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CEO Interview - The Challenges for Continental Airlines and the Industry

Jeff Smisek, Chairman, CEO and President of Continental Airlines Jeff Smisek, the new Chairman, CEO and President of Continental Airlines speaks about the challenges he faces in the short and long term

The Christmas day bombing attempt has highlighted the security situation once again. What can be done to improve security for international aviation?

Clearly our intelligence agencies in the US have huge challenges in gathering intelligence, coordinating that data and drawing conclusions to stop potential terrorist attacks.

I understand it is a challenging task. The US agencies are trying to do a good job and there have clearly been improvements in security since 9/11. But we still see the trend of the Transportation Security Administration (TSA) fighting last year’s wars rather than looking forward to next year‘s battles. 

Looking ahead, it is important for TSA to be less reactive and more proactive. I would encourage our friends at TSA to be more consultative with the international aviation community when events occur to share the intelligence promptly and let us help them create the security directives. These would provide appropriate levels of security without requiring us to do things that don’t really improve security and are a massive inconvenience to passengers. 

Candidly, some of the things TSA has done on its own can also make TSA look silly, so I would hope we can have more of a partnership in the future. 

How can we use technology to improve security?

I would certainly encourage TSA to use biometrics to help them focus their security on potential terrorist threats versus our own crews. It wouldn’t take a great deal of work to have biometrics in a particular airport link to airlines’ human resource systems to determine where crews are supposed to be on any given day. That would prevent TSA from wasting time screening a crew member while they could be focusing on a potential threat. 

I would also encourage TSA to invest in new, advanced technology like body scanners for passenger screening. understand the privacy concerns, but the technology masks identity and sensitive areas, and we all have to surrender a certain degree of privacy for the greater good of security and the safety of our customers. There are costs to the privacy concern but those are vastly outweighed by the benefits of security provided by advanced technology and a modern screening checkpoint.

Turning to the year ahead, what is your outlook on the potential recovery?

Our goal for 2010 is to start making money and keep making money. When looking at traffic and revenue this year, you need to keep everything in perspective. We see better year-over-year comparisons for revenue in recent months because we are getting into easier comparisons. 

Traffic dropped post-Lehman Brothers’ collapse, and that drop accelerated in the spring of 2009. So the year-over-year comparisons now are much easier. As a result, I think the theme is ‘curb your enthusiasm’. 

The only way to be a good analyst in this business is to be a good historian. Sometimes people forget history. With that said, we have heard from some corporate customers that their travel budgets for 2010 will not be as harshly constrained as what they experienced in 2009. That is good news for our business. We are not seeing much of that in the revenue yet as it is a bit early but, since we are oriented toward the business passenger, we hope that business travel will come back in 2010.

We also hope the economy will continue to recover and that 2010 will be a far better year than 2009.

Since you joined Star Alliance last year, how do you see your international route network evolving in the coming year?

Today, we have a majority of our capacity on international routes. Frankly, I am taking the job of CEO at a time when our network has never been better. 

It has never been better in terms of what we ourselves are doing and because of our new membership with Star Alliance. Star is vastly better than our former alliance. As a result, our actual network and our synthetic network through Star have never been stronger or more attractive to business customers. 

Assuming the economy and demand cooperate, we have a significant opportunity to add to our network because of our Boeing 787 order and because we operate a large number of regional jets in New York, which can be replaced with larger aircraft. In other words, we have a lot of flexibility, and we have ample opportunity to grow our New York and Houston networks if demand improves. 

How have the Boeing 787 delays affected your network plans and where will you use the new aircraft when they arrive?

There is no question that the 787 delays have hurt us, and we have been disappointed. That said, Boeing has always been an excellent business partner of ours and has always treated us well. Boeing tells us it will deliver the first 787 to Continental in the third quarter of 2011. We are most anxious to get the aircraft. 

Once we do take delivery, we see a combination of options and flexibility. Because there is going to be crew commonality between the 787 and the 777, we’ll be able to have pilots fly long-haul on a 787 and come back on a 777. Additionally, we can use the aircraft to optimize for seasonality.

Let’s look at Mumbai, for example. During the busier season we could have a higher capacity 777 on the route and then use a 787 during the weaker periods. We’ll also have new markets we can fly with the 787, and all markets become more profitable using a 787 versus a 777 or 767.  

We also see a competitive opportunity. Thanks to when we ordered the aircraft, we get the 787 earlier than our US competitors. I believe customers will strongly prefer that aircraft. We are investing in our product during a difficult time but it is important to adapt and improve.

