Business

A Cloud over Canadian

The No. 2 airline is so deeply in the red that experts question whether it can survive the rough ride

Jennifer Hunter May 10 1999
Business

A Cloud over Canadian

The No. 2 airline is so deeply in the red that experts question whether it can survive the rough ride

Jennifer Hunter May 10 1999

A Cloud over Canadian

The No. 2 airline is so deeply in the red that experts question whether it can survive the rough ride

Jennifer Hunter

Business

At 4:30 p.m., the windows have been spritzed, the gerbera daisies have been placed in vases, the silver-plated candlesticks have been arranged on the tables, and the waiting staff at Bishops restaurant are gathered at a table to sample the rice pilaf before the restaurant opens. Owner John Bishop, one of the most celebrated chefs in Vancouver, is seated nearby, his attention drawn to other culinary delights, notably the menu he has created for Calgary-based Canadian Airlines International Ltd. His is not the usual airline fare: herb crêpe with smoked salmon and apple ginger compote, crab cake with pear cranberry chutney and grilled scallop brochette.

Last year, Canadian Airlines hired Bishop and 11 other celebrity chefs to refine the food and service in its business class, hoping to woo travelling executives with a monthly rotation of epicurean inducements. “When you’ve got 30 people in business class trapped for a 3lhhour trip, food plays an important part in the comfort of that trip,” Bishop explains. Canadian’s executives boast this kind of target marketing has helped to raise their company’s share of the lucrative business-class market over the past six months by eight per cent to 40 per

cent. “That shows clearly that we are making significant strides,” says spokesman Jeff Angel. (Frequent-flying business passengers make up only 0.5 per cent of Canadian’s travellers, but account for almost 40 per cent of its revenues because of the high price of business-class and full-fare economy tickets.) But is spending money to beef up business class the best way for the airline—which has been in perilous health for over a decade—to make its recovery? And the bigger issue is: can Canadian survive?

These are questions being pondered by analysts and airline experts, particularly in light of Canadian Airline’s recent dismal financial statements and its aging fleet—some planes are 20 years old and cost a fortune to maintain. “I’ve never heard of any airline turning itself around by improving meals,” says David Gersovitz, a Toronto-based independent analyst. “When your competitors are flying A319 planes and you’re flying F28s, I don’t care if you have a crew of chefs serving caviar, the traveller will know the difference.” Old aircraft, an anemic Canadian dollar, economic troubles in Japan and competition from upstarts such as discount flyer Westjet Airlines Ltd. of Calgary have made the past year gruelling for Canadian. Two and a half years ago, it was on the verge of collapse—for the second time. Under a four-year restructuring

Canadian aims to keep its aging fleet aloft by wooing business passengers

plan, including wage concessions from its 16,000 employees, Canadian targeted a profit of about $88 million last year. But during the last three months of 1998, it racked up a staggering loss of $149.7 million, wiping out previous quarterly profits and bringing the years total loss to $137.6 million.

Don Casey, the airlines senior vice-president of planning, says the company itself was thrown by the poor results. “We were surprised at what happened in the fourth quarter,” he concedes. Clearly, efforts to lessen Air Canadas dominance proved unsuccessful, despite a pilots strike at the bigger carrier last September. “It’s not easy to get people to switch,” says Casey. (Kevin Benson, Canadians president and chief executive officer, declined to be interviewed by Macleans.) Numbers for the first quarter of this year will be released this week and analysts expect further huge losses. In fact, the only time in the past decade when Canadian has reported a yearly profit was in 1997, when it made a meagre $5.4 million.

Decreased traffic to and from Asia and a less-than-buoyant economy in Western Canada, where Canadian does much of its business, have dragged down the airline’s earnings of late. Its debt is also enormous, hovering just under $1 billion. It will be hard to pay that down when costs, such as airplane components, are rising. Fuel prices are also inching up from 47 cents a gallon in February to 65 cents at the end of April. And domestic passenger travel is flat, with the business-class market shrinking slightly. As if ebbing revenues were not bad enough, last month the credit-rating agency Standard and Poor’s changed Canadian’s outlook from neutral to negative. This ensures the airline will find it even harder to raise the $500 million or so it badly needs to replace its planes and get its earnings on track. The share price picture is also bleak:

Flight Patterns

Quarterly earnings for the two domestic airlines (in millions of dollars)

while Canadian’s stock reached above $7 in March, 1998, it sank back to end April at a lowly $ 1.76.

