US airline consolidation could spark interest in 70-plus seat jets at regional and mainline carriers

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High fuel costs have piled pressure on an already mature 50-seat regional jet market in the USA and underlined the need for replacement of these less economical regional jets with larger-capacity aircraft at feeder carriers. At the same time, there is a requirement for narrowbody fleet renewal by mainline operators. These factors have given regional jet manufacturers Bombardier and Embraer an opportunity to place more efficient aircraft in the range of 70 seats and above at US regionals and mainline carriers in the coming years.

 embraer 175
 © Embraer

But consolidation in the US airline industry - led by the planned merger of Delta Air Lines and Northwest Airlines - threatens a dramatic reduction in capacity at wholly owned regional subsidiaries and express affiliates. On the plus side for regional aircraft manufacturers, pilot contracts that permit feeders to operate aircraft with up to 76 seats might be altered in the merger process, allowing for the introduction of 100-seaters. Regardless of how the landscape is repainted, Bombardier and Embraer are confident that the portfolios they reshaped in recent years are well placed to help carriers weather massive economic challenges ahead.

The two rivals played a prominent role in forming the backbone of the US hub-and-spoke system, supplying a huge amount of CRJ and ERJ family aircraft to regionals. In the early years of this decade, however, it became clear that the 50-seat market in the USA was in decline. Any lingering industry doubts may have been settled in March when Delta dropped a contract with Mesa Air Group unit Freedom Airlines for the operation of 34 Embraer ERJ-145s. The move is part of a larger plan at Delta to shed 60-70 regional jets from its network.

Continental Airlines more recently announced plans to cut its regional capacity in the second half of the year, the fallout of which has yet to be determined for long-time partner ExpressJet, which has already seen 69 ERJs culled from its Continental Express agreement. "Fifty-seaters were a strange result of [mainline pilot] scope clauses, poorly thought-out strategy and airline overcapacity. That was a toxic brew," says Richard Aboulafia, vice-president analysis at Teal Group. With production having "fallen off a cliff in the early years of this decade", he adds, the 50-seat market has "collapsed".

Next Generations

After suspending production of 50-seat regional jets in early 2007 and revealing a strategy to close production on its smaller Q Series turboprops next year, Bombardier is focused on "NextGen" versions of its 70- and 90-seat CRJs a planned new 100-seat CRJ1000 the 70-plus-seat Q400 turboprop, of which a NextGen version is to be available, and its 110/130-seat CSeries. Powered by Pratt & Whitney's geared turbofan (GTF), the proposed CSeries this year is expected to get the official go-ahead to support a 2013 service entry.

Bombardier has "the market pretty much covered from 70 to 145 seats", says Benjamin Boehm, director, programme management office and director of marketing, new commercial aircraft programmes at Bombardier Aerospace. Bombardier designed the CSeries to meet mainline requirements, but is not concerned if the aircraft is flown by regionals or mainline carriers. "We're focused on an airliner that would be just as good for Northwest mainline or Northwest's Compass Airlines [division], and we'll leave it to Northwest to see what they want to do with it," says Boehm.

 bombardier cseries
 © Pratt & Whitney

Refraining from boxing the CSeries into a definition may be crucial to securing a portion of the business now up for grabs in the USA. American Airlines is considering ­replacements for its 425-strong fleet of Boeing ­­MD-80s and 757s, Delta for its MD-80s and Northwest for its McDonnell Douglas DC-9s. "Perhaps it sounds radical, [but] we didn't base the CSeries on any scope agreements," says Boehm, adding that the manufacturer instead focused on designing "an extremely efficient tool".

Boehm adds: "One man's regional jet is another man's mainline, and vice versa. I think over time the combination of the CSeries and the regional jet will cloud the issue of regional and mainline. What is Bombardier good at? We're good at making small commercial jets."

