Questions of import

[Ukridge]

In the to and fro discussions concerning financing for United''s exit from bankruptcy, there seems to be debate concerning the ability of the corporation to obtain monies from third parties. If the ATSB is in a position to guarantee the loan then I would think that many of the larger lending houses would be in keen competition for the right to serve as lender. Think of it. Say J.P. Morgan can make a 1.5 billion dollar loan to United that is completely guaranteed by the government. There is little or no risk involved for them. In reading the posts I have drawn the conclusion that not only should United stand a strong chance of obtaining exit financing but as importantly, that the lending houses would be actively working with United to insure that the ATSB submission package is in order. I am missing something? Your government holds the risk so what bank would not lend? One would envision the J.P. Morgan staff one the phone hourly with United to make sure the paperwork is in order. How would I, if I were a Morgan mid-level manager, explain to my boss that I just let slip a $1.5B loan that was risk free?
Second. I posed this question nearly a year ago when the situation was still too fuzzy to determine yet conditions may now allow a prognostication. The mantra has been that there is simply too much capacity in the system. This mantra is hummed by all with near religious fervor yet it does not speak to the real question - Where is this overcapacity? Unlike as weight in the body that seems to settle in the belly, I am no more convinced that a failure of United would instantly solve the industries woes as this is the issue of overlapping and non-overlapping routes. In other words the capacity is spread through the body and does not reside soley within a single carrier. That said, it seems that every airline has made, and continues to make, major drawdowns. Where is the balance point? Just how many hundreds more aircraft need to be parked before there is a proper capacity? Along these lines, how many low cost carriers can the industry assume before there is an overcapacity in this area as well? Is the problem rather an overcapacity of the major carriers and not air miles available overall?
Just two questions that needed to be asked as I was having problems questioning the assumptions that go behind some of discussion. Thanks.

 

[767jetz]

Ukridge,

As always, you make a good point about overcapacity being spread throughout many markets. It seems that each airline reducing capacity in their markets to match demand is a far better solution than the elimination of an entity.

To carry your thought one step further, we should also look at what region has the most excess. IMHO, with the pacific and atlantic slowly recovering, and airlines such as UA adding lift in those markets, those areas are not part of the problem. It seems to me that the most excess capacity is concentrated on the east coast. We have JBLU, AMR, DAL, AirTran, SWA, and USAir battling it out fiercely. In the end, I think those airlines will see more and more drawdown of lift. While airlines try to maintain market share and frequency, we will see more RJ''s and SJ''s. Even JBLU is getting into the RJ game now.

 

[Diesel8]

I will agree with that, but one must keep in mind that the East Coast also has the largest concentration of people.

As far as jetBlue and RJ''s are concerned, it really is not an RJ, the EMB-190, is almost the size of a DC-9 or F100. I believe it is 10 feet shorter than the A-320. Secondly, it has a 2200 nm range IIRC. It has a stand up cabin and from what I hear, is very comfortable.

 

[iflyjetz]

UKridge, I will attempt to answer most of your questions.
First, ATSB loan guarantees come with strings attached. I am more familiar with America West''s than any other airlines'' situation with the ATSB, but there is a common thread for the loan guarantees. The ATSB required an equity stake in America West in the form of stock options which have a significant dilutory effect on America West''s stock value. The ATSB has required equity stakes in airlines for which it has guaranteed loans. The amount of equity stake has been proportional to the amount of risk that the ATSB has assumed. In UAL''s case, I have no doubt that UAL could have been secured a loan guarantee last December IF (and I emphasize if) they accepted the ATSB''s terms. I suspect that UAL management evaluated loan guarantee terms against entering chap 11. Management evaluated their options and found that chap 11 was a better choice.
The money lenders (JP Morgan, Citigroup, etc) are aware of the terms imposed by the ATSB. I am sure that they''ve evaluated the risk/reward of having the ATSB back their loans to UAL. I am also sure that UAL management has been offered ''ATSB guaranteed'' loan rates along with non-ATSB guaranteed loan rates from the money lenders. We are now sitting on the sidelines watching a poker game.
A discussion of overcapacity needs to take into account the relative elasticity of air travel. Air travel has historically led economic downturns and lagged recoveries.
I am not so sure that there is overcapacity in the airline industry. Look at UAL''s June loads ... 82%; a record load factor for UAL. The issues are much more complex.
I''d like to discuss these issues in more detail, but need to end my post for now. I will attempt to follow up this post with more detail.

