Arpey: The American Airlines way

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A youthful leader sees culture change as the way to find enough savings, and enough unity at long-fractious American Airlines, to weather the crisis

When Gerard Arpey "got this job" at American Airlines, as he likes to say of his unexpected promotion after predecessor Don Carty was forced out in early 2003, one of the first things he did was sell the modern art that had decorated the halls of the airline's headquarters. He replaced it with photos from American's archives of events in the history of the airline and its predecessors.

Pointing to a view of Charles Lindbergh in the cockpit of an aircraft of one of American's forebears, Arpey says that the previous interior design had lacked such a sense of connection: "If you walked around here, you couldn't tell you were at an airline. It could have been a potato chip company for all you could tell." It is this focus on airline fundamentals that illuminates everything Arpey has done in his 18 months on the job, bringing American back from the brink of bankruptcy by achieving more than $1 billion in cost cuts in a breathtaking last-minute deal in 2003, and dealing with the legacy of mistrust that marked predecessor Don Carty's five-year tenure, as well as the crises of his own term.

Arpey, looking younger than his 46 years, peppers his speech with such phrases as "we must do right by the company" and "we must do what is best for the company". Success, in both relative and absolute terms, in doing the best thing for the only employer he has known will be far from easy, especially as rising fuel prices force American to consider further cutbacks. American may have become the world's largest airline on Arpey's watch, but it is far from assured that it will avoid the bankruptcy that has occupied the former number one, United Airlines, for two years now.

At the very core of Arpey's efforts is a profound transformation that goes beyond a campaign of cost cutting, even one as wide-ranging as the savings efforts at American. "We are changing from a company that focused on revenues to one that focuses on costs," he says. It is a fundamental change from the world view of the airline's legendary long-time leader, Bob Crandall, who had shaped American into a competitive powerhouse in the belief, supported by his 13 years at the helm, that the market would reward the airline with a premium price for the battery of services that Crandall had helped to develop.

Changing world
That world, and the world view that justified a revenue premium, has changed, and the question now is if the market will reward any carrier other than the lower-cost provider. This change in perspective certainly has its parallels in savings campaigns at other airlines, but in the context of American's history - that costs could be built into operations in the sure and certain expectation that they would be rewarded - the change is all the more marked.

It is an even tougher transformation in a company that, with its pioneering work in operations research and in the power of information technology, valued complexity. Arpey firmly believes that the revenue premium will remain, but at what level he is uncertain. "We are engaged in finding out what the customer values and will pay for, not what the customer wants," he says, a fine distinction, perhaps, but one that speaks to the future architecture of the carrier.

From the premise that making things less complex is a key path to savings comes another principle, which Arpey calls "simplify/optimise". "Simplification and standardisation drive efficiency, and moving from revenue optimisation inherently means moving toward cost minimisation," he says.

To illustrate this, Arpey points to some basic changes in the way American schedules aircraft. A single type has been assigned to certain key hubs, so that the 334-strong Boeing MD-80 fleet is basically dedicated to the Chicago O'Hare operation, while the new Boeing 737 fleet is centred on Miami, and so on. This reduces the need to have the personnel and physical infrastructure to perform more than one type of overnight or short-term maintenance at each hub, and frees aircraft for spares. Similarly, Arpey says, it will adopt a practice tried in a flightcrew and flight attendant simplification test at O'Hare. In this test, MD-80 pilots and flight attendants remained with the same aircraft throughout the flying day. He explains: "This really cuts downstream delays on flights out of O'Hare." The airline had already pioneered a depeaking of the O'Hare hub and has made similar changes at others.

