James C. May, President and CEO
Air Transport Association of America
Airports Council International – North America 13th Annual Conference
Houston, Texas
September 21, 2004
Winston Churchill once said that the Americans and the British were two people separated by a common language.
One could make almost the same point about airlines and airports. Sometimes it seems that we are two people separated by a common interest in civil aviation. We have often quarreled over expansion, modernization, noise and emissions, landing fees, and other issues. Too often, it seems, the one thing that is most lacking in civil aviation is “civility.” I hope not to make that mistake today as I seek to accomplish three things.
First is to explain why – two years into a recovery, and a little more than three years after 9/11 – we have a growing financial crisis in the airline industry.
Second is to point out some of the implications for the airport community and the U.S. economy as whole.
And third – quite frankly – is to seek your help. Today the airlines are experiencing various difficulties that we haven’t been able to solve on our own. Remember the loud bang that Jim Lovell and his crew members heard on Apollo 13? Let me say to you, just as he so famously did to another group of ground-based professionals gathered in this city: “Houston, we have a problem!”
Financially speaking, the nation’s airlines are running out of breathable air. From 2001 through 2003, U.S. airlines lost more than $23 billion. Losses this year will exceed $6 billion. We have major carriers that are bleeding cash and at the outer limits of their borrowing capacity. Two of the nation’s six legacy carriers are in bankruptcy, and a third is fighting to avert the same fate. There also is a popular misconception that things are going well for non-legacy carriers, but they too are projecting sharply reduced earnings or even losses.
Some of you may ask: Why can’t the airlines just learn to do more with less – cutting costs and raising productivity?
Well, to begin with, the airlines are aggressively attacking costs. They are scrutinizing every penny. Since August 2001, 123,000 U.S. airline workers have lost their jobs – about one out of every six employees. Surviving airline workers have experienced cuts in both wages and benefits. Moreover, worker productivity is up 11 percent versus pre-9/11 performance. On an annual basis, airlines have cut capital spending 62 percent and slashed operating expenses by 13 percent. There’s more, especially with regard to fuel efficiency, which I’ll address in a moment.
The problem is not a failure to manage controllable costs. The real problem is an overwhelming assortment of costs that a) are beyond airline control, and b) are nearly impossible to transfer. With no offsetting revenues, these costs have fallen straight to the bottom line and are responsible for the huge losses that have occurred despite major improvements in operating efficiencies.
I’ll talk about why airlines are not able to pass cost increases to consumers. But let me first set out a few of the most important elements of the financial equation.
- Federally imposed or authorized taxes and fees now account for about $52 on an average $200 domestic roundtrip ticket with one connection each way. That’s 26 percent. It’s nearly twice the rate on commercial air travel from a decade ago and more than triple the rate of 30 years ago. In aggregate, these taxes and fees – including PFCs -- are the biggest uncontrolled cost - a staggering $14 billion annual burden on the airlines and our customers.
- A second uncontrollable cost is security. I know you share our pain with unreimbursed security costs. Congress has agreed in principle that airline and airport security is a federal responsibility. That should mean that federal funds are provided to cover the cost of post-9/11 federal security mandates. But it hasn’t happened, and, as result, the airlines will take a hit amounting to almost $4 billion in 2004.
- Fuel represents a third great uncontrollable cost. Knowing that it constitutes our second-largest expense, we have continually made our own strides toward increasing fuel efficiency. In fact, today’s airline operations are nearly twice as fuel efficient as they were in 1980. Nonetheless, the reality remains that every one dollar increase in the price of a barrel of oil imposes an additional $425 million cost on U.S. airlines. The average price of oil through the 90s was just under $20 a barrel. This year it moved above $40. That translates to an incremental cost of about $8.5 billion on an industry with annual revenues of not much more than $100 billion.
Standard & Poor’s credit analyst Philip Baggaley underlined one part of our dilemma in recent testimony to Congress. He noted, when fuel prices rise, railroads and trucking companies, which have roughly the same proportion of fuel costs to total costs, pass the increased expense through to their customers in the form of surcharges. But, he then added, and I quote, “Airlines have tried repeatedly to raise fares in response to high fuel costs, but with little success. The problem comes back to a lack of pricing power in a very competitive market.” Close quote.
That’s a fair comment, but I would take a broader view. Even without surcharges and other special contractual arrangements, most enterprises – big and small, public and private – are normally able to raise prices when costs rise due to external events affecting most businesses and consumers. If the price of oil goes up, you expect to pay more at the gas pump; you expect to pay more for a taxi ride.
But you don’t expect to pay more for an airline ticket. There are several reasons for this unusual state of affairs.
First, airline ticket prices have been falling for years. In constant dollars, an air ticket now costs only half of what it did in 1978. Even in nominal terms, prices are lower today than they were in 1988.