 

[Ukridge]

iflyjetz wrote "I am not so sure that there is overcapacity in the airline industry. Look at UAL's June loads ... 82%; a record load factor for UAL. The issues are much more complex."

Thank you for the response. This is indeed my sentiment as well and why I have been confused by the repeated mention from the press of an "overcapacity problem." This seemed to have been too broad a brush to use to paint the picture. The load factor that you mention certainly would not be indicative of overcapacity at UAL. In fact that leads to a rather interesting discussion as to what exactly is the highest load factor an airline can theoretically manage. In Europe there is a push to fine the airlines for overbooking practices. This of course is a can of worms but speaks to the trouble that one would have trying for 100% of the seats filled.
Your explanation of the equity share the government would demand is something I did not consider. Of course it is patent when I step back and think about it. For some reason I had envisaged the government doleing out money to "assist" a beleaugered industry. As with all in life, there are strings attached.

767jetz:You as well raise a question of how much RJ capactiy can be introduced into your Eastern markets. This will be something to watch. The FT carried a piece about Sir Richard wanting to start a carrier in the U.S.. The capacity discussion that iflyjetz mentioned notwithstanding, just how much more can the market bear before your "low cost cariiers" themselves are falling by the wayside? I certainly do not know but I can see the trend forming up and that trend could be a shakeout among the low costs operators.

 

[iflyjetz]

UKridge, let me continue the overcapacity discussion. Airline seats are a very interesting commodity. When you think in economics terms, there is some extremely inelastic demand and some extremely elastic demand.
The business traveler is extremely inelastic; the leisure traveler is anywhere from inelastic to extremely elastic.
The variability in elasticity of demand is what causes the wide ticket price range.
Last winter, demand was so low compared to available capacity that many carriers were dumping seats on internet discounters at bargain basement prices. This is why yields went into the toilet, and a big reason why Northwest refused to match competitors'' attempts to raise ticket prices. Northwest was unwilling to raise base ticket rates, and then turn around and dump discount tickets on the internet.
What the airline industry is finally starting to see is an increase in air travel by both the business and leisure traveler. Yields are increasing among the majors because they are dumping less and less seats at a discount; thus far, the business traveler has not been faced with rising ticket prices.
Ticket pricing is extremely complex. The major airlines use complex models to calculate ticket prices and the amount that they will overbook a flight.
While many abhor the practice of overbooking, it is a neccessary evil to keep down ticket prices. There are even some travelers who try to find overbooked flights so that they can get bumped and collect compensation from the airline.

Throughout this summer, there will not be an overcapacity problem within the airline industry. The test will come this fall, winter, and spring, when demand is lower. Airlines will have to reduce capacity to match demand. The $64,000 question is how much capacity reduction will be neccessary.

 

[Ukridge]

Thank you for the primer atabuy. It appears from the reading that indeed no airline will survive the long term. The industry constantly needs an influx of new carriers without any financial burden to keep the fares low. If I follow the explanation, then even JetBlue will in a short period of time be saddled with costs that may drive it from the marketplace. How long will it be before the JetBlue CEO is the most vilified person in the coporate workplace? Its aircraft will need to be repaired, it will lose economies of scale, its workforce will mature, and most importantly the novelty will wear off with the customer.
The later is a factor at London's Stanstead (one of the homes to the new European low cost carriers) airport. The terminal often looks like a mosh pit of humanity when a flight is delayed inbound or outbound. There are not enough employees to handle the unforeseen. I realize that this is also a problem at any airport these days but that is the point - what is the ultimate difference?
It is possible that I remain ensconced in the old school but my idea of travel is not to have pithy and meaningless drivel spewed at me from all quarters by these 'low cost' miscreants who think they have to tell jokes and play paddycake during the announcements only to then to be packed cheek-to-jowl for my 40 pound flight to the Continent.I prefer quiet professionalism. I will seek entertainment elsewhere. (disclaimer - I have not flown the famous American 'low-cost' operators but if the stories I hear of Southwest are true, then no thank you)
It seems the novelty of this will quickly fade and the newer upstart will find itself in the same predicament as the airline predecesor.
In my limited observation I feel safe in proffering the prediction that the major alliances (Star, Oneworld, etc.) will at some point rationlize their entire structure and then be able to bring astounding changes to the marketplace. They will then provide the travel from short (Brussels to Munich or the equivalent U.S. distance) with RJs, with middle distance segments, and long-range flying going to the 'best fit' larger aircraft/alliance partner. Once they realize the extreme leverage an alliance the size of Star can bring upon all areas of aircraft, staff, and equipment acquistiion, then they will be players that the upstarts will have difficutly competing with.
Cheers