International expansion
In addition, Arpey is banking on a significant international expansion, particularly in the Asia-Pacific market, for next year. International service should grow to almost 40% of capacity, up from a third in 2002, and the airline's alliance with Aloha and Mexicana could bring in as much as $60 million in revenue next year. Arpey is also enthusiastic about growth in American's relationship with British Airways, with which it has been cleared for additional behind and beyond codesharing. American also begins flights between O'Hare and Nagoya, Japan in April and between Dallas Fort Worth and Osaka in November, while "aggressively" going after new rights to China. The carrier will start O'Hare-Shanghai nonstops in May if it wins in the much contested route competition. Arpey notes that American was almost exclusively a domestic carrier until well into the 1980s.

These are major changes, but they are the physical counterpart to a cultural change that, if Arpey achieves it, will change the company more deeply than any operational modification. For years, American was widely known as "the angriest airline", and the reality was not far off. Arpey reflects on this as he recalls the first night after "I got this job". He literally had overnight to reach a final labour contract with the flight attendants to avoid bankruptcy, after predecessor Carty had reached deals with other unions.

The company managed to avoid bankruptcy by a few hours, but then came the hard part - dealing with the reality that the airline's high costs were as much of a challenge to its survival as the deep anger across the workforce. This anger, bred by sometimes irrational enmity toward Crandall, had forced Carty, a mild-mannered Canadian, to retire in embarrassment after it was revealed that he qualified for an $8 million bonus plan at the same time that he was demanding cost cuts. The same anger had driven American down in performance rankings and in public perceptions.

Arpey, who took a pay cut from his previous post as chief operating officer and who will make about $513,700 this year, saw the crisis as a convergence: save the company by finding ways to save money and find the ways to save money with the people who know the airline best - its employees. "We call it pull together/win together," Arpey says. "It's not just a slogan. We need to find a better way to relate to each other," he adds. He pulls a large box out from behind his desk, a box filled with airline paraphernalia from seat parts to a handful of screws and fasteners. Each one of them illustrates a piece of the $2.2 billion in annual cost cuts savings initiatives that came from the airline's people. For example, he holds up a set of plastic cutlery to show forks and spoons that used to cost $2 million a year, but now cost about $1.4 million after headquarters employees suggested buying them via a reverse auction on the internet.

Team effort
Through the ideas from frontline workers, American found a way to acquire $14.35 blankets for $8.05, he says. Operations employees came up with a plan, dubbed "Tango", that identifies arriving flights that are vulnerable to delays and lets them get priority to get to the gate on time. "The more brains we have dealing with a problem, the more likely it would be that we could execute," says Arpey.

To that end, he personally led the creation of a new structure that forms the basis of a new relationship with American's employees. "We felt we needed help, so we called in a group of consultants, Overland Associates, who we thought of as a kind of marriage counsellor, and we were pleased they had no airline experience and brought no baggage. One result of the Overland involvement is the creation of Joint Leadership Teams", he says. These are intended as more than new structures or new reporting units, but as "ways to change the way we deal and work with each other".

To some at the airline, Arpey's personality is acting to achieve some of those changes. Capt Ralph Hunter, who heads the independent 11,000-member Allied Pilots Association, says: "Most of our members see him as sincere, and know that with Gerard what you see is what you get. He's been around the company for a long time and is really committed to it." Hunter, who was a union officer under the Crandall regime, adds: "Gerard is his own man and very different from his predecessors. I really think he's the right guy at the right time."

Jeff Brundage, the airline's senior vice-president for human resources, says the airline wants to rely on more than just one or two personalities to change things, to develop a new way of working together. "You don't inoculate trust. Gerard is driving trust from the top, pushing down in a very deeply held belief that we had to change the way people work together. It was important employees don't read about things in the newspaper but instead hear it from us, from the council."

Brundage, an official of the Air Line Pilots Association before joining American in 1999, says: "The goal is to create a principled business relationship between the employees and the airline, and one in which the challenges are clear and apparent to everyone. We all had to recognise what the drivers are. We don't want to use the councils as a way to downsize to profitability, but a way to capitalise on everyone's brains."

