What’s ACAs True Motivation & How Will it Effect US?

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What’s Atlantic Coast’s True Motivation & How WIll it Effect US Airways?


Prepared by Chip Munn, June 30, 2003

Atlantic Coast Airlines (ACA) decision to break ties with United Airlines (UA) to start its own low-fare carrier is an interesting development and regardless of how the dispute ends, one likely loser is UA.

AC said it expects to begin an independent operation and cancel up to 34 orders for 50-seat regional jets in favor of 15 to 25 larger aircraft from Boeing or Airbus, which will further increase the unit costs for an already high-cost regional jet (RJ) operator. The Company has selected Skyworks Capital to assist it in the acquisition of larger aircraft that would allow service on longer routes. In addition, the company has hired GKV Communications, an independent Baltimore-based agency, to create its first advertising and branding campaign.

The ACA plan has been met by significant skepticism among investors with the stock sliding to a 3-1/2-month low of $6.78 on Tuesday with industry observers questioning the move partly because the airline will lose 85 percent of its revenue if the UA agreement is rejected.

J.P. Morgan analyst Jamie Baker Baker questioned the plan to launch a low-fare carrier using 50-seat RJ’s. We are highly skeptical of Atlantic Coast's plan to transition to discount-carrier status, Baker said in a research note.

Jim Higgins, Credit Suisse First Boston analyst said, No one who owns this stock bought it for the uncertainty they now face. An ACA that is largely detached from the only direct source of demand for its product (UA) looks to us to be a competitive sitting duck for a genuine low-cost carrier already operating larger jets -- JetBlue and AirTran come to mind.

ACA has about $189 million in cash and cash equivalents and only $53 million in total debt at the end of the first quarter, therefore, the airline will have a relatively strong balance sheet entering its independent operation. But it is far from certain how the airline will succeed when during its first day of independent operation it will see an 85 percent drop in revenue obtained from its UA relationship.

In addition, AC, not UA, hold the Dulles gate lease agreements for all of the flights it operates as UA Express. That means UA would need to scramble to arrange for new gates and for a new carrier(s) to provide UA Express service at the same level – which will be difficult.

Thus, if the move is so risky than why would ACA attempt to end its relationship with UA and what are the risks for UA? Moreover, why could ACA chief executive officer Kerry Skeen be forcing UA chief executive officer Glenn Tilton’s hand?

Before ACA can proceed with its plan to become an independent airline, UA must decide to either honor the current marketing agreement or reject the agreement in its entity, before the carrier can exit Chapter 11. If UA decides to keep its current ACA contract in place than the bankrupt airline would be required to pay above market RJ feed rates, which could make the Dulles hub unprofitable during the current industry restructuring.

If UA decides to reject its ACA lease and replace the RJ operator, then UA must find a replacement airline to operate 158 Dulles departures to 40 cities in the Northeast, Midwest, and Southeast, currently flown under the United Express banner by ACA. This would be no easy task because Tilton would have to find an airline willing to put the infrastructure in place at most of the 40 airports and to operate at the Dulles hub, similar in scope to ACA’s current operation.

Analyst Michael Linenberg at Merrill Lynch said, We think the possible disruption to UA and resulting adverse economics would effectively negate the financial justification for a hub at Dulles; not what UA needs right now given its financial condition.

Therefore, the move will make it harder for UA to successfully emerge from bankruptcy, continue to operate its Dulles hub, and find a suitable partner. UA would need to find new space at Dulles and find a carrier who could set up a regional network with spoke city operations. Thus, could UA be forced to throw in the towel at Dulles?

UA management appears to be once again caught in another quagmire because the airline appears unprepared to react to the ACA announcement. In a press release UA said it was surprised by ACA’s decision and the company left open the possibility of a code share deal, which from this observer’s perch could be Skeen’s real motivation, but UA could dearly pay for a future relationship.

Why? I believe Washington-based consultant Morton Beyer said it best. They (ACA) don’t have reservations, sales, marketing, or ticket-counter facilities at airports. The biggest problem is no regional carrier has been able to go it alone. I think it’s an unmitigated disaster, Beyer said.

Regardless, how UA proceeds further clouds the company’s future, the Dulles hub is now at risk, and the ACA news will have an effect on UA’s potential Plan of Reorganization. Either way, UA will be a loser to ACA’s bold move, which will make it more difficult for the Chicago-based airline to successfully emerge from its formal restructuring.

Separately, US Airways (US) could be hurt by ACA's plans to cease operating as a UA partner and convert to a low-fare carrier.

