Under new managers and owners, the Phoenix-based carrier has embarked on a strategy of cautious but deliberate growth. The questions now are whether rivals will let that go unchallenged, whether changes in the industry itself will undo the best laid of plans, and whether the airline can resist the attractions of the rapid growth that led to its earlier downfall. At the same time there are lingering concerns over the carrier's labour situation, on and off balance sheet debt and revenue and traffic projections.
America West was notorious for growth, right up until it entered Chapter 11. 'Random and based on market expectation rather than real demand,' is how William Franke recalls that phase. Ever since its launch in 1983 America West has flown through cycles of rapid expansion inevitably followed by contraction.
During the airline's darkest days of 1992, Arizona's governor persuaded Franke to put his Phoenix investment firm aside and become chairman - and now CEO - of America West in order to rescue the carrier and bring it out of bankruptcy.
Franke raised enough cash to keep the airline afloat, then pressed ahead with a now-familiar formula of axing marginal routes, cutting payroll, and delaying aircraft deliveries. One by one old managers left and Franke replaced them with younger men from Northwest, Aloha Airlines, GE Capital, and Marriott Hotels. The average age of his new executive team - allbut one has arrived since Franke - is 45.
America West emerged from bankruptcy in August 1994, thanks to Franke's ruthlessness and Texas entrepreneur David Bonderman, who seems to specialise in rounding up investors to take control of airlines and lead them out of Chapter 11. Having succeeded with Continental Airlines, he repeated the process with America West.
Clearly, America West has put its worst problems behind it. At the last count, its consecutive string of quarterly profits had reached 11. With high margins and surplus cash, it paid off and refinanced debt in mid-1995 to shave nearly 10 per cent off its total debt load of $518.4 million. Less than a dozen creditors still have claims left over from bankruptcy. The pool of shares reserved for settling claims will probably end with a surplus, which the airline will distribute pro rata to all creditors. The company has standby authority to buy back nearly 2.5 million shares if creditors erode the share price by cashing in too many at once.
Management has continued to hone operations through consolidations, outsourcing, and boosting aircraft utilisation with night flights at Las Vegas, the only 24-hour city in the western US. But, having done all this, the question became: 'Where do we go from here?'
That question spawned the new two-year business plan which the company spent much of 1995 developing, with help from Booz Allen Hamilton consultants. The airline decided to grow and to reveal its plans for the first year. Uncharacteristic as that may seem, managers reasoned that each major competitor would then see that it was not singled out as a target. By showing its entire hand America West, the smallest US major after Alaska Airlines, hoped to avoid any retaliation.
So far, it has worked. But reactions could come after new flights start in February, with the launch of Phoenix and Las Vegas nonstops to Detroit, and the addition of Phoenix to Philadelphia and Boston in May. Later this year America West will add Phoenix and Las Vegas routes to Cleveland, Miami, and San Antonio, plus Las Vegas-Mexico City. It will also boost Phoenix frequencies on six present routes.
America West is re-entering many markets it served before bankruptcy. But management believes the results will be different this time for several interrelated reasons.
First, the airline is focusing on its Phoenix hub. 'We're growing the airline out of Phoenix,' says John Garel, new senior vice president for marketing and sales. The aim is first to reclaim the Phoenix market share lost to Southwest Airlines before and during bankruptcy, and then add to this. 'Phoenix is the fifth largest [western] US hub in terms of enplanements,' says CFO Douglas Parker. 'Yet our departures are less than those by major airlines at other hubs. We haven't grown the hub to the size this city will support.' Now the airline plans to raise its Phoenix departures from 174 to 204 - 30 more flights in two years.
But America West does not intend to be drawn into another slugfest with Southwest, the Dallas-based low cost airline which has made Phoenix the biggest city in its system. 'We will match their lowest fares on a capacity controlled basis,' says Franke, 'but we are not after the same traffic. Our niche is the low fare, full service, longer haul market.'
The Phoenix-Los Angeles sector illustrates how America West has changed strategies. It once offered about 20 daily flights on this short route. Then Southwest moved in with some 25 of its own, followed recently by another 10 from United's Shuttle. In response, America West halved its own frequencies, but now over half of its LA boardings will connect in Phoenix to America West flights heading east.
In short, America West is conceding point-to-point traffic on short routes to its low-cost rivals and its presence in short-haul markets is mostly to feed traffic to and from its Phoenix, Las Vegas, and Columbus hubs.
As part of this strategy, the airline's average stage lengths have steadily increased from 483 miles in 1989 to 687 miles and climbing. Longer sectors allow it to add such services as seat assignments, inflight meals and movies and still keep operating costs at or below its stated goal of 7 cents per ASM.
America West claims its unit costs are now 6.91 cents, the lowest of the US majors. This excludes TWA because its 'data are not meaningful.' Investment bankers Furman Selz show TWA lowest with 6.77, then America West at 7.04, shadowed by Southwest at 7.06. The actual costs and debate about which carrier has the lowest are less important than the narrow spread between America West and Southwest.
Strategic alliances with Continental and Mesa Airlines are boosting this new hub strategy. Mesa took a 7 per cent stake in America West and now provides regional feed at all three of its hubs under the name America West Express. Flying two new Fokker 70s, with up to eight more coming, Mesa is now trying to build regional feed at the Columbus hub - weakest of the three.
Meanwhile codesharing with Continental has added 23 cities to America West's network, offering many more connecting options for its passengers. Both the Mesa and Continental alliances further remove America West from the point-to-point milieu that contributed to its earlier downfall.