For instance, the joint teams embarked on a campaign to educate people on fuel costs and from that came ideas from the employees on ways to save fuel, with such minor steps as repairing surface "dings" that were not required repairs, but which decreased in-flight efficiency. Joe Arena, a Transport Workers Union member, who is also a race car fan and an expert on aerodynamics and wind drag, came up with this idea. A programme designed by Sharon Wieland, a senior systems analyst in operations engineering, has cut over-fuelling from 33% of the time to just 11%, saving an estimated $100,000 a month. None of these will return the airline to profitability, but look at where they came from: American's unions had once staged one of the largest "sickouts" in US labour history.

This new relationship between American and its people now faces its greatest challenge. In the second quarter of this year, American actually made money. Indeed, American would have made money in the third quarter if fuel had remained at last year's levels. Arpey quipped to analysts: "Were it not for Exxon getting most of our money this year, we would have been able to make some progress." But after its third quarter deficit of $214 million (versus a $1 million net profit in the year-earlier period), Arpey announced a number of steps, including closing facilities and deferring aircraft deliveries, capacity cuts equivalent to 15 narrowbody aircraft, shrinking the domestic flight schedule by 5% in the first quarter of 2005, and so on.

Arpey points out that the third quarter loss masks improvements in cost cutting, when unit costs other than fuel dropped by almost 3%. But he is quick to concede it is a large deficit. American though has done a lot to distance itself from the bankruptcy reorganisation that was all but assured in the spring of 2003. It has built up its cash position to more than $3 billion and is making progress on refinancing an $834 million bank credit facility that matures at the end of next year. Furthermore, American has 67 aircraft that it can use as collateral, and Arpey has told analysts that parent AMR Corp will probably sell its Investment Services unit, a step that CSFB analyst Jim Higgins estimates could bring in about $1 billion. Still, the fact that Delta Air Lines has come close to bankruptcy and the fact that US Airways has had to go back into Chapter 11 remind Arpey that success is not guaranteed.

Policy rethink
Over the next few months, American will reverse a policy announced with much fanfare by Arpey's predecessor. The "More Room throughout Coach" policy was undertaken in early 2000, in happier times. Over 7,000 economy seats, or 6.4% of total capacity, were removed to create more leg room. Last year, American began squeezing seats back on to some aircraft, and now will do so throughout the fleet because, as Arpey explains, "times have changed". It will also furlough more pilots and mechanics. American had already furloughed nearly 2,600 of its 11,000 pilots and more than 4,500 flight attendants, although it was recalling 610 attendants for international routes. Flight-attendant levels will be adjusted through voluntary departures.

Brundage says that even in such difficult areas as furloughs, the new employee relations structure plays a role: "The joint leadership council may end up having input into a process that is ultimately decided on by management, such as furloughs, but when we have to ask for something, at least it is principled." Indeed, it is Arpey's goal to move the airline to what are, for it, entirely new principles of working together and of uniting American. It is the movement toward that goal, as much as any financial prowess, that will make American a survivor.

Loyal servant
Gerard Arpey has spent his entire career at American Airlines and its parent AMR Corp, joining as a financial analyst in September 1982.

He recalls that when he joined American, its annual report contained a photograph of two of American's long-time elders, Albert Casey and Bob Crandall, standing in front of an oil painting of a propeller-driven American Airlines aircraft making its way up New York State's Hudson River Valley. Arpey says: "I told myself that someday I'd like to have that painting in my office."

He says that he never told himself that he would one day lead the company, but instead: "I just determined to do the best I could in each job I had at the airline."

After serving in such varied posts as a financial planner, route-profitability analyst, senior planner, chief financial officer, and president and chief operating officer, he does have the painting behind his desk.

He took on the chairman's title earlier this year, having become president and chief executive in the spring of 2003, when American narrowly averted bankruptcy. Arpey "really loves" flying his fully updated 1960s vintage Piper Chieftain, often taking his wife and daughter Alexandra and sons James and Luke on flights.

A native Texan, Arpey's first job was loading bags (for another carrier) at Houston, and he studied business administration at the University of Texas at Austin.

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