Despite these advances, by the spring of 1993 Wolf was very, very unhappy. His success in the international markets was being engulfed by failure at home. Despite its expansion, United was losing money hand over fist. One of the main reasons was the Southwest effect.
California was a killer. Wolf sent spies to the airports to count the people getting on Kelleher’s planes while analysts estimated South-west’s costs of operating its flights. Southwest, they calculated, was at worst breaking even on a $59 flight. At that price United bled to death.
Southwest was only the most visible symptom of the problem. It was clear to Wolf that a cultural change had taken hold in America, one for which sociologists had not even begun to account. People were obsessed with living on the cheap. And to the extent that Herb Kelleher was positioned to cash in on that change—with his low costs and relentless efficiency and workforce dedicated to delivering a product for next to nothing—United Airlines would lose.
In searching for a strategy, Wolf called together the leaders of the principal unions at United. He told them that the more United flew in the United States, the more money it seemed to lose. There was no choice: unless it cut its labor costs, United had to get small. Getting small, of course, meant fewer planes and fewer promotion opportunities.
The pilots thought they were hearing the ghost of Dick Ferris. “Downsizing,” Roger Hall of ALPA told Wolf, “means war.” It would be one of the most cataclysmic labor wars ever, Hall vowed. It would make the pilots’ strike of ’85 look like a warm-up act. Hall warned Wolf that he had no idea how bad it could get: “You’ve never been involved in one of those, and I have.”
War, Wolf knew, would get personal; it would call attention once again to his option position in United stock, worth something like $50 million. To avert war, Wolf decided once again to summon his powers of persuasion, as he had with such success at Republic Airlines and Tiger International.
On a brilliant late-winter morning in February 1993 a few hundred off-duty pilots and flight attendants gathered at a Marriott Hotel on the edge of Dulles International Airport to hear their distant and rather mysterious chairman speak. The parking lot was overflowing with Miatas and Mercedes Benzes. Inside the hotel waited a standing-room-only crowd of flight attendants in stretch pants and baggy sweaters and pilots in tweed and Ultrasuede.
For Wolf the presentation was an incursion behind enemy lines. The flight attendants were gravely upset by another of Wolf’s moves: establishing crew bases overseas in order to recruit flight attendants who were in some cases less expensive but who in all cases were bilingual. Wolf was obsessed with the perfection of spoken language, to the point of rejecting a request by the flight attendants’ union to open a crew base in Miami for United’s new South American service instead of in Buenos Aires; even if there were plenty of qualified bilinguals in Miami, he pointed out, a different dialect was spoken in Argentina.
All heads in the audience turned when Wolf finally appeared at the back of the ballroom clad in a mile-long winter coat and scarf, holding a steaming cup of coffee to his lips. Wolf strode to the front, jerked his scarf from his neck with a snap, rested his cup on the lectern, and slowly peeled off his overcoat.
“The industry continues to be in nothing short of domestic chaos,” Wolf told the group solemnly. The consumer now demanded ultralow fares. Three carriers, Continental, TWA, and American West, were in bankruptcy proceedings, each seeking to find a way to survive on low fares. And then there was the enigma of Southwest. “They are a competitor,” he said, “that we don’t know how to compete with.”
Wolf reminded his people that in 1991 United had reported the biggest loss in its history; in 1992 the loss was three times greater. Now in 1993 the loss looked like it could be “staggeringly large.”
Wolf paused. There was not a sound in the chamber. He sipped audibly from his Styrofoam coffee cup.
“In the history of America there’s never been anything like what’s happened in the aviation industry in the last three years.”
Wolf concluded the presentation without making any firm requests and without offering solutions. He wished only to soften the ground, stirring enough empathy and anxiety that these rank-and-file employees might prevail on their leaders to consider some concessions. But this crowd would not give Wolf such truck. As soon as he asked for questions from the audience, the flight attendants, dozens of them, stood up in unison and stalked from the room in an organized protest. Wolf’s appeal had failed.
