By John W. Schoen Senior producer
msnbc.com
updated 1/10/2005 9:49:37 PM ET 2005-01-11T02:49:37

With airlines facing a fifth straight year of industry-wide losses, a pickup in traffic has raised hope that this might be the year profits return. But carriers still face the same strong headwinds that have crippled the industry -- painful increases in fuel costs and a glut of empty seats on too many flights.

And as management at high-cost "legacy" carriers continue to press workers for pay cuts and pension givebacks, passengers are finding that the skies are not as friendly as they used to be when the industry was making money.

With the U.S. economy showing steady growth, passenger traffic showed healthy growth in 2004, up roughly 10 percent from the year before. U.S. airlines have also been helped by the drop in the dollar, which has created bargain fares for foreigners traveling to American destinations. Domestic travelers are also enjoying bargain ticket prices, as bruising industry-wide fare wars showing no signs of letting up.

“I think there have been 17 price increases attempted that we’ve led or been part of in the last year,” Continental Airlines CEO Gordon Bethune recently told CNBC. “Only two have stuck. So that’s crazy, given the fact that we’re all of us losing money. So I don’t know how to stop it. Maybe a prefrontal lobotomy for a couple of these guys would be helpful.”

Industry analysts agree that major surgery is called for to help reduce the number of seats in the air. That may happen if struggling carriers like US Airways and United Airlines –- now in bankruptcy proceedings -– fail to come up with a viable plan to keep flying.

“The chances are pretty good one of (the weaker carriers) will disappear this year,” said Ray Neidl, who follows the industry at Calyon Securities.

United has already cut annual operating costs by $2.5 billion, but says it needs to make another $725 million in cuts to stay aloft. It also says it needs to cancel costly defined benefit pension plans for its four unions and replace them with cheaper 401(k) plans. Having recently won another round of wage concessions, the carrier’s prospects have improved.

The outlook is bleaker at US Airways, which won’t make a profit until at least 2007, even if it gets all the pay cuts its looking for, the company’s chief financial officer testified in bankruptcy proceedings last week.

Too many seats
Airlines executives and industry analysts agree that there are simply too many carriers operating in the U.S. for the industry to make money. But the painful consolidation will continue to be drawn out as long as struggling carriers can raise enough cash to keep flying.  

One reason lenders continue to lend is that some of them have too much invested already, according to Brian Hayward, an airline analyst with Zacks Research in Chicago. Companies like General Electric, which leases both airplanes and jet engines, face big losses on those leases if one of their customers is grounded. (MSNBC.com is a joint venture of Microsoft and NBC,  which is owned by GE.)

“That’s their dilemma,” said Hayward. “That’s why you keep seeing money -- last minute money sometimes -- going to these companies that should be going under. And as long as that continues to happen, the seats don’t go away.

Meanwhile, as low-cost competitors continue to expand operations, so-called “legacy carriers” have been forced to match lower fares -– even as their cost of flying them remains too high to make a profit.

The latest salvo was fired last week by Delta Air Lines, when the nation’s third-biggest carrier announced that it was slashing business fares and scrapping the requirement for Saturday night stayovers for cheaper tickets. If the cuts are matched by the rest of the industry, the move would ground another $2.7 billion in lost revenues, according to Bear Stearns airline analyst David Strine. He figures the fare cuts will hit hardest at other legacy carriers like United, Continental, American and Northwest.

Delta's chief executive said Monday the new fare structure may not be perfect, but it was important to win back the trust of passengers as the company tries to compete with discount rivals.

“We knew that we were going to make some mistakes, and we may have already made some,” CEO Gerald Grinstein told a packed Georgia Chamber of Commerce gathering.

In his usually blunt style, Grinstein said Delta will do whatever it takes to survive, and he noted Delta is not over the hump yet. Within hours of Delta’s announcement, Northwest and US Airways matched the changes in some markets where they compete with Delta. Continental and United reacted similarly, while American Airlines mimicked Delta to a larger degree.

“Half of Wall Street says that we’re the greatest geniuses that ever walked,” Grinstein told the 1,500 people gathered at the chamber’s annual meeting. “The other half says, ‘I’ve never seen such dumbos running an airline before.’ In this industry, they could both be right.”

Whichever side is right, Grinstein said Delta had to do something to try to win back customers who have been siphoned away by the discount carriers over the last several years.

“What would happen if Home Depot charged extra for paint that wasn’t used on Saturday night?” Grinstein said. “On the other hand, that is exactly what we were doing, which was an irritant.”

Low-cost carriers like Southwest, SkyWest, AirTran, JetBlue have fared better than their older competitors, booking roughly half a billion dollars in profits as a group over the past year. But even these profitable carriers face the continued financial turbulence of higher oil prices.

As the cost of crude has soared, jet fuel prices -– the second biggest expense for airlines, after wages -- have more than doubled over the past two years, with fuel accounting for some 10 to 20 percent of operating costs. With carriers unable to pass those costs along to passengers, the increase has been a direct hit on the bottom line. Strine at Bear Stearns figures oil would have to drop to $30 a barrel for the industry to get some breathing room.

Some carriers are feeling the fuel pinch more than others. To blunt the big swings in prices, airlines turn to the futures markets to hedge their fuel costs. Southwest has traditionally been the most successful at this strategy; the airline has locked in 80 percent of its fuel costs at the equivalent of $25 a barrel, according to Fulcrum Global Partners. But legacy carriers American, Delta, Continental, Northwest and United have no hedges in place for 2005.

The ongoing cost-cutting is also beginning to take its toll on travelers, who witnessed the meltdown of two carriers over the busy holiday season. Last month, Delta subsidiary Comair blamed a computer malfunction for a snafu that forced cancellation of hundreds of flights. A staff shortage at US Airways left thousands of passengers stranded on Christmas Day and a luggage pileup of some 10,000 bags in Philadelphia.

United flight attendants recently dropped a strike threat related to contract talks. But the stress on the airline industry workforce continues to build, according to Hayward.

“How long can the employees put a positive face to the public when this is going on with their jobs facing these kinds of cuts?” he said. “The management of the legacy carriers keep saying, ‘We need more cuts or we’re going to be in trouble.’ And the employees are saying, ‘When is this going to stop?'"

(The Associated Press contributed to this report.)

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