 

[Segue]

----------------
On 7/21/2003 1:08:02 AM iflyjetz wrote:

UKridge, let me continue the overcapacity discussion. Airline seats are a very interesting commodity. When you think in economics terms, there is some extremely inelastic demand and some extremely elastic demand.
The business traveler is extremely inelastic; the leisure traveler is anywhere from inelastic to extremely elastic.
The variability in elasticity of demand is what causes the wide ticket price range.
Last winter, demand was so low compared to available capacity that many carriers were dumping seats on internet discounters at bargain basement prices. This is why yields went into the toilet, and a big reason why Northwest refused to match competitors' attempts to raise ticket prices. Northwest was unwilling to raise base ticket rates, and then turn around and dump discount tickets on the internet.
What the airline industry is finally starting to see is an increase in air travel by both the business and leisure traveler. Yields are increasing among the majors because they are dumping less and less seats at a discount; thus far, the business traveler has not been faced with rising ticket prices.
Ticket pricing is extremely complex. The major airlines use complex models to calculate ticket prices and the amount that they will overbook a flight.
While many abhor the practice of overbooking, it is a neccessary evil to keep down ticket prices. There are even some travelers who try to find overbooked flights so that they can get bumped and collect compensation from the airline.

Throughout this summer, there will not be an overcapacity problem within the airline industry. The test will come this fall, winter, and spring, when demand is lower. Airlines will have to reduce capacity to match demand. The $64,000 question is how much capacity reduction will be neccessary.

----------------​

Within the issue of capacity, you always have to frame it in the context of price. No matter what the capacity, an airline can always fill the seats by lowering price.

One of the dire assumptions the majors made in the past was that business travelers and highly inelastic demand curves. The slump in business travel has proved this to be totally wrong thinking. The demand curve for business travel may have a higher and flatter slope, but it still has significant elasticity.

As the majors are reducing, JetBlue and Southwest are going forward with record fleet expansion. To the low cost carriers, they are presently under capacity.

While the majors use sophisticated processes to try to extract the maximum price from a given travel segment, the low cost carriers take a much simpler approach; price your product at a resonable and sustainable margin and the traffic will come your way.

 

[atabuy]

UK

Let's see if some of these words describe the airlines and the predicament.

Regulation: All prices were the same to and from the same locations. Airlines used service to get customers to fly their carrier. Only certain carriers were allowed to service these routes. No start-ups could compete with them.

Deregulation: Allowed any airline to compete on any route if they could get a slot. Government would not let the larger airlines keep the small ones out by using fare wars.

Overcapacity: Less people flying than seats available. Usually creates fare wars to get people to fly, which only keeps that airlines cash flow going.

Walk up fare: This fare is why the airlines are in business. Airlines fly routes they know that business need.

Super saver fare: This fare was started by Crandall to counteract charter operations in the 70's. His theory was; if someone knew they were going to fly 6 weeks in advance, he could sell them a seat on his airline. In fact, many seats on the planes were blocked for groups traveling together.

Load factors: It is the percentage of passengers, compared to the seats available on the plane. If the plane holds 100 people and 80 fly on it. It gives you a load factor of 80%.

Break even load factor: It is how many people have to fly to break even.
This is not the case any more because the fare structure is ever changing. Sometimes even a 100% load factor would not show a profit if the fares were too low.
You can have a high load factor and only make the same revenue as a low load factor.
If you have a full plane and the revenue was 100,000 dollars.
Would that load factor mean anything if the costs were 110,000 to break even?
Wow! The plane went out full and we only lost 10,000. Are we making money?