The move would put pressure on US’ fares at Washington National Airport and could create some traffic diversion. Josh Marks, associate director of the aviation institute at George Washington University said, If ACA pulls this off, they will hose US’ high-end revenue base at National. However, during its analyst’s conference call on Monday US chief executive officer Dave Siegel said, I'm confident that ACA will turn itself into a low-fare airline, but there's never been anything low-cost about them. I’m more than a little skeptical they can be a low-cost airline.

Best regards,

Chip
 
One paragraph out of 20 is about how it relates to USairways.

The real question is what % of passengers who fly on ACA are O/D or connect to ACA vs. the % that connect to UA/Star Alliance.

If the number connecting to UA mainline is high, ACA has no chance and UA should bring in another feeder.

Chip are your sources still saying that Siegel is talking to ACA about flying under the US Express name?
 
One could also argue that this helps US:

(1) UA FFs could be routed to codeshare flights operated by US Airways in the event UA must downsixe the hub operate at IAD.

(2) US and it's regionals would be aided getting better delivery slots if ACA cancels CRJ orders.

(3) ACA, if the plan is to actually do this, and not some scheme to negotiate a better deal with UA, is doomed to fail.
 
"Low cost" has two aspects -- low cost to operate and low cost to the consumer. ACA could easily be low (relative) cost to the consumer with high operational costs in many Eastern markets where US traditionally charges $1.00/mile or so for a ticket. If ACA goes for the business markets in the East things could get very interesting.

The LCCs employ a wide range of tactics to attract and hold customers -- it isn't all cattle calls, "one aircraft type to rule them all", and one class of service thinking. Nor are they uniform in their approach. The one consistent difference between low cost carriers and the legacy carriers is a simple, rational fare structure -- those fares may, indeed, be lower on average than legacy carrier fares but they are rarely the lowest available in a market and the LCCs sell a very high percentage of full fares compared to the legacy carriers. Couple that with customer friendly policies (instead of the endless gibberish of rules and restrictions found at the legacy airlines) and you have a powerful customer value propostion.
 
This looks like an elaborate bluff. Why would ACA and United do something so mutually destructive? Unless ACA has a secret plan, possibly a new code share, I can't see their management being foolish enough to go it alone.

Chip, in your post you made it seem like United has only two options: continue their current contract with ACA or cancel the contract. Is it possible for ACA and United to reach a different deal or has that time passed?

Also Chip, do you forsee U somehow becoming the feeder for IAD? Or can you see ACA becoming a new feed for U? How does mainline ALPA feel about adding another contract carrier?

Thanks
 
How does mainline ALPA feel about adding another contract carrier??? Are you kidding???

The vast majority of the pilot group has no idea which regionals are owned by US Airways and what equipment they fly. They have no idea how many regional "partners" US Airways has. They dont even know the names.

You think the MEC will have even a moments hesitation at adding another contract carrier? Personally, I doubt it.

They wont so much as write a "strongly worded letter" until US Airways is nothing more than a ticket-broker for a variety of different airlines painted in US Airways colors.
 
could this some how increase UA's presence in PHL as well as Star's presence at the airport. With UA going to lose all of its regional feed at IAD it will take a lot of effort to find other carriers to fly those routes and it won't all come over night.
 
Maybe mainline ALPA will view the problems between United and ACA as a cautionary tale as to what can happen when a contract carrier gets too much power. If ACA were a wholly owned subidiary of United there would be no contract issues. What's stopping Mesa from pulling this same trick on U once their contract is up for negotiation?
 
Maybe they could call the new LCC "Mid-Atlantic Coast" Airlines. ML pilots on the APL get 110% of the seats on their CRJ-200's. They(ACA) get to drive the trailways buses between IAD and DCA for the inter hub transfers........
 
Bluestreak-

SO TRUE...you've hit the nail right on the head. US has given WAY too much power and flying authority to Ornstein and Mesa. Watching this ACA/UA mess unfold DEFINITELY makes me think the same thing could and probably WILL happen to US/MESA sometime in the future.
 
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On 7/30/2003 6:10:24 PM flyguy121 wrote:

Bluestreak-

SO TRUE...you've hit the nail right on the head. US has given WAY too much power and flying authority to Ornstein and Mesa. Watching this ACA/UA mess unfold DEFINITELY makes me think the same thing could and probably WILL happen to US/MESA sometime in the future.

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Ornstein is definately something to be concerned about. Remember his previous big stock purchases in U before our stock imploded?

Johnny O was definately trying to buy his way into our BOD..or more?

Having seen what Mesa's takeover of the former CCAir (DBA USAirways Express) did to hundreds of hard working souls in very short order. Count me in as leary of any of his motives and actions.