United was slipping fast, and Wolf himself was perilously close to looking bad. It was the pilots who showed him a way out of his dilemma.
In June 1993 pilot officials at United resurrected their idea of an employee takeover, noting that the concessions Wolf wanted would be tolerable if employees were compensated for them in stock. The pilots, further, had a candidate whom they intended to elect as their new chief executive if they attained control: Gerald Greenwald, who had played an instrumental role with Lee Iacocca in the rescue and rehabilitation of Chrysler.
Wolf set to work designing a new, employee-owned United Airlines to compete with Southwest, knowing that if he were successful in selling the idea to the unions, he would be out of a job. At least he would be out cleanly, with $50 million or better in his pocket, leaving behind a company with a better chance.
Part of Wolf’s solution involved a sleight of hand. United had suffered mightily from its lack of meaningful b-scales. So Wolf convinced the unions to establish a separate corporation—U2, it was called in the planning stages—which would look and act like Southwest, with quick turnarounds, reduced cabin service, and, most important, employees brought in at cut-rate wages. Regardless of the packaging, Wolf and his aides had talked the unions of United into b-scales. Ultimately, U2 operated in California under the name Shuttle by United.
Wolf seemed intent on bringing his own job to an end, as he ultimately had both at Republic and Tiger International. He even helped the pilots negotiate the employment contract for Greenwald, the man intended to take his job. “It’s sort of a canned act,” Kevin Lum, the president of the flight attendants’ union at United, eventually decided regarding Wolf. “He paints the planes and then he sells them.”
Some people thought the employees had no idea what the union leaders and Wolf were getting them into. Even two members of the United board—Andrew Brimmer, the former Federal Reserve official, and Frank Olson, who remained on the board even after returning to Hertz—ultimately voted against the buyout. Nevertheless, by the summer of 1994, the deal appeared at hand. The terms had been established. There would be severe pay cuts for existing employees (except the flight attendants, who declined to come in as owners) and b-scales for new hires. On his final day at United, Wolf put his pen in his pocket, went to the shareholders’ meeting, awaited the official announcement of their approval, and went home, never to return to United Airlines. And when the deal closed, Wolf, age 53, walked away with his $50 million.
A short time later, when asked how he expected to spend his free time, he said perfectly seriously that he intended to bone up on personal finance. Would he also be reading more? Yes, he said, he had read six newspapers already that day. Wolf also accepted a major consulting engagement to assist in a turnaround attempt at troubled Air France. Wolf and his wife leased an apartment in Paris for a year.
“I’m not happy about leaving United,” he commented. “But I accept it. I left it the best positioned airline in the world. If managed properly, it will work for everybody.”
In April 1993 Kelleher announced that Southwest would expand in California by invading San Jose, the hub of the old AirCal operation that American Airlines had snatched seven years earlier. Informed of Southwest’s plans, Crandall on the spot ordered a huge cutback in American’s service at the hub, without waiting for even the first day of Southwest’s operation.
Though seemingly powerless in a head-to-head matchup with Southwest, American was without doubt a beautiful machine. With close to
700 airplanes and 100,000 employees, it conducted nearly 2,500 takeoffs and landings daily in 338 cities, 72 of them outside the U.S. mainland. On an average day Crandall moved 230,000 passengers, the equivalent of transporting the entire population of Des Moines, say, or Akron or Rochester for hundreds of miles; his people served 180,000 meals and handled 300,000 pieces of luggage. In a cavern in Oklahoma, behind a retina-scanning security device, the mainframes of Sabre were now connected to 200,000 reservations terminals around the world, handling as many as 3,600 transactions per second—the largest privately owned real-time network ever built, with every screen ringing up a fee on every reservation processed for another airline.
