Deregulated Skies Turn Hostile for Small New Airlines

Royal West Airlines ran into a lot of turbulence before it finally ran out of money two months ago. Its jets overheated; its pilots went on strike, and a big tour operator that had agreed to buy $35 million worth of Royal West tickets went out of business.

Royal West’s president, Grant G. Murray, says the company’s plan--flying gamblers from Los Angeles to Las Vegas--was a good one: “It would have worked. . . . We just didn’t have the money” needed to overcome those setbacks.

When Royal West shut down, it was losing $200,000 a week and was unable to attract new investors to bail it out. “We were too far behind,” admits Murray, who started using one of the company’s jets for charter runs earlier this month. He acknowledged that many consumers now “unfortunately” own worthless Royal West tickets. “I feel badly for those people,” he says. “I hope we can do something to help them.”

Royal West’s collapse--it filed for bankruptcy protection from its creditors in March--is typical of many small, post-deregulation start-up airlines. According to Airline Economics, a Washington consulting firm, 198 new airlines have been formed since government regulation of the industry was lifted in 1978, and 160, including many of the start-ups, have merged or failed in that time.

Reasons for Failure Vary

The reasons for the failures among little airlines vary--not enough start-up cash, poor management, too few passengers and vicious fare wars. Morten S. Beyer, president of Avmark, an airline consulting firm, says that when the industry was deregulated, “most economic regulations on air carriers were eliminated. . . . Anyone who wanted a certificate (from the Transportation Department) could have one.” He says most airlines failed because they got started with too little cash to keep them aloft.

It was the government deregulation of the industry that fostered the creation of so many new airlines. During the late 1970s, the major airlines dropped less profitable routes and shed planes and employees to survive in a newly competitive environment. This provided opportunities for entrepreneurs. Soon, such small cities as Fresno and Modesto were served by more than half a dozen new air carriers.

But many of the new businesses collapsed; in Fresno, 11 airlines have come and gone since 1978. “Contrary to the great wisdom of deregulation, a small airline can only survive if it has the market to itself. If there is competition, fares are forced down to uneconomic levels, and (the airlines) blow themselves away,” Beyer says. He notes that most smaller airlines didn’t have the financial support to withstand prolonged fare wars.

Of course, not all of the new ventures flopped. Some airlines with stronger financing and less competitive markets are doing well. America West, a 4-year-old airline that links California with the Midwest through a Phoenix hub, is one post-deregulation airline that is flourishing. The airline has become the largest carrier in Phoenix and Las Vegas by offering business travelers free newspapers and drinks and low fares. And, so far, it has avoided head-to-head competition with the major airlines because they don’t have much of a presence in Phoenix. “We think our market niche is sound,” says Edward R. Beauvais, America West chairman.

Airline executives acknowledge that there are few untapped markets left for new airlines to exploit--especially as the majors grow stronger through mergers. For example, Delta Air Lines has recently acquired Western Airlines, and last year a troubled Eastern Airlines was merged into Texas Air, the parent of Continental Airlines.

At the same time, the majors are returning to the smaller airports that they abandoned during the late 1970s--this time through joint marketing agreements with tiny commuter airlines. For example, West Air, a Fresno commuter, has a marketing agreement with United Airlines. West Air feeds passengers into United’s system in San Francisco and Los Angeles, and United provides West Air with services such as ticketing and advertising for a low fee.

“I would say the window of opportunity has pretty much closed,” says Timothy P. Flynn, founder of West Air, now called United Express. “There are few new markets available.”

Air L.A. is a tiny commuter airline that says it is doing well because it serves a very specialized market--it shuttles tourists between Los Angeles and the Grand Canyon. Its president is a former sex therapist who recognized that “he wasn’t going to be the next Dr. Ruth,” says William Wolf, Air L.A. marketing vice president and a former travel agent. Wolf says the privately held airline is profitable and boasts that it is “L.A.’s best-kept secret. . . . We’re better known in Japan.”

But other post-deregulation air carriers are finding that they have to retrench to survive. Sunworld International, a Las Vegas airline, made money in 1985--thanks to a strike by United Airlines employees. But last year, the airline stumbled when it flew smack into a fare war initiated by Frontier Airlines, now merged with Texas Air. Ticket prices for Las Vegas to Denver fell to $89 from $129, and “even when the planes were full, we couldn’t break even,” says Thomas J. Volz, Sunworld’s president.

