Airlines Must Take ‘Calculated Risks’ to Adapt to Changing Market, Pioneering CEO Says

December 9, 2024 TruthUSA

Competition has forced airlines to innovate since deregulation—but has the flying experience become better?

Airlines were once like electric utilities: staid, heavily regulated, and respectful of each others’ territories. Since deregulation was passed under the Carter administration, a once cordial club has turned cut-throat, producing a steady supply of upstarts and casualties, with mixed results for flyers.

There is hardly an airline today that has not fallen into bankruptcy at some point since then. Spirit Airlines, which filed for bankruptcy on Nov. 18, is only the latest example. Southwest and Jet Blue also recently announced they are canceling routes, cutting staff, and reducing costs in an attempt to stem losses.

Despite the recent struggles of discount airlines, Frank Lorenzo, former CEO of Continental Airlines, now part of United Airlines, said that while many of the fundamental metrics of running a profitable airline—load factors, revenue passenger miles, and fuel, labor, and maintenance costs—have remained the same, innovation is the key to survival.

One of the primary lessons he learned during decades at the helm was “the need to take calculated risks,” he said.

“It gets back to leadership and to risk taking, which to me are some of the most important things that I often see lacking,” he said.

Lorenzo has been running airlines big and small since 1972, steering them through deregulation, the 1973 OPEC oil embargo, hostile takeovers, the 9/11 terrorist attack, and numerous fights with employee unions along the way. He tells his story in a newly published autobiography, “Flying for Peanuts,” and he spoke with The Epoch Times on the current state of the airline industry.

Because his tenure running airlines started in Texas, where he was forced to compete as a regulated airline with Southwest, an unregulated upstart, Lorenzo’s team became early adapters of innovative strategies, just to survive. These strategies included strategic discounting, unbundling of services, and flyer-loyalty programs—all of which are now the norm among major airlines.

Unbundling and Loyalty

Today, loyalty programs have become so lucrative for airlines that they often generate more income than passenger fares, and for some carriers are valued higher on balance sheets than the entire rest of the airline.

Because flyer miles have effectively become a new currency created and controlled by airlines, a number of industry analysts have referred to airlines as banks that also fly people. An analysis of frequent-flyer programs by Harvard Law Today found that airlines’ partnerships with credit card companies, for example, generated $23 billion in revenue in 2022.

But critics say that because airlines control both the supply of flyer miles and how they can be used, and can change redemption terms at will, carriers will likely profit from this currency more than passengers.

Unbundling and ancillary revenues is another feature that has become commonplace. While it was originally embraced by low-cost carriers, it has since become a means for established airlines to compete with low-cost upstarts.

Items such as checked luggage, seat selection, and refreshments that were once included for the established airlines have now become menu items for which carriers charge extra, along with other luxuries such as roomier seats and airport lounges.

Rather than competing solely on price, airlines such as Delta and United offer a range of options—from bare-bones discount fares to a variety of higher-cost premium economy options with extra legroom and other perks. Increasingly, airlines say they are expanding the upper-class sections of aircraft to accommodate passengers who will pay more to fly in greater comfort.

An October report by IdeaWorks, a self-described “resource for ancillary revenue strategy,” projected that airlines would earn $148.4 billion worldwide from fees for perks, with ancillary income increasing from 6.7 percent of total revenue for the industry in 2014 to 14.9 percent this year. Calculated by individual airlines, these fees ranged from a low of 2 percent of total income to a high of 56.4 percent.

This has put pressure on no-frills airlines such as Spirit, which says that it, too, will now offer perks for a fee. And it has compelled Southwest to ditch its longstanding first-come-first-served seating policy and also begin charging fees for seating assignments.

All of which raises the question of whether deregulation has made the flying experience better. And the answer may be yes—for those who can afford it.

Airlines Face Criticism

U.S. senators called airlines to task at a Dec. 4 hearing titled “The Sky’s the Limit—New Revelations About Airline Fees,” during which senior executives from American Airlines, United Airlines, Delta Air Lines, Spirit Airlines, and Frontier were grilled about their airlines’ practices.

“We’re all captives on your airplanes at a certain point,” Sen. Maggie Hassan (D-N.H) told airline executives at the hearing. “You just say, ‘You want to pick a seat? We’re just going to charge you some random amount more.”

“Nobody enjoys flying on your airlines,” Sen. Josh Hawley (R-Mo.) said. “You charge people fees that they know nothing about, you harass them to death. … It’s terrible.”

Sen. Richard Blumenthal (D-Conn.) said government regulators should require more disclosure and consider fining airlines for charging so-called junk fees.

Andrew Nocella, United Airlines’ chief commercial officer, defended the fees at the hearing, saying they gave flyers the flexibility of only paying for services they consider worth the money.

Many analysts have looked at Spirit’s bankruptcy as indications that low-cost carriers, which cannot offer the same luxuries as the majors, are in crisis, but Lorenzo says the picture is more nuanced.

“Spirit is a special case. Spirit is loaded with debt,” he said. “You have companies like Frontier—they’re well managed; they have good ownership behind it.”

Frontier reported in October that its operating revenues were up 6 percent over the prior year, with revenue per available seat mile—a key metric for airlines—up 2 percent and costs per available seat mile down 6 percent.

Still Room for Startups

Even with low-cost carriers such as Southwest and Jet Blue struggling, Lorenzo says there is still room for new startups, “if there’s a niche you can find.”