How do you see each region shaping up?

We are in a good position with Star Alliance. We are starting our joint venture with Lufthansa, United and Air Canada across the Atlantic. We filed in December for a joint venture with ANA and United across the Pacific. We have a desire to create a joint venture for Latin America. 

On top of the joint ventures, we have the power of the Star network. Subject to demand, you can expect us to grow our presence across the Atlantic and Pacific, and in Latin America.

We will always have a strong domestic network for feed, but there will be some degree of balance. 
Looking forward, expect our focus to remain on the international routes because that is where we have a competitive advantage thanks to product differentiation. It is on the international routes where the business traveler will pay a premium for a better product.

What about the short-haul US domestic markets, which are important feeders to the international routes?

Continental Express is our regional jet operation and Continental Connection is our turboprop aircraft feed. We’ll continue to adjust the size of both depending on the markets and the demand. 

Over time, you’ll see us rely less on regional jets. As we grow, we’ll put mainline jets on some of those routes. On the shorter routes, you’ll see us use more Bombardier Q400 turboprops, because they are very attractive aircraft from a unit cost basis. You can think of them as the same trip cost as a 50-seat regional jet, except the turboprop has 74 seats. The aircraft itself is very comfortable and has much lower noise than older turboprops. For a short-haul mission the Q400 is not much slower than a RJ and it has significantly lower unit costs. In the future, I think you’ll see us adding more Q400s and keeping fewer 50-seat RJs in our network.    

How does your Micronesia operation fit into the plan?

Continental Micronesia is based in Guam and is relatively small, flying to nine destinations in Japan and also to Asia, Micronesia and Hawaii. It has always been a solid operation and a good contributor year in, year out. There are limits to its growth because the market out there is only so large, so I wouldn’t expect any major changes.  

As you take the CEO job, do you have any interest in mergers and acquisitions?

There is always talk of mergers in this business. I’m not a big fan of them as I would prefer that Continental remains independent. As a member of the Board, I voted against merging with United in 2008. That said, I can never say never when it comes to future deals. 

We are keeping a very close eye on our friends at Delta. So far they have not outperformed us financially despite the claims of all of the benefits of their merger with Northwest. If they should start to significantly outperform Continental financially then we will need to study our strategy. 

Right now we are sitting outside the ring, eating popcorn from the cheap seats. Delta chose to climb into the ring. One thing I know is that Delta can not climb out of the ring, but we can climb in any time we please. We are watching and seeing how they do.

The issue of aviation and the environment is not going away. Does the industry have the right strategy for the years ahead?

We are on the right side of the debate, as local regulations such as the European ETS scheme makes no sense at all and we have been forced to litigate that through ATA. To have ICAO regulate aviation like they did on noise is the right answer, and we are making some headway with that internationally and with the US Government. We are being responsible as an industry. We have very strong incentives to minimize our pollution as it is so closely tied to our fuel burn. 

The only way to get pollution under control is to have rational economics tied to it. What IATA and ATA have come up with in terms of recommended improvements in fuel efficiency and ultimately carbon neutrality and reduction is very good and achievable. It makes a lot of sense for the industry and for the environment. 

We are on the right track, but we can’t let individual nations or the EU engage in piecemeal regulations as that makes no sense for a global and mobile business like aviation.

Continental was the first us airline to test biofuel. What are the next steps with regard to alternative fuels?

We are obviously big fans of biofuel. If they were available and scalable at a rational price, then it would be beneficial to the environment and to our business. Most importantly, it would put a cap on hydrocarbon prices if biofuels were scalable. For example, if you could produce a large amount of biofuel at $2.25 a gallon then hydrocarbons would never be above $2.25 a gallon. That would take a lot of volatility out of the fuel purchasing market. 

Fuel price volatility is the most difficult thing for us. Even if fuel were $180 a barrel we would still exist as a business, albeit smaller, because people need to fly. What kills us is the wild swings in volatility as you can’t price those swings on the upside or downside.
To the extent that we can have scalable biofuel production in material quantities then would put a functional cap on hydrocarbon prices. That would be beneficial from a US national security perspective and from an environmental perspective, and it would bring some stability back to our business. 

So we are huge fans of biofuels, and will be watching future development very closely. That said, we probably won’t see biofuels in a scalable, saleable size for at least a decade.

Jeff Smisek biography

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