Wing and a Prayer

A shakeout in the airline industry is creating major turbulence for hub-and-spoke cities and their airports. At the same time, some other localities are getting a lift.
by | January 2004

It's 9:15 in the evening at Pittsburgh International Airport and the lights from US Airways' planes are streaking in from Los Angeles, Nashville and Watertown, New York. One by one, the planes nose up to their gates and discharge their passengers, filling the terminal with businessmen in tailored suits and retirees in sweat suits, many wheeling carry-on bags behind them. The majority of these people aren't staying in Pittsburgh. They're connecting to flights headed somewhere else. In about 45 minutes, the great in-migration will turn into an exodus and all the blue-and-gray planes will load up and take off as rapidly as they came in.

This is the kind of activity Allegheny County expected to see when it opened this sleek airport on the grounds of its old one just 11 years ago. Pittsburgh International was the nation's first true hub airport, custom-made to the centralized route networks the airlines wanted. "Hub and spoke" was the name of the game, and Pittsburgh figured that life as a hub, with nonstop flights to dozens of cities, surely beat being a spoke. So Pittsburgh built the perfect hub airport, specially designed to move passengers and planes quickly from one flight to the next. The features have since been widely copied: moving walkways and a compact X-shaped terminal for fast connections, as well as a retail mall in the center so people can shop during longer layovers.

Allegheny County built the new facility primarily with one airline in mind: US Airways. The airline, then known as USAir and before that as Allegheny Airlines, was the hometown carrier and a big local employer with grand expansion plans. By 2000, US Airways predicted, it would be moving 30 million passengers through Pittsburgh, creating one of the nation's busiest airports. "No airport or community in their right mind would turn down an airline that comes and says it wants to make your facility a hub," says Kent George, executive director of the Allegheny County Airport Authority.

So there was a high spirit of public-private partnership when Allegheny County and USAir agreed in 1988 to share the cost of building a new $1 billion airport. All of the airlines using Pittsburgh International would pay that off through landing fees and rents over a 30-year lease, but as the dominant carrier, USAir would pay the bulk of it. The setup seemed to work well for both sides. US Airways built up a schedule of 542 departures a day. Local business travelers, meanwhile, enjoyed the convenience of well over 100 nonstop destinations--far more than Pittsburgh could support without the hub.

But a couple of years ago, the airline industry as Pittsburgh knew it turned upside down. The economy tanked, sending droves of business travelers to lower-cost airlines such as Southwest. The events of September 11, 2001 and all the security hassles since then put a damper on air travel nationwide. And US Airways was forced to make an emergency landing in Chapter 11 bankruptcy, where it used court protection to reorganize its finances. Today, US Airways' daily flights from Pittsburgh are down to 379. It's enough to keep the terminal bustling, but the commotion isn't quite what it used to be.

In fact, there's a chance those connecting crowds may vanish from Pittsburgh altogether. US Airways is still in such bad fiscal shape that it no longer wants to pay its original share of the cost of the airport. If Allegheny County and the state of Pennsylvania don't find a way to wipe clean $500 million worth of airport debt, the airline says it will shut down its hub as soon as this summer, taking 80 percent of Pittsburgh's air traffic with it.

State and local officials, their loyalties spurned, say they won't cave in to the demands. Even if they do, US Airways may not survive. Depending on how things play out, it's possible that Pittsburgh will wind up stuck with a white elephant--a custom-built hub airport with an entire concourse of gates, maybe two, in mothballs. "Who could have foreseen what would happen?" says Dan Onorato, Allegheny County's newly elected executive. The deal with US Airways "made sense at a time when the airlines were strong. But in 2004, that industry doesn't exist anymore."

LOSERS AND WINNERS

Pittsburgh isn't the only place that's experiencing a bumpy ride from the airlines these days. Air carriers are now in the midst of their biggest shakeout since Congress deregulated the industry in 1978. All airports--hub cities and spoke cities alike--are struggling to sort out the new rules of the business. The stakes are huge. In the past two years, dozens of small airports have lost air service entirely. Meanwhile, several big cities that invested heavily in airline hubs, believing they would become magnets for jobs and economic development, stand to lose them.