Breeze Airways, for example, started in 2021, providing low-cost nonstop flights between secondary U.S. airports, bypassing hubs for shorter travel times. But many factors from decades ago still hold true today, hardware and personnel issues among them.

“Six months or a year ago, I would say that it was impossible to get pilots because all the pilots were being gobbled up by the big guys,” he said. “But that’s changed now, and pilots are much more plentiful, although they’ve been seeing some tremendous increases in pay.”

Equipment supplies are another factor, though airlines have gotten creative in coping with that.

“Usually airlines have been started when there was an excess supply of airplanes, but that’s hardly the case today, with a tremendous shortage of airplanes,” he said.

Due to production problems at Boeing and Airbus, passenger airlines are expected to receive 19 percent fewer planes than expected, in addition to the grounding of about 350 Airbus planes until 2026 to fix flaws in their Pratt & Whitney engines.

Breeze turned to smaller manufacturers such as Brazilian aircraft manufacturer Embraer to supply its aircraft. Other carriers used the shortage as a money-making opportunity, selling the planes that were delivered to them at inflated prices and leasing them back for use. Frontier Airlines, for example, reported hundreds of millions of dollars in profits from sale-and-leaseback transactions.

Swimming With Sharks

Lorenzo’s career running airlines began in 1972 when he and a college friend, Robert Carney, who were both in their 20s and initially operated out of space in a public library, scraped together the money to buy Texas International Airlines (TIA), then the smallest of 18 carriers operating in the United States.

Airlines, though sedate, were glamorous ventures, similar to owning a sports team, and this one was trading at a discount.

“We were young guys that had very little resources, and we had gotten our hands on an airline,” Lorenzo said. “It wasn’t much of an airline—everybody thought it was headed out of business, and the banks had given it up for dead—but it was an airline, and also an airline in Texas.”

Texas was booming, together with its oil industry, and the partners saw growth potential, in addition to room to cut the carrier’s operating costs.

Further, federal regulators had just awarded TIA several lucrative new routes. But the carrier was discounted for another reason: Southwest Airlines had just launched its first flight out of Dallas the year before.

At that time, the Civil Aeronautics Board (CAB), a federal regulator, decided which airlines could fly in the United States, which routes each carrier operated, how much they charged passengers, and how airlines competed with one another. But Southwest operated outside of federal regulations because it didn’t fly across state lines; nor did it have legacy union contracts for its pilots, mechanics, and flight attendants, enabling it to run at a much lower cost base and set fares accordingly.

“We would never have gotten our deal the way we did unless it was because of Southwest,” Lorenzo said, noting that when Southwest started service in 1971, the “banks and the outfits that controlled the airline debt” were greatly concerned since “Southwest was saying they’re going to put Texas International out of business.”

TIA was losing the fight and running in the red financially, with bankruptcy looming. But the threat turned out to be a blessing in disguise.

Lorenzo’s new acquisition, still constrained by federal regulations, was forced to scramble to stay alive. This entailed cutting loss-making routes, bringing down wages and other costs, and improving the carrier’s reputation for reliability.

Just as TIA returned to profitability, the OPEC oil embargo sent fuel costs through the roof, while creating fuel shortages that forced many airlines to ground flights. In the midst of that crisis, TIA was hit with a strike by the Air Line Employees Association (ALEA), demanding higher wages, and threatening to put TIA back into the red. Compromises were reached with TIA’s employee unions for a lesser wage increase in return for increased efficiency and flexibility.

By the time deregulation was enacted in 1978, TIA’s management had put strategies in place to compete with the big airlines, which were now free to compete in each others’ markets.

TIA developed financial models to calculate the lowest fares that would optimize profitability, seeking to maximize the balance between load factors, or the number of seats filled, and earning enough revenue to cover costs. The result was a discount campaign called “peanuts fares,” which made TIA competitive against carriers such as Southwest.

Through a series of acquisitions—some that worked out and others that didn’t—they ultimately acquired Continental Airlines in 1981 and became a big-league player, taking the airline into and back out of bankruptcy in 1983, amid cost-cutting struggles with employee unions. Lorenzo retired in 1990.

Airlines Under Trump

Today, he says, technology is a major new factor for airlines. There were not only the changes to aircraft, which have generally improved safety and efficiency, but also changes to booking and marketing, allowing airlines to better manage load factors and fine-tune how much they charge each passenger for which services.

Where load factors of 60–65 percent were once considered normal, he stated, now, airlines must operate at a minimum of 80 percent to remain profitable.

Looking ahead, Lorenzo said he expects the Trump administration will be kinder to airlines than the current administration.

“I think Trump’s administration will tend to leave the airlines alone and not subject them to the anti-trust regulation that is purposeless,” he said.

He got to know the incoming president well in 1989, when he sold Trump an East Coast commuter airline called the Eastern Shuttle. Trump added features such as chrome and gold plating to the aircraft and rebranded the airline as the Trump Shuttle, thereby joining the ranks of aviation moguls such as Howard Hughes, who acquired TWA, and Herb Kelleher, who founded Southwest.

Ultimately, however, the Trump Shuttle was hit by a spike in fuel prices after Iraq invaded Kuwait in 1990, and it ended up being taken over by its creditors, proving once again the adage that owning an airline is sometimes analogous to being a movie producer—a glamorous way to lose money.

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