Crandall had also parlayed his yield management operation into a major business in its own right, with customers throughout the travel industry. The cutting-edge mathematical research American used to schedule flight crews and airplanes for maximum efficiency was being sold to dozens of clients. Keypunch operators at an American ticket processing center in Barbados were also processing insurance claims for Blue Cross and others.
The entire enterprise collected close to $15 billion in revenue a year, nearly five times the amount collected in 1980, when Crandall had become president. And yet on the bottom line, the only number that really counted, American, like every other airline except Southwest and British Air, was losing money. Why? A hard recession was raging, yes, but those two exceptions proved it was possible to profit through a recession. Southwest did it with low costs; British Airways did it with premium fares. Which course should Crandall attempt?
He had in fact already made his choice. The two-tier wage system by which Crandall had financed his Growth Plan had been slowly collapsing since the late 1980s, locking American into a higher labor-cost trend. Crandall had vowed never to let that happen. Time and again he swore publicly that American would take all the strikes it had to in order to defend b-scales. “We cannot yield on that and we will not yield on that,” he had declared. But the Growth Plan, it turned out, had boxed Crandall in. Because of b-scales he had conducted the largest expansion in airline history, yet because of that expansion, there was no way that b-scales could last.
The Growth Plan had created a new union majority at American consisting of b-scale employees. Continuing b-scales benefited a-scale employees, but the a-scalers no longer carried the day in union affairs. At the same time American no longer had the financial power to push the issue all the way to a strike. While buying all those airplanes, American had doubled its long-term debt in 1990, more than doubled it in 1991, and increased it by half again in 1992—to $5.6 billion. Because the debt payments would not stop if Crandall allowed the pilots to walk out, a strike could bankrupt American in a matter of days. Crandall had no choice but to capitulate to the union wage demands. As the two-tier system withered, Crandall officially brought his Growth Plan to an end. As he would one day put it in his own delicate way, “The unions insisted on reversing all the good stuff and pissed it out the window.”
The impasse on the cost side left Crandall only the revenue side: he could try to jump-start American’s markets, try to extract more revenue from each airplane. Yet even the power of yield management seemed to be failing in the recession.
Crandall dispatched teams of researchers to find out why the growth in air travel had stopped so suddenly. He demanded “radical thinking,” with all preconceived notions cast aside. The answers that came back were far from radical. Crandall’s people reported that travelers were fed up with the ever-worsening complexity of the fare structure, a condition that no airline more than American was responsible for creating. American had carried complexity past the point of diminishing returns. A new generation of consumers brought up on Wal-Mart and double grocery coupons on Tuesdays—and peanuts fares and People Express fares and all the rest—were conditioned to expect prices that were plainly and visibly related to value. That quality had evaporated from airline pricing. Crandall and the other executives of aviation had managed to stifle the impulse to travel. Even worse, the most vital and most loyal segment of the marketplace—business travelers—were being forced to subsidize the cheap fares as never before. American was driving its best customers away.
After months of study, Crandall staged as big a press conference as American Airlines had ever held, unveiling what he called “value pricing.” It was, at bottom, a price cut, particularly for the nation’s disaffected business travelers, a welcome development to be sure. The plethora of complex rules and special deals was mostly eliminated, also arousing cheers. Discount fares for vacation travelers were reduced in variety—and in no event, Crandall decreed, would a discount fare ever again fall below 50 percent of the full coach price. That way, American could stamp out the increasing practice of buying two round-trip tickets and flying on half of each.
“Simplicity itself,” Crandall declared at his press conference, broadcast by satellite worldwide.
American had simply adopted the retailing strategy dignified as “EDLP”—everyday low prices, the same strategy that had made Wal-Mart magnate Sam Walton in his time the wealthiest man in America. It was also, purely and simply, little more than a duplication of the pricing at Southwest. An advertising budget of $20 million was set for the first two weeks, believed to be an industry record.