The news isn't all bad, however. Even as the airlines put jets into storage in the dry air of the Mojave Desert, cities such as Oakland and Long Beach, California, and Akron, Ohio, actually gained new flights to new destinations. The growth is mostly attributable to the rise of a few fast-growing low-cost carriers. JetBlue Airways alone has added 24 departures to Long Beach since 2001. As a result, the airport's total passenger count soared from 1.4 million in 2002 to 2.4 million through the first 10 months of 2003.

Meanwhile, some localities are benefiting from another recent airline trend: the increasing use of small regional jets. The planes, with 30 to 90 seats, are opening up new long-distance routes that never were economical before. Delta Air Lines, for example, recently began nonstop service between Atlanta and Appleton, Wisconsin, using a 50- seat Bombardier jet--a trip that previously required a layover in a Midwest hub such as Chicago, Detroit or Cincinnati. "We wouldn't be able to support that market using a larger airplane," says Jeff Mulder, director of the Outagamie County Airport in Appleton.

In short, airline upheaval is creating a new set of winners and losers among localities and their airports. "If you shake it all up in your hands and throw it down on a map, you find some airports are doing rather well, many are doing about the same and a lot are not doing well," says Stephen Van Beek, a senior vice president at the Airports Council International-North America.

The vulnerable places with the most to lose in this new travel market are second-tier cities with lots of connecting traffic. No city knows this better than St. Louis, where American Airlines downsized a hub in November. America West Airlines last summer ditched a hub in Columbus, slashing its departures from 49 to four. Industry analysts say more consolidation of the airlines and their hubs is inevitable. Leo Mullin, the retiring head of Delta, predicted in October that a number of hubs are soon to become spokes. "The hub-and-spoke system will continue, but it will not remain the same," Mullin told a conference of economic development officials. "We have too many hubs in this country, especially in the Midwest."

The country's six so-called "network" airlines--American, Continental, Delta, Northwest, United and US Airways--are in financial turmoil. All of them operate vast and costly hub-and-spoke systems and have significantly cut back flight schedules since 9/11. Still they're struggling to get their flying costs down. Although business has picked up a bit recently, Delta, United and US Airways are all losing money and American is just barely breaking even. They aren't interested in flying to new cities unless they're certain they can make a profit on them.

While the mainline carriers falter, low-cost carriers are gaining ground. Airlines such as Southwest, JetBlue, AirTran and ATA are still relatively small, but they are growing fast (Southwest's value on Wall Street exceeds that of the six network carriers combined). They're making money by cherry-picking the big boys' profitable routes. They're also building service at small, uncrowded airports near major metro areas. Southwest won't fly to Boston, with its notorious delays. But it's doing a brisk business in both Providence, Rhode Island, and Manchester, New Hampshire.

The trend toward regional jets adds another new dynamic. Communities that used to enjoy air service using wide-body jets are frequently seeing it replaced by the smaller aircraft. Delta's Cincinnati hub is actually seeing more plane traffic now than it used to, but two-thirds of the aircraft are regional jets flown by a Delta partner. In Denver, where last summer United threatened to pull its hub, the city agreed to add a $40 million regional jet facility to an airport it built only nine years ago.

Smaller jets are a boon to some cities and a bust to others. Places such as Appleton love them. But large, busy airports such as New York's LaGuardia don't. For one thing, airports earn lower landing fees on lighter planes. And the small planes create just as much traffic without helping to relieve airport congestion. "Regional jets take just as much time on the runway and taxiways and in the airspace around the airport, but they're carrying fewer people," says Hank Dittmar, a transportation expert who heads the nonprofit group Reconnecting America.