The flow of bad news has made Canadian’s employees extremely anxious. E-mails are flying back and forth with scuttlebutt about management at the company; about the airline being carved up into smaller companies; about it starting a second, no-frills carrier without union labour. Canadian has denied it all, but fuelled the rumour mill by delaying its annual meeting from May 5 to June 29. The staff’s nervousness percolated up to Buzz Hargrove, president of the Canadian Auto Workers, whose union represents 4,000 Canadian employees. “If your company could not earn a profit in 1998 with a strong economy, growing air travel, low interest rates, low fuel prices and a punishing strike at your major competitor,” Hargrove wrote recently to Benson, “it is clear that it will never be financially viable in the context of the present structure of Canada’s airline industry.”

Hargrove has asked Transport Minister David Collenette to help Canadian by injecting $300 million in equity over three years. He also recommends eliminating the 25-per-cent cap on foreign voting shares in Canada’s airlines. “We want to float the idea and get debate going about what is needed to save this industry,” Hargrove told Macleans. But Finance Minister Paul Martin never favours direct support for struggling firms, and a change in foreign ownership limits would raise other delicate policy questions, since the rationale for similar restrictions in sectors from telecommunications to magazine publishing is already the subject of heated debate.

Canadian executives admit they have had discussions with Ottawa about the foreign rules—AMR Corp., the Fort Worth, Tex.-based parent of American Airlines Ltd., already has a 33-per-cent stake in Canadian’s equity and a 25-percent voting share—but they have not requested the government do anything yet. “We’ve chatted with them informally about the difficulties of raising capital,” says Angel. “We’ve discussed with them the challenges that those [ownership] restrictions pose. And they listened.” Assuming a call for help does eventually come, one Liberal strategist said the government will not consider any proposal that favours Calgary-based Canadian over Montreal-based Air Canada.

While Canadian has raised more than $400 million in two years by issuing junk bonds, its dismal financial record has prevented it from raising equity on its own. Analysts believe Canadian is trying to interest one of its global alliance partners, called the “oneworld group” and including American Airlines and Cathay Pacific, to put up some money. American’s parent firm wrote down its $246-million investment in Canadian in 1996, but Angel says his airline is talking to its largest partner about the need for more

equity. “We would hope they would be involved.”

If American is keen, it certainly is not communicating that message. Chris Chiames, the U.S. carriers spokesman, says several airlines have come in search of investment funds. “Just because a company comes to us,” he says, “doesn’t mean we are necessarily interested.” Still, one New York City-based analyst noted that American is keeping a close eye on Canadian because of its poor performance. “They have stepped up their surveillance of Canadian on a day-to-day basis,” he says. “There’s a sense of urgency to improve the business quickly.” Clearly, analysts say, Canadian executives must take some drastic steps to reassure investors. “They need to downsize and restructure their costs,” says Jacques Kavafian ofYorkton Securities Inc. He has criticized the airline’s spending when other carriers, such as Air Canada, are shedding airplanes and cutting other costs. Canadian’s officials argue, however, that they need to attract more business customers to increase revenues. Therefore, they have continued to expand the Vancouver hub as “the gateway to Asia” and to create a new image. Their plans to dress up airplanes with the new goose logo, provide new uniforms and redecorate plane interiors will cost $38 million over two years. And to save money, domestic and global routes have been restructured—capacity to Japan, for instance, has been reduced by 15 per cent.

By delaying its annual meeting, Canadian is obviously working overtime to come up with solutions to its massive problems. Until then, the rumours won’t abate, particularly the one about starting a discount airline. “It’s probably one of several options they are strongly considering,” says Kavafian. Other analysts, such as Gersovitz, say Canadian should stop competing with Air Canada on every front and find its own niche. Even Hargrove describes the war between Canada’s two major airlines as “sibling rivalry.”

Meanwhile, Canadian’s financial problems remain the least of chef Bishop’s worries. His menu will be served onboard during July and he hopes Canadian will let him take at least one flight to grind some pepper, wish the passengers bon appetit, atid ask whether they are enjoying his recipes. Analysts may not agree, but Bishop still figures the most direct route to a passenger’s heart is through his stomach.

With

John Geddes

in Ottawa