In the late 1980s, Continental Airlines owned three separate and distinct regional carriers, each with its own territory and its own executive leadership. These consisted of Rocky Mountain, Bar Harbor/PBA and Britt Airlines. By 1990 the decision was made to combine the three into one, headquartered in Houston. "We started centralizing the operations in Houston, taking the different cultures from the four carriers and getting them united into one philosophy, to include record keeping and books, to function as one operation," said ExpressJet Vice President and COO Jerry Losness.

When Continental came out of bankruptcy in 1993, its regional airline operations was set up as Continental Express, a separate but wholly owned subsidiary operating under its own certificate.

Last year, Continental decided to divest itself of its Continental Express operations. The new regional airline was spun off under the name of ExpressJet as an independent company, albeit one that is still 53 percent owned by Continental. ExpressJet went public and became ExpressJet Holdings, traded on the New York Stock Exchange.

ExpressJet now flies exclusively as a regional partner for Continental Airlines under the brand name Continental Express. Continental Express has no operating authority, but is simply the name painted on the side of the ExpressJet aircraft to identify Continental Airlines' regional operations.

Prior to ExpressJet's independence from Continental, the major carrier determined that it had invested $552.3 million in the regionals operating requirements and wanted compensation for that investment. That sum was converted into a loan that ExpressJet had to repay.

Part of ExpressJet's agreement with the mainline carrier was that when it went public, it would use the proceeds to pay down $146.8 million on the loan. It also pre-paid $80 million, so that as of Dec. 31, it had a total debt to Continental of $325.5 million. Its public offering raised $480 million, selling 30 million shares at $16 per share.

Despite the debt payments, ExpressJet had a net income of $84.3 million on revenues of $1.09 billion for 2002.

"We currently make quarterly payments and expect today that the debt should be paid off by early 2006," said Kristy Nicholas, senior manager of treasury at ExpressJet. The remaining debt has no early payoff penalties, so prepayment saves money from interest payment, she said.

After going public, ExpressJet started getting rid of its 33 turboprop aircraft, primarily 25 ATR-42s and eight Embraer EMB-120 Brasilias. The goal was to have an all-regional jet (RJ) fleet, a goal it has now met. Cost of terminating leases on 29 turboprops was covered by Continental, which also purchased four turboprops owned by ExpressJet.

ExpressJet operates Embraer ERJ 135s and ERJ 145s, and was the launch customer for the extended range ERJ 145XR. That aircraft has allowed it to open long-range but low- density routes, such as Newark, N.J., to Oklahoma City, Okla. It began service with the 145XR on Dec. 12 of last year.

Losness noted that the 145XR "had a few glitches," although "for the most part" those have now been worked out. "The Embraer jet has been a very good aircraft for us," he said. "The cooperation between us and Embraer has led to a very reliable airplane. Last year we had a 99 percent uncontrollable completion factor and a 99.9 percent controllable completion factor."

James Parker, managing director of Raymond James & Assoc., said that ExpressJet had a controllable completion factor of 99.8 percent in first quarter of 2003 against a benchmark of 98.2 percent authorizing contractual incentive payments to the carrier.

The airline currently has a total of 202 RJs with orders for an additional 72 for delivery through 2006. Losness said that 22 will be delivered this year, 21 each in 2004 and 2005 and the remaining eight in 2006. "We also have options on an additional 100. We have to let Embraer know by next year if we want to exercise those options, although considering the economic situation, we could probably negotiate to push that deadline back some if necessary," he said. The full complement of 274 aircraft was initially scheduled for delivery by 2005. However, Continental looked at the current demand and capacity requirements "and made the determination that it made sense to push capacity [increase] back."

ExpressJet gets its aircraft through Continental, which takes an initial lease on them and then subleases them to ExpressJet. Nicholas noted that Continental can take the aircraft back and place them elsewhere if ExpressJet is unable to fulfill its contract to operate the aircraft for longer than a 90-day period due to an industry strike or other unforeseen action.