The case of Port Angeles, Washington, shows another downside to the airlines' fast-shuffling fleet mix. Horizon Air is the only airline in Port Angeles, and it used to fly 18-seat turboprops to Seattle six times a day. The small city on the Olympic Peninsula could usually fill up the small planes. But then Horizon replaced all of its turboprops with 37-seat regional jets. To compensate for the larger aircraft, Horizon cut its schedule to four flights a day, creating longer layovers in Seattle for connecting passengers. That inconvenience persuaded some travelers to make the three-hour drive to Seattle instead. Passenger counts dropped and finally Horizon decided to delete Port Angeles from its route map altogether. The last commercial flight out of Port Angeles is January 6. "The turboprop was ideal for this market," says Jeff Robb, the airport manager. "When they doubled the seats, it became difficult to fill that airplane up."

COST IS EVERYTHING

All of these crosscurrents mean that cities and counties need to adjust their thinking. Local officials tend to regard their airports as something like a utility, an essential service such as water or sewers that provides a gateway to the community. The airlines, meanwhile, are more focused than ever on controlling costs so they can turn a profit. "Cost is everything," says aviation consultant Michael Boyd. "A lot of airports want to put artwork up, as a front door to the community. The level of artwork most airlines are comfortable with now is a second coat of latex."

The cost equation looms particularly large at hub airports. In the past, the big airlines didn't care much about airport cost because it added up to only about 5 percent of their overhead. But now that some are fighting for survival, airlines are wringing costs out of every source they can find: labor unions, suppliers and also the airports. In tense negotiations with Denver last summer, United used the cover of Chapter 11 protection to insist that the city cut its rent. After much haggling, Denver finally agreed in November to use cash from airport concessions and rental cars to lower United's costs by $7 million a year. (Denver gave the other airlines a rent cut, too.) "Every airline is very focused on cutting costs in every arena," says Vicki Braunagel, Denver's co-manager of aviation. "That includes airport leases."

This shift is fundamentally changing the relationship between the airlines and airports. It may also change the way airport expansions are financed in the future. Airlines used to be willing partners when it came to financing new facilities. Not anymore. Denver's deal with United and the unfolding drama with US Airways in Pittsburgh indicate that communities may have to take on more of the costs and risks of airport construction themselves. "The days of building an airport and passing the cost along to somebody else are over," Boyd says.

In the new airline world, cities may have to reconsider their loyalties. That's one lesson St. Louis learned from the demise of its hometown carrier, TWA. St. Louis repeatedly propped up TWA through the 1990s as it struggled financially. In 1993, the city bought the airline's gates at Lambert Field, a bailout package worth $70 million. Later, the local business community primed TWA with cash by buying up millions of dollars' worth of advance tickets. Still TWA struggled, and in 2001 American Airlines bought it out. American promised to keep the St. Louis hub open, but then it, too, found itself on the verge of bankruptcy last year. In November, American slashed daily departures at Lambert in half, a crushing blow to civic leaders who had worked so hard to keep the hub. "In the past, if you had a hub airline at your airport, you could assume that what was good for the airline was also good for the community," says Van Beek. "You can't make that assumption anymore."

Small spoke airports hoping to woo the airlines these days have a different challenge. They need to focus on building a large enough base of passengers to make flying there profitable. Increasingly, small cities are doing this by helping airlines with local marketing. Some are even bringing cash to the table. One popular strategy to get the airlines' attention is to open a so-called "travel bank" account. The idea is to raise funds from likely fliers, which are set aside for the purpose of buying tickets on a certain airline--if it comes to town. The setup gives the airlines some assurance that the route will make money. It also gets travelers, who must use their "deposits" or lose them, in the habit of flying the carrier.

Pensacola, Florida, used this strategy to lure AirTran in 2001. Local businesses travel-banked $2.1 million, which was enough to persuade the low-cost carrier to compete with Delta on an Atlanta route. Similarly, Wichita, Kansas, used travel banks to attract AirTran and Frontier, another low-cost carrier. "These don't work in every market," says Mike Boggs, a consultant who has helped several communities set up travel banks. "If the market can't generate passengers, travel banks won't work."