Fuel burn reduction - estimated at 20% relative to competitively sized equipment today - is perhaps the CSeries' biggest selling factor. Playing a significant role in this is the GTF engine, which also has been selected for Japan's 70/90-seat Mitsubishi Regional Jet. While another type of engine design is under study by competitors based on an open rotor concept, Bombardier is confident the GTF will meet the requirements of the industry for at least 15 years after it enters revenue service in 2013. Even if engine makers "perfect open rotor engine technology", the industry will "probably need another five years to implement it on an airplane and overcome issues of noise, speed and [fan] containment", says Boehm.

Unique Selling Point

Manufacturers of open rotor engines are targeting 2018-20 for service entry. "By then our GTF will have additional technologies," says P&W vice-president of next-generation products Bob Saia. "So, if we bring new GTF technology into play in 2018 or 2020, [the engine] would have another 5% or 10% or more fuel efficiency and that's how we ought to compare a GTF to open rotor. For the MRJ or CSeries, we could provide improvements when the engine comes in for refurbishment. We would provide parts that would provide better weight and fuel. That is one of the values of having a brand new architecture in that it gives us a strong foundation for continual improvement."

The result of these efficiency gains, however, is a relative slice in emissions. "With the CSeries, we can walk up to an airline and say: 'Here's an aircraft that offers the benefits of more seats, lower fuel burn, the benefits of performance and you're environmentally friendly at the same time'," says Boehm. The good news about the CSeries, he adds, is that "with oil at $100 a barrel, the carbon [emissions] side matches well with the fuel side because they are linearly related".

For rival Embraer, the future is now. Its E-Jet family, which includes the E-170/175 and the E-190/195, could offer millions in yearly fuel savings and maintenance costs. Their replacement benefits include substantial emission reductions, says executive vice-president commercial aviation Mauro Kern. The Brazilian manufacturer will not be rushed on developing a next-generation narrowbody to counter the CSeries or any successor to Airbus and Boeing's A320 and 737. Air Canada and JetBlue Airways are interchanging E-Jets with narrowbodies to provide year-round network coverage by optimising fleet capacity to seasonal demand.

However, even the continuation of brand new 76-seater operations cannot be assured in such a difficult operating environment. Frontier has rejected Republic's airline services agreement in its Chapter 11 restructuring. The company currently operates 12 of a contracted 17 E-Jets for Frontier, which it says it will seek to place with other partners or sell.

On-going E-Jets technology developments include attaining 120min extended-range twin-engine certification for the E-190, increasing design weights for more flexibility on the E-170/175, and getting approval for E-190 steep approaches at London City airport by using spoilers as lift/drag devices. Last year's positive trend in yields is "likely to disappear in 2008", and substantial efficiency improvements in aircraft "will be required", says Kern.

Teal Group's Aboulafia points out that other airlines are expected to follow Delta and Northwest in the merger game. The resulting capacity changes - and possible new scope clauses - will ultimately help decide how the US regional fleet will be structured. "If mergers are successful, you're not going to see demand take off. You'll see it stabilise or decline," he says.

Lingering In Limbo

The regional airline growth boom in the USA, which began in the late 1990s and continued beyond September 2001, has been replaced by a stagnant growth rate with few opportunities on the horizon. The merger between Delta Air Lines and Northwest Airlines has added to the momentum for consolidation building, and the future of the country's regional airline industry appears more opaque than ever.

Regional Airline Association (RAA) president Roger Cohen recently outlined the slowdown to the US Department of Transportation, explaining that while US regional carriers "had substantial growth during the past decade, this growth has now flattened out and is projected to remain slow throughout 2008, with most growth in the 60- to 99-seat sector".

Cohen, who took the helm at the association in December 2006, told Flight International that US network carriers shrinking their domestic capacity in the face of rising fuel prices is affecting regional airline growth levels and the amount of flying these carriers conduct for their partners, "depending on the carrier and fleet type and a lot of other variables".

Recent traffic statistics reported by some of the large US independent regionals appear to reflect the stated aims of their mainline partners to shrink domestic capacity.

