At a time when airlines are one of the bright lights in the economy with predictions of profitability next year, why is it that it has been consistently so acceptable that this important sector of the economy only break even or achieve mediocre profitability? Well, that is clearly better than the losses that usually face the industry.

But the question goes deeper than that, according to Air Transport Association Economist John Heimlich in a recently published article on the organization’s web site, a theme he launched during October’s Regional Airline Association meeting. As hard as the industry works to go beyond break even to profitability, events, more often than not, government actions, conspire to force more costs on it. For that reason, it has become increasingly important to forge a sensible aviation policy, he said.

This is not an industry that consistently makes bad decisions a la the stubborn auto industry that insists on producing cars that are not only bad or the environment but ones that people do not now want to buy. This is an industry that has continuously driven for reduced costs for decades only to have yet another new cost put that golden ring called profitability just beyond its grasp.
“No company expects investors to finance a business plan that aims to break even,” said Heimlich. “Breaking even in accounting terms can be accomplished without a flight ever taking off. Breaking even in a single financial period does not allow airlines to invest in people, planes and products. It does not allow airlines and their employees to weather recessions without massive furloughs. It does not allow airlines to restore, let alone expand, air service that is often the economic lifeline of communities nationwide. Just think for a moment how much more severe the job cuts, service cuts and airline failures might have been if 2007 had not been profitable, if airlines had not tapped new sources of ancillary revenue – no matter how negative the press coverage – or taken painstaking efforts in the years prior to bolster liquidity and keep cash on their balance sheets.”
He indicated that while the industry can be proud of its survival skills as it goes into 2009, survival has not come without a high cost. “In large part, escalating fuel prices helped rationalize industry seating capacity, in some cases by eliminating weaker players and in others by accelerating schedule reductions,” said Heimlich. “Across the domestic landscape, nearly every carrier pared schedules – even some previously in growth mode deferred aircraft deliveries or scaled back plans for expansion. This restructuring did not come without painful consequences. The airlines’ push to achieve better-than-break-even results has seen passenger airline employment ranks fall from 465,700 in January 2003 to 397,400 as of September 2008, with 22,400 of those jobs cut just since the end of 2007. Meanwhile, seating capacity has fallen between 10 and 12 percent nationally, and 25 to 50 percent at many of the nation’s top 100 airports.”
But airlines face the new year with a great deal of trepidation, not only that its cuts will not be enough as the recessions takes its toll on demand, but because of a “regulatory climate that too often imposes new costs on a financially fragile industry central to job creation,” he said. “More than 10 million U.S. jobs are depending on it.”
Heimlich cited a June 2008 assessment of airline analyst Gary Chase. “The industry hasn’t seen a real up cycle,” said Chase. “2006-2007 in retrospect now looks more like a brief reprieve from a down cycle rather than an up cycle. The industry has not been profitable enough to justify investment.”
Just this year, Heimlich observed, the airline industry went from forecasts of modest profitability to forecasts of record losses – then back to more traditional losses – in the span of only a few months.
“Now, the industry is one of few consumer sectors characterized by improved earnings potential,” he said. “On Dec. 9, Fitch Ratings Senior Director William Warlick wrote, ‘Following a year of operating weakness characterized by extreme volatility in jet fuel costs and a steady erosion of air travel demand in a deepening recession, U.S. airlines face another year of intense cash flow uncertainty in 2009. Although the dramatic pull-back in energy prices since July has improved the cost outlook for all carriers, attention has now shifted to the management of an increasingly precarious supply-demand relationship that will force airlines to once again monitor scheduled capacity plans closely… Indeed, the airline industry outlook (in terms of both operating fundamentals and credit ratings) remains negative.’”
In the face of all this, it is little wonder that a labor-intensive, capital-intensive industry has a hard time conducting multi-year planning amid such economic, not to mention regulatory, uncertainty, said Heimlick. Indeed it is a testament that the industry has done so much to pare costs and raise revenue, “boldly [tapping] new sources of revenue, [identifying] new opportunities for fuel conservation, [streamlining] operations and [expanding] global market presence.”
Perhaps the stiffest barrier it faces, he said, is access to capital. “As the industry continues its quest for sustained profitability, it is important to consider the value of airlines not only posting accounting profits but also achieving a return on invested capital that exceeds the cost of that capital,” he said. “Doing so generates shareholder wealth. The consequence of wealth destruction, too often the case for the airlines, is the shrinking of the industry’s potential investor pool.
“Why should we care,” he asked. “Because reduced access to affordable capital directly hinders the airlines’ ability to acquire new aircraft or ground equipment, to capitalize on new air traffic management systems and procedures, to deploy and upgrade inflight entertainment systems and passenger amenities, to attract and retain top-caliber customer service representatives and other frontline employees, and ultimately to compete effectively in the increasingly global aviation market place. If the United States is to regain its leadership role in global aviation, it must leverage, rather than curtail, its unmatched domestic air travel market. In the realm of international affairs, it is often said that a country cannot be strong abroad if it is weak at home. That is certainly true in commercial aviation. A sensible aviation policy – sorely needed – is one that engenders economic growth and enhances U.S. competitiveness.”