PITTSBURGH'S PLIGHT

When it comes to adapting to the new realities of the airline industry, airport managers around the country view Pittsburgh as a critical test, just as it was a harbinger of the hub heyday a decade ago.

Then, cities across the country envied the airport Allegheny County built. Travelers found layovers in Pittsburgh more comfortable than at other hubs. The airport's design also saved USAir about $12 million a year in fuel costs. Unaware of how starkly the industry would change in just 10 years, both the county and the airline boasted in ways that seem ironic today. One county official bragged that "any other airline would snap this up in a minute if USAir went out of business tomorrow." A spokesman for the airline said USAir didn't mind paying big fees to use the facility. "$35 million in the grand scheme of things is not that big an amount," he said.

US Airways never came close to moving 30 million passengers through Pittsburgh as it had promised (total passengers at the airport peaked in 1997 at 21 million). The booming economy of the late 1990s hid flaws in US Airways' cost structure, but when business travel slacked in early 2001 the airline's deep problems became clear. Then 9/11 happened and within a year, US Airways filed for Chapter 11 bankruptcy. Under new management (the Alabama retirees pension fund bought a large stake in the airline), it restructured its debts and negotiated new labor pacts with its unions. Then, in a last minute move before coming out of Chapter 11 last March, it attempted to get out of the cost-sharing deal with Allegheny County. With a bankruptcy judge's blessing, US Airways prospectively rejected its lease in Pittsburgh, as of January 5, 2004.

US Airways wants the county, or the state, to eliminate $500 million of the $673 million debt outstanding on the airport--and it has suggested a range of tax hikes they could use to do it. What the airline wants is for its per-passenger costs at Pittsburgh, currently more than $9, to fall in line with the $2-per-passenger cost at Charlotte, another of its hubs. "We simply can't afford to continue operating at Pittsburgh with the existing cost structure," says US Airways spokesman David Castelveter. "We're faced with more and more aggressive low-fare competition. The only way for us to compete is to control costs."

SHIFTING FOCUS

Allegheny County officials are livid. As one person involved in negotiations with US Airways puts it, "we can't just snap our fingers and make $500 million in debt go away." Negotiations are continuing. A lot of people in Pittsburgh think US Airways is bluffing, but with 7,700 local jobs in the balance, that's a tough call to make. "US Airways is looking at any place they can to save money," says airport director Kent George. "If they can turn around and cram down some debt and get a better deal, they're going to do it. It's just a plain business approach." Some sort of arrangement to lower costs at the airport will likely emerge, but airport officials want any help for US Airways to benefit other airlines, too.

That's because the county's approach to the airline game is evolving. The initial thought in Pittsburgh was that state and local governments might have to find a way to bail out US Airways. But more and more, civic leaders are pondering a world without Pittsburgh's hometown carrier. They are preparing for the prospect that US Airways may vanish entirely--even as they hope it won't. "We don't have the wherewithal to save them," says Glenn Mahone, a corporate lawyer who chairs the airport authority's board. "We can relieve all the debt service and still see them go down the toilet."

Pittsburgh's biggest mistake was to hitch its fate so thoroughly to one airline. Now the airport is trying to diversify. In the past couple of years, George has bagged a few new carriers to soften the blow should US Airways go belly-up. AirTran is now flying in from Atlanta. America West has a flight from Phoenix. ATA is flying to Chicago. And a small airline called USA 3000 runs a couple of routes to the Caribbean. Pittsburgh also has high hopes for an upstart low- cost airline, known only as "Project Roam." If investors can line up private financing, the new carrier plans to base itself in Pittsburgh later this year.

Clearly, Pittsburgh International is an airport in transition--even if US Airways remains in business. It has given up its dreams of 30 million short-term passengers, and is instead fashioning itself as an airport focused more on the 5 million people who actually start and end their trips each year in Pittsburgh. "We may not end up with the same frequency of flights as we've had with US Airways," says Mahone. "But someone will come into Pittsburgh and fly these folks where they want to go."