Passenger levels at Mesa Air Group dropped 20% year-on-year in March, while fellow independent regional company SkyWest posted a modest 2% growth in traffic.

Large Jet Growth

At the end of the fourth quarter last year, SkyWest opted not to issue capacity estimates for the second half of 2008 as its network partners were dropping daily block hours close to the minimums established in their air service contracts.

The last sweeping request for proposals sent to regional carriers by a network airline, for up to 143 regional jets, was from Delta Air Lines in August 2006 during the carrier's Chapter 11 restructuring. That same year, Midwest Airlines asked carriers to bid on a smaller proposal - up to 25 50-seat regional jets. SkyWest ultimately won the competition and its Midwest Connect started flying in April 2007. More 50-seat Bombardier CRJ200s are being added after Midwest closed its Skyway Airlines subsidiary, which flew 30-seat jets.

 midwest connect
 © Garry Lewis/AirTeamImages.com

Since those two deals, new business opportunities in the US regional industry have been virtually non-existent. "We are in a no-growth mode," says Seabury Group vice-president and 30-year industry veteran Douglas Abbey. "It is not a place we've been in a while." Few aircraft are being delivered to regional airlines, he says, and "the pipeline for new units is slim".

Abbey's sentiments are shared by regional carriers. Recently, SkyWest finance vice-president Michael Kraupp characterised growth in the US regional industry as "benign", and said requests from network carriers to bid on new business were limited.

Philip Trenary, Pinnacle Airlines Corp chief executive, says he would be "very worried" at the moment if the contracts Pinnacle's subsidiaries have with their partners were short term. However, its agreement with Northwest Airlines runs through 2017 and "we feel good about that", Trenary says.

It is unclear how the merger between Delta and Northwest will affect their non-owned regional partners, which include Mesa, Pinnacle, Republic and SkyWest. Delta has one wholly-owned regional subsidiary, Comair, while Northwest owns two of its three regional feeders, Mesaba Airlines and its new Compass unit.

With little opportunity for regional carriers in the USA, some are looking further afield for growth. SkyWest chief executive Jerry Atkin told an investor conference in January that the company is actively looking at opportunities in Brazil, China, Europe and Mexico. He reasons that if SkyWest takes a minority interest in a foreign carrier, the airline could develop more quickly.

But Seabury's Abbey predicts these offshore ventures will be limited, saying it is unclear how much expertise would be sought by foreign airlines outside their home countries to support their local operations.

Offshore Development

Phoenix, Arizona-based Mesa was the first to try its hand offshore, creating Chinese carrier Kunpeng Airlines as a joint venture with Shenzhen Airlines. But Mesa has admitted to facing obstacles in developing the business. Under the joint-venture arrangement, Mesa is contracted to sublease 20 50-seat jets to Kunpeng, but Mesa chief executive Jonathan Ornstein has said gaining approval of those transactions from lessors and the Chinese government has been a challenge.

Mesa is also facing difficulties in Hawaii. While one of its competitors in the Hawaiian inter-island market, Aloha Airlines, has been eliminated, the company faces an $80 million payment to Hawaiian Airlines, which was successful in convincing a bankruptcy court judge that Mesa illegally used information it obtained during Hawaiian's time in Chapter 11 to launch its Go! subsidiary.

All this comes at a time of financial difficulty for Mesa. On 11 April, its share price fell to $0.67 compared with a 52-week high of $8.02. It has asked shareholders for approval to issue stock to pay off a potential $37.8 million debt if holders of notes exercise their right for a repurchase by Mesa. Mesa partner Delta Air Lines has also announced that it is cutting 34 Embraer ERJ-145s flown by Mesa subsidiary Freedom Airlines, claiming Freedom failed to meet specified completion rates included in the contract.

delta erj-145 
 © Simon Wilson/AirTeamImages.com

While other regionals might not be facing such tough challenges, they are responsible for generating investor returns in the current slow-growth environment. "Invested capital has to work," says Horizon Air chief executive Jeff Pinneo.

