After Turnaround, Airlines Face Head Winds

The airline industry could be cruising toward another downturn after just one year of returned profitability, according to several financiers with long histories in the industry.

Persistently high fuel prices, a slowing economy, signs of stalled pricing power and challenges on the labor front could push the industry back into the doldrums over the next few years.

"I think that 2006 was the crest, and we're on our way down," said Rick Schifter, a partner at TPG, an investment firm with offices in Fort Worth and San Francisco and formerly known as Texas Pacific Group.

Schifter, who spoke Wednesday on a panel discussing airline finances at an aviation conference in Phoenix, is a former board member of the European low-fare airline Ryanair, America West and US Airways.

He said additional capacity in the domestic market will make it harder for airlines to keep fares high. He noted that two new carriers, Virgin America and SkyBus, are entering the market, while other low-fare airlines like Dallas-based Southwest Airlines continue to grow.

"The capacity is making it difficult for high fuel prices to be passed on to the customers," he said.

Chris Chaput, managing director of structured finance for the Seabury Group, said much will hinge on whether the airlines can continue the discipline they've shown over the past two years in raising fares.

"It's very hard to predict that you will see profits widening" rather than narrowing, said Peter Walsh, managing partner of Mercer Management Consulting.

After five years of substantial losses, the industry swung to a modest profit last year despite high fuel prices, largely because of higher fares and reduced costs.

But while a slowing economy and new competition could push down fares, there will be pressure on labor costs as unions begin negotiating new contracts. Leaders with several major unions, including those at Fort Worth-based American Airlines, are pushing for wage and benefit increases.

"If you've been reading all the American Airlines press releases, it's clear that they're not in the mood to help much," Walsh said. Airline stocks have declined in recent weeks after executives from several carriers warned of a softening in travel demand.

Shares of AMR Corp., American's parent, (ticker: AMR) closed at $27.52 Wednesday, up 2 cents. Shares of Southwest (ticker: LUV) finished at $14.54, down 15 cents.

A downturn could spur more bankruptcies and also increase pressure to consolidate, Schifter said. But he added that airline mergers are only likely amid a financial crisis, because of the many difficulties including antitrust issues and labor challenges.

"If the status quo is acceptable, you're not going to take the risk," he said.

If the industry does slip back into financial difficulty, "I think this would be the shortest airline up-cycle on record," said Gary Chase, an industry analyst with Lehman Bros.

When asked if private equity had any role to play as the industry continues to restructure, Schifter said there could be some advantages in taking an airline private.

"The notion of not always focusing on the short term but creating value over the long term, that does have some merit," he said.

But he said private-equity investment could also be part of a public company's turnaround.

He pointed out that TPG executives worked closely with Continental Airlines in the 1990s as that air- line emerged from bankruptcy.

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Trebor Banstetter, 817-390-7064
tbanstetter@star-telegram.com

Source: www.amtonline.com