thing to note is that Howard’s thoughts and observations are the rational, proactive musings of a proven leader. And we, as leaders, can all learn from such examples.
I will take the liberty to summarize some of the overarching themes that Howard addressed. Consider these:
1. In critical periods, leaders are called to action and they must act decisively.To do less sends an uncertain message to employees, customers and stakeholders alike. Remember, bad news does not get better with time.
2. The best leaders plan for the worst case scenarios. The worst leaders hope and pray for the best case scenarios. If the worst happens, the best leaders are ready. If the best happens, they’re best leaders are still ready—and they celebrate. Conversely, if the best happens, the worst leaders also celebrate. But if the worst happens, the worst leaders stand unprepared and watch helplessly as the situation continues to deteriorate around them. How sad.
3. Leaders must constantly be looking forward—into the future—to determine what they can do to make their business stronger, or at least more insulated from the ravages of fickle circumstances.
4. Long term profitability and viability is never earned by balancing the failures of management on the shoulders of customers and front line employees.
5. Even in the worst of times, opportunities still exist for those who are well-prepared, well-positioned and willing to act.
Unfortunately, to a large degree American business i.e., automobile manufacturers and alternative energy manufacturers especially, along with the American government i.e., Congress and various national agencies turned a blind eye and a deaf ear to the lessons of 1973-74. Now, 35 years later, we find ourselves under the gun once again. However, this time it looks as if the end to these troubles won’t come very quickly.
What can you learn from the past that will better prepare you for the future? More importantly, what will you do to insure that the mistakes of the past won’t be revisited on the heads of the next generation of employees, customers and stakeholders? The responsibility falls to each of us as leaders.
Otherwise, it will be déjà vu all over again.
P.S. Difficult times like those the airline industry is currently facing often cause leaders to lose their cool. That can be a costly course of action. To learn why losing your temper can be so costly, watch my YouTube video, “Losing Your Temper is Costly for Leaders.” Feel free to post your comments.