Crandall not only hoped but insisted that the rest of the industry follow his lead. Should anyone undercut American’s fares, he declared, American would match, and its entire new fare structure would be proportionally reduced. There would be no more selective matching of special fare promotions. Airlines seeking to undermine American’s new system, Crandall warned, would be stomped on by the world’s biggest airline with the full weight of its fare structure.
There was absolutely no disputing that value pricing, however imbued with hype, held out tremendous appeals for the airline industry. And for a few days, it stuck. United rushed out new television spots so quickly that it had to recruit a substitute announcer until the company’s usual narrator, Gene Hackman, could be scheduled into the studio. In the next few days reservations volume at American and elsewhere surged, although it was unclear whether this was a onetime gain triggered by publicity or the beginning of a permanent change in travel patterns.
Then while Crandall was running on his treadmill at home watching the early morning news, he saw the announcement of a 50 percent price cut by Northwest, couched as an “adults fly free” promotion. “Son of a bitch!” he cried. Northwest was spitting in the face of value pricing. It was precisely the kind of gimmicky, confusing, half-baked promotion that Crandall was trying to wipe out.
Crandall was now like Truman, contemplating whether to allow the long, bloody war to drag on or to drop the atomic bomb. He could simply copy the Northwest promotion by allowing American passengers to travel with a child for free, but that would require American to institute a new fare category, which he had vowed never to do. Or Crandall could lower the boom on Northwest. He could announce a 50 percent price cut on every leisure seat on every plane flying every route.
Crandall’s people recognized that the company was on the cusp of a monumental decision. Someone might have spoken up to counsel against Armageddon. That speech might have come from Barbara Amster, Crandall’s longtime pricing chief and one of his most trusted aides, but Amster was in Europe. No one apparently gave Bob Crandall that speech. No one appealed for peace, or if someone did, the performance was not convincing.
The bombs-away order went out, and suddenly it was possible to fly coast to coast for $100 on a full-service airline. The old “ninety-niner” was back, even after a decade of galloping inflation.
In the summer of ’92 there was an electronic passenger riot in America—the telecommunications equivalent of shoppers tearing through soft goods in a sales bin. There had never been anything close to it. The long-distance telephone system of the United States literally locked up on calls to the airlines. On the peak day of the frenzy AT&T alone handled a record 177.4 million calls—1.6
billion over an 11-day period. American’s Sabre system in one day created 1.2 million new reservations. People who couldn’t get through by phone simply drove to the airport to buy tickets, often two, three, and four tickets. Within several days the airlines’ inventory for the summer was sold out—virtually every seat filled. And a few weeks later, when those flights began taking off, there was another riot, an orgy of travel. Hotels were brimming. Rental car lots were cleaned out.
By autumn, when the kids at last were laying out their back-to-school clothes and the last of the sale seats had been flown, someone calculated that 11 percent of the households in the United States had at least one member who flew in those few weeks. And the airlines—most of them, anyway—went deeper into the red.
In the summer of 1993 Herb Kelleher finally announced that he would take Southwest, for the first time, to the East Coast. It was a juicy place to be because the low-fare revolution had long ago been put down in the East. His target was Baltimore-Washington International Airport, a center of high fares. Some of the established airlines at Baltimore-Washington were charging more than $300 for a one-way ticket; Southwest announced service to some of the same markets for as little as one tenth the full fare.
Kelleher had another reason to choose Baltimore-Washington. Southwest was now by any reckoning a huge airline, if still a niche player. But outside the cities it served, practically no one had heard of it. Moreover, the name Southwest carried little clout in Washington. Adding a destination 30 miles north of the nation’s capital, Kelleher reckoned, would help Washington understand what Southwest was all about.
Kelleher was right. When the Clinton administration established a commission to investigate the problems of the airline industry, Kelleher was the only high-ranking airline executive appointed. Southwest’s arrival on the East Coast caused many of the national media to discover Southwest, as if it had only recently come into being. Kelleher starred in a commercial for the American Express card. Before long Kelleher was on the cover of Fortune under a headline asking, “America’s Best CEO?”
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