CARGO SPACE IS COMMODITY PRODUCT

CARGO SPACE IS COMMODITY PRODUCT

Fifteen years after deregulation, the U.S. airline industry continues to struggle with a lack of long-term profitability.

In fewer years, the railroad industry - deregulated at the end of 1980 - has used the freedom from government controls to remake itself into a vibrant, profitable industry.Why the difference?

Railroads, from the first day of deregulation, faced formidable competition

from newly deregulated motor carriers.

The railroads never had the luxury of being able to raise prices. In fact, between 1980 and 1991, average revenue per ton-mile fell 11.4 percent from 2.867 cents to 2.594 cents.

Airlines, on the other hand, slid from 1978 (1977 for cargo) deregulation into a period of explosive traffic growth through the 1980s. All that new business covered the operating cost well enough so that they didn't have to worry about raising prices.

While railroad executives were forced to come to grips with the reality that they couldn't prosper by increasing rates, airline executives saw wave after wave of new customers thrusting money at them.

Railroads couldn't raise rates and there wasn't any way of stimulating the market. After all, unless there was some other economic activity, there wouldn't be any freight to move.

On the other hand, the airline market had plenty of stimulation. The number of passengers carried and the number of passenger miles traveled virtually doubled. Capacity expanded nearly as much, and load factors, the percentage of seats sold, increased from the mid-50 percent level to 63.6 percent in 1992, the highest average load factor in the industry's history.

Airline executives responded to rapid growth by expanding their networks, ordering more aircraft and hiring more workers.

While railroads accepted that they were selling a commodity product and did the appropriate things, airlines seem to have missed the reality that they, too, sell a commodity product. For them, the explosive growth masked that reality.

Railroads spent much of the 1980s shrinking the asset base and eliminating excess capacity. They also eliminated half their employees. U.S. airline employment expanded by nearly two-thirds in the same period.

Both industries had to contend with the recession of 1990-91, the economic effects of the Persian Gulf War, and the sluggish economy since the end of the recession. There's no question those uncontrollable factors hit the airlines much harder. Fuel takes a much larger share of airline operating expense than it does for railroads.

But the railroads had wrung out a tremendous amount of cost from their systems and were able to increase earnings during the early part of the 1990s. And the railroads did not have to contend with public whim or a loss of business because of fear of terrorism.

Airlines were caught by the sudden flattening of growth and have been trying ever since to get costs under control. They have slashed orders for future delivery of aircraft and have negotiated concessionary agreements with employee unions. Some have given workers equity in exchange for concessions.

Ironically, American Airlines' Robert Crandall may have been one of the first to recognize that he is in a commodity business. It was Mr. Crandall who got American's unions to agree to a two-tier wage scale that allowed the company to expand while competing head to head with low-cost start-up airlines.

In this high-tech commodity industry, everyone operates comparable aircraft at roughly the same speeds. There is virtually no way for a carrier to differentiate its offerings sufficiently to allow it to set and hold a price in a competitive market.

That leaves only one way to prosper. They must reduce costs to a level that will allow them to compete on price. As one economist once said: The lowest cost producer is the last one chased out of the market.