Continental Plans Comeback from Bankruptcy

Listening to Harris, who has been with CO since only last September, explain the present difficult situation away as not being a failure but merely a strategy aimed at becoming one of the world’s great airlines by the mid nineties, makes one marvel that this man has actually set out to make the ailing Continental of old a Delta II.

“We intend to be the first choice of the world’s frequent fliers.

Through our service and our people, we will be the airline that does more for our customers and does it better than anyone in the industry,” states Harris with a surety that befits his gentle but firm John Wayne appearance.

In the meantime the Houston based carrier has a long way to travel before joining the ranks of the best, though with Harris at the helm it is certainly agreed amongst aviation analysts worldwide that the airline now has the credible leadership that perhaps it lacked under Frank Lorenzo.

Lorenzo was better known as a tough talking union buster. His efforts at completely reorganising Continental back in 1983 were largely based on the elimination of the airline’s unionised workforce, many of which were later rehired at half their former salaries. His adversarial approach to almost everything was bound to cause trouble in a number of key areas, leastof which was with the surviving unions.

Continental’s recent descent into Chapter 11 (a US legal tactic allowing a failing company to renegotiate its debt and reschedule its outgoings in order to be able to keep trading so that it may eventually become profitable again) was the end result of a number of factors. Firstly, it had never been able to make good its purchase of ailing Eastern Airlines. Constant fighting with the unions, poor standards of service, much-publicised though generally overrated maintenance breaches and the constant threat that the airline would be closed down overnight (leaving travel agents and business flyers wary of pre-booking tickets) all took their toll to the point where the once proud carrier was finally left no choice other than to be wound up. This naturally led to massive writeoffs at a time when the Gulf crisis had seen fuel soar from 57c to 1. 28c (all figures AUD) a US gallon and passengers evaporate as the fear of terrorism began to take its toll. Fuel costs had soared by around $85m a month while traffic dropped by more than a fifth, a scenario for fiscal disaster.

With its reserves bled dry and the airline losing millions each day the only recourse was to officially declare Chapter 11 on 3 December last year. This tactic allowed Continental to reschedule the leases on its large fleet and to renegotiate debt to ease the cost burden during these difficult times. Aiding the airline was the fact that there is a glut of jetliners in the marketplace, something that effectively left the lessors with little option other than to co-operate and see it through. Consequently 146 of the 340 jets in the CO fleet came up for renegotiation between their 22 lessors. At one stage the airline had hoped to be able to stop all lease payments though this was overturned by the US Courts. Also opting for this line was PanAm, also in Chapter 11, and if successful the move would have done much to destabilise the world leasing industry as obviously a lessor would have little confidence in leasing to anything other than the most profitable airlines in the world.

So, how will Continental make its comeback?

The airline has three great assets. Firstly it now has Hollis Harris, a man that truly lends great credibility to the airline’s fight back to profitability that could never have been achieved via an often mistrusted and adversarial Frank Lorenzo. Secondly the airline has a very strong route structure with considerable strength in the South Pacific, Central America, Caribbean and throughout the USA. Thirdly, and probably most importantly in the shorter term, CO has the lowest cost structure of any major US carrier.

On this latter point Harris quotes the airline’s labour cost as representing only 15% of total outgoings as against 20 to 25% for its competitors with its staff being at least 25% moreproductive on an available tonne kilometre basis. As Hollis laconically states, “We don’t have a cost problem, we have a revenue problem. ”

And the solution?

The airline is now targeting for up market traffic rather than merely catering for the masses. Yield presently is 14c with the immediate target being set at 15c. Doesn’t sound much but that extra one cent translates in a year to an additional $550m revenue. Which with falling fuel prices (around 61c at presstime), increasing traffic and the northern summer, the airline hopes to be back in month to month profit from this August. If this is achieved then Continental should be able to actually emerge from Chapter 11 around the middle of next year, a somewhat shorter period than the three years of the previous bankruptcy.

The core strategy of course is to increase yield. To do this the airline naturally has to sell more full fare seats (in all three classes) and increase its share of business travellers against some pretty tough competition. This is why the airline has opted for a totally new image and marketing strategy. Additional emphasis is being put on the SAS managed Quality Service Institute where CO employees are trained to the same high standards as SAS staff. With some 16. 8% ofCO stock, Scandinavia’s SAS also has a vested interest in helping its US partner to survive and prosper.

All the aircraft are being reconfigured for higher standards of service with most of the refurbishing being undertaken with funds released through the rescheduling of debt. In other words the creditors now have a vested interest in seeing. Continental survive, prosper and begin to turn an operating profit, something. it plans with confidence for in the 1992/93 year. It is obvious that Hollis Harris is planning on turning Continental into what will literally be a Delta II.

The other objective will be to maximise its route structure and existing assets, not only to increase yield but to also provide some immediate debt relief in the way of a cash injection. At presstime, CO management was discussing the prospects of four new non airline investors coming into CO, the objective being to raise around $ 600m. Also on the market is Chelsea, the airline’s profitable catering division, and a portion ofAirMicronesia.