Yes we need Mesa to provide the needed feeds to our hubs..there is no debate there at all...but allowing someone like Ornstein to get "Too Big for his Britches" sorta speak , could bid ill tidings in the long term. The ACA example with UA should provide some real proof to what I'm speaking about.

The only way to offset this possibility is to get MDA cranking...and bolster the current WO's , this should lesson the demand for Mesa beyond current levels.

I view MDA and re-outfitting the WO's as an affirmatve step in taking charge of our own destiny from within.

In my humble opinion it's better to be the one making the rules...instead of negotiating with a proverbial hired guns..which Mesa obviously is in this industry.

This observation is of course is not being said to belittle or insult the Mesa Employee's or thier fine efforts in kind. The issue is control of your destiny without having outside influences creating potential "Bumps in the Road"

Mesa could easily become too demanding and pull it's service...or shift to aligning with yet another carrier at some point.

HP is afterall doing pretty well these days..and thier needs may out shine ours at some point? Who's to say that JO might have to go where the greater potential is? WO's would not have this option to tempt them at all.
 
Earlier today I thought ACA chief executive officer Kerry Skeen was trying to force UA chief executive officer Glenn Tilton's hands to obtain a better deal, but tonight's news...makes me think UA is scrambling to find a replacement operator, thus UA must believe ACA is moving forward to fly as an independent airline.

Specifically, Reuters reported two U.S. regional airlines on Wednesday said they were in talks with Bombardier Inc. on firm orders for 55 regional jets that would be worth up to $1.5 billion at list prices. Mesa Air Group Inc. and SkyWest Inc. need the regional jets to provide new or expanded feeder service for long-term agreements with bankrupt United Airlines.

Complete Story: [url="http://www.reuters.com/newsArticle.jhtml?type=topNews&storyID=3190926"]http://www.reuters.com/newsArticle.jhtml?t...storyID=3190926[/URL]

Best regards,

Chip
 
Whlinder & Bluestreak:
Whlinder asked: "Chip are your sources still saying that Siegel is talking to ACA about flying under the US Express name?"
Chip answers: Yesterday I was told US and ACA will once again talk about the Dulles-based airline joining the US Express network, presumably to move the ACA operation to PHL. However, the same problems UA had with ACA could exist for US in that ACA’s RJ costs are too high. In addition, any agreement would have to comply with the mainline ALPA contract and J4J.
Bluestreak asked: "Chip, in your post you made it seem like United has only two options: continue their current contract with ACA or cancel the contract. Is it possible for ACA and United to reach a different deal or has that time passed?"
Chip answers: Bluestreak, unless ACA changes its position UA can either keep the current agreement or reject the agreement per bankruptcy law, just like the US – Allegheny County issue over the Pittsburgh Airport and Facilities. However, the parties can negotiate a new agreement and then submit it to the bankruptcy court for approval

Bluestreak asked: "Also Chip, do you forsee U somehow becoming the feeder for IAD?"
Chip answers: Unless US gets the IAD hub from UA, no. In fact, US has problems with hubs to close to one another now and IAD would undue some of the route reallocation progress made during the restructuring.
Bluestreak asked: "Or can you see ACA becoming a new feed for U?"
Chip answers: Yes, probably at PHL.
Bluestreak asked: "How does mainline ALPA feel about adding another contract carrier?"

Chip answers: The company must comply with the current contract.
Best regards,
Chip
 
N230UA:

I saw all of the articles you referenced, however, could these be additional orders? If not than UA could have a huge problem on its hands at IAD and its ability to emerge, unless it eliminates the hub, which the creditor's committee previously requested.

Best regards,

Chip
 
Chip, you're late to the game.

These orders by Mesa and SkyWest were announced well in advance to yesterday's Reuters article.

The article is simply stating Mesa and SkyWest will be officially completing the transaction for a/c with bombardier.

Look before you post.

Feb. 27, 2003: "United Airlines, Mesa Air Group Reach Agreement; Mesa to Become 4th United Express Carrier In July"

June 10, 2003: "United Reaches Agreement with SkyWest Airlines on New Rates and Fleet Growth"

July 1, 2003: "Mesa Air Group Announces MOU With United Airlines for Up to an Additional 60 Regional Jets"

Finally, United had a contingency plan for ACA defecting:

July 2, 2003: "United Reaches Agreement with Air Wisconsin on Amended United Express Contract... an additional 20 regional jets in the United Express program in Washington, Chicago and Denver."

July 10, 2003: "United Reaches Agreement with Trans States Airlines... 25 50-seat regional jets. These aircraft will be in service within months."