Cutting Its Costs

What’s more, Sunworld discovered that it had some of the wrong kind of planes. Volz likened Sunworld’s three Boeing 737s to “a cathedral--great at Christmas, but during the year, you’re looking at empty pews.” Worse, monthly lease payments on a 737 were $240,000, compared to $60,000 each for the four McDonnell Douglas DC-9s that comprised the rest of its fleet.

Sunworld is taking drastic measures to revive its troubled finances. It is getting rid of the 737s and taking other steps to save money. It has dropped unprofitable service to Oklahoma City, Milwaukee and Omaha and fired four top executives. At the same time, it is trying to improve business by giving free tickets to repeat customers and discounts to senior citizens.

Sunworld needs to take other steps. For one thing, Volz says, the airline must reduce its dependence on the fickle Las Vegas tourist trade and focus on the more predictable business traveler. “There are two kinds of airline executives,” says Volz, a former Southwest Airlines executive, who had the failure of Royal West on his mind. “Those who learn from history and those who don’t.”

Avmark’s Beyer says the shakeout among the new carriers isn’t over. But he and other experts agree that airlines such as Royal West and Sunworld are the last of a breed. For one thing, it is much more difficult now to raise cash for a new airline. The heavy death toll among post-deregulation carriers has scared off most private investors, and not without reason.

Last December, for example, investors who bought stock in Pacific Express won a $450,000 settlement from Pacific Express auditor Peat, Marwick, Mitchell & Co. and Bear, Stearns & Co., a New York investment bank that underwrote Pacific Express’ initial public offering. The 2-year-old suit alleged that Pacific Express, a regional airline that traversed California in 1984, was insolvent when it went public. It filed for bankruptcy protection 15 months after it sold stock.

Good Routes Are Scarce

It takes more money to start an airline nowadays. When the industry was deregulated, used planes were relatively cheap because the major airlines shed aircraft and employees to reduce costs. Now the majors are expanding, and used aircraft are expensive and difficult to get, airline executives say.

New carriers face stiff competition from stronger airlines. The majors have grown large through mergers and dominate the lucrative big city markets. “It’s easy to get (government) approval to start an airline,” says George James, president of Airline Economics. “What’s difficult is finding routes where an airline can be successful.”

Consumer advocates say the traveling public is the big loser when an airline collapses. Mark Cooper, director of research for the Consumer Federation of America, says consumers have lost $30 million to $50 million yearly due to airline bankruptcies. That is because no airline is required to honor tickets issued by a failed carrier. When an airline files for bankruptcy protection, consumers must stand in line with other unsecured creditors.

Cooper says consumers were owed $151 million by the 16 largest airlines to seek bankruptcy protection between 1981 and 1985. “It’s not monumental, but it’s enough to care about,” he says.

The issue is important to travel agents, who often take the heat from upset travelers when an airline fails. The American Society of Travel Agents has called for a tax on airline tickets that would be used to refund ticket costs when an airline goes out of business. Recently, the society told its members to alert customers that refunds generally aren’t available when an airline files for bankruptcy.

Protection Was Lost

One recent example is that of Air Hawaii, a cash-strapped, 4-month-old airline that sold deeply discounted ticket packages last year even though its fleet of DC-10s had been repossessed. The airline was stopped from selling tickets by authorities in California, Hawaii and Utah--but not before it took in at least $12 million from consumers in advance ticket sales. Christopher Ames, a California deputy attorney general, says consumers haven’t yet received refunds from the airline, which is involved in bankruptcy proceedings in Hawaii.

“It is one unfortunate result of deregulation,” Cooper says. Before the airline industry was deregulated in 1978, healthy airlines were required to accept tickets from failed carriers under a government-imposed mutual aid pact. The industry voluntarily continued a similar program until 1983, after two large carriers, Braniff and Continental, filed for Chapter 11 protection, leaving thousands of passengers stranded.

Now consumer groups and travel agents are looking to the Transportation Department for help. The agency expects to report on the issue next month. If the department proposes to assist consumers, it is certain to receive a cool reception from the industry.

“It’s not in the interest of the major carriers to support the weaker ones,” says Bill Jackman, a spokesman for the American Transport Assn., an airline industry group. “It is not in the spirit of competition. . . . They are in business to beat each other out.”

Royal West Airlines of Las Vegas and McClain Airlines, a Phoenix-based airline, are two carriers that recently tried--without success--to fly in the deregulated skies. Their stories (on page 5) illustrate the difficulties involved in starting an airline nowadays.