Air ‘Mike’ is an interesting story in itself. The airline is owned and operated by CO in conjunction with the Government of Micronesia and operates a fleet of 727 and DC-10 aircraft from its Guam hub. The importance of Air Mike to the overall CO Pacific rim strategy is not fully appreciated till one realises that from Guam the airline feeds into the majority of routes linking Japan, Korea, the Philippines, Hawaii and many of the Pacific Islands. Expected granting of rights into Singapore and Bangkok will top off the list.

Continental is looking to sell 49% of Air Mike to a conglomerate of non airline interests. This the airline feels should raise something in the region of $400m whilst allowing CO to retain control and the necessary oncarriage which has made Guam such an important hub for the Texas airline.

Ironically, CO was negotiating with Delta on selling its entire South Pacific route structure in the final quarter of last year. However the Atlanta based airline had to withdraw following a sharp drop in revenue due to the Gulf Crisis, soaring fuel costs and ironically a fare war with an Eastern well and truly in its death throes. It was this latter fact that made Delta realise that it was not a time for expansion and so Continental had no choice but to declare Chapter 11 in order to remain operational.

Hollis Harris is setting his sights on the Pacific Rim region, quoting that any US carrier which isn’t deeply involved in that market simply won’t be a major player in the years to come. Though the airline had to sell its Seattle/Tokyo route (for $150m) to American, it is planning further expansion to Asia and Australia once the Chapter 11 reorganisation is complete.

Harris states emphatically that the airline must continue to grow to maintain its position relative to its competitors. Thus it is targeting an annual average growth rate of 4. 6% for this decade, something that will see it maintaining its (1990) 9. 3% US market share. If growth falls below 4. 6% though, there is a chance that American and United will forge further ahead whilst Northwest and USAir are not far behind. The situation could change overnight though if either ailing Trans World or PanAm were acquired by one of the larger carriers. This is on the cards, though certainly a recession tends to make airline CEOs a trifle more pragmatic, cautious and deliberate than perhaps they are in a growth environment. Just as an ailing Eastern, and before it People Express, did little to boost the fortunes of Continental Holdings (the CO parent company), the acquisition of TWA and PanAm these days is seen as little more than unwanted baggage by ‘healthy’ airlines already fighting to stay afloat.

In probably the worst half year in airline history, CO recorded an operating loss of $388m in the December ’90 quarter and $205m in the March ’91 quarter. This was comparable to the performance of other large US carriers though with the return of summer, lower fuel costs and traffic hopefully returning, it is hoped that the airline will posta surplus for its June and September quarters.

This aside, Continental has always enjoyed profitability on its Australasia/Hawaii route and with 30 services a week flying into Cairns, Brisbane, Sydney, Melbourne and Auckland, Continental is actually the third largest international serving Australia in terms of schedules and market share. Systemwide, the airline has over 1,300 departures daily serving 147 airports with a fleet of over 340 jets and more than 100 turboprop commuters in the associated Continental Express system.

Continental also has on order nearly 200 Stage 3 jets to replace the bulk of its older aircraft. Amongst these are 10 A330s with 10 on option plus 10 A340s with 10 optioned, in addition to up to 100 Boeing 737s and 50 757 twinjets. The Airbus products will replace existing DC-10s and 747-100s whilst an order for 747-400s is also in the wind for 1993 when the carrier is back in profitability. The Boeing twinjets will largely replace the nearly 200 old Stage 2 727s and early build 737s and augment the existing large fleet of MD-80 aircraft Use of the ultra long range 290 pax A340 will allow Continental to economically pioneer many new long, thin routes unavailable to it with existing DC-10 and 7 4 7 equipment whilst the A330 twinjet will augment the large A300 fleet that CO already flies on its North American routes. The A330 will also replace the DC-10 on short to medium haul routes offering a similar capacity with a fraction of the fuel/maintenance costs.

In addition to opening up new opportunities in the Pacific Rim via its Guam and Honolulu hubs, the airline is also looking at expanding its European services beyond the three existing ports (London, Paris and Frankfurt) that it currently serves. Looking to be added over the next few years will be Rome, Zurich and Madrid. Whilst its association on the Continent with SAS is important the same is true for the Scandinavian carrier with its three daily services into CO’s large Newark hub in addition to having two of its execs on the CO Board.

Continental is one of America’s longest lived airlines, beginning services back in 1934 under the name of Varney Speed Lines. That the vast majority of corporate America is now accepting the airline’s latest foray into Chapter 11 as a sensible reorganisation due to extraordinary circumstances is ample testimony to the new found credibility the carrier has within the industry.

A new fleet, new image and a fiscally conservative management team aided by the lowest cost structure of any US major allied with a highly viable route structure will hopefully be the vehicle to take the new Continental, alias Delta 11, into the profitable nineties.