Today, revenue generated against the costs associated with operations is the only true break even rule you can use. Load factors mean nothing.

Low cost airlines: Jet Blue is a good example to use since it is a relatively new airline. The cost to revenue load factor is so much less than with the majors, since all employees are effectivly being paid b-scale wages, have very little vacation and sick time. They are a younger work force. I am not sure what type of pension plan they have, but it could be a matching 401k which is the way for business to go these days. You figure pensions won't be an issue for 25 to 30 years.
The companys culture is fresh, with no history to screw it up. Work rule issus are not there.
The biggest asset they have going is no assets to drain profits. No brick and mortar of any large scale. They are very flexable with new aircraft, and more on the way.

The government does not care if the big guys go out since they are consumers too. A conflict of interest.

Labor unions: Too much power to dictate terms to the company.

Profit sharing: The only true way for all employees to be paid. It would do away with the need for wage negotiation, which is a waste of energy, and creates anomosity between the company and employees.

ESOP: A true esop would do away with so many levels of management and employees would pick up the slack. Not the in name only deal we had before.

Honesty and Integrity and Trust : This is the keystone to a successful company. Until this happens, who knows?

Just some points to consider.

 

[iflyjetz]

----------------
On 7/21/2003 1031 AM Segue wrote:
Within the issue of capacity, you always have to frame it in the context of price. No matter what the capacity, an airline can always fill the seats by lowering price.

One of the dire assumptions the majors made in the past was that business travelers and highly inelastic demand curves. The slump in business travel has proved this to be totally wrong thinking. The demand curve for business travel may have a higher and flatter slope, but it still has significant elasticity.

As the majors are reducing, JetBlue and Southwest are going forward with record fleet expansion. To the low cost carriers, they are presently under capacity.

While the majors use sophisticated processes to try to extract the maximum price from a given travel segment, the low cost carriers take a much simpler approach; price your product at a resonable and sustainable margin and the traffic will come your way.
----------------​

Segue, welcome to the discussion.
Your comment about ticket pricing (Within the issue of capacity, you always have to frame it in the context of price. No matter what the capacity, an airline can always fill the seats by lowering price.) is the airlines'' supply-demand curve. The airlines are very good at balancing unsold inventory with prices. The way that many airlines filled their seats last winter was to dump large amounts of inventory on cheaptickets.com, priceline.com, and other discount internet websites.

You said: One of the dire assumptions the majors made in the past was that business travelers and highly inelastic demand curves. The slump in business travel has proved this to be totally wrong thinking. The demand curve for business travel may have a higher and flatter slope, but it still has significant elasticity.
Segue, I''ve got to disagree with you on this one. The slump in business travel is due to the slump in business. One of the first places that companies cut corners is travel expenses. It is also one of the last places that companies restore budgets. The airlines are well aware of this and adjust accordingly. They adjust by lowering the 7 day advance fully refundable ticket prices. However, I think that you''ll find that walkup fares haven''t fallen as much as other fares. That''s because the airlines know that if this is a walkup fare, immediate travel is critical and totally inelastic. This is why you see 21, 14, and 7 day tiers for advance ticket pricing. If you''re making plans 21+ days in advance, you have fairly elastic travel plans.

Segue wrote: While the majors use sophisticated processes to try to extract the maximum price from a given travel segment, the low cost carriers take a much simpler approach; price your product at a resonable and sustainable margin and the traffic will come your way.
Segue, there is a segment of the population that will never fly on a LCC. They won''t even fly in coach. Many frequent flyers stay away from the likes of Southwest because they don''t ''pamper'' their FFs. Go to flyertalk.com if you want to read what FFs are thinking. Call them elitist snobs, but after reading the thoughts of many FFs on flyertalk, I am convinced that LCCs is a market niche. OTOH, I think that JetBlue has done LCC with a touch of class. If they continue to grow their route structure, they will be a difficult competitor. But I believe that JBlu will first feed on Southwest''s customers before they get the major airlines'' customers.

One of the things that I like about UAL is economy plus. It gives you the legroom of first class; it''s just missing the wider seat. UAL tries to block off the middle seat so that their FFs have as much room as they would in first. For riding in the back, it''s a comfortable ride.

