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Author: Donnelly, Sally B.

Remember the airline bailouts following 9/11? Less than a month after the 2001 attacks, Congress rushed through a $15 billion bounty of subsidies and loan guarantees for U.S. carriers--which suffered catastrophic human and business losses that day and the next two. Washington first forked over money for anything that could be linked to 9/11, then paid out $1.5 billion in assistance to five airlines that claimed to be on the verge of extinction.

Since then, the bailout program has been widely criticized as wasteful, in part because it was clear prior to 9/11 that the airline industry had too much capacity and some carriers were in trouble. In this capitalism-without-a-parachute view, the demise of a carrier or two was inevitable and the attacks, however brutal, served to accelerate that process.

But the full story of the bailouts is more complicated--and more interesting. To judge their effectiveness, it helps to look at two airlines that received assistance and whose fortunes have dramatically diverged since those frantic days. America West, which was among the nation's most inept airlines, has used its $380 million in federal loans to transform itself into an innovative industry leader. Another inefficient carrier, US Airways, got nearly $1 billion--the government's largest aid package--and stayed inefficient. US Airways is in such poor shape that some analysts expect another bankruptcy. With the government's big-airlines record at 1-1, the issue of federal assistance is looming again. Bankrupt United Airlines will, for the second time, soon ask Washington for an aid package, this one totaling $1.8 billion.

America West makes a compelling case for fedfare. Just a few years ago, the airline was so awful that some flyers called it "America Worst." For much of its 20-year history, the airline, based in Phoenix, Ariz., had been hurt by maintenance and operational problems, inconsistent leadership and its location in the sleepy southwestern U.S.

The new management team led by current CEO Doug Parker, 41, was in the process of transforming the airline when 9/11 hit. Parker was first to ask for--and receive--a government loan guarantee from the Air Transportation Stabilization Board (ATSB), which had $10 billion to dole out in such guarantees. Barely three months after the attacks, America West was handed a $379.6 million loan-guarantee package. In return, the government demanded severe limits on labor costs and took 19 million stock warrants giving it the right to buy shares at $3.

The airline used some of the money to accelerate the transformation it had already begun. Hal Heule, an industry veteran who began as an apprentice engineer at Pan Am in 1967, had been hired in 2000 to orchestrate the turnaround. Over eight months the airline added 40% more mechanics (to reach a total of 779), fired underperforming vendors and brought vital maintenance work back in-house.

The changes made a stunning difference. There has been a 100% improvement in the number of planes available for service each day. The cancellation rate has dropped dramatically. The airline now cancels only about one flight a day for maintenance reasons--compared with more than 30 flights a day in the summer of 2000. America West is among the best of the majors in on-time performance, customer satisfaction and baggage handling. Says Heule: "We couldn't have gotten aid from the ATSB without first proving that we'd turned operations around. And we wouldn't be here without that loan."

The transformation in operations had to be accompanied by one in service. In short, says Scott Kirby, 36, the company's intense marketing maven, "airlines had to stop screwing the customer." So in March 2002, America West shocked the industry by radically revamping its business model--no more required Saturday-night stays and no more exorbitant last-minute prices.

The moves are paying off. Leisure passengers have been the carrier's bread and butter, but business passengers--who tend to pay higher fares--today account for 44% of revenue, up from 34% last year. A simplified upgrade policy--which lets anyone, on any fare, move up to first class for as little as $50 if a seat is available--has raked in $35 million in extra sales. Next month the hub-and-spoke airline is starting nonstop flights for $299 on routes like New York City to San Francisco.

Wall Street is on board too. America West is one of the hottest stocks on the N.Y.S.E., up 549% this year alone. The carrier earned $32.9 million in the third quarter of 2003, compared with a $49.6 million loss for the same period last year.

US Airways, on the other hand, received more than any other carrier but has not done enough with it. "The ATSB knew there was a fundamental question of whether US Airways was even viable, given its high labor costs and weak route structure," says a former government official familiar with the board's thinking. Still, the ATSB cut the check and hoped for the best.

US Airways had a tougher climb than America West. For two decades, beset by demanding unions and weak management, the airline has had the highest labor costs in the business. From 1985 through 2003, US Airways' labor costs have averaged nearly 40% of revenues, compared with 31% at other airlines, according to AirlineForecasts, an investment research firm.

It's not for lack of effort. US Airways has cut 18,198 of 46,579 jobs, replaced big, expensive planes with smaller jets, and jettisoned its pilots' pension program. Still, the airline lost money for two consecutive quarters this year, dropping $90 million in the third quarter alone. Like a damaged World War II bomber, US Airways is big, slow and vulnerable. And the fighter jets are closing in. Southwest is going to attack the Philadelphia "fortress" hub of US Airways, where it accounts for 65% of the flights and where it has kept out rivals by scheduling more flights of its own. "Southwest in Philadelphia may prove to be the straw that breaks US Airways' back," says Vaughn Cordle, CEO of AirlineForecasts.

If the ATSB helps United Airlines, a bankrupt legacy airline that in some ways is a big version of US Airways, the argument may get political. There are 62,174 jobs on the line, not to mention a lot of potential votes. United has spent the past year lining up political supporters around Washington, including Congressman Dennis Hastert, the House Speaker.

Surprisingly, United's decision to return to the federal trough is drawing flak within the industry. In a rare display of intra-airline bickering, Leo Mullin, the head of Delta Airlines and the industry's key lobbyist for government assistance since 9/11, said, "The ATSB should be limited to overseeing the outstanding loans. Then it should go out of business." Added Mullin, whose carrier did not apply to the ATSB for money: "Let the marketplace work." That's easy for him to say, since Delta will probably survive. Some other airlines flying today will not.

After 9/11, a few airlines got loan guarantees. Here are the five biggest beneficiaries

US Airways $900 million

America West $380 million

ATA Airlines $149 million

Frontier Airlines $63 million

Aloha Airlines $40 million

America West has used its subsidies and loan guarantees wisely, unlike its troubled rival

Annual cost per employee: $89,278

Employees per aircraft: 94

Labor cost as a % of revenue: 38%

Annual cost per employee: $56,062

Employees per aircraft: 79

Labor cost as a % of revenue: 26%

Source: AirlineForecasts

PHOTO (COLOR): HIGHFLYER: Under Parker, America West is no longer "America Worst"

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By Sally B. Donnelly, Phoenix