Second, airline tickets have become the ultimate Internet commodity. On-line, individuals and businesses have instant access to the latest and the most detailed and extensive price lists for flying from Point A to Point B. Everyone knows that a seat that flies empty represents revenues that are lost forever.
It’s become a game – a fun game for many people – to find a $125 roundtrip ticket between, let’s say, New York and San Francisco, or a $250 ticket for a vacation destination in Europe.
Third, the airline industry, as Bob Crandall once put it, is “intensely, vigorously, bitterly, savagely competitive” It is partly this competitive pressure between all carriers that has resulted in current fare levels that are simply not adequate to cover costs. Within reason, this pressure can be beneficial to consumers. But chronic below-cost pricing is unhealthy and unrealistic. In its extreme form, airline competition has become destructive to a critical component of our national infrastructure.
Taken together, these three factors explain why consumers, rather than airlines, are in the driver’s seat when it comes to airline pricing and why it is difficult if not impossible to pass along an array of rising costs – for fuel, taxes, and security.
Now, what is really astounding to someone like me who is still fairly new to the business is the contrast between the abysmal financial condition of our airlines and the excellent financial condition of your airports. While the vast majority of major airports have retained investment grade credit ratings, all but one of the 12 large airlines tracked by Standard & Poor’s has junk bond-quality ratings.
In a speech posted on the ACI web site, my good friend David Plavin alluded to this situation, saying, “Airports are NOT on the brink of bankruptcy, and that seems to trouble those who are.” If I may respond in a spirit of collegiality, and yes, even civility, I say: God bless your flush pockets. But I also say: We should all be troubled when so many airlines are either on the brink or close to it. After all, it is air travel that brings customers to airports and airline generated revenues (pause) that helps pay airport bills.
The fact is, airports cannot live without airlines, anymore than airlines can live without airports. Over the long run, we rise and fall together. To put that another way, either the airlines are going to get well, or the airports are going to become sick. Just think of all of the magnificent railroad stations across the country that were mothballed, or turned into hotels, when the railroads that served them failed.
Let me mention just a few of the areas where the interests of airlines and airports clearly and obviously converge.
When fewer people elect to fly because they have other options, it’s bad for airlines, and it’s bad for airports. We are finally back to carrying the same number of passengers as we did before 9/11, but many more people are choosing to not go by air. As you know, there have been substantial declines in short-haul air travel between cities like New York-DC, Dallas-Houston, and San Francisco-Los Angeles.
When airline distress results in the reduction or even the elimination of service to communities both large and small, it’s bad for airlines, and it’s bad for airports. More than that, it’s a terrible loss for people and businesses in the impacted communities. And let me say a word here about the extreme importance of the hub-and-spoke system to many smaller communities, which have themselves become increasingly integrated into the larger national and global economies. There’s an old saying in our business, when you choke a hub, you choke a spoke.
Finally, and most importantly, when federal tax policies discriminate against air travelers and the air transportation business, it’s bad for airlines, and it’s bad for airports. In addition, I would argue that it undermines efficiency and causes real harm to the national economy.
“The power to tax,” as Oliver Wendell Holmes once said, is “the power to destroy.” The weakened state of the airlines is in no small part due to over-taxation and ill-conceived public policies. Nobody really planned it that way, but that is how it has evolved. Uncle Sam takes a far bigger bite out of the sale of an airline ticket than he does on the sale of alcohol, tobacco, and firearms, the so-called “sin taxes” – designed to discourage certain activities. Looking at it this way, clearly the government is sending an anti-travel message to travelers and anti-shipping message to those who ship by air! The sky-high tax on air travel is even more striking when you consider there is no federal consumption tax on bus and rail travel and next to nothing on ocean travel.
Think about it. We have a tax policy that treats air travel like smoking or drinking, only it is more punitive! That’s nothing short of crazy when you consider how beneficial and important commercial aviation is to in the U.S. and world economies.
As ACI-NA has found in its own studies, there are 1.9 million jobs at U.S. airports, and another 4.8 million related jobs created in local communities. These 6.7 million airport-related jobs translate into earnings of $190 billion dollars. Commercial aviation also is at the center of America’s just-in-time economy, and we are broadly responsible for more than 10 million jobs in the U.S. travel and tourism industry and more than 8 percent of U.S. GDP. We ought to have a new tax policy that encourages the growth of commercial aviation. I suggest to you this new thinking would be good for airports, good for airlines and good for the traveling public, and good the nation’s economy.
At the outset of my remarks, I mentioned Apollo 13. Remember the fantastic (and real) scene in the movie when the astronauts evacuate the stricken command ship and move into the tiny lunar module.