ExpressJet is prohibited by the mainline carrier's pilot scope clauses from flying any RJs for Continental over 59-seats. However, if it flies as an independent or for other carriers on routes that are non-competitive with Continental, then there are no scope clause restrictions. In those cases, it could go into larger aircraft such as the Embraer 170/190 family, Losness said. "The challenge now, though, is just to take delivery of the aircraft that we have on order and get them on board to provide the service for Continental. Considering what's going on in the industry, it's difficult for anyone to go out and find aircraft financing. Until things get resolved on what's going on in the industry, there are not a lot of opportunities."

Losness said that under the current contract with Embraer, the Brazilian company is responsible for finding the financing for Continental. If ExpressJet were to go outside the initial order contract and try to acquire aircraft on its own, it would not have that backing. "So it would be very difficult to go to anyone who does financing and find the financing needed."

ExpressJet's available seat mile (ASM) growth through the increasing number of RJs has had one significant impact on the carrier, Losness said. It now accounts for more than 1 percent of the U.S. air transport systems total ASMs, which means it has to report publicly to the Department of Transportation.

The airline is paid by Continental on a block-hour basis. Since it is steadily increasing its fleet, the number of block hours is going up. However, the projected rate of growth has come down as a result of pushing back deliveries, he said. ExpressJet flew 46,854 block hours last month, a 10.8 percent increase over the 42,299 flown in March 2002. ASMs increased by 30.7 percent as a result of replacing turboprops with RJs, as well as adding new routes such as Madison, Wis., and Augusta, Ga., from its Newark hub and Augusta from its Houston hub.

The block-hour contract also calls for ExpressJet to be reimbursed for specific operating expenses, including fuel costs and war risk insurance - major items in today's economic conditions. ExpressJet's fuel costs are currently capped at 66 cents per gallon, a significant advantage since the price of jet fuel is currently well above a dollar. All of ExpressJet's fuel is actually purchased through Continental.

Losness pointed out that ExpressJet has "always presented a greater percentage of Continental's flying than the other major airlines' partners have for their individual operations." Continental now flies about 1,100 flights per day, compared to ExpressJet's 1,000 flights per day, giving it almost a one-to-one ratio. And while ExpressJet is expanding service to backfill Continental's reductions, "it isn't to the extent that it is happening to other carriers," he said. He noted that in 2001, Continental had 1,300 flights per day while Continental Express had 900. The additional 100 flights that ExpressJet has picked up are primarily in new markets, while Continental has dropped about 200 flights. "Some other majors have dropped hundreds of daily flights," he said. "And by this summer, ExpressJet will be up to about 1,100 flights per day during the week," again mostly in new markets.

With the increase in aircraft and new routes comes an increase in maintenance support. "This is handled by having a known delivery schedule," Losness said. "We can anticipate what the delivery schedule is going to be and start preparing for it. This is one of the directives that [ExpressJet President and CEO] Jim Ream gave us when he took over. So we looked at the infrastructure we had in our organization and made sure we had the right people in the right positions."

ExpressJet took a look at the markets it would be serving, particularly with the longer-range markets available through the 145XR. It began to set up satellite maintenance facilities "where we could access the airplanes on overnight [layovers]," Losness said. "This ensures that we can still get access to the same percentage of airplanes as we keep adding to the fleet." Maintenance is under the direction of Jim Nides, vice president, maintenance and flight operations.

ExpressJet has a fleet hour agreement with Rolls-Royce for maintenance on the RR AE3007 engines used to power the ERJ 135/145 family.

ExpressJet then took a look at training and decided to bring it all in-house, including maintenance, agents, flight attendant and pilot training, Losness said.

The regional currently has two full-motion flight training simulators in its Houston training facility, "and we've started expansion for a third simulator that will be coming on line around the middle of September." He noted that ExpressJet has a full-motion cabin trainer for flight attendants, "which is something some of the major carriers don't even have," he said.

ExpressJet

President: James B. Ream
VP/COO: Jerry E. Losness
VP/CFO: Frederick S. Cromer
Fleet (as of Dec. 31, 2002):
ERJ-135 - 30
ERJ-145 - 140
ERJ-145XR - 18 (on order - 86 plus options on 100)

Headquarters:
1600 Smith St.
HQSCE
Houston, Texas 77002
(713) 324-2639
www.continental.com