There are a ton of other aspects, including route structure and FF programs. Definitely a complex issue.

 

[novaqt]

Atabuy:

Thankyou for the teaching post! Sometimes even the best posters on this board need to have the terms used in the industry defined.

 

[iflyjetz]

----------------
On 7/21/2003 10:52:10 AM Ukridge wrote:

Thank you for the primer atabuy. It appears from the reading that indeed no airline will survive the long term. The industry constantly needs an influx of new carriers without any financial burden to keep the fares low. If I follow the explanation, then even JetBlue will in a short period of time be saddled with costs that may drive it from the marketplace. How long will it be before the JetBlue CEO is the most vilified person in the coporate workplace? Its aircraft will need to be repaired, it will lose economies of scale, its workforce will mature, and most importantly the novelty will wear off with the customer.
The later is a factor at London''s Stanstead (one of the homes to the new European low cost carriers) airport. The terminal often looks like a mosh pit of humanity when a flight is delayed inbound or outbound. There are not enough employees to handle the unforeseen. I realize that this is also a problem at any airport these days but that is the point - what is the ultimate difference?
It is possible that I remain ensconced in the old school but my idea of travel is not to have pithy and meaningless drivel spewed at me from all quarters by these ''low cost'' miscreants who think they have to tell jokes and play paddycake during the announcements only to then to be packed cheek-to-jowl for my 40 pound flight to the Continent.I prefer quiet professionalism. I will seek entertainment elsewhere. (disclaimer - I have not flown the famous American ''low-cost'' operators but if the stories I hear of Southwest are true, then no thank you)
It seems the novelty of this will quickly fade and the newer upstart will find itself in the same predicament as the airline predecesor.
In my limited observation I feel safe in proffering the prediction that the major alliances (Star, Oneworld, etc.) will at some point rationlize their entire structure and then be able to bring astounding changes to the marketplace. They will then provide the travel from short (Brussels to Munich or the equivalent U.S. distance) with RJs, with middle distance segments, and long-range flying going to the ''best fit'' larger aircraft/alliance partner. Once they realize the extreme leverage an alliance the size of Star can bring upon all areas of aircraft, staff, and equipment acquistiion, then they will be players that the upstarts will have difficutly competing with.
Cheers
----------------​

UKridge, sorry I missed your post before responding to Segue; I''ve been surfing this site while watching the stock market. Needless to say, Wall Street wins out over usaviation.
Interesting comments on Stansted. I flew a LCC out of there several years ago; it was pretty empty, so I didn''t notice the clientele. When I flew with UAL, I was based out of Chicago; flying out of O''Hare. In Chicago, we have Midway as the equivalent of Stansted. I picked up a relative there during the holidays, and couldn''t help but notice the stark contrast between the customers at Midway and O''Hare. I saw so many fur coats at Midway (it was winter time) that I almost thought that I was at the zoo. However, I quickly realized that these were ''faux'' fur coats. Even with fur out of style, these people still went on the cheap.

I find your comments about jokes from the aircrew interesting. While flying with UAL, I always made sure that I made short, concise announcements and always tried to minimize inflight announcements. I tried to limit them to fastening seat belts during bouts of turbulence; no ''off of the left wing is the world''s largest ball of string'' or ''off of the right wing is the Mississippi river'' sightseeing tours.

 

[Ukridge]

Iflyjetz,
Never any problems on the Star alliance carriers with the announcements. Do not wish to portray an intolerance to friendliness but for some reason the Southwest style from what I have heard grates me the wrong way. Unless it is vacation time, when I am in the aircraft I am either reviewing work or recovering from same and like the quiet courtesy that the majors have historically offered. Although not having flown on Southwest one would opine that I have little right to criticize them. I do fear that this form of "entertainment" will creep into the other low-costs and even the majors. The low costs are just taking foot in Europe and I dread it quite frankly though the price is hard to beat. Perhaps my fear is unfounded, but whilst on board I prefer space and quiet. I will look elsewhere for the entertainment and do not need the cabin staff playing cutsey games. The Star has not yet disapointed me in this regard and I hope they keep up the effort. I may stand in the minority, but quality will overcome novelty in the long run.
Sorry for the thread drift.
Cheers