To that end Horizon, which flies both independent operations and regional routes for its sister carrier Alaska Airlines, will be transitioning out of the Bombardier CRJ700 within two years, which will leave it with just one type, the Bombardier 70-seat Q400 turboprop.

Pinneo says that with only 20 CRJ700s in its fleet, Horizon does not have benefits of scale, while the complexity and cost of the aircraft could impede its competitiveness in some sectors. He points out that even the 70-seat jet faces cost pressures in some yield-challenging environments, with fuel costs averaging over $100 a barrel.

The Right Aircraft

Even with the 70-seat jet experiencing cost pressures, the preference by US majors for aircraft in that seat category is abundantly clear. Recently Delta Air Lines president Ed Bastian said of the 50-seaters: "We've just got too many of them."

Mesa has repeatedly said that its 50-seat aircraft flying for United Airlines is "significantly unprofitable" and has opted to remove some 50-seaters from its United routes in lieu of higher-profit CRJ700s. Pinnacle's Trenary says that it used to bother him that it leased all its 50-seat jets from partner Northwest Airlines, but now says "that is a good thing". Trenary also points out that Northwest has the lowest percentage of 50-seaters in its network among the US majors.

In late 2006 Memphis, Tennessee-based Pinnacle brokered a crucial deal with Northwest during that company's restructuring that gave Pinnacle the ability to fly larger aircraft for other US major partners.

Pinnacle subsequently reached a deal with Delta to fly 16 76-seat Bombardier CRJ900s, and started new services for Delta using the aircraft in December. Flight's ACAS database shows Pinnacle now has five of the type in service.

Citing the CRJ900 as the "right aircraft", Trenary praises Bombar­dier, saying the company "finally got it right" with the CRJ900 NextGen. He notes that while the fuel burn improvement of around 5% might not sound like a large amount, it was one of the factors that convinced Pinnacle "not to book away" from Bombardier and opt for Embraer aircraft. Calling the E-170/175 a "great product", Trenary says Pinnacle went through a good deal of "soul searching" before ultimately selecting the Bombardier aircraft.

Late last year Pinnacle also became the second US operator of the Q400, placing the aircraft with its recently acquired subsidiary Colgan Airways. Trenary expects to gain US Federal Aviation Administration approval for required navigation performance (RNP) approaches for the Q400 at New York Newark by this time next year. With the aircraft's performance already exceeding expectations, Trenary says the RNP capabilities will "knock the cover off the ball".

If opportunities for US regional carriers are non-existent in the short term, Trenary sees promise further ahead for carriers to partner Continental. That carrier's scope clause - an element of mainline pilot contracts that limit the number of seats on aircraft flown by regional partners - remains one of the most restrictive.

US network carriers that revamped their business through Chapter 11 during the last few years were able to broker deals with their pilots to enable more 70-seat aircraft at their regional carriers. But Continental, along with American Airlines, did not seek Chapter 11 during the last round of bankruptcy filings and its scope restrictions remain intact.

Pointing to the favourable relationship Continental has with its labour force, Trenary believes the carrier's regional partners will at some point be able to fly 76-seat aircraft on behalf of the Houston, Texas-based airline. And Trenary is not discounting opportunities for growth this year, albeit much smaller than the 40-50 aircraft deals of the past. Compared with the operating costs of older narrowbody aircraft, the Trenary says that the CRJ900 and the E-175 "look pretty compelling". He sees a definite possibility for deals with US carriers this year in the 10-20 aircraft range.

Whether those deals crystallise or not, the RAA's Cohen says that with fuel prices at more than $100 per barrel, "the overall climate sucks for everyone. When majors cut back, it affects all their suppliers."

The outcome of potential consolidation for US regional carriers remains unclear. But one reprieve from uncertainty and slowing growth, Abbey says, is US regionals not "being confronted with green issues the way their European counterparts are. That would be the final nail."