Both alliances also contribute mightily to the carrier's cost control campaign. America West was able to abandon its own unprofitable regional flights to Mesa and is buying fuel with Continental, as well as integrating stations. The pair are also considering joint insurance and combining some operating systems. 'Measuring the benefits of codesharing is an imperfect science,' says Franke, 'but I think we are enjoying total benefits from this [Continental] alliance in the range of $30 million annually.' Where cost savings are concerned, Franke beams that the year-old Continental alliance 'has already exceeded my expectations,' adding, 'we are 85 per cent of the way already.'
America West's 7 cent ceiling on its unit costs is under continual pressure. In the airline's first union contract, pilots entered a five-year agreement last May that raised salaries to the level of other low-cost carriers, with bonuses for productivity. Higher cockpit hours provoked a 'sick out' by some pilots, but most accept the package because it provides 7 per cent annual raises.
Flight attendants have now also organised and negotiations with their union are in progress. Several unions have failed to organise ground staff, but votes came close enough to encourage them to try again. A company official says, 'We expect further union activity.'
America West's 10,000 employees were battered during bankruptcy by layoffs, pay cuts, and freezes. That may explain why the airline has one of the highest passenger complaint levels and worst on-time records of any US major. Both are symptoms of low morale.
Franke wants to change this, but faces a dilemma. Unit labour costs at America West are now the lowest among US majors - 1.93 cents per ASM compared to 2.36 at Southwest. Inevitably these must rise, and when they do it is uncertain how the airline will offset them, or where else it is able to cut costs.
Aircraft acquisitions are unlikely to yield savings. America West will add ten aircraft in 1996, and up to ten more next year, all leased. 'As a matter of policy, I don't believe in buying the aircraft,' Franke says. Franke concedes that leasing may cost more in the long run, but believes the extra cost is justified by the flexibility to shrink or expand.
Questions also persist about the airline's balance sheet. At the end of 1994, America West reported $531 million in debt. But that did not include the net present value of its lease obligations. Add those, according to Betsy Snyder at Standard & Poors, and total debt suddenly soars $1.2 billion, to more than double the book debt. With more leases, Snyder adds, 'this will obviously grow.'
Another concern centres on revenue. Under the business plan, capacity will grow almost 30 per cent but the company will not reveal traffic or revenue projections beyond Franke's assurance that the rate of return will be acceptable. This will undoubtedly be helped by the presence of first class in all aircraft but analyst Raymond Neidl at Furman Selz fears 'traffic will lag, which will force discounting, thereby keeping a lid on revenue growth.'
Franke also downplays the prospect of retaliation. Competing carriers 'could buy market share in Phoenix by pricing below us, but they would have to decide to devote significant assets because of our low costs and market position.' He warns that America West would use 'every available community, legal, and political resource' if any airline planned a major Phoenix invasion.
Any showdown need not occur in Phoenix, of course, and could come instead from rival hubs. America West's growth strategy pits its Phoenix hub against United's Denver, Delta's Salt Lake City, American's Dallas, and Continental's Houston among southwest hubs competing for transcontinental traffic. Any of them could effectively attack America West from their own strongholds without invading its turf.
Besides, the desert already has enough desperados. Two of them could be Southwest and Shuttle by United. They may help scare off newcomers, but if Southwest decided to stretch stage lengths, as Herb Kelleher periodically threatens, America West's medium and longer haul traffic could be jeopardised. Southwest now overlaps on less than a quarter of America West's routes; United's Shuttle overlaps on less than 6 per cent. America West's business plan assumes both will stick to their current strategies.
Even more unsettling is the increasing talk of consolidation among US airlines. Lehman Brothers, which owns some 10 per cent of America West, recently forecast that airline economics 'will drive a period of consolidation,' saying, 'We think this airline would be an attractive target.'
If so, Continental could be the first suitor. An investor group owned by Continental chairman David Bonderman only nominates two out of 15 board directors at America West but controls 61 per cent of the carrier's voting shares. The current shareholder agreement prevents Bonderman's group from using their shares to vote for a merger unless a certain number of independent directors also agree. This restriction is scheduled to end in August 1997.
Restrictions aside, Franke thinks a takeover by Continental makes no sense as his airline's attractive cost structure would disappear with any integration of pay scales. 'The benefits of merger have already been obtained through the alliance process,' he says. 'They can avoid ramping up America West's costs by forcing the alliance to the maximum extent, but operating under separate brands.' Franke's cost argument would seem to apply regardless of whether the acquiror were Continental or someone else. 'From a cost standpoint it wouldn't make sense,' Franke insists. 'It is not my job to maintain America West's independence, but to maximise value to the shareholders,' he points out. Nonetheless, 'our best defence is to keep making money and have the stock price go up.'
Assuming there is no acquisition, the main question longer term is whether America West will remain focused on the cautious, organic growth that Franke and the current directors favour.
With veteran Maurice Myers retiring as president just as the airline starts to grow, Franke is concerned about continuity and has agreed to stay three more years. Franke's commitment is to the bottom line, not market share. 'A certain size is important in order to serve your customers and take advantage of cost savings, but that shouldn't be what motivates the airline,' he says. 'Bigger isn't necessarily better.'
But will his lieutenants remember that? In less than a year, they have already abandoned a policy of targeting markets 'underserved by other major airlines.' Garel says the strategy now is to add service 'to any major US city that we're not flying to from our hub.' Reflecting this new confidence, another young official adds, 'We will not concede any city pair monopoly to our competitors.' At an airline best known for its history of hell-for-leather growth, this new-found assertiveness is worth watching.
Source: Airline Business