As the carbon dioxide level in the cabin rises, the three astronauts are in imminent danger of being asphyxiated by their own breath. It is up to the folks at Mission Control to figure out how to devise a makeshift air filter system from the material at hand in space. They dump all of the items available to the astronauts on a table and go to work, knowing they have just two hours to come up with a workable plan. The ensuing solution involves duct tape, the cover torn from the flight plan, connector hoses from space suits, and a sock.
We, too, have to work from materials at hand to come up with a solution to the crisis that now threatens not just the airline industry, but all of civil aviation; and, indeed, all who depend upon the fast, efficient and ubiquitous movement of people and freight by air.
Obviously, there is no one silver bullet or answer. In a broad outline, I’d like to suggest a five-point plan to encourage closer collaboration and cooperation between airlines and airports.
Before I do so, let me say there are a couple of recent and positive examples proving that we can work well together. Our partnership with ACI, AAAE, Boeing and TSA as a great example on the security front. Another would be the “Leadership Summit” effort undertaken by Gina Marie Lindsey, airports, airlines, consultants and concessionaires. This activity has produced valuable cooperation in the area of benchmarking overall airport financial performance, and will soon produce recommendations on the implementation of technology such as WI-FI applications at airports. In short, we know that with joint effort and leadership, airlines and airports can produce positive results.
Now, on to my suggestions:
- Our number one collective priority always is safety and security. There are many good ideas (and some dumb ones, too) for improving security systems that screen and keep track of the hundreds of millions of people and their baggage who move through our nation’s 500-plus airports every year. We simply cannot implement every one of them. We must be prepared to make hard choices in allocating limited resources. We will not save the system by bankrupting it. “Perfection is unattainable,” as the 9/11 Commission Report explicitly states, “but terrorist should perceive that potential targets are defended.” We need to mutually establish a risk-reward regime that enables policy-makers to reject ideas that don’t measure up.
- Many airports have shown restraint in revising their plans to reflect the new budget realities. We need to continue work on an airport / airline relationship that ties every dollar spent on airports to real, cost-effective improvements that enable growth and provide greater convenience for travelers. In that regard, I would like to pay a particular compliment to our friends at LAX and fine spirit of cooperation they have shown us.
- As I said earlier, I think we can all agree that security, adopted by Congress as a Federal responsibility, should be paid with Federal funds -- more specifically, general funds, not through taxes on travelers and shippers. That said, I'd like to publicly thank every one of you who has fought so valiantly to get as many Federal dollars as possible for security improvements at your airports. Unfortunately, though, there are two caveats to my statement of gratitude.
First, there are clearly not enough Federal dollars available to pay for the improvements, and so many of you have had to ask the airlines for direct contributions to cover these shortfalls. This only serves to exacerbate our frustrations as we struggle to remain afloat. Nearly half of the federal security dollars you are receive come from U.S. airlines. U.S. carriers and their passengers contribute 40 percent to the TSA’s five billion dollar budget. These security taxes and fees are not general tax dollars but are revenues generated from more taxes and fees on airlines, travelers and shippers. What we all need to fight for – and we'll have another golden opportunity in the next Congress – is to get all of these security improvement funds from the general government coffers instead of continuing to burden air travelers, shippers and airlines.
- I would say the same exact thing about all of the other taxes and fees that have been heaped upon our industry. We have a common interest in working together within the political and legislative arena with more purpose and greater passion than we have ever done before. It is vitally important that as we face the expiration of many of these taxes and fees in 2007, we resolve to address the issues and our many differences, both within our own memberships as well as across the industry divide. We need to ensure that these tax dollars are channeled into expanding our infrastructure in an effort to accommodate growth in demand.
- We all care about the effects of congestion on the national air transportation system; congestion which is the direct by-product of a strong demand for air travel and air cargo. There are essentially two ways to solve the congestion problem.
First, we could address the problem at its source, and build a system that can accommodate the demand. To do this, we need policies that enable the appropriate growth of airport infrastructure, and we need ATC system modernization NOW. OR second, we can introduce artificial economic constraints on the system, which in our view could result in an ineffective transfer of wealth that only serves to mask the real problems and suppresses demand. I think we can all agree that continued growth of our system -- coupled with the ability to properly price the airline product -- serves the interests of airlines AND airports, and the local, regional and national economies driven by our industry.
Without a doubt, airlines and airports have a great story to tell in saying how our efforts drive the greater good of people and businesses across our nation and around the world.
I won’t pretend that we haven’t had our spats in the past. What long married couple hasn’t? But now is the time for us to pull together in presenting a united front, especially in Washington, D.C. I have asked for your help and I really do believe that it is in your own self-interest to do so. Working together, we can come up with a much better set of public policies governing civil aviation – one that will allow airlines and airports to grow and prosper for many decades to come.
Thank you for giving me this opportunity to address your group.